Energy Efficiency and Directed Technical Change: Implications for Climate Change Mitigation

Abstract I develop a directed technical change model of economic growth and energy efficiency in order to study the impact of climate change mitigation policies on energy use. I show that the standard Cobb–Douglas production function used in the environmental macroeconomics literature overstates the reduction in cumulative energy use that can be achieved with a given path of energy taxes. I also show that, in the model, the government combines energy taxes with research and development (R&D) policy that favors output-increasing technology—rather than energy efficiency technology—to maximize welfare subject to a constraint on cumulative energy use. In addition, I study energy use dynamics following sudden improvements in energy efficiency. Exogenous shocks that increase energy efficiency also decrease the incentive for subsequent energy efficiency R&D and increase long-run energy use relative to a world without the original shock. Subsidies for energy efficiency R&D, however, permanently alter R&D incentives and decrease long-run energy use.