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Enforcement-proof contracts with moral hazard in precaution: ensuring 'permanence' in carbon sequestration

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  • Ian A. MacKenzie
  • Markus Ohndorf
  • Charles Palmer

Abstract

Opportunistic behaviour due to imperfect contract enforcement is a risk in many economic transactions. In this paper, an enforcement-proof incentive contract is developed in which a buyer demands a guaranteed delivery of a good or service given a productive upfront payment, moral hazard in precaution, and the potential for opportunistic contract breach. Investing in a contract upfront is found to be restricted by moral hazard and opportunistic contract breach. This limits the size of investment up to a specific level even if an infinite scale-up of production were beneficial. A more severe moral hazard problem results in a smaller distortion. The framework is applied and extended to international carbon sequestration contracts. In comparison to alternative liability attributions, the current regime of buyer liability yields inefficiently low levels of investment in carbon sequestration. Copyright 2012 Oxford University Press 2011 All rights reserved, Oxford University Press.

Suggested Citation

  • Ian A. MacKenzie & Markus Ohndorf & Charles Palmer, 2012. "Enforcement-proof contracts with moral hazard in precaution: ensuring 'permanence' in carbon sequestration," Oxford Economic Papers, Oxford University Press, vol. 64(2), pages 350-374, April.
  • Handle: RePEc:oup:oxecpp:v:64:y:2012:i:2:p:350-374
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    File URL: http://hdl.handle.net/10.1093/oep/gpr057
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    Cited by:

    1. Bayer, Patrick & Marcoux, Christopher & Urpelainen, Johannes, 2013. "Leveraging private capital for climate mitigation: Evidence from the Clean Development Mechanism," Ecological Economics, Elsevier, vol. 96(C), pages 14-24.
    2. Gren, Ing-Marie & Zeleke, Abenezer Aklilu, 2016. "Policy design for forest carbon sequestration: A review of the literature," Forest Policy and Economics, Elsevier, vol. 70(C), pages 128-136.
    3. Stefanie Engel & Charles Palmer & Luca Taschini & Simon Urech, 2012. "Cost-effective payments for reducing emissions from deforestation under uncertainty," GRI Working Papers 72, Grantham Research Institute on Climate Change and the Environment.
    4. Chiroleu-Assouline, Mireille & Poudou, Jean-Christophe & Roussel, Sébastien, 2018. "Designing REDD+ contracts to resolve additionality issues," Resource and Energy Economics, Elsevier, vol. 51(C), pages 1-17.
    5. Julia Blasch & Mehdi Farsi, 2012. "Retail demand for voluntary carbon offsets - A choice experiment among Swiss consumers," IED Working paper 12-18, IED Institute for Environmental Decisions, ETH Zurich.
    6. Suzi C. Kerr, 2013. "The Economics of International Policy Agreements to Reduce Emissions from Deforestation and Degradation," Review of Environmental Economics and Policy, Association of Environmental and Resource Economists, vol. 7(1), pages 47-66, January.
    7. Palmer, Charles & Taschini, Luca & Laing, Timothy, 2017. "Getting more ‘carbon bang’ for your ‘buck’ in Acre State, Brazil," Ecological Economics, Elsevier, vol. 142(C), pages 214-227.
    8. Christopher S. Galik & Pamela Jagger, 2015. "Bundles, Duties, and Rights: A Revised Framework for Analysis of Natural Resource Property Rights Regimes," Land Economics, University of Wisconsin Press, vol. 91(1), pages 76-90.
    9. Reutemann, Tim & Engel, Stefanie & Pareja, Eliana, 2016. "How (not) to pay — Field experimental evidence on the design of REDD+ payments," Ecological Economics, Elsevier, vol. 129(C), pages 220-229.
    10. repec:kap:enreec:v:69:y:2018:i:1:d:10.1007_s10640-016-0072-9 is not listed on IDEAS
    11. Stefanie Engel & Charles Palmer & Luca Taschini & Simon Urech, 2015. "Conservation Payments under Uncertainty," Land Economics, University of Wisconsin Press, vol. 91(1), pages 36-56.

    More about this item

    JEL classification:

    • K12 - Law and Economics - - Basic Areas of Law - - - Contract Law
    • Q15 - Agricultural and Natural Resource Economics; Environmental and Ecological Economics - - Agriculture - - - Land Ownership and Tenure; Land Reform; Land Use; Irrigation; Agriculture and Environment

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