When Do Institutions Enable Sustainability? Organizational Trade-offs Between Regulation, Innovation, and Resource Depletion

Abstract

Contrary to the conventional notion that institutions are always beneficial for sustainability, we propose a two-sector endogenous growth model with microeconomic foundations that conceptualizes the role of institutions in resource allocation between the production sector and the R&D sector. Our framework predicts three organizational channels through which institutions affect sustainability outcomes: innovation incentives, resource efficiency, and pollution reduction. Crucially, these channels are not unconditional but depend on a sufficiently large initial allocation of human capital to the R&D sector, and on effective regulatory capacity. Using the method of moments quantile regression, we evaluate the empirical relevance of these channels. Our findings show that the effect of institutions varies systematically across the conditional distribution of sustainability outcomes, indicating that similar governance structures can lead to divergent outcomes. This highlights the importance of enforcement and organizational innovation capabilities in navigating ecological limits, with institutional quality serving only as a moderating factor.

Keywords: Endogenous Growth, Net Output Growth, Institutional Quality, Innovation, Natural Resource, Pollution Control