Enforcing regulatory standards in stock pollution problems

Abstract

We analyze optimal pollution standards and enforcement strategies in settings where environmental damages depend on accumulated pollution, and enforcement is socially costly. We assume that a regulator and a representative polluting firm interact in a Stackelberg differential game, and we specifically allow the firm to pollute above the limit, and pay the corresponding fine. A crucial element is how progressive the fine is with respect to the degree of non-compliance. Some of our results contradict the related literature on the control of stock pollutants under full-compliance. In particular, we find that setting standards dependent on the pollution stock (setting quantities) is preferred if fines are sufficiently non-linear; while setting fines dependent on the pollution stock (setting prices) is preferred if fines are linear or almost linear, and specially when the environmental problem is particularly harmful.