Technological Change in Economic Models
Technological change includes creation and adoption of new products as well as improvement in the quality and efficiency of existing products. It is subject to a large externality, whereby an innovator who is responsible for technological change assumes most of the research and development costs but might not reap most of its benefits.
Once an innovator reveals a piece of technological knowledge, it becomes available to all. Moreover, technological knowledge, unlike other goods or services, does not wear out with repeated or simultaneous use. Because consumers in a free market are not willing to pay for something that may become freely available and inexhaustible (behavior known as free riding), investment in research and development dwindles, and technology stagnates.  An example is the deregulation of the electric power industry that has made it more responsive to market forces yet has not stimulated sufficient investment in research and development. Patents and copyrights are methods for compensating innovators in order to encourage research and development. In a patent or copyright, a government grants an inventor or author exclusive rights for a fixed period in exchange for public disclosure of the invention or work. Unfortunately, patent or copyright holders usually set the price for licensing their invention or work so high that it discourages people who would otherwise make productive use of it. From the perspective of benefits to society, patent or copyright holders should grant permission at a low price to anyone who could use their invention or work, because the marginal cost of this use is practically nil. Then again, such a compensation scheme would provide little incentive for innovation.
Technological change to address global climate change suffers from a second externality: the tragedy of the commons. Free markets place little value on Earth’s atmosphere and thereby place little value on efforts to decrease greenhouse gas emissions. Governmental policies that would raise the price of greenhouse gas emissions, such as an emissions tax or a cap-and-trade system would stimulate technological change in this area. The United States and most of the world, however, have delayed implementing such policies. Thus, policy-induced technology change has been slower than is socially desirable.  Fortunately, governments—even those that balk at implementing climate change policies—have found it politically expedient to fund climate-related research and development and to push adoption of energy-efficient technologies. This includes research grants or contracts to public institutions and general tax credits or matching funds to firms who undertake research in this area or who adopt these technologies. The U.S. National Science Foundation, for example, currently allocates over $1 billion to study global climate change. The U.S. National Academy of Sciences conducted a cost–benefit analysis of the research funded by the U.S. Department of Energy in the areas of fossil energy and energy efficiency (National Research Council 2001). This research played an important role in many important technological innovations from 1978 to 2000 (Table 10.6). In the area of fossil energy, innovations such as advances in atmospheric fluidized bed combustion and nitrogen oxide controls to decrease air pollution required research expenditures totaling $10.5 billion, but realized economic benefits of $10.8 billion and environmental benefits of $60 billion (in year 1999 U.S. Dollars). In the energy efficiency area, innovations such as advances in compressors for refrigerators and freezers, energy-efficient electronic ballasts for fluorescent lighting, and better-insulating window glass spent $7 billion for research, but realized $30 billion in economic benefits. The pace of technological innovation can be breathtaking. For example, light output from a single light emitting diode (LED) lamp doubles every 2 years, cost per light output halves every 3 years, and luminous efficacy doubles every 6 years. Energy efficiency of refrigerators doubles every 15 years. Fuel efficiencies of vehicles per unit weight and coal-fired power plants improve steadily. Nonetheless, slow turnover of equipment or facilities tempers the overall rate of technological change and highlight some of the uncertainties about the rate of technological change that confound cost–benefit analyses of environmental projects.
 Mansfield, E. and G. W. Yohe (2004) Microeconomics: Theory&Applications, 11th Edition. Norton, New York.
 Newell, R. G., A. B. Jaffe, and R. N. Stavins (2006) The effects of economic and policy incentives on carbon mitigation technologies. Energy Economics 28:563-578 doi:10.1016/j.eneco.2006.07.004.
This is an excerpt from the book Global Climate Change: Convergence of Disciplines by Dr. Arnold J. Bloom and taken from UCVerse of the University of California.
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