1. Groupe de Recherche en Economie Théorique et appliquée – UMR CNRS 5113 Coevolution of supply and demand: the case of environmental innovations Maïder Saint Jean GREThA, Bordeaux University saintjea@u-bordeaux4.fr DIMETIC, 19th october 2007, Maastricht, The Netherlands

2. Groupe de Recherche en Economie Théorique et appliquée – UMR CNRS 5113 References Belis-Bergouignan M-C., Oltra V., Saint Jean M., 2004, Trajectories towards clean technology: example of volatile organic compound emission reductions, Ecological Economics, 48, pp201-220. Saint Jean M., 2005, Coevolution of suppliers and users through an evolutionary modelling – The case of environmental innovations, European Journal of Economic and Social Systems, 18 (2), pp255-284. Saint Jean M., Polluting emissions standards and clean technology trajectories under competitive selection and supply chain pressure, Forthcoming in Journal of Cleaner Production.

3. Groupe de Recherche en Economie Théorique et appliquée – UMR CNRS 5113 Outline of the presentation 1.Some stylised facts on environmental innovations 2.The main building blocks of the model 3.Results 4.Further developments: analysis of policy instruments 5.Conclusions

4. Groupe de Recherche en Economie Théorique et appliquée – UMR CNRS 5113 1. Some stylised facts on environmental innovations Environmental innovations: innovations that consist of new or modified processes, practices, systems and products which benefit the environment and contribute to environmental sustainability regulatory push-pull effect Clean technology vs end-of-pipe technology –Clean technology implies an integrated change in the production process and a reduction of pollution at source; –End-of-pipe technology controls and treats pollution after it has been generated multi-dimensionality of clean technology; innovation offsets Environmental R&D dedicated to the improvement of environmental quality of processes and products Green paradigms for the generation of heat, electricity and motion radical questioning of existing production processes; technological irreversibility and lock-in

5. Groupe de Recherche en Economie Théorique et appliquée – UMR CNRS 5113

6. The space of clean technology trajectories

7. Groupe de Recherche en Economie Théorique et appliquée – UMR CNRS 5113 Case 1: the paintings Diversity of users and market segments Public concern Significant range of environmental innovations with no or low solvents Change in the knowledge base of the producers and the users: paintings organic chemicals

8. Groupe de Recherche en Economie Théorique et appliquée – UMR CNRS 5113 Case 2: the surface treatment activities Clean technologies for the surface treatment, ex.: low temperature plasma SMEs of the metal-work sector subcontractors of car manufacturers and aerospace firms Technological irreversibilities in the solvent paradigm Obstacles to the adoption of clean technology: –High adopion costs related to weak financial and absorptive capacities –Product performance constraints

9. Groupe de Recherche en Economie Théorique et appliquée – UMR CNRS 5113 2. The main building blocks of the model Scheme of supply-demand interactions SUPPLY n firmsDEMAND m firms Purchase Defection Preferences Requirement Levels: maximum price, minimum quality standards, environmental regulatory standards Allocation of R&D Investment Process/Product innovation Competition among suppliers Performance achieved for each characteristic Market share Average performance of industry Profile of each client:

10. Groupe de Recherche en Economie Théorique et appliquée – UMR CNRS 5113 Procedure of suppliers selection by a client at time t Supplier t-1 of client j: S(t-1) Requirement thresholds of client j at time t At time t, performances of supplier S Requirement thresholds reached? YESNO Product replacement with the same supplier S Defection of client j Transfer of information from client j to S(t): priority characteristics Selection of a new supplier remaining on the market on the basis of its global performance Transfer of information from client j to S(t) Choice of a new supplier S

11. Groupe de Recherche en Economie Théorique et appliquée – UMR CNRS 5113 Models of reference Chiaromonte F., Dosi G., 1993, Heterogeneity, competition and macroeconomic dynamics, Structural Change and Economic Dynamics, 4, 39-46. Malerba F., Nelson R., Orsenigo L., Winter S., 1999, History- friendly models of industry evolution: the computer industry, Industrial and Corporate Change, 8, 3-40. Laffond G., Lesourne J. and Moreau F., 1998, Stratégies de différenciation environnementale et dynamique des structures de marché, Colloque AFSE, Toulouse, May. Valente M., 1999, Evolutionary economics and computer simulations - A model for the evolution of markets, PhD thesis, University of Aalborg, Denmark.

12. Groupe de Recherche en Economie Théorique et appliquée – UMR CNRS 5113 Table of correspondence 1.R&D investments and innovation activities of suppliers 2.The product price 3.Technology space 4.Decision rules of clients 5.Inter-firm interactions 6.Exit process

13. Groupe de Recherche en Economie Théorique et appliquée – UMR CNRS 5113 1. R&D investments and innovation activities of suppliers Innovation is a mean to acquire dominant position and technological lead R&D activities are an important source of innovation P is the price of the product i at time t and B the install base of firm I at time t. Mu is the fraction of turnover allocated to R&D. Environmental R&D dedicated to the improvement of environmental performance of processes and products is mainly financed by firms and performed independently. It is often a response to government regulation Amount of resources allocated to the characteristic h Research level achieved for the characteristic h The innovation process is characterised by radical uncertainty Probability of innovation Innovative activities take place within paradigms so that they are strongly selective, finalised in rather precise directions and often cumulative Technological change is firm-specific, cumulative and path-dependent Performance level performed by firm i for the characteristic h at time t: Innovation output: Experience:

14. Groupe de Recherche en Economie Théorique et appliquée – UMR CNRS 5113 2. The product price Mark-up rule over the production costs Teta is the mark-up rate of firm i

15. Groupe de Recherche en Economie Théorique et appliquée – UMR CNRS 5113 3. Technology space Different paradigms are competing or coexisting with different environmental and technological opportunities Competence-destroying effect when changing paradigm Cf. figure The switch carried out by a firm in the paradigm with high environmental potential leads to three effects: a shift in the frontier achievable on the dimension environmental quality of process, a drop in the product performance and a decrease in the cumulated experience. X 3max2 X 3max1 Productive efficiency of the process Environmental quality of the process PARADIGM 2 PARADIGM 1

16. Groupe de Recherche en Economie Théorique et appliquée – UMR CNRS 5113 4. Decision rules of clients a) Purchase Clients take into account the product characteristics they perceive from the suppliers and evaluate the product according to their preferencesMimetic behaviour and/or switching costs affect the products selection Purchase probability: Preference that client j attributes to the characteristic Parameter e expresses the intensity of bandwagon effect that a supplier with high market shares may exert on client. b) Product replacement Durable goods are only replaced after a certain period of use Each client replaces its product after T periods, with T settled randomly between 1 and 10. c) DefectionThe continuation of the relationships is conditional to the achievement of some minimum requirements imposed by demand or regulationImplicit threat of an exit/voice mechanism governing interfirm relationships If the supplier fulfils the clients requirement criteria, then the supplier records a sale while its install base remains unchanged. If not, the supplier loses one client from its stock

17. Groupe de Recherche en Economie Théorique et appliquée – UMR CNRS 5113 5. Inter-firm interactions a) Transfer of information Suppliers R&D allocation are guided by demand needs both in terms of the priority characteristics for the client and in terms of the minimum quality standard required in the industry Gathering of data: a positive score is given to characteristics that are both priority for the clients and represent a source of technological lead for the supplier; A negative score is registered for the characteristic with a performance level below the one required by the client b) Evolution of the allocation of R&D investment of suppliers Bounded rationalityAdaptive decision rules through individual learning and demand feedback Adjustment of R&D index: : Speed of adjustment; : the relative importance attributed to the positive indicators compared to the negative ones c) Evolution of minimum requirements of clients under the influence of technological advances in the industry Social diffusion or collective learning Increase in the requirement level of a client Average performance of the industry:

18. Groupe de Recherche en Economie Théorique et appliquée – UMR CNRS 5113 6. Exit process Inefficient firms do not survive Exit both when the install base is equal to 0, i.e. the user stock of the supplier is exhausted, and when the sales are equal to zero for a minimum of four periods.

19. Groupe de Recherche en Economie Théorique et appliquée – UMR CNRS 5113 3. Results Protocol of simulation: parameter initialisation, battery of simulations –The reference configuration: 12 suppliers, 200 clients, 2 groups of clients Two scenarios or market configurations: –scenario homogeneous oligopoly –scenario market segmentation

20. Groupe de Recherche en Economie Théorique et appliquée – UMR CNRS 5113 Scenario HO

21. Groupe de Recherche en Economie Théorique et appliquée – UMR CNRS 5113 Scenario MS

22. Groupe de Recherche en Economie Théorique et appliquée – UMR CNRS 5113 4. Further developments: policy implications The impact of tighter standards: – Process standards – Product standards – Policy timing The rise in the environmental requirements of clients, generated by tighter environmental standards, has different impacts according to the nature and timing of the standards The role of procurement policy: – Critical mass of green users – Strategic niche management (Kemp, Schot and Hoogma, 1998) Taxes, subsidies, diffusion of information, etc.

23. Groupe de Recherche en Economie Théorique et appliquée – UMR CNRS 5113 Process standards Scenario HOScenario MS

24. Groupe de Recherche en Economie Théorique et appliquée – UMR CNRS 5113 Product standards Scenario HOScenario MS

25. Groupe de Recherche en Economie Théorique et appliquée – UMR CNRS 5113 Limitations Methodological problems related to simulations : -the stochastic characteristic of the dynamics; -the high number of parameters; -the empirical calibration of the model. Limits of the model: -no sectoral differences are taken into account; -theres no real price strategies of firms; -effective financial constraints do not apply; -the role of final consumers is not explicitly incorporated; -no new innovative entrants are considered. Regarding environmental innovations: -the anticipation of environmental regulation by firms and its impact on firms innovation strategy; -the issue of transition management and system innovations.

26. Groupe de Recherche en Economie Théorique et appliquée – UMR CNRS 5113 5. Conclusions An evolutionary model of supply and demand coevolution Process/product innovations with characteristics of environmental quality Related questions cf. M. Schwoon (fuel cell vehicles, role of infrastructures), E. Brouillat (recycling, product life extension), impact of REACH (Registration, Evaluation, Autorisation and Restriction of Chemicals) on innovation Empirical validation?