Directed Technological Change in a Bottom-Up/Top-Down CGE model: Analysis of Passenger Transport

This study incorporates endogenous and directed technical change in a dynamic, general equilibrium framework, with a bottom-up representation of technologies. On the example of the Austrian transport sector this paper studies the economic impacts of a carbon tax and a subsidy in research and development on technological progress and market penetration of alternative, environmentally friendly passenger transport technologies.The dynamic CGE model developed in this paper comprises six economic sectors: passenger transport, fossil fuels , electricity generation \& distribution, agriculture, food and textile, services as well as manufacturing, metal- and non metal industries. Thereby passenger transport is represented by bottom-up activity analysis and can be produced by one dirty technology ``conventional fossil fuels'' and two clean ones ``hybrid'' and ``pure electricity'' (not active in the benchmark). On consumption side households are endowed with capital, labor (divided by skilled and unskilled) and a natural resource. The centerpiece of this modelling approach is the evolution of the quality and efficiency of each technology, following the innovation possibility frontier of \textcite{Aghion2011}. Skilled labor determines innovation, in particular the level of research to clean or dirty technology. Thus the higher the share of skilled labor on total employment, the higher is the possibility of innovation. Innovation also depends on quality and efficiency of the previous period. Furthermore, two exogenous parameters (probability of success of an innovation and a learning rate) also influence innovation. The modelling approach introduced in this study fills a gap not covered by the literature so far and incorporates endogenous technological change linked with its endogenous policy responses in an integrated bottom-up, top-down framework. In our policy analysis we follow a two-step approach: First, we apply an increasing carbon tax on fossil fuels and secondly we use the revenue of the carbon tax to subsidize research and development of clean technologies. Policy results are compared to a reference scenario, with no policy intervention. However, there is technological change in pure-electricity and hybrid based passenger transport and we follow the assumption of exhaustible resources and constrain the growth of the natural resource. Results suggest that an increasing carbon tax leads to a continuous phase out of conventional fossil fuels. Both clean technologies break even, in particular production of pure-electricity based passenger transport rises continuously and takes over market-leadership. Analogous to technology studies \parencite [see][]{kloss2009,iea2008} hybrid based passenger transport represents a classical transition technology and disappears in the long run. However technological progress is not affected compared to the reference scenario. Thus there is no endogenous feedback or policy response of technological change. In contrast, subsidizing research and development of pure-electricity based passenger transport, in the second policy scenario, fosters technological progress. The subsidy leads to a rise in the rate of technological change and to lower input costs within production. This implies that pure-electricity based passenger transport breaks even nearly right away, compared to the carbon tax scenario.