Optimal Fines Under Announced and Surprise Inspections

This paper examines optimal fines in a regulatory framework where the regulator can choose either surprise or announced inspections to monitor a firm for compliance. The firm can invest in detection avoidance, but it receives a fine if the regulator discovers that it is non-compliant. In the welfare maximization problem, we focus on the trade-off between the frequency of inspections and the magnitude of the fine. We find that when inspections are unannounced, the optimal fine is maximal, but when they are announced, the optimal fine may be less than maximal