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Faculty Working Paper 92-0112
Political Economy Series #55
STX
330
B385
1992:112 COPY 2
Regulating a Stock Externality
Under Uncertainty with Learning
Charles D. Kolstad
Department ofEconomics
Bureau of Economic and Business Research
College of Commerce and Business Administration
University of Illinois at Urbana-Champaign
Papers in the Political EconomyofInstitutionsSeries
No.24 HadiS. Esfahani. "Moral Hazard, Limited EntryCosts, and IntroductoryOffers'"WorkingPaper#89-1526
No.25 BhaskarChakravorti. "Mechanisms withNoRegret: WelfareEconomicsand Information Reconsidered"Working Paper#89-1527
No.26 Susan I.Cohen. "ImplicitCostAllocation and BiddingforContracts' WorkingPaper#89-1558
No.27 RafaelGelyandPabloT. Spiller. "ARational ChoiceTheoryoftheSupremeCourt" WorkingPaper#89-1559
No.28 Rafael Gelyand PabloT. Spiller. "An EconomicTheoryofSupreme CourtStatutoryDecisionsTheStateFarm and Grove City
Cases"Working Paper#89-1560
No.29 Rafael Gelyand PabloT. Spiller. "The Political EconomyofSupremeCourtConstitutional Decisions:TheCaseofRoosevelt'sCourt
Packing Plan" WorkingPaper#89-1561
No.30 HadiS. Esfahani. "Reputation and ProductQuality Revisited." Working Paper#89-1584
No.31 Jan K. Brueckner. "Growth Controlsand Land Valuesin an Open City." Working Paper#89-1594
No.32 Jan K. Brueckner "Tastes,Slr.ils,and Local PublicGoods." WorkingPaper #89-1610
No.33 LuisCabral andShaneGreenstein. "SwitchingCostsand Bidding Parityin Government ProcurementofComputerSystems."
WorkingPaper#90-1628
No.34 Charles D. Kolstad. "HotellingRentsin HotellingSpace: ExhaustibleResourceRents with Product Differentiation." Working Paper
#90-1629
No. 35 SantiagoUrbiztondo. "InvestmentWithoutRegulatoryCommitment: TheCaseofElastic Demand." WorkingPaper#90-1634
No.36 BhaskarChakravorti. Sequential Rationality, Implementation and Communication in Games." Working Paper#90-1636
No.37 PabloT. Spiller, Rafael Gely. "Congressional Control ofJudicial Independence: The DeterminantsofUSSupremeCourt Labor
Relations Decisions, 1949/1987."WorkingPaper#90-1637
No.38 Hans Brems. "DynamicMacroeconomics: Fiscal and Monetary Policy."Working Paper#90-1640
No.39 LannyArvan. "Flexibility Versus Commitmentin StrategicTrade Policy Under Uncertainty: A Model ofEndogenous Policy
Leadership."WorkingPaper#90-1651
No.40 DavidT. Scheflman, PabloT. Spiller. "Buyers'Strategies, Entry Barriers, andCompetiton." Working Paper#90-1674
No.41 Richard Arnouldand LarryDeBrock. "UtilizationControlin HMOs." WorkingPaper#90-1698
No.42 ShaneGreenstein. "Did Installed BaseGive an IncumbentAny(Measurable) Advantagesin Federal Computer
Procurement?"WorkingPaper#90-1718
No. 43 BhaskarChakravorti and Charles M. Kahn. "UniversalCoalition-ProofEquilibrium" WorkingPaper#91-0100
No. 44 PabloT. Spiller. "A Rational ChoiceTheoryofCertiorari: Hierarchy, Strategyand Decision CostsattheCourts' Working Paper#91-
0110
No.45 PabloT Spiller. "Agency Discretion UnderJudicial Review"Working Paper #91-0111
No. 46 Charles D. Kolstad andMichelle H.L.Turnovsky. "Production with Quality Differentiated Inputs' WorkingPaper#91-0118
No. 47 PabloT. SpillerandSantiago Urbiztondo. "Political Appointeesvs. CareerCivil Servants:AMultiple PrincipalsTheoryofPolitical
Bureaucracies" WorkingPaper#91-0129
No.48 ShaneM. Greenstein. "Lock-In and theCosts ofSwitching MainframeComputerVendors: What DoBuyersSee?" Working Paper
#91-0133
No. 49 PabloT. SpillerandMatthew L. Spitzer. Judicial ChoiceofLegal Doctrines' Working Paper#91-0134
No.50 BruceD. Smithand Anne P. Villamil. "Government Borrowingusing Bonds with Randomly Determined Returns: Welfare Improving
Randomization in theContextofDeficit Finance" Working Paper#91-0148
No. 51 PabloT. SpillerandSantiago Urbiztondo. "InterestGroupsand theControl ofthe Bureaucracy: An Agency Perspectiveon the
Administrative ProcedureAct" Working Paper#91-0152
No. 52 AldoRustichini and Anne P. Villamil. "Equilibrium PriceStickiness" Working Paper#91-0162
No.53 Jan K. Bruecknerand PabloT. Spiller Fares and Network 'Feed': Estimating EconomiesofTraffic DensityinAirline
Hub-and-SpokeSystems'WorkingPaper #91-0180
No.54 ShaneGreenstein andGareyRamey"Intergenerational ProductCompetition and the Incentive to Innovate"Working Paper#92-
0106
No. 55 Charles D. Kolstad "RegulatingAStock Externality Under Uncertainty with Learning" Working Paper#92-0112
BEBR
FACULTY WORKING PAPER NO. 92-01 12
Papers in the Political Economy of Institutions Series No. 55
College of Commerce and Business Administration
University of Illinois at Urbana-Champaign
March 1992
Regulating a Stock Externality
Under Uncertainty with Learning
Charles D. Kolstad
Department of Economics
Digitized by the Internet Archive
in 2012 with funding from
University of Illinois Urbana-Champaign
http://www.archive.org/details/regulatingstocke92112kols
DRAFT
2/92
REGULATING A STOCK EXTERNALITY
UNDER UNCERTAINTY WITH LEARNING
Charles D. Kolstad'
ABSTRACT
This paper concerns the problem ofefficiently regulating a stock externality (ie, emissions are
regulated but the stock of the externality causes the damage) when uncertainty exists and learning
is taking place about the nature of the externality. The tension is between substantial controls on
pollutionwhen little is known about it versus waiting for more information before instituting controls.
Acting soon reduces potential adverse effects; waiting will be advantageous ex post if the problem
turns out to be less serious than expected. The case considered here is uncertainty in how the
A
pollution stock affects utility. three-period model is used to examine the question.
'institute for Environmental Studies and Department of Economics, University of Illinois, 1101
W. Peabody, Room 352, Urbana, Illinois 61801 and Department of Economics, University of
California, Santa Barbara. Research supported by a grant from the Research Board of the University
of Illinois and by NSF Grant SES-91-10325. The paper has benefitted from discussions with Charles
Kahn and Henry van Egteren and from comments by Geir Asheim, Robert Deacon and seminar
participants at the University of Illinois, the Norwegian School of Economics and CORE. An earlier
version of this paper was presented at the 1992 ASSA meetings in New Orleans and the 1991
EAERE
meeting in Stockholm.
