Environmental Regulation, Productive Efficiency and Cost of Pollution Abatement: A Case Study of Sugar Industry in India M.N.Murty,

It is shown in this paper that the estimates of technical efficiency, scale economies, and the shadow prices of bad outputs for polluting firms in India are sensitive to the specification of technologies and environmental regulation. The output and input distance functions with the assumption of weak disposability of bad outputs account for the effect of environmental regulation on the productive efficiency of firms. In this context the models of firms’ behavior with the strong disposability assumption of bad outputs or relaxed environmental constraints could not accurately explain the input and output choices of firms. That is why the estimates of indicators of firm’s performance like technical efficiency, and scale economies are found to be sensitive to the assumptions about the environmental constraints they are facing. In the case of both output and input distance functions, the technical efficiency estimates made with the binding environmental constraint are found to be higher than those made with the relaxed environmental constraint. There are output losses due to binding environmental constraint relating to water pollution in the Indian sugar industry in the range of 3 to 5 percent. In the case of specification of technology of firms by the production functions, the environmental regulation in the form of pollution taxes for instance will make them to consider the waste disposal services as productive inputs for which they have to pay. The generalized production function with the environmental inputs as productive inputs will explain the firm’s behavior accurately. The cost of abatement of firms could be accounted and the shadow prices of bad outputs could be estimated using output and input distance functions with the assumption of binding environmental constraints. The output distance function assumes that there is a binding resource constraint on the firm making the reduction of bad output possible only by reducing the production of good output. However, the input distance function allows the firm to obtain additional resources to reduce pollution loads for a given level of good output. The firm specific shadow prices of bad outputs estimated using the distance functions could be used to estimate the marginal cost pollution abatement functions given the firm specific data about pollution loads and concentrations. In the case of taxes standards approach, pollution taxes can be designed using the estimates of marginal cost of abatement functions and pollution standards. In India, the water pollution standards (MINAS) for BOD, COD, and SS are respectively given as 30mg/l, 250mg/l, and 100mg/l. The taxes necessary for making the firms in the Indian sugar industry to comply with these standards are estimated as Rs. 23518, Rs. 45567, and Rs. 7605 respectively per ton of BOD, COD and SS. ∗ This paper forms part of research for the project `Environmentally Corrected GDP: Valuation and Accounting for Industrial Pollution in India’ funded by the World Bank through IGIDR, Mumbai.