Energy Prices and Induced Innovation: a Directional Distance Function Approach

Technological progress plays a crucial ameliorating role in reducing energy consumption and in mitigating carbon emissions. The study provides an interesting description of innovations and diffusion across a wide range of countries over the period 1974 to 2000. It decomposes technological progress into technological innovations and diffusion of innovations. Innovations are further decomposed into exogenous and energy price induced innovations. It observes larger energy price induced innovations in developed countries in comparison to developing countries in the periods after first (1974) and second (1980) world oil crisis that caused substantial energy price increases. Second, the magnitude of factor bias arising from energy price induced forces is typically greater than the factor bias arising from exogenous forces. Third and finally, the estimates of elasticity of substitution lend support to the argument that the effective way to reduce energy consumption is an increasing overtime tax on energy use. The analysis should be especially useful for academicians and policy makers who are concerned with energy and climate change issues.