The Unintended Externalities of an Environmental Regulation : Evidence from the NOx Budget Trading Program

Exploiting the implementation of the NOx Budget Trading Program (NBP), we show that a regional environmental regulation can have an unintended emission spillover effect from NBP-regulated power plants to manufacturing plants not regulated by the NBP via hikes in electricity prices. Our triple-differences analysis shows that high energy-consuming manufacturing plants of public firms located in NBP-regulated states emit more harmful chemicals into the air by reducing abatement activities around NBP implementation than the control group. The effect is stronger in those plants owned by parent firms with higher-powered managerial incentives, larger transient institutional ownership, higher stock price sensitivities to earnings, tighter financial constraints, lower product market power, or in plants facing less stringent EPA monitoring. But the effect does not exist in plants owned by private firms. Overall, our results indicate that constrained myopic manufacturers cut corners by reducing costly abatements to absorb the NBP induced increase in energy input cost. Without such negative externality, the NBP can be even more effective in improving the environment