Enviromental standards and costly monitoring

In this paper, we investigate the features of an optimal regulatory policy composed of pollution standards and probabilities of inspection to verify firms' behavior, where fines for noncompliance depend on the degree of violation. We find that the optimal policy can entail either compliance or noncompliance with the enviromental standards, the latter being more plausible when monitoring costs are high and, surprisingly, when fines for noncompliance are also high. In the event the planner has perfect information about the firns, we find that, whe the optimal policy entails noncompliance, the optimal standard is always equal to zero, suggesting the superiority of probabilistic environmental taxes versus positive standards. However this is no longer true when the planner has incomplete information about the regulated agents