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Technological Externality Paper

Words: 2049, Paragraphs: 14, Pages: 7

Paper type: Essay , Subject: Economics

The following academic paper highlights the up-to-date issues and questions of Technological Externality. This sample provides just some ideas on how this topic can be analyzed and discussed.

2.13 Technological externalities Technological externalities or spillovers can be said to exist where the market supplies too little of the technological investment in question. In such cases, neoclassical theory suggests there is a role for the government in supporting technological change. For example, technological externalities in physical capital could arise where diffusion of an innovation is being held back due to the lack of critical mass and network externalities, or where path dependency from investment areas where high sunk costs are a feature of the market. Secondly, technological externalities in human capital are likely to exist because the benefits to society of a highly educated or trained individual are greater than the sum of the benefit of that education to the individual. For example, Theodore Schultz (1975) investigated the ways in which education and experience influence people’s ability to perceive and interpret events and incentives, and reallocate their resources accordingly.

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Education helps not only help create and secure job opportunities, but can assist with family planning, staying healthy as well as contributing to the general stock of innovation-producing human capital. Thirdly, technological externalities in research and development are likely to exist because technologies are often nonrival, meaning one person’s use of the technology need not exclude another person from using the same technology; and nonexcludable, which means property rights with respects to the technology are often difficult to enforce. Because firms are assumed to be profit maximisers, they will only invest in research and development if they can capture sufficient economic rents from the effort. As this investment is likely to have broader applicability which would benefit the rest of the economy, positive spillovers are likely to exist. Isaac Newton’s “standing on the shoulders of giants” is an apt metaphor here.

Technological Externalities

2.14 The ‘New’ Paradigm As already mentioned, the ‘new’ growth models arose as a response to the confining and unrealistic assumptions of neoclassical growth theory. The word endogenous, seeks to highlight that the ‘new’ models set out to include forces such as technological change into the explanation of economic growth in a more meaningful way. This followed the same trends in other branches of economics, in particular industrial organisation (Dixit and Stiglitz, 1976) and trade theory (Krugman, 1980). Dixit and Stiglitz introduced the notion of monopolistic competition, where firms offer slightly differentiated products which mean they have a small amount of market and pricing power. They also allowed for increasing returns to scale to allow for the situation where firms have fixed costs.

Paul Krugman took this notion and applied it to international trade and industrial location (‘new trade theory’ and ‘new economic geography’ (Krugman, 1991a, 1991b; Helpman and Kruman, 1985). Of course, there was nothing particularly ‘new’ about the notion of increasing returns, and its explanation as to why people and industries might tend to locate in particular clusters – and that this would be, not coincidentally, where growth might also be located (Fujita, et al., 1999). What this wave of research represents is a reassertion of microeconomic foundations onto the macroeconomic models which had assumed away too much of the real economy in the quest for increased aggregation and the formalisation of behavioural relationships which, over time, had lost touch with the actual mechanics of economic change. 2.15 Endogenous growth theories In addition to technology being an endogenous feature of new growth theories (i.e. something that responds to incentives, rather being left exogenous or, metaphorically, ‘descending like manna from heaven’ to influence economic growth), Schumpeter’s idea of creative destruction also plays an important conceptual role in new growth theories.

Hirschman (1958) first applied this concept to a formal growth theory by postualting that new technological knowledge and artefacts would destroy the usefulness of old investments and facilitate other further investments based on the new idea. Kennith Arrow (1962) also highlighted how knowledge benefits not just the firm investing through ‘learning-by-doing’ but also those in the wider economy who ‘learn-by-watching’. This spillover knowledge is regarded as an explicit factor of production in new growth theories and is the technical escape route from the Malthusian trap into a world of increasing returns. For example, with this theory we can better explain snowballing virtuous cycles of growth which help understand why economic outcomes can vary so much across different countries and tend to be centred in certain areas within countries. Paul Romer has developed several models of endogenous growth which place particular importance on investment in education and training and research and development in improving the production process and thereby stimulating the rate of long-run growth.

In his model (1990) he assumes knowledge to be partially rival – that is, monopolistic profits can apply to the firm that creates the knowledge but for others externalities occur. In this model, knowledge is responsive to incentives and Government policies which work through stimulating this investment, can also affect economic growth. Robert Lucas (1988) differs from Romer in his treatment of the proximity of the learning process to the production process. Defining human capital as a public good, he stipulates that externalities in production occur due to average level of human capital, which helps drive the growth rate. The more technologically advanced the production activities, the greater the externalities.

An early quotation from Thomas Jefferson (1813) making such a point has become well-known: If nature has made any one thing less susceptible that all others of exclusive property, it is the action of the thinking power called an idea, which an individual may exclusively possess as long as he keeps it to himself; but the moment it is divulged, it forces itself into the possession of everyone, and the receiver cannot dispossess himself of it. Its peculiar character, too, it that no one possesses the less, because every other possesses the whole of it. He who receives an idea from me, receives instruction without lessening mine; as he who lights his taper at mine, receives light without darkening me. That ideas should freely spread from one to another over the globe, for the moral and mutual instruction of man, and improvement of his condition, seems to have been particularly and benevolently designed by nature, when she made them, like fire, expansionable over all space, without lessening their density at any point, and like the air in which we breathe, move, and have our physical being, incapable of confinement or exclusive appropriation. Furthermore, this body of work suggests that if a person is working with others with a high level of education, the pay-off from getting a higher-level of education is will be greater and visa versa.

The incentive to invest in one’s own human capital depends on the decisions of others. Viewing human capital in this way may be particularly relevant in understanding growth (and the lack thereof) in developing countries where education is low. 2.16 The theory of induced innovation Schumpeter distinguished three stages in the process of technological change. Invention: the act of creation of a new technology; Innovation: the commercial introduction of the new technology; and Diffusion: the gradual introduction of the new technology The theory of induced innovation is a hypothesis which seeks to explain the direction of the technological change underpinning invention through the impact of factor prices (Ahmad, 1966; Kamien and Schwartz, 1968; Binswanger, 1974). According to the theory, increased use of an input leads to an increase in the proportion of cost that that factor occupies in the production process.

Increasing prices for that factor may also follow, along with the diminishing marginal productivity as it is used more in proportion to other inputs. The higher proportion of input costs and higher unit prices for that input due to scarcity, stimulate effort in research and development with respect to that input. This in turn leads to diminishing returns to research and development in that area, but also drives technological change in order to lower production costs and increase profits. Taken in terms of Figure 2.3, the theory can be seen as modelling the quantity of research and development undertaken on each input, rather than the input itself on each axis. It is worth noting at this point that, aside from the addition of the spillover externality with ‘new’ growth theory, and the explicit modelling of research and development by the induced innovation theorists, these two groups of theory broadly maintain the same form and feel of their neoclassical counterparts.

Technological change derives from research and human capital, which are responsive to incentives – usually exclusively modelled as price incentives. ‘Technology’ is put alongside labour and capital as a stock variable in the production 131 function (equation 10) or built into the efficiency in which other inputs are used. Because technological ‘spillovers’ exist the policy and microeconomic implications of this analysis aligns neatly with the neoclassical framework and the divergence between marginal private and social benefit in Figure 2.9, which justifies government action. This sits in contrast to the general conclusion taken from macro-economic studies (Cochrane, 2009), which de-emphasise the microeconomic foundations of growth in the macro-economy. 2.17 Conclusion In the introduction to Part One, competing notions as to the role of technology in society were introduced in dialogue form, with the ‘free-to-choose’ proponents on one side, and the technological determinists on the other.

Behind each of these conceptions are ideas or theories from the social sciences, which this thesis aims to illuminate, make explicit and critically discuss. Chapter 2 has introduced some of the main theories which trace the path of neoclassical economic theory in this debate, and how it has shaped some of the major currents in policy-thinking. One important manifestation of this is the so-called ‘golden rule’ of macroeconomic policy, that governments can do little to influence the long-run growth rate in the economy, other than help achieve a level of national saving where the rate of reduction in per capita consumption from the next dollar of savings is exactly offset by the increase in per capita consumption which the extra output makes possible. It is argued, that despite the rich vein of microeconomic studies in the area of market failure, particularly in the area of innovation, such prescriptions as the ‘golden rule’ have helped propagate a laissez faire culture of ‘letting the market decide’ in policy 132 circles. One manifestation of this are the current debates over ‘austerity versus fiscal stimulus’ – at play is the state’s perceived ability to play a constructive role in the allocation of capital in the economy.

One of the recent major counter-movements to this neoclassically-based laissez-faire policy culture have been the so-called ‘Green Growth’ strategies, implemented by many governments as a response to the 2008 financial crisis and economic recession. Faced the escalating economic crisis, in 2009 governments around the world had allocated around $US 512 billion to green investment measures across transport, energy and building projects (Bernard et al., 2009). Supporting this shift in thinking, the OECD (2012) has outlined four key elements providing the rationale of applying green growth strategies in the energy sector. The OECD’s message to national governments is that tailor-made energy policies to manage the transition to green growth in the energy sector make an important part of environmental and economic policy. This would seem to go some way towards calls from within economics and beyond to ‘end the taboo and have an industrial policy again’ (Coyle, 2011).

However, as the OECD notes, the challenges to design and implement such a policy package with a consistent framework are considerable (OECD, 2012:13): Many energy systems are “locked-in” to high carbon production and consumption patterns that can be difficult to break for reasons that go beyond simple economics. Making reform happen will require attention to some common political economy challenges… Having articulated the basic framework of ‘simple economics’ in Chapter Two, Chapter Three will go on to explore the evolutionary elements of what a ‘consistent policy framework’ for implementing green growth strategies might look like. This conception of a consistent approach, is what is set out in Chapter 1 Next Page – Ch 3: Evolution – Path Dependency and New Path Creation in a Complex Adaptive System Previous Page – Ch 2: Neo-Classical Theory

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This sample is done by Scarlett with a major in Economics at Northwestern University. All the content of this paper reflects her knowledge and her perspective on Technological Externality and should not be considered as the only possible point of view or way of presenting the arguments.

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