Environmental enforcement when ‘inspectability’ is endogenous: A model with overshooting properties

If a firm can influence its monitorability vis-à-vis an environmental regulator, it is shown that increasing the thoroughness of inspections induces the firm to substitute towards more transparent technologies, whilst increasing their frequency may cause substitution the other way. Perversely, when the effect of such substitution is taken into account, an increase in the frequency of inspections (or, equally, the stringency of penalties) may worsen the firm's environmental performance. The agency should favour more thorough inspections than existing theory suggests, particularly in sectors where the scope for such substitution is great. Moreover, when monitorability adjusts only sluggishly to policy shocks (because it is an embodied characteristic of capital, for example) the environmental impacts of increased frequency and increased thoroughness well over- and under-shoot their respective long-run impacts. In assessing regulatory reform, therefore, it is important to leave sufficient time for the class of adjustments identified to occur. The possibility of overshooting can be used as an alternative to existing ‘regulatory capture’ theories to explain why the efficacy of some classes of regulatory reform may fade through time. Copyright Kluwer Academic Publishers 1994