Innovation, growth, and structural change in a decarbonizing economy: a tale of two sectors

Abstract:

Decarbonization can affect growth and cause structural change because some energy-related inputs have been easier to decarbonize than others, and energy use is more significant in certain sectors. This article examines these effects through a two-sector growth model with two energy-related inputs and two final goods. These inputs are produced using fossil and low-carbon capital stocks, which vary in their substitutability and use in producing final goods. A decarbonization policy encourages low-carbon inputs and directs R&D towards technology fields that are easier to decarbonize through innovation. Model calibration to the UK economy illustrates its dynamics. While much of the economy can be readily decarbonized through innovation and innovation policy, some sectors such as heavy industry face greater technological and policy challenges. These sectors would benefit from more targeted R&D support to overcome path dependencies in low-carbon innovation, enabling their decarbonization and growth to progress hand in hand.