Environmental innovations, income distribution, international competitiveness and environmental policies: a Kaleckian growth model with a balance of payments constraint

Structural Change and Economic Dynamics 53 (2020) 16–25

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Structural Change and Economic Dynamics journal homepage: www.elsevier.com/locate/strueco

Environmental innovations, income distribution, international competitiveness and environmental policies: a Kaleckian growth model with a balance of payments constraint Galindo Luìs a, Guarini Giulio b,∗, Porcile Gabriel c a b c

National Autonomous University of Mexico and Centro de Investigacion y Docencia Economicas (CIDE), Mexico Tuscia University, Department of Economy, Engeneering, Society and Business, Viterbo, Italy Economic Commission for Latin Americana and the Caribbean (UN-ECLAC), Chile and Federal University of Parana, Brazil

a r t i c l e

i n f o

Article history: Received 28 December 2018 Revised 1 December 2019 Accepted 5 January 2020 Available online 10 January 2020 JELcode: Q01 Q43 Q55 Q56 Keywords: Technological policy Green growth Energy efficiency Current account balance Decoupling growth

a b s t r a c t The article integrates a baseline Kaleckian model with a balance of payments constrained growth for addressing the interaction among: income distribution, international competitiveness and environmental innovation taking into account the proactive role of environmental policies The crucial link is given by intermediate inputs (raw materials and energy) in the Kaleckian price equation, which impacts on real wages, the wage share, the rate of capital utilization (and hence growth) and international competitiveness (through changes in domestic prices for a given international inflation rate). It is shown that an economy which has higher energy efficiency will attain at the same time a higher wage share and higher growth. Being green not only helps attain a more sustainable growth path, but also a more inclusive one both in the short run and the medium-run. In the long-run, within a balance of payments constraint, the combination of green taxes with an industrial policy aimed at increasing the energy efficiency of production and the diversification of the economy is crucial to raise the wage share and sustain growth.

1. Introduction The environment is increasingly central to the study of growth and development. This is hardly surprising: most of the scientific community agrees that current growth patterns are unsustainable, lead to the depletion of vast natural resources and may entail potentially disastrous consequences for the life of many species in the planet (including humans). Moreover, the environment is at the core of recent debates on international political economy. As a global externality, the problem of climate change must by necessity be addressed through international cooperation. The Convention of the Parts (COP) 21 in Paris (December 2014) and COP 22 in Morocco (December 2015), the agreement reached by the US and China in September 2016, and the intense debate that takes place nowadays in the USA as regards the disengagement of the US from the global effort to protect the environment, are all indications of

∗

Corresponding author. E-mail address: [email protected] (G. Giulio).

https://doi.org/10.1016/j.strueco.2020.01.002 0954-349X/© 2020 Elsevier B.V. All rights reserved.

© 2020 Elsevier B.V. All rights reserved.

the importance that environmental problems attained in the international agenda (IPCC, 2018). The need to change production and consumption patterns, and to produce global or local public goods for the protection of the environment, raises key questions for development economics. The first question addressed in the literature is to what extent GDP growth and environmental protection can go together—or there is an insurmountable trade-off between these two objectives. Development requires convergence in GDP per capita between poor and rich countries, and therefore a higher rate of growth in developing economies as compared to developed economies. However, faster economic and productivity growth at the same time imply that the demand for natural resources and emissions will gain momentum, compromising the efforts for sustainability. The environmental Kuznets curve (Ekins, 20 0 0) suggests an inverted U relationship between income per capita and the environment. From this perspective, the solution to the environmental challenge would naturally emerge from continuous economic growth. However, there are several critics of the empirical relevance of the environmental Kuznets curve, arguing that the evidence of a concave relationship between economic growth and environment preservation is weak

G. Luìs, G. Giulio and P. Gabriel / Structural Change and Economic Dynamics 53 (2020) 16–25

and that environmental problems would make continuous growth impossible well before the levels of CO2 emission per capital begin to fall (Stern, 2008). The second question is related to the impact of sustainable growth on income distribution. The latter is at the heart of the concept of development, for both economic and political reasons. Development means a pattern of growth which is inclusive and compatible with political democracy: to what extent a pattern of growth which is more sustainable could at the same time be more inclusive? If moving towards sustainability heightens inequality, such a move will erode the social and political bases of economic development. The initiative of Agenda for Sustainable Development Goals goes in this direction (UN, 2018) The third question this paper aims to discuss is the following: is it possible to advance towards a sustainable, low-carbon growth path without heightening the Balance-of-Payments disequilibria in laggard economies? This question acknowledges that, in an era of globalization, all countries are challenged by fiercer competition in both the domestic and international markets. Inter alia, developing economies are distant from the technological frontier and specialized in few commodities for which international demand tends to grow at a slower rate than the demand for more sophisticated goods. This poses these economies at a disadvantage in international trade, which gives rise to deficits in current account that may eventually bring about a fall in consumption and investment in order to avert an external crisis. The last question addressed is the role of public policy in sustainable development. Policies that raise the cost of CO2 emissions in the economy may lead to a loss in competitiveness or negative distributional impacts. However, it is also possible that these policies produce a first dividend, which is the fall of these emissions and the protection of the environment. They may also produce a second dividend, either directly or depending on how the government invests the resources it obtains from carbon taxes. The mix of policies should allow for expanding the second dividend by enhancing employment levels and competitiveness. This paper develops a model that allows for addressing the four questions set forth above, studying the interactions between environmental protection, convergence, income distribution and the role of the public sector in fostering sustainable convergence. More specifically, it is argued that Kaleckian models for open economies with a balance of payments constraint1 are a particularly useful analytical tool for addressing the questions raised above. The central role that the share of “intermediate inputs and energy” in total costs plays in Kaleckian models (where they are explicitly considered in the process of price formation) allows these models to discuss the various dimensions of sustainable growth. On one hand, the share of intermediate inputs and energy in total costs are a crude proxy of the intensity in the use of natural resources and energy in production. Reducing such intensity is a condition for decoupling growth and the emission of CO2, and, therefore, avoiding the depletion of natural resources (Casadio Tarabusi and Guarini, 2017). On the other hand, by affecting the price level of the economy, the cost of intermediate inputs and energy affects as well real wages, income distribution and international competitiveness (through its effects on the real exchange rate, as discussed below). The paper is organized in 7 sections, besides the introduction and the concluding remarks as follows. Section 2 discusses the impact of environmental policies, addressing the role of fiscal recycling and innovation polices. Section 3 discusses the empirical evidence on the growing importance of intermediate inputs and energy in production and international trade. Section 4 presents the

1 To study in deep the BOP growth models see Thirlwall (2011); for some interesting applications of it see Meliciani (2002) and Neto and Porcile (2017).

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basic equations of a Kaleckian model applied to the problems of sustainable development. Section 5 develops the short run analysis on how green efficiency shapes economic growth, capital utilization and output distribution. Section 6 analyzes these interactions in the medium-run, when the labor market and the current account are in equilibrium. Section 7 focuses on the long-run with the balance of payment constraint, allowing for changes in public investment in green innovations and green efficiency. 2. Environmental policies and the double dividend The current style of development gives rise to several negative externalities, such as air and water pollution, deforestation and climate change, which has increased the interest in using public policy to control such externalities (Pearce, 1991; Bovenberg and De Mooij, 1994). Green or environmental fiscal policies are becoming more widespread as they allow for taking into account the true social costs of negative externalities in production and may become an important driver for technical change and international competitiveness. Environmental or green fiscal may play two roles: incorporating the costs of the externalities to the price of polluting goods and services; fostering employment, improve income distribution and encourage new technologies that reduce the consumption of energy and natural resources. This is the double-dividend hypothesis: taxes on carbon emissions generate a first positive dividend through the reduction of the negative externality, and a second dividend by using the tax receipts to curb labour costs and enhance energy efficiency and competitiveness2 . In general, the evidence suggests that environmental fiscal reforms or environmental regulations are effective in producing the first dividend. For example, green taxes are normally associated with a reduction of the negative environmental externalities such as reductions of emissions (Bosquet, 20 0 0; Gago et al., 2014). In effect, 97% of the studies reviewed by Gago et al., (2016) show a reduction of emissions after the imposition of a CO2 tax.3 However, there are doubts about the magnitude of the first dividend and the level of the taxes required to achieving existing (international) environmental targets. Several meta-analyses show that the price elasticity of the demand for gasoline in developing countries is smaller, in absolute terms, than the same price elasticity in developed countries (Galindo et al., 2015). This is mainly the consequence of the inexistence of proper substitutes, for example, for the private transport (Havranek and Kokes, 2015). Furthermore, it is common to observe that the income elasticity of the demand of energy and gasoline are larger in developing countries than in developed countries. Therefore, the demand for energy or gasoline will increase in a scenario of continuous economic growth, and price signals will not be enough to curve the increase in emissions. Moreover, green taxes have in general a regressive effect on income distribution (Ekins and Speck, 1998; Ekins and Dresner, 2004), but there are several factors that affect this result. For example, taxes on transport are regressive from the perspective of income distribution in countries with a high GDP per capita, but 2 A second strong dividend indicates that only with the initial environmental or green taxes is possible to obtain a positive second dividend in efficiency, employment, income distribution or output, meanwhile a weak second dividend indicates that it is possible to obtain a positive second dividend through the use of fiscal recycling, for example, by using the additional fiscal revenue to reduce the employment payments to the social security system. 3 A valid alternative to these fiscal instruments is represented by the environmental tradeable permits, ETP (see for instance Grubb, 1990; Stavins, 1995; McKibbin et al., 1999 and Goulder, 2013), that for simplicity will be not considered in the model. Additionally, in most Northern countries (Sweden, Finland, Denmark and Norway) and some developed countries is possible to identify some energy and emissions reduction with respect to the “business as usual” scenario and, therefore, a positive increase in CO2 productivity (Ekins and Speck, 2011; Ekins, et al., 2012, Wu, et al, 2018).

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progressive in countries with a low GDP per capita (Sterner, 2012). Taxes on electric consumption are normally regressive or close to neutral (Ekins, and Speck, 1998). However, the regressive impact of the tax may be reverted by the recycling of the tax proceeds in the economy. Most studies indicate the existence of a weak second dividend, that is, the imposition of green taxes, combined with a mechanism of fiscal recycling, have a positive effect on income distribution (Fullerton and Metcalf, 1997; Schöb, 2003; Adam et al., 2010). Technological innovation is a key vector of the second divided. Taxes on carbon have been associated with technological innovation, in particular in the European Northern countries. It is possible to identify a significant decoupling between CO2 emissions and the evolution of the GDP in these countries.4 Technological innovation is fostered by regulatory measures, and represents a crucial component of a successful transition to a green economy (Meadows et al., 1992; Lawn, 2007; van Zeijl-Rozema et al., 2008; Courvisanos, 2012), that it will be studied in the article by using the “traverse analysis”. The Porter hypothesis (Porter and van der Linde, 1995) argues that environmental regulation can induce technological change and, also, induce significant gains in efficiency that exceeds the costs of compliance (Kriechel and Ziesemer, 2009). Such a positive effect has been observed in the pervasive diffusion of green technology in Europe, particularly in renewable energies (Corey et al., 2014; Barbieri et al., 2016). This evidence points out to the relevance of coordinating various dimensions of public policies, including economic incentives, regulations, new infrastructure and technological change (Jimenez and Mercado, 2014; IEA, 2007). This combination of various public policies has been a fundamental factor for a successful stream of green innovations. The empirical evidence indicates that policies applied in isolation – like taxes and innovation policies – may give rise to a rebound effect, that is the initial reduction of the demand for a good can be followed by an increase in such demand out of the gains in efficiency and the ensuing additional income (Van der Ploeg, 2011; Van der Ploeg and Withagen, 2015). In addition, technological policies without altering relative prices may produce a mismatch between supply and demand – e.g. public transport which is empty because price signals are not strong enough to shift the demand for transport services (Sterner, 2012). Therefore, the mix of green fiscal policies together with technical innovation and new regulations are crucial in fostering structural change towards a sustainable development path. 3. Intermediate goods, sustainability and international trade: the empirical evidence Intermediate inputs are at the center of the Kaleckian models. They also are also crucial for the sustainability of development and structure of the international trade. The starting point is that the metabolism of an economy can be represented by the energy and material flows that bridge the economic and environmental systems. Indeed, one of the main causes of environmental pressure is the total requirements of inputs materials and energy (Bringezu et al., 2004). According to Krausmann et al., (2009), the rise of these flows in the last century has been strong: in the period 190 0–20 05 global material extraction (of construction minerals, ores and industrial minerals, fossil energy carriers and biomass) increased by 800 percent, reflecting mainly industrial growth along with population growth. While the environmental intensity of production fell by 1 percent at year on average, the

4 See World Resources Institute, Climate Analysis Indicators Tool (CAIT) 2.0. ©2017, Washington, D.C. [online] http://cait2.wri.org.

environmental damage continued to grow. This result comes from the rebound or take-back effects, according to which environmental efforts produce less than expected energy savings. This happens either because increasing energy efficiency reduces prices (thereby stimulating consumption) or because the income multiplier effect of green investments compensates for the energy savings (Pfaff and Sartorius, 2015). The recent official document of United Nations Environment Program (UNEP, 2016) reports that the world population duplicated since 1970, while global material extraction triplicated. This trend is linked with the Chinese growth miracle and its mounting demand of primary goods that boosted the price of commodities from the early 20 0 0s. The per capita material consumption has risen from 7 tons per capita in 1970 to 10 tons per capita in 2010.5 Such changes illustrate the impact of economic development on material consumption. In sum, industrial transformation allowed China to catch up with the developed world and boosted the consumption of intermediate inputs and energy, making more pressing the environmental challenge. This confirms the view of Nicholas Stern (2006) that the environmental problem cannot be separated from the development problem. The Eastern European, Asian and Pacific countries overcame the domestic constraints in the supply of natural resources by generating a fourfold rise in international trade on materials since 1970.6 The international “material specialization” that emerged had a sort of regional composition effect on the productivity of resources. Indeed, since 20 0 0 material productivity has shrunk out of the swelled economic share of countries with lower efficiency in the utilization of natural resources (such as China, India and Southeast Asia countries) vis-à-vis the share of “material efficient” countries, such as Japan, Korea and European countries. As a result, trade in resources appears to have increased steadily.7 These global trends in production, consumption and trade in raw materials have encouraged public policy aimed at decoupling growth and CO2 emissions and other negative externalities and putting together environmental sustainability and economic development. The climate change Conferences COP21 (2015) and COP22 (2016)8 stressed the urgent need to raise public investments in R&D on energy saving and environment protection, and at the same time to define new incentives to boost private investments in a low-carbon growth path. As mentioned, Kaleckian models, with their emphasis on raw materials and income distribution can help understand the co-evolution of development and sustainability. This is the subject of the next sessions, in which these various dimensions are discussed within a Kaleckian unified framework. 4. The foundations of an ecological Kaleckian model This section presents a basic Kaleckian model and shows how it allows for discussing environmental issues in a straightforward way. Specifically, we expand and reinterpret the models suggested by Porcile and Lima (2010), Cimoli et al. (2016) and Porcile and 5 In the same period changed the regional shares of global material extraction: Asia and Pacific have doubled their share (from 24.3% to 52.9%) achieving the preeminence, while Europe and North America halved their shares (from 20.9% to 10.5% and from 19.6% to 9.7% respectively, between 1970 and 2010); Eastern Europe, the Caucasus and Central Asia experienced a fall from 14.7% to 5.8%; Africa and Latin America kept their share roughly constant (from 7.9% to 7%, and from 9.4% to 10.7%, respectively). 6 At the country level, Australia, Brazil, Chile, Indonesia and Kazakhstan increased their net exports of resources, while South Korea, the United States, Germany, France and Japan significantly raised material net imports. 7 From 1990 to 2010 its annual growth rate was about 4.6%, despite of the cyclical behavior of GDP and the last great crisis During the years 1970–2010, grew yearly, the rate of growth of the of the main intermediate inputs was 2% for biomass, 1.9% for fossil fuel, 2.8% for metal ores and 4% for non-metallic minerals (UNEP, 2016). 8 See Ghezloun et al. (2017).

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Yajima (2019) to include intermediate energy as an intermediate input in the production function. With the extended model we discuss the impact of environmental taxes in the short run; the impact of green capabilities for income distribution in the medium run; and the role of technical change in enhancing green efficiency and competitiveness in the long run. In sum, we build on existing Kaleckian models through stressing the importance of intermediate inputs in production, not only for income distribution, but also for environmental sustainability. We keep the definition of the periods as in Porcile and Yajima (2019): the short run as the period in which prices and technology are exogenous, but the rate of utilization of the stock of capital varies; in the medium-run technology (and hence green efficiency) is given, but prices vary; in the longrun technology and the green efficiency of the economy endogenously change (more on this below). However, at variance with this model, the focus of technological innovation and the productivity dynamics is green efficiency and changes in the productivity of energy and raw materials. Most of the assumptions of Kaleckian models are taken on board in this paper, but it is worth underlying the theoretical implications of some of these assumptions. First, the Leontief production function is coherent with the concept of strong sustainability that entails complementarity across inputs (including natural resources), typical of ecological economics, as opposed to weak sustainability affirmed by mainstream economics (Ekins et al. 2003; Ayres, 2007).9 Second, the imperfect competition assumption is significant for the model because it permits to introduce energy and natural resources as inputs in the mark-up price equation. This in turn allows for discussing the implications of technical change (aimed at saving energy or natural resources) for income distribution and competitiveness in the medium and long run. Assume an economy in which there is imperfect competition. In this economy, firms have market power and can set prices in order to attain a desired profit share in total output. Firms define prices applying a mark-up factor z on the firms’ variable costs, which includes wages and intermediate inputs and energy, as described by Eq. (1). Intermediate inputs and energy will be labeled just as “intermediate inputs” in the rest of the paper.



P=z

W

λ

+

ϑ t P¯E ( 1 − ϑ )P + μ μ



(1)

P is the domestic price, z > 1 is the mark up factor (which depends on the degree of monopoly that firms enjoy in the goods market), W the nominal wage, P¯ the international price, E the nominal exchange rate (units of domestic currency per unit of foreign currency), λ is labor productivity, μ the productivity of intermediate raw materials and energy, ϑ the share of imported intermediate inputs in total intermediate inputs and t is a tax factor (equal to one plus a tax rate on imported energy and raw materials). It represents an environmental tax, such as a carbon tax, that the country introduces to reduce the consumption of raw materials of energy in the short term and to stimulate environmental technical progress in the long term. As in Taylor (1991), for simplicity, hereafter it will be used the term “intermediate inputs” to refer to “raw materials and energy” and it will be assumed that all intermediate inputs are imported and hence ϑ = 1. This implies that they are paid at world prices rather than at domestic prices. The assumption is not unrealistic if intermediate inputs are, as suggested, mostly natural resources and energy, which are key exports of developing economies. As an example: even if the country produces oil and consumes its own energy, oil is tradable and could be sold in world markets at world prices. The productivity

9

To study in deep the realism of the strong sustainability hypothesis see also Brand (2009) and Costanza et al. (2014).

19

of intermediate inputs μ will be labeled “green efficiency” in the rest of the paper. This variable, as mentioned, will be considered a proxy of green innovations, and it is assumed that it can change in the long run. To address the dynamics of innovation, a function for the long run is suggested, where μ depends on private and public investments, environmental taxes and on green technological gap. This function originally integrates the green efficiency function developed by Guarini and Porcile (2016) with the concept of technological spillovers of Verspagen (1991) within a Kaleckian framework. Firms use capital, labor and intermediate inputs to produce capital goods and consumer goods. Assume that the production function for the two types of goods is the same. Assume also that all factors of production enter in a fixed proportion in the production function (Leontief production function), which allows us to describe the supply side of the economy as follows:

Y = min(vK, λL, μM )

(2)

In equilibrium Y = uvK = λL = μM, where L is total employment, M total imports of intermediate inputs, and u is the rate of capital utilization defined as:

u=

Y

(3)

vK

This expression results from u = YYp = YK YKp = KYv , where Y is effective output, v is productivity of capital and Yp the maximum potential output for the existing stock of capital. Y and Yp may differ because part of the stock of capital K is not fully utilized. This is a traditional assumption in Kaleckian models. It takes into account that under imperfect competition firms prefer not to fully use their capital stock. Having some unused capacity sends a message to potential competitors saying that incumbents are prepared to respond with higher production and lower prices if other firms try to enter the market. The reasons that explain why the stock of capital is not fully utilized is discussed at length in the Kaleckian literature and need not to be reviewed here (see the excellent analysis by Blecker, 2011). We adopt the baseline Kaleckian-Keynesian assumptions to specify the different sources of aggregate demand (Hein, 2014). First, workers do not save, and capitalist do not consume. Workers only consume domestic goods. Wages’ share in total output is ψ T = W L/PY . Note in addition that the share of profits in total output (GDP plus imported inputs) is:

πT =

Y PY − W L − t P¯ E μ

PY

(4)

By plugging the price Eqs. (1) in (4) is obtained the following result:

πT =

z−1 z

(5)

Note that the profit share in GDP is therefore π =

πT where (1− μq )

q is the real exchange rate (q = P¯ E/P ). Eq. (5) means that if the monopoly power of firms is constant, then z is fixed (z = z¯), and so is the profit share in total output (π T = π¯ ). The profit share, the wage share and the intermediate inputs share in total output must equal unity. If the profit share is constant (because the monopoly power of firms is constant), the wage share and the intermediate inputs share must move in opposite directions in exactly the same proportion. Rewrite Eq. (4) using π T = π¯ and ψ T = W L/PY :

1 = π¯ + ψ +

t P¯ E Pμ

(6)

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G. Luìs, G. Giulio and P. Gabriel / Structural Change and Economic Dynamics 53 (2020) 16–25

Define the real exchange rate as:

q=

λμP¯E  z wμ + λt P¯ E z w λ + μ   μ μ w = 1 − ψ T − π¯ = 1− − π¯ t t Pλ

P¯ E = P



P¯ E

t P¯ E

= 

(7)

Using this result in (6) we find the share of wages in total output (ψ T ) and in GDP (ψ ):

ψ T = 1 − π¯ −

tq

μ

and ψ =

ψT

1 − q/μ

(8)

where tq μ is the share of energy and material imports in total output. The function of total savings per unit of capital is

S = σ = (1 − τ )π uv K

(9)

Since the saving rate of capitalists is assumed to equal unity, s = 1, saving corresponds to total net profits (1 − τ )π u, where τ stands for standard tax rate. Thus, the fiscal “footprint” is composed of standard (τ ) and environmental (t) taxes. Investment decisions depend on two factors, an exogenous expectations variable (the state of long-run expectations, SOLE) α and total net profit:

I = g = α + β (1 − τ )π uv K

(10)

Finally, assume a traditional Keynesian function for net exports per unit of capital, b:

B = b = u¯ + eq − tq(uv/μ ) K

(11)

Net exports are positive function of the real exchange rate q (Marshall Lerner holds and hence depreciations improve the current account balance), of world demand (represented by u¯ ) and of the productivity of intermediate inputs, and a negative function of its own rate of capital utilization (a higher u implies more imported intermediate inputs) and of environmental tax. Since as in the standard Kaleckian model, for simplicity it is assumed that public expenditure equals fiscal revenues, the equilibrium condition in the short run is σ = g + b (i.e. total savings per unit of capital must be equal to total investment per unit of capital (I/K ) = g) plus the trade account balance. Therefore:

α + β (1 − τ )π uv + u¯ + eq − tq(uv/μ) = (1 − τ )π uv

(12)

In the short run the rate of capital utilization adjusts to produce the equilibrium condition described by Eq. (12). The equilibrium level of capital utilization is:



 (h + eq + α )μ , with h = u¯ u = v tq + π¯ (1 − β )(1 − τ )μ ∗

1

(13)

Domestic and external prices, input coefficients, technology and wages are all given, and taxes are constants. In the next section we will discuss how changes in μ affect distribution and growth in equilibrium. In Section 5, prices and wages and the productivity of labor and intermediate inputs are allowed to vary. Going through Eqs. (1) to (13), the traditional Kaleckian view of mark-up pricing and output distribution can be reinterpreted in the context of the debate of sustainability and development. a) The share of intermediate inputs in total cost defines whether a certain country’s pattern of production is intensive in energy and natural resources (and hence whether it is sustainable or unsustainable). Having this proxy for energy-intensive production allows us to address the first question, which is whether convergence in GDP and environment protection can go together.

b) A rising (falling) share of intermediate inputs for a given markup has a direct impact on the distribution of output as it directly reduces (raises) the wage share. This implies that a rise in the efficiency in the use of intermediate inputs may also lead to higher real wages and an improvement in distribution, which helps answer the second question—the impact of green growth on income distribution. c) Green efficiency critically affects international competitiveness and hence the ability of the country to grow with external equilibrium. Therefore, the model considers the links between green innovation and BOP-constrained growth (see also on this the recent paper by Boggio and Barbieri, 2017). The next sections use the extended Kaleckian model to address the trade-offs and complementarities between environmental innovations, economic growth, income distribution and international competitiveness. The analytical narrative provides three different temporal perspectives: in the short-term analysis, the only variable that changes is the rate of utilization of the stock of capital; the medium-term analysis allows prices and wages to vary; while the long-term analysis considers changes in SOLE and green technology. The main result in the short term is that green efficiency can increase the equilibrium rate of capital utilization by increasing competitiveness and effective demand. A rise in green efficiency reduces domestic prices with positive effect on real wages, consumption and the external balance (assuming that Marshall Lerner holds). It also raises the investment by increasing the rate of capital utilization. The medium-term analysis discusses how the increase of green efficiency can improve income distribution by increasing the wage share for each given level of rate of exchange. Finally, the long-term analysis will focus on a dynamic relationship between the green innovation function (with economic, technological and policy drivers) and a traditional SOLE function; this analysis highlights the relevance of close coordination between the fiscal and industrial policies. 5. The short-term analysis: green efficiency, economic growth, capital utilization and income distribution Intermediate inputs efficiency appears in the two sides of the equilibrium relationship described by Eq. (12), which are represented in panel A in Graph 1. It shows the economy in short run equilibrium, in which total savings σ equals investment plus the trade balance g + b. The slopes of the σ , g and b curves with respect to μ are positive in all cases, which makes for a positivesloped μ, u∗ - schedule, as represented in panel B.10 Panel C maps the wage share as a function of the efficiency in the use of intermediate inputs (“green efficiency” thereafter), the μ, ψ T -schedule, which is obtained from Eq. (8). This schedule has a positive slope.11 Why do σ , g, u∗ and ψ T have a positive response to μ? First, a rise in μ reduces the price level of the economy. With a constant mark up, when μ rises, prices fall. This implies that the cost of the workers’ consumption basket falls, and real wages goes up. This fosters domestic effective demand and hence increases the rate of capital utilization in the economy. Second, the trade balance improves with a higher μ. This happens because the real exchange rate increases as domestic prices fall, given constant foreign prices (see Eq. (7)). As a result, exports rise. Note that the positive effect of an increase of q on b is not without ambiguity. Since domestic prices fall while foreign prices remain constant, the country’s terms of trade worsen. To buy foreign capital goods and foreign 10

From

Eqs.

(10)

u β (1 − τ )π ∂∂μ > 0 and ∗

11

and

(13)

it

follows

∂σ ∂ u∗ ∂μ = (1 − τ )π ∂μ > 0.

that:

∂ u∗ > 0 ∂μ

and

∂g ∂μ =

hence

ψ ∂ Moreover the wage share in GDP increases, indeed we have ∂ψ ∂μ = ∂μ ( 1−q/μ ) =

∂ π¯ ∂μ (1 − 1−q/μ ) > 0.

T

G. Luìs, G. Giulio and P. Gabriel / Structural Change and Economic Dynamics 53 (2020) 16–25

21

Graph 1. Green efficiency, growth and output distribution

inputs becomes relatively more expensive. A crucial assumption throughout the paper is that the positive effect of a depreciation of the domestic currency on exports overcomes the negative effect of the higher cost of imports (Marshall-Lerner conditions). Finally, the investment rate will increase as well. The investment rate depends on the profit share in total output, the RER and the rate of capital utilization, which are higher. All these forces make that the rate of capital utilization in equilibrium goes up with μ, as represented in Panel B. Panel C represents the wage share as a function of μ. The wage share moves in the opposite direction of the share of intermediate inputs in total output. A higher green efficiency reduces imports of intermediate inputs. At the same time, however, depreciation makes these intermediate inputs relatively more expensive. There are thus two opposite forces working on the wage share (green efficiency and the cost of intermediate inputs). As only part of the total increase in efficiency translates into lower domestic prices (and hence into a higher real exchange rate), then the (negative indirect) impact of the green innovation on the cost of intermediate inputs is lower than its (positive direct) impact on intermediate inputs productivity. This is why the wage share increases while the share of intermediate inputs in total output falls when green efficiency improves. In this sense, a pattern of growth based on green innovations is at the same time more sustainable and inclusive. We call this condition the “equal sustainability assumption”.

What happens if there is a rise in labor productivity, λ, as a result of a brown instead of a green innovation? The result is very similar to the increase in green efficiency, since there will be a fall in prices and hence a rise in the real wage and the real exchange rate. Effective demand will rise and so will growth in equilibrium. On the other hand, the labor share in total output (and in GDP) falls while the share of imported inputs rises in the same proportion. This happens because imported intermediate inputs become relatively more expensive, while the productivity of intermediate inputs does not vary (see Eq. (8)). In this sense, an economy in which brown innovations prevail tends to have higher growth but a worse distribution in total output. This is represented in Panel D in Graph 1.12 Note that all the dynamics take place in Panel A, where u adjusts to attain u∗ when σ = g + b. The position of the curves σ , g and b depends on μ, which is given in the short and mediumruns. If μ increases for any reason (more on this in Section 4) from E to F in panel B, then the σ , g and b curves shift to the right (in panel A only the shift of g + b curve is represented). A new equilibrium position emerges with a higher rate of capital utilization. Carbon taxes, in turn, have a negative impact.

12

0.

ψT ∂ ∂ About the wage share in GDP we obtain ∂ψ ∂λ = ∂μ ( 1−q/μ ) = ∂μ (1 −

π¯ 1−q/μ

∂q ) ∂λ >

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6. The medium-run analysis: green efficiency, income distribution and international competitiveness

the following:

All variables, except the rate of capital utilization, were assumed constant in the previous Section 4. This section allows prices and wages to vary in the medium-run. On the other hand, the SOLE and technology (brown and green) are constants in the medium-run; both will be allowed to vary in the long-run. The analysis therefore proceeds in two steps. First, we analyze the medium-run equilibrium values of the inflation rate and the real exchange rate. Second, we discuss the equilibria for the SOLE and green efficiency. At this point, we need to make explicit the assumptions about how actors behave in the medium-run and the long-run. These assumptions reflect the institutional background in which agents take decisions — and the correspondent distribution of power that sustains such institutions. The behavior of firms reflects market power. Firms use their market power to define the mark up factor z (the Kaleckian degree of monopoly) and attain their target share of profits in total output, π¯ . We will assume that they use such power effectively, in such a way that the profit share is always set at π¯ . Workers, represented by the unions, aim at a certain share in total output too, namely ψ TD . Labor unions negotiate based on their own bargaining power, which depends on institutional variables, such as the degree of union organization, legislation over industrial action, minimum wages and protection to the unemployed, among others. These institutional conditions are considered exogenous. At the same time, the union’s bargaining power increases when the economy grows at a faster rate and the demand for workers is higher. A more dynamic labor market favors unions’ demands. This idea is captured by making the bargaining power of unions a positive function of the rate of capital utilization u. In other words, ψ TD increases with u. The desired labor share in total output does not necessarily coincide with the observed or effective labor share. The latter depends on the real exchange rate: recall that ψ T = 1 − π¯ − tq μ . Keeping in mind that only q can vary in the medium-run, the previous assumption means that the desired and observed labor shares are a function of the real exchange rate, as represented in Graph 2. The higher is q, the higher the desired labor share, for a higher q means more exports and therefore a higher demand for labor (and worker’s bargaining power). On the other hand, a higher q also means a lower effective labor share because imported intermediate inputs are relatively more expensive. The desired wage share is

The labor share that workers seek is a function of the rate of capital utilization. The autonomous term (η0 ) and the response of the target labor share to the rate of capital utilization (η1 ) increase when the institutional setting favor unions in the bargaining process. They will be higher when there are centralized collective negotiations, higher degree of unionization, unemployment benefits, effective retraining policies and so on and so forth. The adjustment process occurs through changes in the rate of capital utilization. When the desired labor share is below the observed labor share, wage demands increases. In this case, the rate of capital utilization is high, and workers believe their bargaining power is strong enough to obtain a higher share in output. With a fixed mark-up factor, higher wage demands lead to higher domestic inflation, which makes the real exchange rate fall. This in turn reduces exports, increases imports and compromises the growth of effective demand, weakening workers’ bargaining power. The successive interactions between wage demands, domestic inflation and the real exchange rate will cease when the rate of exchange rate (and the corresponding rate of capital utilization) is such that the desired and observed labor shares are equal. What is the effect on this dynamic of a rise in green efficiency, from μ1 to μ2 ? Such a rise moves both ψ T -schedule to the right and ψ TD -schedule to the left. For any value of q, the observed and desired labor shares will be higher (thanks to the positive effect of μ on u in the desired one) As a result, the labor market attains a new equilibrium position in F, in which the labor share is higher. The effect on q will depend on the size of the shifts of ψ TD : in the case illustrated in Graph 2 q is also higher, which implies a higher rate of capital utilization. This outcome appears plausible because it entails an impact of μ on ψ T (direct effect) which is higher than the one on ψ TD (indirect effect). Therefore, green efficiency is crucial to determine growth and the labor share in output in the medium-run equilibrium. A country which is “greener” will have a more equal distribution of output, higher real wages and a higher rate of growth in equilibrium in the medium run.

Graph 2. Effect of an increase in green efficiency in the labor share in total output

αˆ = b(q, u¯ , u) = αˆ (α , μ ), αˆ α 0, αˆ μ 0

ψ T D = η0 + η1 u

(14)

7. The long-run analysis: green policies for a sustainable and inclusive growth A classical Kaleckian problem is to define the “normal” rate of capital utilization un . The canonical Kaleckian investment function is: g = α + β (u − un ). In this equation α –the ‘animal spirits’– reflects the state of long-run expectations (SOLE). There are three different challenges in relation to this equation. The first is to define clearly what un means. In the context of a BOP-dominated macroeconomic system, such a rate represents the one compatible with external equilibrium. The long-run attractor for the rate of capital utilization is the long-run attractor of the Kaleckian model, in the context of a developing economy which faces an external constraint. The second challenge is to specify how the economy moves towards this “normal” rate (Russo, 2017). The answer provided in this paper to this challenge is drawn from by Blecker (2011) and Carlin and Soskice (2007): autonomous expenditure adjusts to that compatible with external equilibrium. More specifically, it will be assumed that a combination of private investment decisions and public investment decisions moves the economy towards its BOP-constrained equilibrium (Guarini and Porcile, 2016). In this sense, the BOP-dominated macrodynamics could be seen as the specific form that the traverse towards a normal rate of capital utilization takes place in economies that do not issue the international currency, and which faces problems of competitiveness to sustain growth.

(15)

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23

all channels with which State can sustain environmental efficiency improvements: regulation, direct public investments, fiscal incentives. The challenge of the fiscal incentives is that the costs in the short run, as we discuss before, are less than benefits in the long term. Formally:

μˆ = μ(α , μ, t, ϕ ), μˆ α > 0, μˆ μ < 0

Graph 3. The long-run equilibrium: the effect of the new green industrial policy.

If the current account balance b is positive, the SOLE increases and public and private investments increase. A high α implies more imports and a lower b: this is why the partial αˆ α is negative. Inversely, a high μ implies higher competitiveness: this is why is αˆ μ is positive. The isocline αˆ = b(q, u¯ , u) = 0 in Graph 3 shows the combinations of α and μ that stabilize the SOLE. It is positively sloped because a high α requires a high μ to keep this current account in equilibrium. We need a production function for green innovations (Guarini and Porcile, 2016; Verspagen 1991), that is

  μ¯ μˆ = α + γ1 + γ2 ϕ + γ3 t, with ϕ = δτ π¯ , μ

(16)

Green innovations will depend on the level of autonomous expenditure, and hence will be a positive function of α . In addition, we will assume that yet unexploited opportunities for green innovations falls as μ approaches μ ¯ . Institutional and technological factors justify this result. From one hand, the parameter μ ¯ represents the environmental standards of a country as defined by the regulation policy. Thus, γ 1 represents efforts to catch up respecting the environmental normative. On the other hand, if national standards are set according with the advance es in the techno¯ logical frontier, then the μ μ ratio will represent the technological gap. It can be considered that international technological spillovers in green technologies are a positive function of the difference between the stock of green innovations in the developed economy (captured by μ ¯ ) and the stock of green innovations in the developing economy (captured by μ). The higher is the μ ¯ /μ, the higher the space for learning in the developing economy and the higher the rate of growth of green efficiency. Finally, the variables ϕ and t concern the impact of fiscal policy: the parameter γ 2 gives the effect of public investments on environmental efficiency; while parameter γ 3 represents the innovation private efforts stimulated by the environmental taxes (the second dividend). Specifically, green public investments, ϕ , are equal to a proportion, δ , of public expenditure that we assume coinciding with tax revenues (standard taxes multiplied for profit share), in other terms we have ϕ = δτ π¯ ; while environmental taxes t are inserted as stimulus to ecological conversion of production process. Therefore, this function is based on Porter Hypothesis (Porter and van der Linde, 1995) according to which public green interventions and instruments can generate a second dividend in terms of innovation and competitiveness. Indeed, the equation considers

(17)

The μ ˆ = 0 isocline is positively inclined: a high α (more investments in technology) requires a high μ (and hence lower technological opportunities) to keep the rate of growth of intermediate inputs efficiency equal to zero. Graph 3 presents the phase diagram. Note that stability requires that the μ ˆ = 0 isocline to be steeper than the αˆ = 0 isocline. In order to focus the analysis on the relationship between μ ˆ and αˆ , the short-term impact of taxes on profits, wages and prices will not be discussed. All the analysis will be about long-run trends (clearly, the equilibrium long-run vales of α , μ will be affecting the equilibrium values of the wage share and the medium-run BOP constraint). The analysis of the short run may represent an interesting following step to address more complex realistic dynamic relationships between the three time periods of the analysis. Assume that most of the investments in science and technology related to green innovations are made by public agencies or supported by public subsidies to environmentally friendly R&D, education and training (Guarini and Porcile, 2016). Assume in addition that there is a rise total public investment increases for any given value of α , which also raises investments in green innovations, or that an increase in green taxes stimulates green investments by firms. The result is a shift to right of the μ ˆ = 0 isocline. In effect, if any value of α now entails a stronger stimulus to innovation, then— keeping the gap from the international green technological frontier—we need a higher stock of μ (less technological opportunities) to keep the rate of innovation constant. In the long-run, a policy aimed at speeding up capabilities and knowledge in the green sector produces higher growth, higher investments in R&D in equilibrium, higher competitiveness and a better income distribution. In this sense a green industrial policy should be part and parcel of sustainable development. There are, however, some important trade-offs that the story told above has not considered. First, a rise in green efficiency may be associated with a higher share of imported capital goods in total investment. If the dependence of innovation on capital goods imports is strong enough (and it is likely that this is the case in a small developing economy), the external constraint becomes more stringent the higher is the increase in green efficiency. This mechanism can be interpreted as a failure of the “green Marshall-Lerner condition” to hold13 . In terms of the model presented above, Eq. (15) should be rewritten as:

αˆ = αˆ (α , μ ), αˆ α < 0, αˆ μ < 0

(18)

The critical difference is that now αˆ μ < 0, i.e. higher levels of green efficiency reduce the rate of economic growth with external equilibrium. The isocline αˆ = 0 is now downward sloped and produces a stable equilibrium as shown in Graph 4. What will be the effect of a rise in environmental taxes and public investment? As in the previous example, to the extent that such investments encourage green innovation, μ will be higher for any value of α . The curve αˆ = 0 then shifts to the right. However, at variance with the previous case, the equilibrium value of α will be lower than before the change in policy. 13 This point can be represented by transforming Eq. (11) in b = b(t, q, u¯ , u) =

u¯ + eq − tq(u/μ ) − mu where m stands for the propensity to import capital goods

with mμ > 0.

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ments shaping income distribution and employment, as set forth in Tcherneva (2009). Second, it would be important to introduce different types of policy instruments for green regulation —more complex than those presented in this paper, such as the environmental tradeable permit— and discuss whether these instruments produce different outcomes in terms of growth, income distribution and CO2 emissions. Supplementary materials Supplementary material associated with this article can be found, in the online version, at doi:10.1016/j.strueco.2020.01.002. CRediT authorship contribution statement Galindo Luìs: Writing - original draft, Writing - review & editing. Guarini Giulio: Conceptualization, Methodology, Formal analysis, Writing - original draft, Writing - review & editing. Porcile Gabriel: Conceptualization, Methodology, Formal analysis, Writing - original draft, Writing - review & editing. Graph 4. The long-run equilibrium: the effect of the new green industrial policy when green innovations depend on imports

The effect of the new green industrial policy (represented by the increase in environmental taxes and investments in green innovations) on output distribution is ambiguous. From one hand, a rise in green efficiency reduces the share of imported intermediate inputs in total output and raises wages shares, and it tends to decrease price that increase real wage. On the other hand, the fall in costs is associated to higher capital goods imports that strain the current account. To the extent that the rate of growth in equilibrium is now lower (because the BOP constraint becomes binding at a lower rate of economic growth), the demand for labor will fall, which depresses unions’ bargaining power. The possible negative impact of green innovations related to a surge of imports stresses the importance of a supply-side policy aimed at building up indigenous capabilities in the developing economy. 8. Conclusions Kaleckian models allow for addressing the interaction of the three key variables in sustainable development: growth, income distribution and environmental sustainability. The crucial link is given by intermediate inputs (raw materials and energy) in the price equation, which impacts real wages, the wage share, the rate of capital utilization (and hence growth) and international competitiveness (through changes in domestic prices for a given international inflation rate). It is shown that an economy which has higher energy efficiency will attain at the same time a higher wage share and higher growth. Being green not only helps attain a more sustainable growth path, but also a more inclusive one both in the short run and the long run. In the long run, the combination of green taxes with an industrial policy aimed at increasing the energy efficiency of production is crucial. Moreover, in a developing economy, if green innovations are associated with higher imports of capital goods, the tightening of the external constraint may be so strong as to compromise the “second dividend”. This result reinforces the importance of managing in a coordinated way the fiscal policy and innovation policy associated with public R&D in environmental technologies. The baseline “green” Kaleckian model presented in this paper opens some research questions to be explored in the future. First, unions have become increasingly weak and less influential in the process of wage negotiation; then the model should be expanded to consider the case of different institutional arrange-

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