Abstract
There is deep-rooted opposition to strict environmental regulations, stating that they will lead to job losses and production contraction. Identifying environmental policies compatible with economic growth and pollution reduction is necessary to promote sustainable development. Using an R&D-based model with an endogenous labor supply, we examine the positive effect of an environmental policy on economic growth and welfare, where the policy reduces pollution emissions. The results show a substitution effect, where a reduction in pollution permit levels causes households to substitute labor for leisure and move their labor from production to R&D activities. This policy increased consumption. Thus, reducing pollution permit levels increases the growth rate and welfare via the substitution effect. This methodology can be applied to facilitate the complete analysis of environmental policy effects in an R&D-based growth model. Additionally, applying this analytical approach to other endogenous growth models and simulation analyzes can reveal the mechanisms of various environmental policy effects. In summary, this method facilitates the following steps:•Analysis of growth and welfare effects of environmental policies.•Understanding the process of deriving these effects in a basic R&D-based growth model.•A framework that can be applied to the simulation analysis of these effects was provided.