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Nonpoint Pollution Control: Inducing First-best Outcomes through the Use of Threats

  • Kathleen Segerson

    (University of Connecticut)

  • JunJie Wu

    (Oregon State University)

In this paper we develop a simple economic model to analyze the use of a policy that combines a voluntary approach to controlling nonpoint-source pollution with a background threat of an ambient tax if the voluntary approach is unsuccessful in meeting a pre-specified environmental goal. We first consider the case where the policy is applied to a single farmer, and then extend the analysis to the case where the policy is applied to a group of farmers. We show that in either case such a policy can induce cost-minimizing abatement without the need for farm-specific information. In this sense, the combined policy approach is not only more effective in protecting environmental quality than a pure voluntary approach (which does not ensure that water quality goals are met) but also less costly than a pure ambient tax approach (since it entails lower information costs). However, when the policy is applied to a group of farmers, we show that there is a potential tradeoff in the design of the policy. In this context, lowering the cutoff level of pollution used for determining total tax payments increases the likely effectiveness of the combined approach but also increases the potential for free riding. By setting the cutoff level equal to the target level of pollution, the regulator can eliminate free riding and ensure that cost-minimizing abatement is the unique Nash equilibrium under which the target is met voluntarily. However, this cutoff level also ensures that zero voluntary abatement is a Nash equilibrium. In addition, with this cutoff level the equilibrium under which the target is met voluntarily will not strictly dominate the equilibrium under which it is not. We show that all results still hold if the background threat instead takes the form of reducing government subsidies if a pre-specified environmental goal is not met.

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Paper provided by University of Connecticut, Department of Economics in its series Working papers with number 2003-03.

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Length: 34 pages
Date of creation: Jan 2003
Date of revision: Aug 2004
Handle: RePEc:uct:uconnp:2003-03
Note: We thank two anonymous referees for their invaluable comments and suggestions.
Contact details of provider: Postal: University of Connecticut 365 Fairfield Way, Unit 1063 Storrs, CT 06269-1063
Phone: (860) 486-4889
Fax: (860) 486-4463
Web page: http://www.econ.uconn.edu/
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  1. McAfee, R Preston & McMillan, John, 1991. "Optimal Contracts for Teams," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 32(3), pages 561-77, August.
  2. Nalbantian, Haig & Schotter, Andrew, 1994. "Productivity Under Group Incentives: An Experimental Study," Working Papers 94-04, C.V. Starr Center for Applied Economics, New York University.
  3. Wu, JunJie & Babcock, Bruce A., 1995. "Optimal Design Of A Voluntary Green Payment Program Under Asymmetric Information," Journal of Agricultural and Resource Economics, Western Agricultural Economics Association, vol. 20(02), December.
  4. John Spraggon, 1998. "Exogenous Targeting Instruments as a Solution to Group Moral Hazards," Department of Economics Working Papers 1998-01, McMaster University.
  5. Cabe, Richard & Herriges, Joseph A., 1992. "The regulation of non-point-source pollution under imperfect and asymmetric information," Journal of Environmental Economics and Management, Elsevier, vol. 22(2), pages 134-146, March.
  6. David Zilberman, 1996. "The Economics of a Public Fund for Environmental Amenities: A Study of CRP Contracts," American Journal of Agricultural Economics, Agricultural and Applied Economics Association, vol. 78(4), pages 961-971.
  7. Steven Shavell, 2003. "Economic Analysis of Accident Law," NBER Working Papers 9483, National Bureau of Economic Research, Inc.
  8. Wu, JunJie & Babcock, Bruce A., 1996. "Contract Design for the Purchase of Environmental Goods from Agriculture," Staff General Research Papers 1050, Iowa State University, Department of Economics.
  9. Anastasios Xepapadeas, . "Observability And Choice Of Instrument Mix In The Control Of Externalities," Working Papers 9401, University of Crete, Department of Economics.
  10. Herriges Joseph A. & Govindasamy Ramu & Shogren Jason F., 1994. "Budget-Balancing Incentive Mechanisms," Journal of Environmental Economics and Management, Elsevier, vol. 27(3), pages 275-285, November.
  11. Innes, Robert D., 1990. "Limited liability and incentive contracting with ex-ante action choices," Journal of Economic Theory, Elsevier, vol. 52(1), pages 45-67, October.
  12. Nancy Anders Norton & Tim T. Phipps & Jerald J. Fletcher, 1994. "Role Of Voluntary Programs In Agricultural Nonpoint Pollution Policy," Contemporary Economic Policy, Western Economic Association International, vol. 12(1), pages 113-121, 01.
  13. Na Li Dawson & Kathleen Segerson, 2003. "Voluntary Agreements with Industries: Participation Incentives with Industry-wide Targets," Working papers 2004-06, University of Connecticut, Department of Economics.
  14. Xepapadeas, A. P., 1991. "Environmental policy under imperfect information: Incentives and moral hazard," Journal of Environmental Economics and Management, Elsevier, vol. 20(2), pages 113-126, March.
  15. Xepapadeas, A. P., 1992. "Environmental policy design and dynamic nonpoint-source pollution," Journal of Environmental Economics and Management, Elsevier, vol. 23(1), pages 22-39, July.
  16. Luanne Lohr & Timothy A. Park, 1995. "Utility-Consistent Discrete-Continuous Choices in Soil Conservation," Land Economics, University of Wisconsin Press, vol. 71(4), pages 474-490.
  17. Cooper, Joseph C. & Keim, Russ, 1996. "Incentive payments to encourage farmer adoption of water quality protection practices," MPRA Paper 24779, University Library of Munich, Germany.
  18. Segerson, Kathleen & Miceli, Thomas J., 1998. "Voluntary Environmental Agreements: Good or Bad News for Environmental Protection?," Journal of Environmental Economics and Management, Elsevier, vol. 36(2), pages 109-130, September.
  19. Segerson, Kathleen, 1988. "Uncertainty and incentives for nonpoint pollution control," Journal of Environmental Economics and Management, Elsevier, vol. 15(1), pages 87-98, March.
  20. Babcock, Bruce A. & Lakshminarayan, P. G. & Wu, JunJie & Zilberman, David, 1996. "Economics of a Public Fund for Environmental Amenities (The)," Staff General Research Papers 1065, Iowa State University, Department of Economics.
  21. Wu, JunJie & Teague, Mark L. & Mapp, Harry P. & Bernardo, Daniel J., 1995. "An Empirical Analysis of the Relative Efficiency of Policy Instruments to Reduce Nitrate Water Pollution in the U.S. Southern High Plains," Staff General Research Papers 921, Iowa State University, Department of Economics.
  22. Wu, JunJie & Babcock, Bruce A., 1999. "The Relative Efficiency of Voluntary vs Mandatory Environmental Regulations," Journal of Environmental Economics and Management, Elsevier, vol. 38(2), pages 158-175, September.
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