Memoire Online - Impact of eco-innovation on firms competitiveness. An empirical study based on Mannheim Innovation Panel

Brännlund and Lundgren (2009, p. 9) defined the strong PH as the productivity gains induced by the ER so that the whole costs of attaining it are, at least, compensated by the productivity increases. In this context, it is relevant to point out that Porter (Porter, 1991; Porter and van der Linde, 1995) has the credit of giving an approach that deviates from the dominant design in those days. Porter's argument was that: appropriate government environmental intervention can trigger innovations that can offset the costs of compliance with the regulations. As a result of strict ER, companies will reconsider their production process and will develop new approaches to reduce the pollution while lowering their costs and / or increasing their production. The possibility that regulation encourages innovation imply that firms decisions are not always the optimal choices as there is a high level of information imperfection and a certain inertia while organisational opportunities and technologies are developed continuously. Thus many innovation opportunities are overlooked by firms as their level of awareness is limited. If ER stimulus to eco-innovation is sufficiently important then ER would offer the possibility to improve environmental conditions at zero cost or negative net costs by improving productivity. Consequently, by stimulating innovation, ER may actually make businesses more competitive. As an example, regulations on recycling products could lead to the recovery of valuable materials more easily. Both consumers and producer could then end up winners when disposing of the consumed product. (Lanoie & TANGUAY, 1999)

Undoubtedly, such a view has received close attention from all stakeholders who want stronger environmental policies, such as environmentalists. If ER may be without costs or even with negative costs then regulation is good for both the environment and the businesses.

Porter initially expressed his argument in a one-page article (Porter 1991) and then extensively formulated it in a common article with van der Linde (1995) and later on with Esty (1998). According to Porter (1991) «strict environmental regulations do not inevitably

hinder competitive advantage against foreign rivals (p. 96)». And «... the environment-competitiveness debate has been framed incorrectly (Porter & van der Linde 1995, p. 97)». The authors emphasised the crucial role of innovations as their core argument. Wagner (2004) indicated that: «In reality, one is faced with a dynamic competition process, rather than a framework of static optimization.» Because firms are «... currently in a transitional phase of industrial history where companies are still inexperienced in dealing creatively with environmental issues (Porter & van der Linde 1995, p. 99)», which implies incomplete information and organisational inertia. Wagner (2004) adds: «In such a situation properly designed regulation can have an influence on the direction of innovation in that (Porter & van der Linde 1995, p. 99-100):

- It signals to firms resource inefficiencies and possibilities for technological improvement;

- If focused on information provision, it can increase firms' awareness for improvement potentials;

- It «... motivates innovation and progress» (Porter & van der Linde 1995, p. 100);

- It provides a `level playing field' and is necessary in situations with incomplete offsets.»

The idea underlying the reasoning of Porter is that pollution is generally associated with resources and raw materials that are not fully utilised or wasted energy.

«Pollution is the emission or discharge of a (harmful) substance or energy form into the environment. Fundamentally, it is a manifestation of economic waste and involves unnecessary, inefficient or incomplete utilization of resources, or resources not used to generate their highest value. In many cases, emissions are a sign of inefficiency and force a firm to perform nonvalue-creating activities ... Innovation offsets will be common because reducing pollution is often coincident with improving the productivity with which resources are used.» (Porter and van der Linde, 1995, p. 98)

Thus there is room for innovation in order to prevent pollution and reduce the waste. Specifically, Porter refers to two broad categories of innovations. Firstly, process improvements when reducing pollution is associated with higher productivity through material savings, reduced energy needs and reduce costs of disposal; a typical example is to find ways to use waste, scrap and residues as new combustion source. Secondly, there are also gains to be made at products level where reducing pollution is accompanied by a design

product of higher quality, safer, cheaper, with more value for the consumer or is less costly to the trash. (Lanoie & TANGUAY, 1999)

The academic research conducted by Sinclair-Desgagné and Gabel (Sinclair-Desgagné 1999; Gabel & Sinclair-Desgagné 2001; 1993) came to a similar conclusion, they considered in fact ER as «... an industrial policy instrument aimed at increasing the competitiveness of firms, the underlying rationale for this statement being that well- designed environmental regulation could force firms to seek innovations that would turn out to be both privately and socially profitable (Sinclair-Desgagné 1999, p. 2)». Moreover they proposed a number of conclusions such as «... [it is] inconsistent, albeit convenient, to assume that markets are flawed but that firms are perfect (Gabel & Sinclair-Desgangé 2001, p. 149)». Another conclusion was that although «standard neoclassical-economics models do not support the systematic presence of low-hanging fruits (Sinclair-Desgagné 1999, p. 3)» the authors indicated that «[I]nnovation itself is not free, and if one prices managerial time and all other in puts correctly at their opportunity costs, it should become clear that putting stronger environmental requirements on polluting firms generally increases their production cost more than their revenue (Sinclair-Desgagné 1999, p. 2)». Ambec and Barla (2006) observed that the management tend to be `present-biased' and may delay investment in costly assets even if they may be productive («low-hanging fruits»):

«Because the cost of innovating is for «now» while the benefit is «later,» a present-biased manager will tend to postpone any investments in innovation. By making those investments more profitable or requiring them, environmental regulations help the manager overcome this self-control problem, which enhances firm profits» (Ambec, et al., 2010).

In addition, according Gabel & Sinclair-Desgangé (2001) «[It] is logically most likely in situations where the firm is far from the efficiency frontier, where the burden of the compliance cost is light, and where the shift to the frontier can be made cheaply» (p. 152). Finally, Xepapadeas & de Zeeuw (1999) concluded that «basic argument nevertheless remains the X-efficiency argument that external shocks caused by stringent environmental regulations may reduce inefficiencies and failure within the firm».

Another way to look at the situation is to suppose that businesses might operate under their potential because of bad management and lack of perfect information. A clear definition of property rights (Coase, 1960) with regulation to limit information asymmetries (Akerlof, 1970), may lead to Porter's the win-win or positive sum game with Pareto

improvement. In practice, however, regulation usually has been associated with decreased competitiveness, deterring innovative activities (Cerin, 2006).

Ambec and Barla (2007) explain, through a game theory application, the spill-over effect of R&D investment that justifies the Porter hypothesis. Consider two firms with the same technology and each with a monopoly on two separate markets. They get a profit of ð^p. Each firm must decide whether to invest in research and development (R&D) to achieve a more productive and cleaner technology that allows it to achieve a gross profit of ð^V with ðV >ð^p. The cost of developing this new technology is I. Consider the extreme case where the spill-over is complete so that a company has a perfect access to results of another firm at no cost. In other words, innovation is a public good. A company can have access to new technology at no cost if its competitor invests in the project. If the two companies perform R & D investment that each should I/2. The game is represented by the following matrix:

	ðv, ð^v -I
ðv -I , _ðv	ðv_-I/2, ð^v -I/2

So if ð^v-I <ð^p but ð^v-I/ 2> ð^p, then this is exactly the situation of the so-called classic `prisoner's dilemma': the Nash equilibrium is `no firm invests' while if they could cooperate, both would benefit from the jointly developed the new green technology. Environmental regulation as a standard that forces the adoption of new technology could therefore benefit both players. Other environmental regulations a priori costly for the company such that a carbon tax or a system of emission permits would lead to the Nash equilibrium where both firms invest in R&D. They save on the costs of R&D spill-over, the new technology requires an investment of individual I/2. Their final gain is ð^v-I/2, greater than the gain before regulatory Nash equilibrium ð^p. (Ambec & Barla, 2007)

Impact of eco-innovation on firms competitiveness. An empirical study based on Mannheim Innovation Panel

2.3.2 The strong Porter Hypothesis