Chapter 6: Voluntary Programs, Compliance and the Regulation Dilemma
Matthew Potoski and Aseem Prakash When it comes to enforcing regulations, government regulators and the firms they regulate face a dilemma: while both the government regulators and the firm are jointly better off when they cooperate in regulatory enforcement, each has a short-term incentive or tendency to defect (Scholz 1991; Potoski and Prakash 2004a). Regulated firms can cooperate by making good-faith efforts to comply with regulations and voluntarily disclosing their (accidental) regulatory violations. Firms defect by shirking their obligations to comply with regulations, seeking instead to hide all their regulatory violations. For their part, government regulators can cooperate in regulatory enforcement by forgiving minor regulatory violations and working with firms to solve the root causes of noncompliances. Government regulators can defect by treating all violations as serious and punishing them to the maximum extent allowed by law. The dilemma is that, although cooperation makes both better off, each has powerful incentives to defect, leading to outcomes that make both worse off. In this chapter we first present the theoretical foundations for this dilemma between firms and government regulators, which we call the regulation dilemma, and show how this dilemma has a structure similar to that of the classic prisoner’s dilemma. We then discuss two solutions to the dilemma: harnessing actors’ reputations and establishing mechanisms for binding commitments to cooperation. Voluntary programs can help solve this dilemma by signaling attributes about firms’ behaviors that regulatory enforcers would not otherwise be able to know. Firms joining a voluntary program pledge to follow...
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