Economic Determinants of Environmental Compliance

The widely accepted economic paradigm of corporate compliance with regu lation suggests that regulated parties engage in a cost-benefit analysis of com pliance. Under this paradigm, the measure of compliance will be determined entirely by the costs of compliance, weighed against the probability of being caught in violation multiplied by the consequences of being caught. This supposition is often made without empirical support. This paper presents an empirical analysis of compliance with United States air pollution control regulations. Compliance was obtained from an EPA data base, broken down both by state and by industrial source category, and was analyzed through regression analysis that utilized several economic explanatory variables. The results suggest that corporate ability to pay is a significant factor in explaining compliance. There is some evidence that higher costs reduce compliance, though not so directly as might be expected. Indeed, the results imply that companies may have a "regulatory budget" implicitly devoted to compliance, rather than performing a cost-benefit analysis of compliance with each individual regulation. These results raise ethical and financial issues for managers.