The Effect of Policy-induced Eco-innovation on Business Competitiveness: Evidence on the Porter Hypothesis

The Porter hypothesis claims that well-designed environmental regulation could enhance business competitiveness by driving eco-innovation at the firm level. The objective of this paper is to test the Porter hypothesis by investigating the effect of regulation-induced eco-innovation on business competitiveness using a dynamic model. The model uses several measures of business competitiveness and distinguishes between different types of eco-innovations. The model also accounts for the moderating effect of the different drivers of eco-innovation, namely legally binding regulations such as standards or taxes, incentives such as government funding or market demand and self-regulation such as sectoral agreements. The results show that while regulation-induced eco-innovations have a positive short-term effect on business competitiveness, the effect vanishes in the dynamic model. By contrast, resource efficiency eco-innovations that are market-driven show a resilient positive effect. Furthermore, externality-reducing eco-innovations affect business competitiveness negatively, irrespective of their motives. Lastly, there is evidence of complementarity between product and process eco-innovations. In light of these results, policymakers are exhorted to design policies that create market dynamics, in the long-run, fostering both resource efficiency and product eco-innovations that support each other in order to achieve the win-win situation intended in the Porter hypothesis