Skip to main content
Log in

Prescriptive measures for environmental performance: emission standards, overcompliance, and monitoring

  • Original Paper
  • Published:
Clean Technologies and Environmental Policy Aims and scope Submit manuscript

Abstract

This paper studies optimal regulation when a regulator can exploit two levers: traditional enforcement and certification. The objective is to demonstrate how regulation can be adapted by combining theory and empirical regularities in the existing literature. The key result is that a regulatory scheme that allows the regulator to exploit overcompliance certification as well as traditional enforcement can achieve substantively greater environmental performance: a firm now has clear incentives to overcomply, and the others have to improve environmental performance through more stringent optimal standards.

This is a preview of subscription content, log in via an institution to check access.

Access this article

Price excludes VAT (USA)
Tax calculation will be finalised during checkout.

Instant access to the full article PDF.

Fig. 1
Fig. 2

Similar content being viewed by others

Notes

  1. Violations of standards often result in lawsuits, whose settlement and/or subsequent investments in abatement invoke a negative reaction from investors (Muoghalu et al. 1990; Badrinath and Bolster 1996). Violations often lead to penalties and, like lawsuits, regulatory penalties cause a fall in a firm’s value (Hughes 2000). Challenging the lawsuits or contesting regulatory penalties further erodes the value of a firm (Bosch et al. 1998).

  2. See Appendix 3 for supporting derivations.

  3. See Appendix 4 for derivations

  4. Dating back to Becker (1968) and Stigler (1970), we have thought of the choice problem for a rational agent considering a violation as: Violate if \(E(B) > P \times F\), and no violation otherwise. E(B) are the expected benefits of violation, P is probability of detection, and F is the fine conditional on detected violation. If we slightly generalize this to include two types of penalties—market penalty, \(F_{\rm M}\) and regulator penalty, \(F_{\rm R}\), then the decision problem is violate if \(E(B) > P \times (F_{\rm M} + F_{\rm R} )\). This implies that the mere existence of market penalty, \(F_{\rm M} > 0\), will (1) improve environmental performance, (2) achieve the same or better environmental performance with reduced regulator monitoring effort.

  5. Note that the regular standard here does not have an overbar as in the last section. We remove it when denoting the regular standard when there is also an overcompliance standard.

References

  • Ackerman F, Stanton EA (2014) Climate change and global equity. Anthem Press, London

    Google Scholar 

  • Alberini A, Segerson K (2002) Assessing voluntary programs to improve environmental quality. Environ Resour Econ 22(1):157–184

    Article  Google Scholar 

  • Al-Tuwaijri SA, Christensen TE, Hughes KE (2004) The relations among environmental disclosure, environmental performance, and economic performance: A simultaneous equations approach. Acc Organ Soc 29(5):447–471

    Article  Google Scholar 

  • Anbumozhi V, Chotichanathawewong Q, Murugesh T (2011) Information disclosure strategies for green industries. Tech. Rept. ADBI working paper series

  • Antweiler Werner, Harrison Kathryn (2003) Toxic release inventories and green consumerism: empirical evidence from Canada. Can J Econ 36(2):495–520

    Article  Google Scholar 

  • Arora S (2001) Voluntary abatement and market value: an event study approach. Stanford Institute for Economic Policy Research (Discussion Paper No. 30). http://siepr.stanford.edu/publicationsprofile/611

  • Arora S, Cason TN (1996) Why do firms volunteer to exceed environmental regulations? Understanding participation in EPA’s 33/50 program. Land Econ 72(4):413–432

    Article  Google Scholar 

  • Arora S, Gangopadhyay S (1995) Toward a theoretical model of voluntary overcompliance. J Econ Behav Organ 28(3):289–309

    Article  Google Scholar 

  • Badrinath SG, Bolster PJ (1996) The role of market forces in EPA enforcement activity. J Regul Econ 10(2):165–181

    Article  Google Scholar 

  • Baker E, Shittu E (2006) Profit-maximizing R&D in response to a random carbon tax. Resour Energy Econ 28(2):160–180

    Article  Google Scholar 

  • Barnea A, Heinkel R, Kraus A (2005) Green investors and corporate investment. Struct Change Econ Dyn 16(3):332–346

    Article  Google Scholar 

  • Becker Gary S (1968) Crime and punishment: an economic approach. J Polit Econ 76(2):169–217

    Article  Google Scholar 

  • Bin BZ, Shareefdeen Z (2014) Management and control of air emissions from electronic industries. Clean Technol Environ Policy 16:69–77

    Article  Google Scholar 

  • Blacconiere WG, Patten DM (1994) Environmental disclosures, regulatory costs, and changes in firm value. J Acc Econ 18(3):357–377

    Article  Google Scholar 

  • Bosch JC, Eckard EW, Lee I (1998) EPA enforcement, firm response strategies, and stockholder wealth: An empirical examination. Manag Decis Econ 19(3):167–177

    Article  Google Scholar 

  • Capelle-Blancard G, Laguna M-A (2010) How does the stock market respond to chemical disasters? J Environ Econ Manag 59:192–205

    Article  Google Scholar 

  • Case DW (2005) Corporate environmental reporting as informational regulation: a law and economics perspective. Univ Colo Law Rev 76:379

    Google Scholar 

  • Cheng CC, Lai YB (2012) Does a stricter enforcement policy protect the environment? A political economy perspective. Resour Energy Econ 34(4):431–441

    Article  Google Scholar 

  • Coglianese C, Nash J (2014) Performance track’s postmortem: lessons from the rise and fall of EPA’s’ flagship’ voluntary program. Harv Environ Law Rev 38:14–18

    Google Scholar 

  • Cohen MA (1999) Monitoring and enforcement of environmental policy. Int Yearb Environ Resour Econ 3:44–106

    Google Scholar 

  • Cohen MA, Rubin Paul H (1985) Private enforcement of public policy. Yale J Regul 3:167

    Google Scholar 

  • Dasgupta S, Laplante B, Mamingi N (2001) Pollution and capital markets in developing countries. J Environ Econ Manag 42(3):310–335

    Article  Google Scholar 

  • Dasgupta S, Hong JH, Laplante B, Mamingi N (2006) Disclosure of environmental violations and stock market in the Republic of Korea. Ecol Econ 58(4):759–777

    Article  Google Scholar 

  • Deák Z, Karali B, Bosch D, Marchant M, McKenzie AM, Paudel KP (2014) Stock market reactions to environmental news in the food industry. J Agric Appl Econ 46:209–225

    Google Scholar 

  • Denicolò V (2008) A signaling model of environmental overcompliance. J Econ Behav Organ 68(1):293–303

    Article  Google Scholar 

  • Ebert U, Welsch H (2007) Environmental emissions and production economics: implications of the materials balance. Am J Agric Econ 89(2):287–293

    Article  Google Scholar 

  • Feldman SJ, Soyka PA, Ameer PG (1997) Does improving a firm’s environmental management system and environmental performance result in a higher stock price? J Invest 6(4):87–97

    Article  Google Scholar 

  • Fuller DA (1987) Compliance, avoidance, and evasion: emissions control under imperfect enforcement in steam-electric generation. Rand J Econ 18(1):124–137

    Article  Google Scholar 

  • García JH, Afsah S, Sterner T (2009) Which firms are more sensitive to public disclosure schemes for pollution control? Evidence from Indonesia’s PROPER program. Environ Resour Econ 42(2):151–168

    Article  Google Scholar 

  • Garvie D, Keeler A (1994) Incomplete enforcement with endogenous regulatory choice. J Public Econ 55(1):141–162

    Article  Google Scholar 

  • Giles C (2013) Next generation compliance. Environ. Forum 30:22–25

    Google Scholar 

  • Gray WB, Shimshack JP (2011) The effectiveness of environmental monitoring and enforcement: a review of the empirical evidence. Rev Environ Econ Policy 5(1):3–24

    Article  Google Scholar 

  • Gupta S, Goldar B (2005) Do stock markets penalize environment-unfriendly behaviour? Evidence from India. Ecol Econ 52(1):81–95

    Article  Google Scholar 

  • Halkos G, Sepetis A (2007) Can capital markets respond to environmental policy of firms? Evidence from Greece. Ecol Econ 63(2):578–587

    Article  Google Scholar 

  • Hamilton JT (1995) Pollution as news: media and stock market reactions to the toxics Release inventory data. J Environ Econ Manag 28(1):98–113

    Article  Google Scholar 

  • Harford JD (1985) Comment on “Monitoring and Budget Maximization in the Control of Pollution”. Econ Inquiry 23(2):357–360

    Article  Google Scholar 

  • Harford Jon D (1993) Improving on the steady state in the state-dependent enforcement of pollution control. J Environ Econ Manag 24(2):133–138

    Article  Google Scholar 

  • Harrington W (2003) Regulating industrial water pollution in the United States. Resources for the Future, Washington, D.C.

    Google Scholar 

  • Hassell S, Clancy N, Burger N, Nelson C, Rudavsky R, Olmstead S (2010) An assessment of the US Environmental Protection Agency’s National Environmental Performance Track Program. RAND Corporation, New York

    Google Scholar 

  • Hentschel E, Randall A (2000) An integrated strategy to reduce monitoring and enforcement costs. Environ Resource Econ 15(1):57–74

    Article  Google Scholar 

  • Heyes AG (1994) Environmental enforcement when ‘inspectability’is endogenous: a model with overshooting properties. Environ Resour Econ 4(5):479–494

    Article  Google Scholar 

  • Heyes AG (1997) Environmental regulation by private contest. J Public Econ 63(3):407–428

    Article  Google Scholar 

  • Heyes A (2000) Implementing environmental regulation: enforcement and compliance. J Regul Econ 17(2):107–129

    Article  Google Scholar 

  • Hughes KE II (2000) The value relevance of nonfinancial measures of air pollution in the electric utility industry. Acc Rev 75(2):209–228

    Article  Google Scholar 

  • Jacobs BW, Singhal VR, Subramanian Ravi (2010) An empirical investigation of environmental performance and the market value of the firm. J Oper Manag 28(5):430–441

    Article  Google Scholar 

  • Jones CA, Scotchmer S (1990) The social cost of uniform regulatory standards in a hierarchical government. J Environ Econ Manag 19(1):61–72

    Article  Google Scholar 

  • Jones JD, Jones CL, Fred P-P (1994) Estimating the costs of the Exxon Valdez oil spill. Res Law Econ 16:109–149

    Google Scholar 

  • Kambhu J (1989) Regulatory standards, noncompliance and enforcement. J Regul Econ 1(2):103–114

    Article  Google Scholar 

  • Kaplow L, Shavell S (1994) Optimal law enforcement with self-reporting of behavior. Tech. rept. National Bureau of Economic Research

  • Keeler AG (1995) Regulatory objectives and enforcement behavior. Environ Resour Econ 6(1):73–85

    Article  Google Scholar 

  • Khanna M, Anton WRQ (2002) Corporate environmental management: regulatory and market-based incentives. Land Econ 78(4):539–558

    Article  Google Scholar 

  • Klassen RD, McLaughlin CP (1996) The impact of environmental management on firm performance. Manage Sci 42(8):1199–1214

    Article  Google Scholar 

  • Kleindorfer Paul R, Orts Eric W (1998) Informational regulation of environmental risks. Risk Anal 18(2):155–170

    Article  Google Scholar 

  • Konar S, Cohen MA (1997) Information as regulation: The effect of community right to know laws on toxic emissions. J Enviroon Econ Manag 32(1):109–124

    Article  Google Scholar 

  • Konar S, Cohen MA (2001) Does the market value environmental performance? Rev Econ Stat 83(2):281–289

    Article  Google Scholar 

  • Kopp RJ, Smith VK (1980) Environmental regulation and optimal investment behavior*. 1 A micro-economic analysis. Reg Sci Urb Econ 10(2):211–224

    Article  Google Scholar 

  • Landes WM, Posner RA (1975) The private enforcement of law. J Leg Stud 4:1–46

  • Laplante B, Lanoie P (1994) The market response to environmental incidents in Canada: A theoretical and empirical analysis. South Econ J 60(3):657–672

    Article  Google Scholar 

  • Lee DR (1983) Monitoring and budget maximization in the control of pollution. Econ Inquiry 21(4):565–575

    Article  Google Scholar 

  • Magat WA, Viscusi WK (1990) Effectiveness of the EPA’s regulatory enforcement: the case of industrial effluent standards. J Law Econ 33:331–360

    Article  Google Scholar 

  • Malik AS (1990) Avoidance, screening and optimum enforcement. RAND J Econ 21:341–353

    Article  Google Scholar 

  • Malik AS (1993) Self-reporting and the design of policies for regulating stochastic pollution. J Environ Econ Manag 24(3):241–257

    Article  Google Scholar 

  • Mamingi N, Dasgupta S, Laplante B, Hong JHo (2006) Firm’s environmental performance: does news matter? vol. 3888. World Bank Publications

  • Máša V, Bobák P, Kuba P, Stehlík P (2013) Analysis of energy efficient and environmentally friendly technologies in professional laundry service. Clean Technol Environ Policy 15(3):445–457

    Article  Google Scholar 

  • Muoghalu MI, Robison HD, Glascock JL (1990) Hazardous waste lawsuits, stockholder returns, and deterrence. South Econ J 57(2):357–370

    Article  Google Scholar 

  • Naysnerski W, Tietenberg T (1992) Private enforcement of federal environmental law. Land Econ 68(1):28–48

    Article  Google Scholar 

  • Parajulee A, Wania F (2014) Evaluating officially reported polyclic aromatic hydrocarbon emissions in the athabasca oil sands region with a multimedia fate model. PNAS 111(9):3344–3349

    Article  CAS  Google Scholar 

  • Porter M (1991) America’s green strategy. Sci Am 264(4):168

    Article  Google Scholar 

  • Przychodzen J, Przychodzen W (2013) Corporate sustainability and shareholder wealth. J Environ Plan Manage 56(4):474–493

    Article  Google Scholar 

  • Russo Michael V, Fouts Paul A (1997) A resource-based perspective on corporate environmental performance and profitability. Acad Manag J 40(3):534–559

    Article  Google Scholar 

  • Ryberg M, Vieira MDM, Zgola M, Bare J, Rosenbaum RK (2014) Updated US and Canadian normalization factors for TRACI 2.1. Clean Technol Environ. Policy 16(2):329–339

    CAS  Google Scholar 

  • Salama A (2005) A note on the impact of environmental performance on financial performance. Struct Change Econ Dyn 16(3):413–421

    Article  Google Scholar 

  • Shane PB, Spicer BH (1983) Market response to environmental information produced outside the firm. Acc Rev 58(3):521–538

    Google Scholar 

  • Shimshack J (2014) The economics of environmental monitoring and enforcement. Ann Rev Resour Environ Econ 6:39–57

    Google Scholar 

  • Shimshack JP, Ward MB (2005) Regulator reputation, enforcement, and environmental compliance. J Environ Econ Manag 50(3):519–540

    Article  Google Scholar 

  • Shimshack JP, Ward MB (2008) Enforcement and over-compliance. J Environ Econ Manag 55(1):90–105

    Article  Google Scholar 

  • Sigman H (1998) Midnight dumping: public policies and illegal disposal of used oil. RAND J Econ 29:157–178

    Article  Google Scholar 

  • Smale R, Hartley M, Hepburn C, Ward J, Grubb M (2006) The impact of CO2 emissions trading on firm profits and market prices. Clim Policy 6(1):31–48

    Article  Google Scholar 

  • Stafford SL (2007) Can consumers enforce environmental regulations? The role of the market in hazardous waste compliance. J Regul Econ 31(1):83–107

    Article  Google Scholar 

  • Stigler GJ (1970) The optimum enforcement of laws. J Polit Econ 78(3):526–536

    Article  Google Scholar 

  • Stranlund JK, Dhanda KK (1999) Endogenous monitoring and enforcement of a transferable emissions permit system. J Environ Econ Manag 38(3):267–282

    Article  Google Scholar 

  • Stranlund JK, Chávez CA, Villena MG (2009) The optimal pricing of pollution when enforcement is costly. J Environ Econ Manag 58(2):183–191

    Article  Google Scholar 

  • Tang M, Mudd G (2014) Canadian Power Stations and the National Pollutant Release Inventory (NPRI): a success story for pollution intensity? Water Air Soil Pollut 225:2129

    Article  Google Scholar 

  • Tietenberg T (1996) Private enforcement of environmental regulations in Latin America and the Caribbean: an effective instrument for environmental management? Tech. rept. Inter-American Development Bank

  • Videras J, Alberini A (2000) The appeal of voluntary environmental programs: which firms participate and why? Contemp Econ Policy 18(4):449–460

    Article  Google Scholar 

  • Viscusi WK, Zeckhanser R (1979) Optimal standards with incomplete enforcement. Public Policy 27:437–456

    Google Scholar 

  • Weitzman ML (2010) What is the “Damages Function” for global warming—and what difference might it make? Clim Change Econ 1(01):57–69

    Article  Google Scholar 

  • Wu JJ (2009) Environmental compliance: the good, the bad, and the super green. J Environ Manage 90(11):3363–3381

    Article  Google Scholar 

  • Xu XD, Zeng SX, Zou HL, Shi JJ (2014) The impact of corporate environmental violation on shareholders’ wealth: a perspective taken from media coverage. Bus Strategy Environ. doi:10.1002/bse.1857

  • Zou HL, Zeng RC, Zeng SX, Shi JJ (2014) How do environmental violation events harm corporate reputation? Bus Strategy Environ. doi:10.1002/bse.1849

Download references

Author information

Authors and Affiliations

Authors

Corresponding author

Correspondence to Linus Nyiwul.

Appendices

Appendix 1

This is evident from the use of (5) to get the upper and lower bounds as follows:

$$\mathop {lim}\limits_{{s \to e^{*} (s)}} \pi (s) = 0$$
$$\mathop {lim}\limits_{s \to 0} \pi (s) = \frac{{w(e^{*} (s))}}{{\varphi_{\rm p} (e^{*} (s)) + \varphi_{\rm m} (e^{*} (s))}} > 0$$

Appendix 2

Denote the solution to (8) as \(\overline{s}_{\rm r}^{*}\). Substituting the linear forms of \(d^{\prime}\) and \(w^{\prime}\) from (1) and (2) into (8), we can explicitly solve for \(\overline{s}_{\rm r}^{*}\) as follows:

$$\overline{s}_{r}^{*} = \frac{{\mu \omega_{1} - \delta_{1} \varphi_{\rm p} + \omega_{1} \varphi_{\rm p} - \delta_{1} \varphi_{\rm m} + \omega_{1} \varphi_{\rm m} }}{{\mu \omega_{2} - \delta_{2} \varphi_{\rm p} - \omega_{2} \varphi_{\rm p} - \delta_{2} \varphi_{m} + \omega_{2} \varphi_{\rm m} }} = \frac{{\omega_{1} (\mu + \varphi_{\rm p} + \varphi_{\rm m} ) - \delta_{1} (\varphi_{\rm p} + \varphi_{\rm m} )}}{{\omega_{2} (\mu + \varphi_{\rm p} + \varphi_{\rm m} ) - \delta_{2} (\varphi_{\rm p} + \varphi_{\rm m} )}}.$$

Letting \(A = 1 + \frac{\mu }{{\varphi_{\rm p} + \varphi_{\rm m} }}\), we can re-write \(\overline{s}_{\rm r}^{*}\) as

$$\overline{s}_{\rm r}^{ * } = \frac{{A\omega_{1} - \delta_{1} }}{{A\omega_{2} + \delta_{2} }}.$$

Appendix 3

To see this, take the derivative of (9) with respect to μ,

$$\frac{{\partial \overline{s}_{\rm r}^{*} }}{\partial \mu } = \frac{1}{{(A\omega_{2} + \delta_{2} )(\varphi_{\rm p} + \varphi_{\rm m} )}}\left( {\omega_{1} - \omega_{2} \left( {\frac{{A\omega_{1} - \delta_{1} }}{{A\omega_{2} + \delta_{2} }}} \right)} \right) > 0$$

and the second derivative shows that \(\frac{{\partial^{2} \overline{s}_{\rm r}^{*} }}{{\partial \mu^{2} }} < 0.\). It is easy to see that the second statement of remark 2 follows from this as well.

Appendix 4

Substituting the quadratic forms of the linear equations for \(d^{\prime}\) and \(w^{\prime}\) from (1) and (2) into (10) and (11), we obtain:

$$\pi (\overline{s}_{\rm r}^{*} ) - \pi (s_{\rm r}^{*} ) = \frac{{(\omega_{1} \delta_{2} + \omega_{2} \delta_{1} )^{2} \varphi_{m} [(\omega_{2} \mu )^{2} - (\delta_{2} + \omega_{2} )^{2} \varphi_{\rm p} (\varphi_{m} + \varphi_{\rm p} )]}}{{2\omega_{2} \left\{ {\delta_{2} \varphi_{\rm p} + \omega_{2} (\varphi_{\rm p} + \mu )^{2} [\delta_{2} (\varphi_{\rm m} + \varphi_{\rm p} ) + \omega_{2} (\varphi_{\rm p} + \varphi_{\rm m} + \mu )]^{2} } \right\}}}.$$

In the absence of market enforcement, when \(\varphi_{\rm m} = 0\), \(\pi (\overline{s}_{\rm r}^{*} ) = \pi (s_{\rm r}^{*} )\). However, when \(\varphi_{\rm m} > 0\),

$${\rm sign}\left[ {\pi (\overline{s}_{\rm r}^{*} ) - \pi (s_{\rm r}^{*} )} \right] = sign[(\omega_{2} \mu )^{2} - (\delta_{2} + \omega_{2} )^{2} \varphi_{\rm p} (\varphi_{\rm m} + \varphi_{\rm p} )]$$

Rights and permissions

Reprints and permissions

About this article

Check for updates. Verify currency and authenticity via CrossMark

Cite this article

Nyiwul, L., Shittu, E. & Dhanda, K.K. Prescriptive measures for environmental performance: emission standards, overcompliance, and monitoring. Clean Techn Environ Policy 17, 1077–1091 (2015). https://doi.org/10.1007/s10098-014-0863-z

Download citation

  • Received:

  • Accepted:

  • Published:

  • Issue Date:

  • DOI: https://doi.org/10.1007/s10098-014-0863-z

Keywords

JEL Classification

Navigation