Compliance Monitoring and Agri‐Environmental Policy

Abstract

This paper examines the issue of compliance monitoring in agri‐environmental policy when a farmer is risk‐neutral and risk‐averse. The optimal contract model presented here significantly extends and generalises the results and conclusions of Choe and Fraser (1998). In this paper the environmental agency explicitly chooses monitoring accuracy and monitoring costs as well as rewards for farmers. It is found that, by modelling the environmental agency as being cost‐conscious optimal monitoring accuracy may or may not be higher for a risk‐averse farmer than for a risk‐neutral farmer. Essentially, the environmental agency faces an explicit trade‐off between monitoring costs and incentive payments as a means to ensure the desired behaviour from the farmer. The importance of the results derived are discussed in the context of agri‐environmental policy design and implementation