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Environmental Risks and Bank Liability

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  • Boyer, M.
  • Laffont, J.J.

Abstract

The 1980 Comprehensive Environmental Response, Compensation and Liability Act in the US has extended the tools of the Environmental Protection Agency to recover cleanup costs caused by pollution damages from the liable parties. In particular, the banks who finance the firms causing environmental damages may be considered liable. In various court cases, banks have been found liable, while they have been exempted in others. We develop a multipricipal-agent model in which the insurance sector may insure the firm for the pollution risk and the bank may lend money for investment. Under complete information of the bank about the firm's activities, the limited liability of the firm induces excessive investment and sufficient care but full liability of the bank creates the appropriate internalization of the environmental risk. This rationalization of the law must be qualified because in general the bank suffers from agency problems (adverse selection and moral hazard) with respect to the firm. In the adverse selection case, full liability of the bank leads to underinvestment. Partial liability is better but may fail to implement the optimal second best allocation. In the case of moral hazard, full responsibility is killing the project too often while still leading to low care too often. Partial responsibility may achieve the second best optimal allocation but in some cases the level of responsibility necessary to induce the proper level of care is too high for the project to be financed by the bank. Le Comprehensive Environmental Response, Compensation and Liability Act [CRECLA] de 1980 aux États-Unis a donné à l'Agence de protection de l'environnement des pouvoirs de recouvrement des coûts de décontamination auprès des parties responsables de la pollution. Les banques des entreprises concernées peuvent, en particulier, être tenues responsables des dommages et elles l'ont effectivement été dans certains cas. Nous proposons ici un modèle principal-agent avec un se

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File URL: http://hdl.handle.net/1866/2041
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Bibliographic Info

Paper provided by Universite de Montreal, Departement de sciences economiques in its series Cahiers de recherche with number 9501.

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Length: 42 pages
Date of creation: 1995
Date of revision:
Handle: RePEc:mtl:montde:9501

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  1. Beaudry, Paul & Boyer, Marcel & Poitevin, Michel, 1993. "Le rôle du collatéral dans le report des investissements en présence d’asymétries d’information," L'Actualité Economique, Société Canadienne de Science Economique, vol. 69(1), pages 71-90, mars.
  2. Demski, Joel S. & Sappington, David E. M. & Spiller, Pablo T., 1988. "Incentive schemes with multiple agents and bankruptcy constraints," Journal of Economic Theory, Elsevier, vol. 44(1), pages 156-167, February.
  3. Sandler, Todd & Sterbenz, Frederic P., 1988. "Externalities, pigouvian corrections, and risk attitudes," Journal of Environmental Economics and Management, Elsevier, vol. 15(4), pages 488-504, December.
  4. Koenig, Evan F, 1985. "Indirect Methods for Regulating Externalities under Uncertainty," The Quarterly Journal of Economics, MIT Press, vol. 100(2), pages 479-93, May.
  5. Townsend, Robert M., 1979. "Optimal contracts and competitive markets with costly state verification," Journal of Economic Theory, Elsevier, vol. 21(2), pages 265-293, October.
  6. Sappington, David, 1983. "Limited liability contracts between principal and agent," Journal of Economic Theory, Elsevier, vol. 29(1), pages 1-21, February.
  7. Bolton, Patrick & Scharfstein, David S, 1990. "A Theory of Predation Based on Agency Problems in Financial Contracting," American Economic Review, American Economic Association, vol. 80(1), pages 93-106, March.
  8. Hyde, Charles E & Rausser, Gordon C & Simon, Leo K, 2000. "Regulating Multiple Polluters: Deterrence and Liability Allocation," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 41(2), pages 495-521, May.
  9. Gale, Douglas & Hellwig, Martin, 1985. "Incentive-Compatible Debt Contracts: The One-Period Problem," Review of Economic Studies, Wiley Blackwell, vol. 52(4), pages 647-63, October.
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