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European Review of Agricultural Economics 2005 32(1):75-91; doi:10.1093/erae/jbi002
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Vol. 32 No. 1 Oxford University Press and Foundation for the European Review of Agricultural Economics 2005; all rights reserved. For permissions, please email journals.permissions@oupjournals.org; all rights reserved

Combating moral hazard in agri-environmental schemes: a multiple-agent approach

Rob Hart

SLU, Uppsala, Sweden

Uwe Latacz-Lohmann

Kiel University, Kiel, Germany

* Corresponding author: Uwe Latacz-Lohmann, Department of Agricultural Economics, Kiel University, Olshausenstraße 40, D-24118 Kiel, Germany. Email: ulatacz{at}agric-econ.uni-kiel.de

Received October 2002; Revision received September 2004.

Summary

We introduce uncertainty about farmer characteristics into the moral hazard problem facing a regulator offering agri-environmental contracts. Our model allows for a continuum of farmer compliance costs. For reasonable parameter values the model predicts high levels of cheating and intensive monitoring, contrary to the evidence. We therefore add variation in farmers' propensity to cheat, the regulator's assessment of which has a decisive effect on policy: if farmers are overwhelmingly honest then the regulator reduces monitoring and accepts that some dishonest farmers will escape undetected. Paradoxically, the total number of cheats may increase following an increase in the number of honest farmers.

Keywords: agri-environmental policy, moral hazard, adverse selection, principal–agent model


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