The strong Porter hypothesis in an endogenous growth model with satisficing managers

Few endogenous growth models have focused attention on the strong Porter hypothesis, that stricter environmental policies induce innovations, the benefits of which exceed the costs. A key assumption underlying this hypothesis is that policy strictness pushes firms to overcome some obstacles to profit maximization. This paper incorporates pollution and taxation in the Aghion and Griffith's (2005) model of growth with satisficing managers and non-drastic innovation [in Competition and growth: Reconciling Theory and Evidence, The MIT Press, Ch. 2, pp. 36-38]. Our theoretical results predict the strong Porter hypothesis. Furthermore, they suggest that environmental policy and the level of potential competition in the intermediate inputs sector are complementary. Assuming drastic innovation in the model, however, we predict the weak Porter hypothesis. Other departures from the model's initial assumptions are considered.