Since the seminal paper by Grossman and Kruger (1991) there has been considerable academic interest in the relationship between economic development and environmental pollution. Importantly the authors have shown empirically that the link between these follows an inverted U-shaped pattern, now commonly referred to as the Environmental Kuznets Curve (EKC). This suggests that lower income regions are ‘too poor to be green’, but as countries become richer they will naturally reduce their generation of pollution.
Several recent studies, however, have put the existence and the exact shape of an EKC into question (Stern, 2004). In view of the recent policy developments, resolving this issue seems of particular importance. More precisely, the recent Kyoto Protocol has set reduction targets for pollutant emissions to which developed countries are expected to commit themselves to, but from which developing countries are at the first instance exempt. This would suggest that policymakers are of the view that wealth on its own does not result in a possibly sufficient reduction in pollution, a stance which as of date has not yet been substantiated in the academic literature.
Arguably one of the main reasons for the lack of consensus on the existence of an EKC can be attributed to the fact that the number of theoretical underpinnings is relatively sparse and hence that the mechanisms underlying the link between pollution and development are probably not yet well understood (Dasgupta et al., 2002). The few exceptions have borrowed from a broad range of theoretical frameworks to demonstrate the existence of the EKC. For example, Selden and Song (1995) show an inverted U-shaped relationship between pollution and output in a strictly neo-classical framework. John and Pecchenino (1994) and John and al. (1995), in contrast, use overlapping generation models to demonstrate the same.
The use of endogenous growth models may be particulary relevant to the understanding of the pollution-output link, since it allows one to lay down the conditions of sustainable economic development. Notably in this regard, Stokey (1998) uses an Ak model in order to introduce pollution in an endogenous growth framework and finds that inevitably an EKC will arise. Importantly, however, all of the existing models do not consider the decision of when to replace obsolete with newer technologies and how this may affect the pollution output relationship, but instead consider technological adoption to be exogenous. Clearly though, if one assumes, as would be more realistic in most cases, that older technologies are more environmentally unfriendly, then the decision when to scrap these is likely to be an important determinant of the extent of pollution generation.
In the current paper we thus explicitly model how the decision to scrap obsolete technologies affects the relationship between economic development and pollution. In order to do so we build on the Schumpeterian framework of Aghion and Howitt(1998) by introducing a vintage capital structure, where the law of motion of environmental quality will depend on the pollution flow and some upper limit on environmental quality that takes into account the exhaustibility of resources. In this context, we diverge from the existing literature on the pollution-output relationship by making the explicit distinction between environmental quality and pollution. Arguably it is important to do so since the very notion of sustainable development refers to some self regeneration capacity of ecosystems, as originally defined by Daly (1990, 1991) and now commonly used by the World Bank (1991a and 1991b). Finally, we explicitly assume that new technologies are more environmentally friendly, allowing us to shed light on the mechanisms through which the environmental quality affects growth performance following technological adoption.
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