enviro - Environmental Regulation Asymmetric Information...

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Environmental Regulation, Asymmetric Information, and Moral Hazard Kevin Wainwright June, 1999 INTRODUCTION Environmental economics is inherently a study of measurement problems. In a world of perfect information, both the problems and the solutions are straight for- ward: identify the relevant externality and administer the appropriate policy. In this situation the choice of policy is superfluous; taxes, standards, or marketable per- mits all possess the same efficiency properties. Only when we move out of the world of perfect information, does the choice of policy become an important issue. Once the assumptions regarding perfect information are relaxed, the choice of policy tool becomes critical. A great deal of research in environmental economics has been directed at the issue of imperfect information. The areas are wide and varied. Much work has centered on the problem of determining the optimal levels of pollution and the potential distortions Member of the Department of Economics, Simon Fraser University and School of Business, B.C. Institute of Technology . The first version of this paper was originally written for the 1996 Canadian Economic Association annual conference’s seminar on the environment. The author would like thank Nancy Olewiler for her support and comments. All errors reside with the author. 1
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caused when these levels are not known with certainty. Recently, a great deal of work has been focused on the issues surrounding the enforcement of environmental regulation in the presence of imperfect, or costly, information 1 . This paper addresses the issue of enforcement of environmental policies when mea- surement of Frm behavior is costly. In the paper a model of environmental regulation is developed which focuses on the Frm’s incentive to cheat on its required levels of abatement. Environmental regulation is modelled as principle-agent problem where the private objectives of the agent (the Frm) may di±er from the objectives of the principle (society, via the regulator) The approach here follows closely to that found in much of the vertical restraint and property rights literature. Property rights are created to internalize externalities 2 . Institutions that deFne and enforce property rights are continuously created and extended as long as the beneFt of internalizing the externality is greater than the costs. Whenever property rights of a resource are imperfectly delineated or costly to enforce, some of the value of the resource remains in the public domain. Whenever value is left in the public domain, individuals will have an incentive to alter their behavior in an attempt to capture any economic rents. When ownership is non-exclusive, capture behavior by individuals will often lead to the dissipation of the economic beneFt of the resource left in public domain 3 . Environmental policies and laws are attempts by governments to inter- 1 see, for example: Deewees, D. 1983. ”Instrument Choice in Environmental Policy”, Economic Inquiry 21, 53-71.; Harfort, J. 1978. ”Firm Behavior Under Imperfectly Enforceable Pollution Stan-
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enviro - Environmental Regulation Asymmetric Information...

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