An entrepreneurial model of economic and environmental co-evolution

An entrepreneurial model of economic and environmental
co-evolution

Jason Potts* , John Foster*, Anna Straton
*School of Economics, University of Queensland, Brisbane, Australia. (contact author: j.potts@uq.edu.au)
ARC Centre of Creative Industries and Innovation, Queensland University of Technology
CSIRO Sustainable Ecosystems, Melbourne


Abstract: A basic tenet of ecological economics is that economic growth and development
are ultimately constrained by environmental carrying capacities. It is from this basis that
notions of a sustainable economy and of sustainable economic development emerge to
undergird the standard model of ecological economics. However, the belief in hard
environmental constraints may be obscuring the important role of the entrepreneur in the co-
evolution of economic and environmental relations, and hence limiting or distorting the
analytic focus of ecological economics and the range of policy options that are considered for
sustainable economic development. This paper outlines a co-evolutionary model of the
dynamics of economic and ecological systems as connected by entrepreneurial behaviour. We
then discuss some of the key analytic and policy implications.

Keywords: economic evolution, entrepreneurship, sustainable economic growth


1
Reconciling economic and environmental dynamics
Establishing the relationship between economic performance and ecological performance ,
venture Boons and Wagner (2009: 1908), resembles something like finding the Holy Grail.
Ecological economics is the scientific research program at the core of this endeavour to
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elucidate the structure and dynamics of the complex economic-ecological relationship. It does
so by mapping and modelling energy and material flows, system resilience, economic and
socio-cultural behaviours, institutions and co-evolutionary processes (Norgaard 1985; Ayres
1994, Gowdy 1994; Perrings 1998; van den Bergh and van der Straaten 1997; van den Bergh
and Gowdy 2000; Krausmann et al 2009; Ayres and Warr 2009). A basic tenet of ecological
economics is that economic growth and development are ultimately constrained by
environmental carrying capacities. It is from this basis that notions of a sustainable economy
and of sustainable economic development emerge to undergird the standard model of
ecological economics. However, the widespread belief in hard environmental constraints
may be obscuring the important role of entrepreneurship in co-evolutionary interactions
between the economy and the environment. If this is the case, it may have distorted the
analytic focus of ecological economics in a way that has limited the range of policy options
available to achieve sustainable economic development.
The belief that economic growth and development are ultimately constrained by hard
environmental and ecological limits is well established in the field of ecological economics.
This ultimate scarcity argument is commonly formulated in terms of the limits to loadings
on ecological services (Arrow et al. 1995; Costanza et al. 1997). Ecological constraints thus
define long-run limits on economic evolution and growth. This reinstates J.S Mill s concept
of the tendency towards a stationary state, but conceived ecologically, rather than
technologically. This argument can be traced back to the resource constraint concerns of
Thomas Malthus and William Stanley Jevons, among others, through to the modern work of
Nicholas Georgescu-Roegen (1971) and Kenneth Boulding (1978) and via ecological
conceptions of environmental limits to economic growth (Daly 1996, 1973). This is
spaceship-earth economics, using Boulding s (1966) felicitous phrase, in which the
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fundamental limits to economic development and growth are ultimately constrained by
environmental carrying capacities and system resilience.
On spaceship earth, then, the human economy is locally and globally dependent upon
the natural environment, sine qua non. Seeking a sustainable economy and sustainable
economic development thus underpin the standard model of ecological economics. This, in
turn, defines an overarching research program, viz. Boons and Wagner s search for the Holy
Grail , in terms of a quest for the critical technical and institutional rules that yield a
sustainable economy. Such rules involve consideration of behaviours, strategies,
technologies, institutions and policy settings (Arrow et al 1995, Arrow et al 2004, Ayres
2008). As such, inquiry into the operational and institutional properties of such a sustainable
economic model
and by sustainable we refer to the capacity of the environment to sustain
human life and current levels of economic activity without degrading the quality of
environmental services
and the pathways by which we might achieve them is, thus,
rightfully central to the research program and indeed the normative conception of ecological
economics.
The necessity to consider the complex interaction of institutional, technological and
industrial dynamics means that ecological economics can profitably draw upon perspectives
and findings of evolutionary economics. In particular, Gowdy (1994), van den Bergh and
Gowdy (2000), van den Bergh (2007) and Buenstorf (2000) have all drawn useful and
insightful attention to the many distinct commonalities between evolutionary and ecological
economics, including population methods, complex systems analysis, energetic flows and
other such correspondences. They argue that evolutionary economics can provide greater
insight into the properties and characteristics of a sustainable economy than neoclassical
economics. This is due to the specific attention that evolutionary economists pay to such
concepts as endogenous preferences, differential selection and industrial dynamics, self-
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organization, entropy and economic evolution, and institutional and technological co-
evolution. In this vein, a recent special section in the journal, Ecological Economics, has
attempted to reignite a co-evolutionary research agenda for ecological economics (Kallis and
Norgaard 2010). Thus, it would seem uncontentious that evolutionary economics and
ecological economics should be viewed as contiguous fields with (evolving) ecological
systems defining the ultimate constraints for (evolving) economic systems (Perrings 1998,
van den Bergh and Gowdy 2000). This perspective is near axiomatic in ecological
economics; as Kallis and Norgaard point out, the co-evolutionary approach has not taken off
within ecological economics (2010: 690). But is it actually true?
As a further development of arguments encountered in the nature vs. culture, or limits
to growth debate (Meadows et al. 1972, Cole et al. 1973, Meadows et al. 1992, Ekins 1993,
Nordhaus 1994, Costanza 2000, Costanza et al. 2000, Meadows et al. 2004), an alternative
perspective can be assembled by recognising that the environmental or ecological constraint
may not always be hard, but only apparently so. For example, ecological constraints may
become apparent as a problem before they impact fully upon economic activity. Typically,
such constraints take the form of looming resource scarcities or increasing stress loadings on
particular environmental services. Evolutionary economics tells us that, if there is adequate
information and the problem is not entirely locked in , adaptive behaviour is likely to be
manifest in such circumstances. Exploratory search will occur and innovative solutions will
emerge. Those who engage in this kind of activity are entrepreneurial
they look to create
value in states of uncertainty where market signals are weak or non-existent. What do we
mean by entrepreneurial? We view it as a product of a cognitive state, as discussed by
Nooteboom (2009: 174 84), and, thus, quite distinct from the rational agent perspective of
conventional economics.
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An act of entrepreneurship can ameliorate a constraint, rather than being limited by it
(Rammel 2003). There are multiple ways that this might be achieved: for example by shifting
resources, by making resource substitutions, by bringing new technologies or business
models to bear on the problem, or by new forms of contracts, organizations or institutions. An
environmental constraint can, thus, function as an incentive within which entrepreneurial
agents can see opportunities. There are many examples of the operation of this
entrepreneurial loop in evolutionary economics and in the related field of innovation
economics. There is no reason why such a loop should not also operate at the interface of
economic and ecological dynamics. In considering such a possibility, we may arrive at a very
different sense of the mechanisms that dynamically connect economic and environmental
systems.
The defining feature of this alternate perspective is that the fast evolutionary
dynamics of the growth of knowledge process, manifested in, for example, economic
evolution and associated creative destruction, comes to dominate the slow evolutionary
dynamics of the ecosystem, weakening its resilience (Gual and Norgaard 2010). The
knowledge-base of the economic order is ever changing and restless (Metcalfe 1998). This
creates a serviceable or bounded environment that is sufficient for most purposes or good
enough , but not more-so; it does not contain slack or unexploited opportunities (cf.
Leibenstein 1978). The properties of ecosystems are determined by revealed preferences for
environmental qualities, services, etc, but not more-so. From this perspective, the observation
of growing environmental damage or the onset of an impending ecological collapse presents
entrepreneurial opportunities. Note that we specifically say the onset of , and do not refer to
a final state of ecological collapse. This is because those states do not always eventuate, most
notably in those societies where entrepreneurial behaviour is encouraged. The entrepreneurial
mechanism, in appropriate conditions, can operate effectively on the basis of an expectation
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of an impending collapse. Entrepreneurs seek out ways to provide innovative solutions that
can be traded profitably in newly created market mechanisms. What is a negative
externality can be removed by entrepreneurial actions that permit those who feel damaged
by it to purchase goods and services that fix the problem, perhaps not entirely, but enough to
avert disaster.
But entrepreneurship is not limited to the economic domain; such conditions can also
present entrepreneurial opportunities in the political or the socio-cultural domains, or perhaps
in both. Baumol and Strom (2010) cite historical evidence that much of entrepreneurship
prior to the 18th Century was in these domains with rewards in the form of power and status.
Entrepreneurial opportunities in the economic, political and cultural domains can thus lead to
different forms of technological, behavioural and institutional change. These integrate to
produce complex adaptations in anticipation of environmental change. Entrepreneurial action
thus has a dual impact. Entrepreneurial success in introducing innovations and generating
economic growth causes environmental stresses in an unintended manner but entrepreneurs
also respond to the value creating opportunities that such stresses offer. Thus, we can have a
process of cumulative causation where entrepreneurial activity, in states of uncertainty, leads
to unintended negative environmental affects which, when revealed, stimulate entrepreneurial
activity that mitigates such effects. And on it goes, with each new solution inducing new and
different environmental problems that in turn create new economic opportunities. Thus the
notion of convergence upon a global stationary state at an environmental limit is not always
helpful. Equally, it becomes difficult to know how to define what a long-period sustainable
economy (Krausmann et al 2009; cf. Gowdy 1994) is at any point in economy-environment
co-evolution and what its stability properties might be. In complex systems, saying anything
definite about long periods is difficult. For example, Malthus clearly under-estimated the
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power of innovating entrepreneurs but Diamond (2005) gives us several examples of societies
that collapsed in the face of hard environmental constraints.
The historical evidence points to the fact that humans are both ecologically
destructive (Penn 2003) as well as entrepreneurial in response to opportunities. But these
tendencies are connected: a widespread expectation of ecological destruction alerts
entrepreneurs to opportunities (Boons and Wagner 2009). This can happen in many ways. It
is common, for example, in ecological economics to recognise the primacy of the incentive
effect of environmental regulations on induced technical innovations and entrepreneurship
(Rennings 2000; Beise and Rennings 2005). But there are other pathways via direct market
signals, as well as indirectly via socio-cultural pathways, yielding multiple opportunities for
entrepreneurial responses to ongoing challenges posed by environmental degradation.
Regulatory adaptation is often slow, so these other pathways can be critical. Indeed,
regulatory change can be an endogenous response to movements along these other pathways.
If entrepreneurship is, indeed, responsive to environmental degradation, it can be argued that
a co-evolutionary connection exists between economic and ecological systems. This co-
evolution centres upon the growth of knowledge about environmental degradation and the
capacities of entrepreneurs to take the opportunities that are presented.
Environmental and ecological problems are omnipresent, but entrepreneurial actions
can solve them if prevailing socioeconomic and cultural rules permit them to do so.
Entrepreneurs do not usually respond directly to information concerning degradation but,
instead, react to information about its impacts upon human welfare and wellbeing. Price
signals often translate a problem into economic terms. For example, when overfishing
seriously reduces fish stocks, fish prices usually rise to unprecedented levels. Entrepreneurs
who anticipate that fish will be in short supply, either because of stock exhaustion or severe
governmental restrictions on fishing, will see opportunities to invest in sustainable fish
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farming. This maintains fish supply while removing environmental pressure. However, this
will not be possible without adequate flows of information, appropriate regulatory
frameworks and the existence of viable market institutions. Because we live in an uncertain
world, there tends to be continuous lurching from one environmental crisis to the next. Each
current ecological crisis is the unintended consequence of previous economic innovations
which, in turn, can be resolved by new economic innovations. So while Gowdy, van den
Bergh and Buenstorf et al do correctly elucidate the benefits of integrating evolutionary
economics and ecological economics, they nevertheless underplay the self-organizational
feedback implications of entrepreneurial activity. Although governments can devise
regulatory frameworks that facilitate the process of environmental protection and
regeneration they cannot act as rapidly as entrepreneurs in introducing the necessary
innovations and inducing the associated creative destruction. Governments are constrained
and slowed by vested interests; entrepreneurs destroy such interests.

2
Elements of a model
What then are the elements of a co-evolutionary model of the complex interactions and
evolutionary dynamics of economic and ecological systems?
First, it is necessary to acknowledge that the environmental degradation that we
observe is, ultimately, due to the use of free energy flow to drive economic activities that
yield goods and services to growing populations. Such degradation is a manifestation of the
entropy process that must accompany increasing order and complexity in economic systems
(Ayres and Warr, 2009; Foster, 2010). This perspective was first presented in Georgescu-
Roegen (1971) and generalised to an open system (or dissipative system) context in Foster
(1996) and Raine et al (2006). Spaceship earth travels according to the laws of physics,
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whereby large energetic transformations must satisfy the second law of thermodynamics.
Economic evolution thus runs up an energetic gradient (Schneider and Sagan, 2005)
Increased energetic throughput is associated not only with an increased quantity of energy
conversion but also with changes in the quality of the energetic form, as in the highly
controlled use of energy for moving electrons or photons in precise ways to perform
computation (Huber and Mills 2004). Because entrepreneurs must, necessarily, make
decisions in uncertainty, they are the key actors in the process whereby increased energy use
has resulted in economic growth. But they have also been key players in the introduction of
innovations that have resulted in more efficient energy use. Environmental degradation
depends critically upon the energy-entropy nexus and entrepreneurs, for better or worse, have
always been at its core.
Second, our model must recognise that environmental resource depletion and
degradation in ecological systems and services present new opportunities for human action.
Economists commonly conceptualise this negatively in terms of increased scarcity, i.e. action
in response to a rise in the price of a factor, inducing reduced use of that factor relative to
others. But, as we have discussed, this may also lead to longer term thinking about how to
achieve the underlying goal in a different way. Invention and innovation can result in new
connections and combinations that can generate value or new ways of creating value. There
are no hard environmental constraints on economic evolution and there are no hard economic
constraints on natural evolution. Economic evolution is a fast process that modifies the
natural environment while natural evolution is a slow process that can inflict catastrophic
impacts on human society in the longer term. Knowledge of the possibility of the latter
provides entrepreneurial opportunities, for example, in developing alternative energy sources
and carbon trading.
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Third, our model must recognise that the increasing complexity in the institutional
rules that are operative in an evolving economic system is an outcome of the co-evolving
economic-ecological process. As ecological systems become stressed by the growth of
economic systems, the latter can respond by becoming more (not less) complex. The
presumption that environmental stresses lead inexorably to economic stress, as in the
Malthusian hypothesis, is a false analogy from the ecosystem context whereby a species in a
diminished environment cannot respond entrepreneurially by creating and implementing
new technologies, organisational structures and institutional rules. Instead, population
dynamics over extant variety is the prime ecological mechanism of resolution. This is not true
of economic mechanisms. Although we can find historic examples where economic
exploitation has wholly depleted a natural environmental niche, we can also find cases where
depletion did not occur because of adaptive, forward looking behaviour by entrepreneurial
risk-takers.
Subject to cultural and legal/political constraints, economic entrepreneurship can
create new organisational, institutional and technological rules that can resolve environmental
problems. This may seem counter-intuitive if it is increased economic activity that causes
environmental problems in the first place. So to suppose that further increases in economic
activity might resolve these problems may seem perverse. But economic activity is not
homogenous over time; it is adaptive and can change qualitatively. This does not deny that
new activities will not create new environmental and ecological problems
for they almost
certainly will
but the point is that these are mostly unknown or latent and cannot be
anticipated in the cost-benefit calculations of contemporary economic activity. Economic and
ecological systems are at different orders of complexity and the former has a creative and
adaptive capacity that the latter lacks (Foster 2005).
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