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Carrots, sticks and corporate consciences are more commonly known as subsidies, taxes/fines, and voluntary regimes. They are all forms of regulation that involve more or less intervention in the market by government. There has been much written in the fields of economics, finance, business, politics, sociology, and even history on which is the most effective way for governments to regulate individual and corporate actions. The purpose of this article is not to add to the field but rather to collect some key insights and suggest that a combination of each approach is important for both government and corporations. Regulation in whatever form is required to deal with market externalities, which lead to ineffiency and suboptimal outcomes for society.
Externalities The common element of externalities is that the producer of the externality does not capture the complete benefit of an activity or bear the complete cost: whether positive, a shovelled sidewalk or open source software; or the negative, the dirty dishes left by an inconsiderate housemate or pollution from a steel factory. As anyone who has shared a house with enough roomates will know, there are always [[free riders]] who will not do their share of the dishes. When the benefits of a productive activity are not captured by the producer, the market will not provide sufficient amounts of the productive activity. In an analogous way, when a producer does not bear the costs of pollution, they will produce more pollution than socially optimal. Information or the lack thereof When trying to make a decision about how much to produce or buy everyone lacks information about the optimal price or amount. This is especially obvious in the case of long terms effects: how much greenhouse gas can be emitted before their business is effected? How much extra will consumers pay for carbon neutral products? This lack of information is called “imperfect information” by economists. It is called reality by business peoples. Combine imperfect information with externalities (lack of knowledge about a pesticides effects on bee populations & the gnawing worry that even if “we” go carbon neutral the others may just pollute more) and producers' choices may become disastrous in their own ways. This is the principle economic justification for government regulation. Voluntary Regulation Businesses and their trade organizations often argue for self-regulation (IDA, Pharmaceuticals, ). The basis of the argument is that business have the knowledge that governments lack. The industry or corporation voluntarily decides to produce in the manner and the amount that is socially optimal (ie using an approach that captures the externalities). Voluntary standards combined with public committments and consumer pressure can have a significant role to play in correcting for imbalances in the economic system. However, even Georg Kell, Executive Director of the UN Global Compact, while trumpeting a voluntary agreement stated: "...it is important to keep in mind that voluntary action cannot be a substitute for effective regulation – rather, it informs and complements regulation." Arvind Ganesan of Human Rights Watch points out the challenges of ensuring wide and sincere commitment from standard participants. [Please see upcoming articles: How to create a credible socially responsible standard? How to partner effectively with NGOs?] Carrots = Credits, subsidies The government can encourage more of the undersupplied goods by providing [[subsidies]] or credits for producers, who follow certain guidelines. For example, there could be a blanket subsidy for wind power plants or there could be a tax credit for existing producers, who change their power use patterns to include more renewable sources. Sticks = Fines, taxes We are all familiar with taxes like income and tobacco taxes. The latter tax is known as a sin tax because the government wishes to discourage the activity. In the same way, a carbon tax or a packaging tax could reduce consumption of gas or use of packaging. Fines can also be used to punish those who produce negative externalities. In many cases, fines may become essentially equivalent to a tax because businesses will incorporate the cost of paying the fines into the costs of doing business: if the fines are less than the profits of the activity, the producer will continue. So which method is the best? This is a difficult question and according to economic theory all three approaches can lead to the same result. The challenge is setting the right amount of the subsidy, tax or voluntary standard. Both corporations and governments face imperfect information when trying to set standards. They also bring different interests to the problem: corporations focused on the more narrow goal of profits and the government on wider societal goals. There is a risk of these interests being perceived as always in opposition. However, as stated above, there is a role for voluntary standards and for government regulation. Much depends on the facts of the situation. This article will not try to set out a complete test (leave this for the economists); however, there are several factors that can help in the decision process: Voluntary versus Government Regulation Approaches | | Voluntary self-regulation | Government intervention | - Speed: corporations may be able to respond quicker than governments because they actually make the production decisions. Unfortunately, there have been several instances where corporations have obfuscated dangers to resist regulation (tobacco, global warming).
- Public and NGO pressure makes it more likely that a voluntary standard will be enforced through peer pressure
- Ease of collective monitoring also leads to the likelihood that free-riders will be caught and decertified by others out of concern for the standards reputation.
- Governments may lack industry knowledge
- Corporations are innovators and a set standard may only encourage innovation from the least efficient producers and provide little incentive for already efficient producers
- Regulations for site specific pollutants are often set based on past emmissions, which may punish efficient producers, which already made costly changes to their production processes
| Speed of government regulation may be slower than a voluntary standard but governments may be more likely to follow the precautionary principle. Taxes are a way to directly influence consumer behaviour, by making the undesirable activity more expensive There is an already existing tax system to enforce regulations There are times when a harmful activity is so bad for society (mercury pollution in local drinking water sources) that the optimal emissions level may be zero. Stopping the emission may require the outright banning of an activity and a stiff fine, which is unlikely in the case of a voluntary standard created by the emitters of the toxic substance. Realistically, individuals cannot monitor detailed standards because of lack of time and expertise. | |
