Transcript Lecture 5
Unknown Control Costs Chapter 10 The problem of incentives • Regulators will on occasion lack perfect information about the problem they are regulating. • Shockingly enough, the regulator can not rely on the affected agents to tell the truth even if they know it. • Two problems: – Pure Uncertainty – Strategic uncertainty How to deal with the lack of knowledge • Regulators maximise expected utility – No attempt to provide incentives for truth telling • Regulators provide incentive schemes – Provide incentives for affected parties to tell the truth – Incentive schemes usually comes at a cost. The affected agents must be paid to tell the truth. Assumption made here • We only consider unknown pollution abatement costs. • The polluter maximise profits, or rather minimise the cost of compliance. • Cost of compliance: B(e)=C(e)+re • First order condition: –C’(e) = r • Polluter can be high cost (H) or low cost (L) • Damages are known and given by D(e) with marginal damage MD(e) Maximising expected utility • rH is optimal if type is H. rL is optimal if type is L. Fundamental Question- Emission Fees or Command and Control? • Emission fee: Set at tax. The the firm chooses e. • Command and control. Demand e directly • What is best? Depends (here) on the slope of the damage function. Choosing p (p is the same as r) And the damages are (in the high cost case): Total damages with steep marginal damages • The cost of quantity regulation is larger Total damages with flat marginal damages • The cost of price regulation is smaller The pros and cons of self-reporting • In the absence of incentive schemes, what will polluters say • If they pay a tax/fee, reporting that they have low marginal cost of emission reduction is the best way to lie as this implies that they can pay a low tax and emit more • If they face emission constraints, then they should say that they have a high marginal cost curve as it is then optimal to emit more Next level of lying • So far, the polluter has been assumed to belong to a specific type without having the possibility to affect her own type. • If the firm can choose what kind of polluter they are, then things gets more complicated