Environmental Policy and Competitiveness: The Porter Hypothesis and the Composition of Capital

The Porter hypothesis suggests a win–win situation in the sense that environmental policy improves both environment and competitiveness. The suggestion received strong criticism from economists driven by the idea that if opportunities exist, firms do not have to be triggered by an extra cost. In this paper a model is developed which confirms this point but which also draws attention to some general mechanisms that relax the trade-off considerably. Downsizing and modernization of firms subject to environmental policy will increase average productivity and will have positive effects on the marginal decrease of profits and environmental damage.