Essays on Asymmetric Information and Environmental Regulation through Disclosure

This dissertation delves into different aspects of a relatively new policy approach for industrial pollution control: the public dissemination of information by regulators regarding the environmental performance of firms. These schemes are sometimes referred to as regulation through disclosure or informational regulation. It is presumed that disclosure as an environmental regulation triggers and intensifies interactions between polluting firms and workers, community groups, consumers, and owners. It thus increases the costs of noncompliance with environmental law through channels that do not directly involve the regulator. The understanding that information is important for market emergence together with evidence suggesting that disclosure schemes can influence firms’ environmental performance, have resulted in a certain enthusiasm for these approaches. There are however still voids in the theoretical foundations of disclosure as regulation, as well as in the empirical evidence supporting its alleged effectiveness (in particular in developing and emerging economies). This dissertation aims at contributing to the growing literature on disclosure in both these regards. The discussion consists of four self-contained chapters. Chapter 1 looks into some theoretical issues of environmental compliance under asymmetric information. Chapters 2 and 3 constitute an empirical evaluation of a well-structured disclosure program, Indonesia’s PROPER, while Chapter 4 studies the more informal type of provision of information in Central and Eastern Europe. Informal mechanisms such as public disgrace faced by managers and owners of polluting firms and moral suasion have been suggested as possible explanatory factors of firm environmental behavior. The first contribution of this dissertation is in this area. Building on earlier work, Chapter 1 develops a model of social interactions where managers and owners of highly polluting firms face stigmatization and losses in reputation in society. I argue that symmetric information is a silent assumption of earlier papers on social interactions that is not necessarily met in the industrial pollution case. I study situations where firms’ environmental performance is perfectly observable and imperfectly observable. The findings show that relaxing the perfect observability assumption, even by a small a margin, could have profound effects on the reputation functions in such a way that high levels of compliance cannot be sustained in equilibrium. Chapters 2 and 3 evaluate the effectiveness of Indonesia’s public disclosure program PROPER. The main result is that the policy was responsible for a rapid and significant reduction in emissions intensity as measured by biochemical oxygen demand, BOD, and chemical oxygen demand, COD (the characteristics of those firms that were most responsive to the program are also unveiled). Chapter 4 is also an empirical study of more informal type of provision of information in Central and Eastern Europe during the first years of transition. The analysis reveals that enforcement and public disclosure of the environmental performance of firms are the most important forces behind the implementation of Environmental Management Practices. The findings of Chapters 2, 3 and 4 strengthen the belief that thin markets and other sluggish mechanisms are the results of imperfect information and also indicate that informational regulation is a promising strategy to tackle industrial pollution in the presence of weak institutions.