Modelling Production of Bad Outputs: Theory and Empirics

Generally, unintended outputs are generated while producing desired outputs. Standard production theory ignores the production of unintended outputs, especially when the market for these outputs is missing or absent and produces unreliable estimates of the production processes and fails to credit the producer for their efforts invested in reducing bad outputs. This chapter provides an overview of different approaches to modelling bad outputs. Bad outputs can be modelled either following a joint production approach or by-production approach. The joint production framework is based on the axioms of null jointness in the production of good and bad outputs and weak disposability of bad outputs. The by-production approach assumes costly disposability of bad outputs rather than weak disposability. This approach treats good and dirty inputs asymmetrically. It postulates that the dirty inputs cannot be disposed off in free. However, in the empirical applications, the joint production approach is more popular, and the later approach is yet in its infancy.