Under incomplete environmental enforcement, the high-cost (less efficient) firm may strategically violate the environmental standard, causing the low-cost (more efficient) firm to exit the market-a phenomenon similar to Gresham's law in which bad money drives out good money. Tightening environmental regulation without increasing probability and penalties helps the high-cost firm to drive the low-cost firm out of the market. This explains why serious pollution and inefficient production co-exist in developing economies.
- Detection probability
- Gresham's law
- Incomplete environmental enforcement