The energy production processes introduced during the 20th century - most notably those relying on the combustion of fossil fuels - have given rise to negative impacts on the global climate. Somewhat paradoxically, policy-makers worldwide now hope that future technological developments will solve the problems that technical change has caused in the past. This requires policy efforts in the energy sector to be heavily focused on innovation and technology diffusion activities as a complement to policies explicitly addressing the reduction of carbon emissions (such as tradable emission rights and fuel taxes) (Jaffe et al, 2005). In this chapter we focus on renewable energy penetration in the electric power sector, particularly the development of wind power. Investments in new carbon-free energy technology face a number of economic, political and institutional hurdles, which, in turn, may motivate the use of public support schemes aimed at speeding up the technology diffusion process (see, for example, Fisher and Newell, 2004). Nevertheless, in order to design efficient policy instruments in the field, a proper understanding of the economic and institutional conditions that govern technology diffusion in the electric power sector is needed.

Our purpose is to use the wind power example to illustrate important challenges to increased diffusion of carbon-free technology in modern society. In doing this, we provide a synthesis of a number of research undertakings and combine a quantitative analysis of innovation and diffusion in the European wind power sectors with an in-depth case study of the experiences of wind power development in Sweden. Most notably, the first part of the chapter permits quantitative tests of: the impact of public policy and cost-related factors on the developments of wind power in Sweden, Denmark, Spain, Germany and the UK; and whether wind power diffusion will differ depending upon the public support scheme used. The second qualitative part of the chapter permits us to gain an understanding of the economic, political and legal conditions that face a wind power investor in Sweden, and also to put the Swedish situation into a broader perspective by comparing the most critical institutional conditions with those existing in Denmark.

Although an extensive theoretical literature on technology diffusion exists, empirical applications based on explicit quantitative tests are rare (Jaffe et al, 2000). Some exceptions include, for instance, Hassett and Metcalf (1995), Jaffe and Stavins (1995) and Koomey et al (1996). Still, these studies deal primarily with the diffusion of end-use energy saving equipment, while the focus here is on the diffusion of an environmentally benign energy supply technology. Past research efforts on the diffusion of wind energy per se have mostly been case studies drawing extensively on qualitative evidence in individual countries (e.g. Bergek, 2002 (Sweden); Bird et al, 2005 (US); Garcia-Cebrian, 2002 (Spain); Wolsink, 1996 (The Netherlands)), while quantitative (econometric) studies have relied almost exclusively on so-called learning curve analysis. The latter type of studies investigates to what extent capacity expansions, spurred by research and development (R&D) support and learning by doing, lead to cost reductions. However, in practice, innovations -and, thus, cost reductions - do not automatically lead to increased diffusion of the technology. McVeigh et al (2000) show that even though the costs of renewable energy technologies have fallen far beyond expectations, they have failed to meet expectations with respect to market penetration. These results suggest that:

• the costs of the traditional power sources have fallen as well (e.g. Claeson

Colpier and Cornland, 2002); and (equally important)

• apart from cost disadvantages, there exists additional legislative and institutional obstacles to renewable energy diffusion, which so far are only partly understood.

The latter implies that renewable energy policies must address not only financial support but also institutional reforms, legal actions and public acceptance issues.

Our analysis relies on two different types of methodological approaches. The first part draws heavily on the work by Jaffe and Stavins (1995), who developed a rational choice model of technology diffusion that can be applied econometrically. For our purposes, the model specification aims at permitting an analysis of the variations in installed capacity of wind power across five countries (Sweden, Denmark, Germany, Spain and the UK), as well as over time. We also complement this diffusion model with a model of innovation (learning curve analysis). In this way we acknowledge not only that costs matter for diffusion, but also that diffusion is a necessary condition for learning and, ultimately, cost reductions. Thus, diffusion and innovation need to be analysed simultaneously, and policy will affect both. The model is estimated using an unbalanced panel data set covering five Western European countries over the time period of 1986 to 2001. The results from this empirical work indicate, among other things, what the most important factors are affecting the diffusion of wind power and innovation in the power sector, and increase our understanding of:

• the main driving forces behind the development of wind power in Europe; and

• the extent to which different subsidy systems are more effective than others in promoting diffusion and innovation in this sector (Ek and Söderholm, 2005; Söderholm and Klaassen, forthcoming).

However, it must be stressed that this model approach is also limited in its characterization of the institutional conditions affecting wind power develop-ment.1 There thus exists a need to complement this broad picture with an in-depth case study of the experiences in a specific country. In our analysis of Swedish wind power, we approach the issue from the perspective of a power generator who considers investing in new wind turbines. This implies that the economics of Swedish wind power is assumed to be affected not only by technology-specific costs and public-support schemes, but also by stakeholder interests, as well as the legal provisions governing the assessment of the environmental impacts of wind turbines and the planning procedures for their location. The adopted power-generator eye view of the investment decision process enables us to explicitly analyse the different types of economic, legal and political uncertainties that face a wind power investor in Sweden, and point to measures that can be implemented to reduce these uncertainties.

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