Eco-Efficiency Achieving Productivity Improvements through Environmental Cost Management

VolumeSeven

2007

Eco-Efficiency:AchievingProductivityImprovementsthroughEnvironmental

CostManagement

RoyceD.Burnett,DonR.Hansen,andOlgaQuintana

ABSTRACT:Thepurposeofthisstudyistoassesshowidentifying,tracking,andmonitoringenvironmentalcostscanassistanagendaadoptedtoimproveenvironmentalperformance.Wedosobyprovidingatheoreticaldiscussionandcontextualmodelofeco-efficiencythatincludescostmanagementaspartofitsactivities.ThisapproachdrawsonthequalitymanagementliteratureandthePorterhypothesis,whichassumesthatpollutionisaformoftechnicalinefficiencyandthatproperlydesignedregulationsstimulatefirmstodeveloppollutioncontrolinnovations.Ourpaperprovidesseveralspe-cificcontributions.First,forallstakeholdersweprovideadditionalinsightintotheongoingdebateoverthevaluerelevanceofenvironmentalcostmanagementbydevelopingagen-eralmodelofeco-efficientbehavior.Second,ourmodelsdemonstratethatthereisroomforopportunitiestoreducepollutionwhilesimultaneouslyimprovingthevalueofthefirm.Todoso,however,requiresacoordinatedeffortonthepartofboththebusinesscom-munityandlegislatorstounderstandtheneedsofeachandtoofferalternativesthatwillprovidebenefitsforeachparty.

Keywords:eco-efficiency;environmentalandfinancialperformance;environmentalcostfunction;Porterhypothesis.

Pursuingsustainabledevelopmentisoftencharacterizedasastrategicbusinessdecision(Stone1995;Gray2006).Correspondingly,severalfirmsareadoptingaggressivenaturalresourcemanagementagendastoensurethatbothenvironmentalsustainabilityandeconomicreturnsareachieved(Schmidheiny1992,9;White2005;Willard2002,11–12).Voluntarilyreportingonsocialandenvironmentalissueshasaccompaniedthismovement(BirkinandWoodward1997;BeetsandSouther1999).KPMGcompiledandreleasedinformationabouttheseactivitiesinits2005InternationalSurveyofCorporateSustainabilityReportingreview(KPMG2005).Dataindicatethatasof2005,55percentoftheFortuneglobaltop250firmsareissuingcorporateresponsibilityreports(whicharenowmostoftencalledsustainabilityreports).Comparatively,thispercentage

INTRODUCTION

RoyceD.BurnettisanAssistantProfessorattheUniversityofMiami,DonR.HansenisaProfessoratOklahomaStateUniversity,andOlgaQuintanaisanAssociateProfessorattheUniversityofMiami.

Theauthorsthankparticipantsofthe10thInternationalConferenceonProductivityandQualityResearch(ICPQR)fortheirinsightfulcommentsonanearlierversionofthispaper.RoyceD.BurnettextendsapersonalthankstothePh.D.Projectforthegeneroussupportprovidedduringthetimemostoftheworkrelatedtothisprojectwasconducted.

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wasonly35percentin1999.Moreover,thereviewrevealsthatthenumberoftop100firmswithineachsurveyedcountryissuingcorporateresponsibilityreportshastripledsince1993.

Thereasonsofferedbyfirmsforissuingthesereportsarebotheconomicandethical.Ec-onomicreasonsincludeinnovationandlearning,strongmarketposition,employeemotivation,trustofthefinancialmarkets,desiretoincreaseshareholdervalue,andriskmanagement.Oneinterpretationextendedtoexplaintheseactionsisthatmorefirmsarerespondingtovariousstakeholderswhohaveastronginterestininformationaboutenvironmental,social,andeco-nomicperformance.BeetsandSouther(1999)suggestthismayindeedbethecaseasstake-holderdemandforinformationaboutthelinkbetweeneconomic,social,andenvironmentalis-suesisgrowing,particularlyinrelationtohowtheinformationmightbeusedtomanagecurrentcostsandfutureliabilities.Additionally,thereviewindicatesitmaybethatreportingfirmsareembracingsustainabledevelopmentatastrategiclevelandassuch,aremakingeffortstocon-tributetosustainabledevelopment.Ifthisistrue,suchawarenessmightalsofacilitatethede-velopmentofintegratedcorporatedecisionsupportsystemsthatprovidemoreinformationaboutmanagingcoststoenhanceshareholdervalue(Milne1996).

However,whileeitherorbothofthesereasonsmayholdtrueforsomefirms,Monevaetal.(2006)arguethatevidencepointstoadifferentrealityformostfirms.Theirargumentisthatmanyfirmsarereportinginabiasedwayandarereallynotbehavingresponsiblywithrespecttosomekeyelementsofsustainabledevelopmentsuchassocialequityandhumanrights.Haney(2007)agreesandnotesthatalthoughevidencesuggestsmoreenvironmentalreportingisoccurring,veryfewdisclosuresprovidesufficientinformationforinterestedpartiestoassesstheenviron-mentalrisksoropportunitiesfacingacompany.Gray(2006)contendsareasonforthisdiscon-nectmaybethatcurrentreportingapproachesactuallyfailtoaddresssustainabilityandthus,consistentlymis-specifythelinkbetweenfinancialandsocialperformance.

OnepossibleexplanationofferedbyMonevaetal.(2006)forbiasedreportingisthatman-agersareconsciouslyorunconsciouslyinterpretingsustainabledevelopmentinthewrongway.Stone(1995),Bebbington(2001),andMonevaetal.(2006)allarguethatsustainabledevelopmentshouldbemorebroadlydefinedsothatitincludesbotheco-efficiencyandeco-justice.Inthisexpandedviewofsustainabledevelopment,eco-efficiencyisconcernedwithhowefficientlyenvironmentalresourcesareused.Eco-efficiencyoffersabusinesscenteredapproachtosus-tainabledevelopmentbypromotingthecreationofinnovativeproductsandproductionproc-essesthatchangethepatternofnaturalresourceconsumptioninaneconomicfashion.Eco-justice,ontheotherhand,dealswiththedistributionofresourcesandtheattendantsocialconcerns,withastrongemphasisonintra-andintergenerationalequity.Consequently,itfocusesbothontheenvironmentandquality-of-lifeandthusoffersapotentialchallengetotheideathateconomicgrowthisthedominantanddrivingforceofsustainability(Stone1995;BirkinandWoodward1997).Accordingly,incomedistribution,populationgrowthpatterns,andconsump-tionpatterns(and,particularly,theissueofover-consumption)becomeimportantconsiderationsinthisexpandeddefinitionofsustainabledevelopment.

Themoreexpansivedefinitionofsustainabledevelopmentisnotwithoutcontroversyandcorrespondingdebate.Forexample,theconceptofeco-justiceisvalue-ladenandcarrieswithitthepossibilityofsomeratherradicalinterpretationsandconclusions.Onesuchconclusionisthateconomicgrowthinhibitstheattainmentofsustainabledevelopment(Lehman2002).Othersconcludethatcapitalismisnotecologicallysustainableandthatitisproblematicthatcorpora-tionscancontributetosustainabledevelopment(Stone1995).Together,theseconclusionsimply

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theneedforaradicalredefinitionofthesocialcontractbetweenbusinessandsociety(Bebbington2001;GrayandBebbington1998;O’Conner1997;Gladwinetal.1995).

Additionally,whilemanywouldagreewiththekeyelementsofsustainabledevelopmentsuchasintra-andintergenerationalequityandtheneedtoaddressconsumptionpatternsandothersocialissues,manyalsowoulddisagreewiththeclaimsthateconomicgrowth,capitalism,andthecurrentcorporatestructurenecessarilymustbesacrificedtoachieveadesiredlevelofsus-tainability(Vogel2005,16–24).Moreover,theoperationalrealityofactingonsuchradicalcon-clusionsisquestionablebecausetheconclusions(notnecessarilytheelementsofthedefinition)lackwide-spreadacceptance.

Notwithstandingthiscontroversy,itisimpossibletodenythatmanysocietieshaveexperi-encedtremendouseconomicdevelopmentandadvancesinthestandardofliving.Yet,atthesametime,muchofhumankindhasnotparticipatedinthisincreaseinwealth.Infact,thepoorhavebecomepoorerandthereismuchhumanmiseryintheworldandunquestionablythereisaseriousissueofintra-generationalinequity.Moreover,economicgrowth,attimes,hascomeattheexpenseoftheenvironmentanditisevidentthatefficientuseoftheenvironmenthasyettobeachieved.Thus,economicexpansionoftenmanifestsitselfwithoutenvironmentalprotec-tionanddamagehasoccurred.Assuch,economicdevelopmentatanycostisclearlynotfea-sibleifwewishtoprovideoptionsforfuturegenerations.However,economicdevelopmentthatiscompatiblewithbothefficiencyanddistributionnormsandsimultaneouslycongruentwithacapitalisticstructureremainsapossibility—apossibilitythatshouldnotbelightlydismissed.

Thereisanotherschoolofthoughtconcerningsustainabledevelopmentthatproducescom-petingconclusions—conclusionsthatdifferfromthestatusquobusinessmodelbutyetmaynotrequiretheabandonmentofcapitalismandeconomicgrowth(Lovinsetal.1999).Ifthiscom-petingparadigmisvalid,thenfor-profitbusinesseshaveanincentivetomakesignificantcon-tributionstosustainabledevelopment.Furthermore,becausesomanyoftheactionsadoptedbybusinessaredoneinresponsetolegislativemandates,thereisaroleforregulationtohelpbringaboutthedesiredalterationofthestatusquo—atleastinitially.

Thisnewparadigmexpandsthedefinitionofeco-efficiencysothatitequatesenvironmentalefficiencywitheconomicefficiency(PorterandvanderLinde1995a).Consequently,eco-efficiencypromisesthepossibilityofsimultaneouslyimprovingenvironmentalusageefficiencywhilereducingcosts.Therefore,underthenewparadigm,eco-efficiencyreducespollutionandenvironmentalwastewhilemaintainingorincreasingprofitability.Thus,weseethatalthougheco-efficiencyisanecessaryconditionforsustainabledevelopment(Bebbington2001),itcanbearguedthatitalsohasthepotentialofcontributingtotheeco-justicenorm.

Ofspecialinterestandthefocusforthisstudyisenvironmentalaccountinganditsrelation-shiptoeco-efficiency.Environmentalaccountingisalogicalextensionofmanagementaccount-ingwherenaturalenvironmentresourcesareviewedaslimitingfactors(BirkinandWoodward1997).Whenadopted,environmentalaccountinghastheresponsibilityofcollecting,classifying,reporting,tracking,analyzing,andreducingenvironmentalcosts(FrostandWilmshurst2000).EnvironmentalcostswithintheUnitedStatesareburgeoningandareexpectedtoincreaseinthefuture(WalleyandWhitehead1994;Boeretal.1998;Kolstad2000).Additionally,increasingenvironmentalcostscomeatatimewhenfirmsarealsofacinggreaterglobalcompetitivepres-suresandever-increasingcallsforenvironmentalcostaccountability(KPMG2005).Infact,ex-tensiveworkrelativetoenvironmentalmanagementindicatesthatasbusinessesmorefullyac-countfortheirenvironmentalcosts,theywillclearlyseethebenefitsofpollutionprevention(U.S.

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EnvironmentalProtectionAgency1995,2;Bhat1998,22–24).Moreover,thepressuretorec-ognizeandappreciatethetruecostofenvironmentalactivitiesisseenasawaytoassistman-agersmakebetterdecisionsaboutfutureproductandservicedevelopmentandthus,improveeconomicoutcomes(Medley1997).

Atthispoint,however,theeco-efficientapproachwithitswin-winsolutionstoenvironmentalproblemshasnotyetgaineduniversalsupportandmanyareskepticalaboutthevalidityoftheeco-efficiencyparadigm(WalleyandWhitehead1994;Schendler2002;Palmeretal.1995).Thus,thevalidityandrealismofeco-efficiencyisafundamentalquestion.Moreover,ifeco-efficiencyisgroundedinreality,thensurelytherolesofaccounting,environmentalreporting,costman-agement,stakeholders,andtheneedforandnatureofregulatoryactionsneedtobeidentified,defined,anddiscussedforthisnewparadigm.Interestingly,theU.S.EnvironmentalProtectionAgency(EPA)hasofferedthefollowingprovocativestatementconcerningtheinteractionsofenvironmentalaccountingandstakeholders:‘‘Animportantfunctionofenvironmentalaccountingistobringenvironmentalcoststotheattentionofstakeholderswhomaybeableandmotivatedtoidentifywaysofreducingoravoidingthosecostswhile,atthesametime,improvingenviron-mentalquality’’(U.S.EnvironmentalProtectionAgency1995,18).Thisstatementissupportiveoftheobservationthatenvironmentalcostmanagementisanimportantpotentialtooltoreduceenvironmentalcostsandimproveefficiency(Rimer2000;Brinker1995).Italsohasanimplicitcallfortheproduction,use,anddisclosureofenvironmentalcostandperformanceinformationandthus,providesimpetusforadoptingeco-efficiency.

However,effortstodosoareaffectedbytwofactors:(1)alackofunderstandingandagree-mentabouttherelationshipbetweenenvironmentalandfinancialperformance;and(2)theeffectsofregulation.Intuitively,theeco-efficiencyparadigmreliesextensivelyontheidentificationofanenvironmentalcostfunctionandhowitreactstochangesinendogenous(adoptedpollutioncontrolpractices)andexogenous(regulation)factors.Yet,howtoconfigurethecostfunctionandthenuseittoevaluatethecontributionsofproactiveenvironmentalmanagementappearstobeanopeninquiry(PressandMazmanian2003;Kraft2004;Hirl1998;HammerandStinson1995;HughesandWillis1995).

Thepurposeofthisstudyistoassesshowidentifying,tracking,andmonitoringenviron-mentalcostscanhelpimproveenvironmentalperformance.Wedosobyprovidingatheoreticaldiscussionofeco-efficiencythatincludescostmanagementaspartofitsactivities.Thisap-proachdrawsonthequalitymanagementliteratureandthePorterhypothesis,whichassumesthatpollutionisaformofeconomicinefficiencyandthatproperlydesignedregulationsstimulatefirmstodeveloppollutioncontrolinnovations.Further,weconstructatotalenvironmentalcostfunctionthatisdependentonthelevelofenvironmentaldegradationatwhichafirmoperates.Assuch,wecreateawaytoadvancethepremisethateco-efficientoutcomesrelyonhowwellenvironmentalcosts,andtheactivitiesthatdrivethem,areunderstood.Indoingso,wedem-onstratehowenvironmentalcostaccountingcanbewovenintoamodelthathelpssocietyinitsquesttoreduceenvironmentaldegradation.

Finally,weassembleaframeworktoexplainhowenvironmentalmanagement,regulatoryintervention,costmanagement,andproductionactivities(technology)interacttoproduceeco-efficientoutcomes.Wecontendtheseinteractionsoccuralongtwoseparatebutinterrelatedroutes.Thefirstrouteprovidesdecisionmakerswithfeedbackabouttheirresourceutilizationchoicesandhowtheycontributetocontinuouslyimprovingenvironmentalandecologicalper-formance.Thus,intheshortterm,aneffectiveadoptionofeco-efficiencyprovidesinformationtomaintainorincreasegoodoutputlevelswhilecontrollingandevenreducingpollution.The

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secondrouteprovidesawayforstakeholderstoevaluateenvironmentalcostdecisionmaking.Therefore,inthelongrunitcreatesatooltoevaluatetheabilityoffirmsandtheirmanagerstocomprehendandplaceavalueonpollution.

Ourpaperprovidesseveralspecificcontributions.Forallstakeholders,weprovideadditionalinsightintotheongoingdebateoverthevaluerelevanceofenvironmentalcostmanagement.Forbusinessmanagers,weconstructaroleforanenvironmentalcostmanagementsysteminde-cisionmakingandthusrespondtothosewhosuggesttheaccountingprofessionshouldcreateamoreaccuratesignalofhowenvironmentalperformanceaffectsfirmvalue(BeetsandSouther1999,129;Ilinitchetal.1998,384;SchmidheinyandZorraquin1996,129;AICPA2002,3).Thisinformationcanbeusedtodemonstratethatwhentheneedsofbothsocietyandeconomicenterprisesaretakenintoaccount,moreeffectivepoliciesandfavorablebusinessoperationscanbesimultaneouslyachieved.

Theremainderofthispaperisasfollows.First,weexplainandcontrasteco-efficiencywiththetraditionalmodel,discusscurrentempiricalevidenceofeco-efficiency,linkittothePorterhypothesis,anddiscusshowadoptingproactiveenvironmentalmanagementcansimultaneouslyreducebadoutputwhileincreasinggoodoutput.Second,wedefineandidentifyenvironmentalcosts,developanenvironmentalcostfunction,anddescribetheroleofenvironmentalcostman-agement(internalenvironmentalaccounting).Next,weintroduceageneralizedframeworkofeco-efficiencymanagement.Finally,conclusionsandcallsforfutureresearcharepresented.

ECONOMICTHEORIESOFPRODUCTION

ANDREGULATORYIMPACTS

TraditionalApproach

Thetraditionalviewofrespondingtoenvironmentalproblemsis:‘‘Helptheenvironmentandhurtyourbusiness’’(Clarkeetal.1994).Thisisawin-loseparadigmthatdepictsawinfortheenvironmentasabusinessloss;thusthetraditionalviewcanbedescribedasazero-sumgame.Giventhisoutcome,itisnotsurprisingthatmanagershavetraditionallybeeninanadversarialrelationshipwithregulators,environmentalists,andotherenvironmentallysensitivestakeholders.

Toaddresstheseissues,managementshouldevaluateitsproductionprocesses.Areviewofproductioniscentraltotheeconomicmanagementofthefirmbecausebasicproductiontheoryassumesthatafirm’sproductionprocesscaptureshowinputssuchaslaborandcapitalaretransferredintooutputs.Therelationshipbetweentheinputsandtheresultingoutputsiscapturedinthefirm’sproductionfunction.Thisfunction,inturn,isdrivenbyagiventechnology.Improvingtherelationshipbetweenoutputsandinputsforagiventechnologyincreaseseffi-ciency.Moreover,astechnologybecomesmoreadvanced,theproductionfunctionchanges,andafirmcanoftenobtainmoregoodoutputforagivensetofinputs.Thus,firmsthatseektomaximizetheirreturnstrivetoachieveefficiency(PindyckandRubinfeld1994,167).

Efficiencyimprovementsareanimportantpartofenvironmentalmanagementbecausetheyhelpeliminatenonvalueaddedactivitiesandincreasethelikelihoodthatthesameormoregood(intended)outputisproducedusingfewerinputswhilesimultaneouslyreducingbad(pollution)output.Ifthisoccurs,naturalresourceusedecreases,costsfall,andoverallenvironmentalandfinancialperformanceimproves.Efficiencyisalsoimportantbecauseithelpstoshapeproductionresourcechoiceandallocationdecisions.Thepursuitofefficiency,then,isoneofthedriversofthefundamentalsocialandeconomicdecisionspertainingtopollutioncontrol(Kolstad2000,

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49).Moreover,whenthepursuitofefficiencyiscombinedwithotherdriversofpollutioncontrollikeconsumerwillingnesstopayforenvironmentallyfriendlygoods,regulatorypolicy,andstake-holderpressure,amanagementcontrolsystememergesthatallowsfirmstoviewenvironmentalproactivismasalegitimateandsubstantiveeconomicreality(SchalteggerandSynnestvedt2002).

Traditionalpollutioncontrolpositsthataproductionpossibilitiesfrontierexiststhatdescribesalloftheefficientcombinationsofoutputsthatcanbegeneratedgivenafinitesetofresourcesandaspecifiedtechnology.Theslopeoftheproductionpossibilitiesfrontier,knownasthemar-ginalrateoftransformation(MRT),showstherateatwhichtheoutputofonegoodhastobesacrificedtoincreasetheoutputofanother.Inatraditionalsense,itisobservedthatthecreationof‘‘bad’’outputsisinseparablefromthecorrespondingcreationof‘‘goodoutput.’’Therefore,reducingbadoutputsisinevitablyaccompaniedbythereductioningoodoutputs.

Figure1,PanelAillustratesatwo-outputproductionprocesswhereafirmproducesagoodproduct,X,withabadproduct,Y,asaby-product,usingafixedamountofresources.NoticethattoreducethepollutionfromY2toY1,goodoutputmustbereducedfromX2toX1.Fromacostperspective,thetraditionalmodelassumesthatreducingbadoutputcausesadiversionofresourcesfromtheproductionofgoodoutput,acostlyactivity(revenuesmustbesacrificed).Alternatively,itisassumedthatgoodoutputcanbemaintainedattheX2level,butonlybyacquiringadditionalresourcestoreduceY2toY1,whichisalsoacostlyactivity.TherelationshipbetweenenvironmentalimprovementandeconomicperformanceisdepictedinFigure1,PanelB.Thisillustrationshowsthatanyefforttoimproveenvironmentalperformanceproducesadropintheeconomicwell-beingofthefirm;thus,afirmwouldhavenoincentivetoreducepollution.

Becausefirmslackincentivetoreducepollutionunderthewin-loseparadigm,thegovern-menthasassumed,and,indeed,mustassumeanactiveroleinpollutioncontrol(Kolstad2000,135–139).ThetraditionalstrategyofpollutioncontrolintheUnitedStatesiscommandandcontrolregulation(PavettoandBae1991,27).Commandandcontrolregulationsspecifyboththepollutionoutputlevelallowedandthespecificandstrictmethodsofcompliance(Kolstad2000,139).Commandandcontrolpoliciesrelyonthestandardizationoftechnologiesandprac-ticestoachievemandatedenvironmentalimprovements.Asaconsequence,commandandcon-trolmethodschangeslowlyandareunlikelytobeimproved.Infact,underthisscenariothereisnoincentivetoimprovebutsimplytocomply.Moreover,itisentirelypossiblethattherealincentiveistoresistanynewregulationsbecausetheyareviewedascostlyandharmfultotheeconomicwellbeingofthefirm.Thus,firmsoftenreacttopollutionreductionbypursingtheminimumamountofactivityrequiredtoachievecompliance.Inpractice,thispremiseassumesthattechnology,products,andprocessesremainunchangedinthepresenceofregulation,andregulationthusinevitablyraisescostsandreducesproductivity(Porter1991,5).

Giventheabove,ithasbeensuggestedthatenvironmentalcompliancecostsareunnec-essarilyhighbecauseofaninefficientandineffectiveregulatorysystem(Clarkeetal.1994;Joshietal.2001).Therefore,evenifsignificantwin-winopportunitiesarepossible,itisconceivablethatill-conceivedregulationswilldiscourageasearchforthem.Asaconsequence,findingin-novativeandprofitablewaysofimprovingtheenvironmentbecomeslessofapriorityandval-uableinformationabouttheproductionprocessislostbecausemanagersmaybetoobusycomplyingwithexistingregulationsandremediatingpastenvironmentalmistakes.

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FIGURE1ModelsofEnvironmentalRelatedActivityPanelA:TraditionalOutputProductionTrade-OffsPollutionY2 Y1 Good Output X1 X2PanelB:EconomicPerformanceversusEnvironmentalPerformanceEconomic Performance I2 I1 Y2 Y1 Environmental Performance Eco-EfficiencyandthePorterHypothesisDunk(2002)maintainsthatwhenproactivetechnologicalinnovationisembracedaspartofoperationalchangesstrategicallyadoptedtoimproveefficiency,productqualitywillrisewhileenvironmentalrisks,environmentalcosts,andregulatorypressuresimilarlydiminish.Thesethoughtsarecapturedbyeco-efficiencywhichoffersacompetingparadigmtothetraditionalview.Moreover,becauseeco-efficiencyintegratesthemanagementofecologicalandeconomicperformance,itisakeyelementofsustainabledevelopment(Willard2002,6–7).ToachieveAccountingandthePublicInterest

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simultaneousecologicalandeconomicprogress,eco-efficientfirmsadoptinnovativeandpro-activepollutionreductionmethodstoachievethesegoals.Theimmediateobjectiveofeco-efficiencyistoincreaseshareholdervaluewhilereducingmaterials,energy,andpollutingemis-sions;theultimateobjectiveistoreachaneco-efficientstatewhereeconomicactivitiesareinlinewiththeearth’scarryingcapacity(VerfailleandBidwell2000).

Porter(1991)andPorterandvanderLinde(1995a,1995b)essentiallyagreewiththeeco-efficiencyparadigmbutalsobuildacaseforregulatoryactivity.Theyarguethatpollutionisaformofeconomicinefficiencyandthatproperlydesignedenvironmentalregulationsprovideasignaltocompaniestoimprove.Further,theyhypothesizethatthesignalisnecessarybecauseagentswithinfirmsgenerallyhaveaboundedrationalityrelativetoeco-efficiencyandconse-quentlymustbeencouragedorstimulatedtoengageineco-efficientbehaviorbyproperlyde-signedregulations.Consequently,properlydesignedenvironmentalregulationscreatemanagerialawareness(absentduetoboundedrationality)andtriggerinnovationsthatreducepollutionandenvironmentalcostssimultaneously.Properlydesignedenvironmentalregulationsarethosethatemphasizeoutcomes(reductionsinnegativeenvironmentalimpacts)andnotmethods.Leavingthepollution-reducingmethodsunspecifiedencouragesprocessimprovementsandprocessin-novations.Thus,theobjectiveofproperlydesignedregulationsistopromoteeconomicefficiencywhileatthesametimereducingenvironmentaldegradation.Theincreaseinefficiency,then,isadirectconsequenceofreducingpollution.ThePorterapproachcanthusbedescribedasa‘‘guidedeco-efficiencymodel.’’

TherearetwocontroversialfeaturesaboutthePorterhypothesis(ShawandStroup2000).First,thenotionthatmanagersneedtobestimulatedintosearchingforinnovationsinacom-petitiveeconomyseemssomewhatillogical.Second,thebeliefthat‘‘properlydesigned’’regu-lationswillleadtocost-reducinginnovationisanideaopentochallenge.Together,theseissuessuggestthatifthereismerittoeco-efficiency,thendomanagersreallyneedtobeshockedintounderstandingbyregulatorysignaling?Evidencefromotherareassuggestsansweringintheaffirmativebecauseproductionparadigmshiftslikeeco-efficiencyoftenrequireastimulus.

Forexample,considertheinitialresistanceofU.S.firmstoshiftingfromthetraditionalac-ceptablequalityparadigmtothetotalqualityparadigm(andthedevastatingeffectstothosewhorespondedtooslowly).W.EdwardDeming’sclaimsabouttotalqualitymanagementwererejectedbyU.S.managersbutacceptedandimplementedbyJapanesefirms.However,whenensuingcompetitivemechanismseventuallycausedU.S.acceptance,thedamagewasdoneandthecosttoU.S.industriestorecoverwashigh.Nevertheless,itwastheensuingcompetitionandtheemergenceofcrediblevalueaddedcostinformationaboutqualitythatledmanyU.S.industriestoacttoincludethecostofqualityaspartofstrategiccostmanagement(ShankandGovindarajan1994).

Theprecedingexamplereliesonthepresenceofcompetitiontomotivateaction.However,whilecompetitivemechanismscanforcecostawarenessandparadigmshifts,thereareotherways.Onealternativewayistheuseofregulationtoforcemanagerstoconsiderthemeritsofanewparadigmbeforecompetitioncausessuchashift.Theroleofregulationinthiscaseisinformationalandproactive,andmayevenprotectthelong-runwell-beingofanindustry.Forexample,properlycraftedregulatoryactionsmayhelpcreateanawarenessoftheeco-efficiencyparadigmanditsclaimedbenefits,encourageatestofitsmerits,andactasastimulustoallowtheinformationaleffectsofthenewparadigmtospreadthroughtheeconomy.Therefore,inpracticalterms,thereisaneedtoreformcurrentU.S.environmentalpolicysothatitplacesmoreemphasisonpromotingpollutionpreventionandeco-efficiency(Rondinelli2001).However,

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providedeco-efficiencyprovestobemeritorious,then,intheend,itcouldbethattheneedforregulationmaybetemporaryandtransitional.

Interestingly,someempiricalevidenceisnowsurfacingthatissupportiveofthePorterhy-pothesis,lendingcredibilitytoeco-efficiencyandincreasingthelikelihoodthatthenewparadigmmaybegintoinfluenceenvironmentalregulatorypolicy.Alpayetal.(2002)findthatnewpollutionabatementregulationsandincreasedenforcementintheMexicanfoodmanufacturingindustryhaveproducedtechnologicalchangeandanincreaseinproductivitysubsequenttotheNAFTAagreement,anoutcomeconsistentwiththePorterhypothesis.MurtyandKumar(2003)lookatasampleof92firmsinthesugarindustryinIndia.Theyfindthatthedegreeoftechnicalefficiencyincreaseswiththedegreeofcompliancetoenvironmentalregulationandwaterconservationefforts,supportingthePorterhypothesis.Finally,Al-Tuwaijrietal.(2004)investigatetherelationsamongenvironmentalperformance,economicperformance,andenvironmentaldisclosure.Theirstudyexamines198firmsfromtheStandardandPoor’s500andthusisacomprehensivestudythatcutsacrossindustries.ConsistentwiththePorterhypothesis,theyfindastatisticallysig-nificantrelationshipbetweenenvironmentalperformanceandeconomicperformance;theyalsofindapositiveassociationbetweenenvironmentalperformanceandenvironmentaldisclosure.Admittedly,theirenvironmentalperformancemeasureisasinglequantitativemeasure,toxicwasterecycled/totaltoxicwastegenerated,andthusdoesnottakeintoconsiderationmanyimportantenvironmentalfactors.Nonetheless,thestudydoesshowthatthereisapositivere-lationshipbetweeneconomicreturnsandanimprovingtoxicwastemeasure.

Thethreestudiescitedaboveexaminethreedifferentenvironmentalperformancemeasuresandallfindapositiveassociationbetweenenvironmentalandeconomicperformancevariables.Thisisencouragingasitprovidessomeinitialevidencethat,evenindifferentsettings,moreinsightabouttherelationshipbetweeneconomicandenvironmentalperformanceisgrowing.However,severalstudiesstillcallforrestraintininterpretationandpointoutthattherelationshipbetweeneconomicandenvironmentalperformanceisunderdebateandwillrequiremuchmoreanalysis(MargolisandWalsh2003;Al-Tuwaijrietal.2004;SchalteggerandSynnestvedt2002;Ullman1985;KlassenandMcLaughlin1996).Somesuggestthatatheoreticalframeworktoguidethedevelopmentandevaluationofsuchalinkisawaytoovercomedifficulties(SchalteggerandSynnestvedt2002;Ullman1985;KlassenandMcLaughlin1996).Theearlyempiricalevidencelikethatcitedaboverelatedtotheclaimedbenefitsofeco-efficiencyisencouragingand,assuch,itmaybeappropriatetosuggestthatguidedeco-efficiency(thePorterhypothesis)maybeonesuchpossibletheoreticalframeworkthatmayprovideinsight.However,becausetheempiricalresearchforthePorterhypothesisandeco-efficiencyisadmittedlyinitsinfancy,moreevidenceisneededtoestablishtheirempiricalvalidity.

Notwithstandingtheselimitations,aninterestingobservationdrawnfromthestudiescitedisthatitisclearthatthesearchforandappropriateuseoftechnologicalinnovationsprovideabasisforthesuccessofproactiveenvironmentalmanagement.Additionalevidencealsosuggeststhat,indeed,changesinproductionprocessesandtechnologicalinnovationsmadetoreducepollutionandenvironmentalexposurearefactorsthataffectfirmvalue(Hughes2000;Johnston2005).Thus,examiningtherelationshipbetweenenvironmentalandeconomicperformanceshouldassesstheroleandimpactoftechnologychoice.However,asdenotedwithinthecontextofouranalysisofthetraditionalparadigm,weseethatthemodelportrayedinFigure1doesnotconsidertechnicalinefficiencyandchangesintechnology.Moreover,itignoresthepossibilitythatprocessimprovementsandinnovationcanreducepollutionwhileincreasingeconomicefficiency.

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Figure2illustratesthesetwopossibilitiesandprovidesamodelthatillustratestherationalefortheeco-efficiencyparadigm.InFigure2,curveACrepresentstheproductionpossibilitiesfrontiergiventhecurrentleveloftechnologyassumingnotechnicalinefficiency.CurveABrep-resentstheproductionpossibilitiesfrontiergiventhecurrentleveloftechnologyandassumingthefirmisoperatingcurrentlywithacertainleveloftechnicalinefficiency.CurveADrepresentstheproductionpossibilitiesfrontiergiventhatinnovationhasproducedanewpollutionreducingtechnology.Now,assumethatthefirmissubjectedtoaregulatoryrequirementthatitreduceitspollutionfromY2toY1.ConsistentwiththePorterhypothesis,regulationspecifiesthereductioninbadoutputwithoutspecifyinghowtoachieveit.CurveABrepresentstheproductionpossibilitiesfrontieratthepointintimewhenthefirmismandatedtoreduceitslevelofpollutionfromY2toY1.Thecurrentlevelofoutputis(X2,Y2).UnderthePorterhypothesis,pollutionisequivalenttoeconomicinefficiency,and,forsimplicity,weassumethatthedifferencebetweenCurveABandCurveACisfullycausedbyinefficiencyattributabletopollution.Thus,underexistingtechnology,thefirmcanreduceitsinefficiencythroughsuchmeansaswastereduction,materialssubstitu-tion,recycling,andconservationofwaterandenergy.Figure2illustratesthatitispossibletoreduceY2toY1whileincreasinggoodoutputfromX2toX3.Ontheotherhand,assumethattheregulatorymandateismorestringentandrequiresthatbadoutputbereducedfromY2toY0.Inthiscase,eliminatingthepollution-inducedinefficiencycausesareductioningoodoutputwhenthereisarelianceonexistingtechnology;thus,processimprovementbyitselfisnotsufficientandinnovationisneededtomeettheregulatorydemandwithoutimpairingcurrentgoodoutput.Assuch,innovationintroducesnewtechnologyandcausestheproductionfrontiertobecomeAD.Moreover,thenewproductionpossibilitiesfrontierFIGURE2Eco-EfficientReactionstoMandatedReductionsinPollutionPollution Y2 BCD Y1 Y0 A X1X2 X3 X4 Good Output AccountingandthePublicInterestVolume7,2007

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impliesthatthenewtechnologyisanenvironmentallyfriendlytechnologywhichincreasestheproductivityofnaturalresources(e.g.,closed-loopmanufacturingandnanotechnology).

Thereissomeevidencetoindicatethatthismightindeedbethecase.Forinstance,SchalteggerandSynnestvedt(2002)contendthattheadoptionofenvironmentallyfriendlytech-nologieswillreducethemarginalcostsofenvironmentalprotection.Otherssuggestthatthedevelopmentandimplementationofthistypeoftechnologymaynotbedifficult.Forexample,Hart(1995)notesthattheemergenceofthistypeoftechnologyisnotcontextspecific,butrathercanarisewhenanyfirmaggressivelyundertakestheresponsibilityofassessinghowthecon-straintsimposedbythebiophysicalenvironmentaffectperformance.Accordingly,oneofthekeyattributesofsuchtechnologyisthatitcapturesanatural-resource-basedviewofthefirm.Shrivastava(1995)agreesandindicatesmanagersshouldadoptinnovativetechnologythatissensitivetoresourcedepletion,pollutionabatement,andwastemanagementasthatcombina-tionislikelytocreateoperationaladvantages.Assuch,heobservesthatthesetypesofproactiveenvironmentaltechnologiesofferanewandveryrealmanagementorientationprocessthatmin-imizesecologicalimpactwhileenhancingfirmvalue.

Finally,empiricalevidenceindicatesthatwhentechnologicaladoptionsarenaturalresource-basedandpossessenvironmentallyproactivecharacteristics,bothmanufacturingandenviron-mentalperformanceimproves(KlassenandWhybark1999).Therefore,itisappropriatetoas-sumethatwiththistypeofinnovation,itispossibleforfirmstoreducepollutiontoY0whileincreasinggoodoutputfromX2toX4.Asdemonstrated,bothprocessimprovementsandprocessinnovationcanreducepollutionandincreasegoodoutput.Theseoutcomesareconsistentwitheco-efficientbehaviorandillustratethenatureofthePorterhypothesis.

Onelastinferenceaboutefficiencywarrantscomment.Theeco-efficiencymodelandthePorterhypothesisareidenticalintheirviewsthatpollutionisequivalenttoeconomicinefficiency.ThePorterhypothesisisexplicitinthisclaimwhileeco-efficiencyimpliesthesameclaim.Spe-cifically,theimplicationisformallystatedas:Ifeco-efficiencyisvalid,thenpollutionisequivalenttoeconomicinefficiency.Thisimplicationcanbeprovedbycontradiction.Assumethatpollutionisnotequivalenttoeconomicinefficiency.Ifpollutionisnotequivalenttoeconomicinefficiencythenitispossiblethattheprofit-maximizingstateisonethathaspollution.Therefore,forfirmsoperatinginthispollutioninclusiveoptimalstate,itisnotpossibletosimultaneouslyimproveenvironmentalperformanceandeconomicperformance,directlycontradictingtheeco-efficiencyparadigm.Therearetwointerestingimplicationsthatfollowfromthisproof.First,undereco-efficiencytherewillneverbeanenvironmentallyunfriendlyoptionthatismoreprofitablethanagreenoption.Second,ifeco-efficiencyisvalid,thenmanagementofcostsmusttaketheviewthatpollutionequalsinefficiencywhenspecifyinganappropriateenvironmentalcostfunction.Moreover,thisenvironmentalcostfunctionshouldcaptureallenvironmentalcosts,providingmanagerstheabilitytoassesstheeffectofitsenvironmentalchoicesonboththefirmandsociety.

Costmanagementproducesusefulinformationbydefining,identifying,collecting,measur-ing,classifying,andreportingthecostofproductsandotherobjectstoimproveinternaldecisionmakingandtopromotecontinuousimprovement.Thegoalofenvironmentalqualitymanagementistoreducepollutionandimprovefirmvaluebytransformingexistingpractices(Bhat1998,32).Themarriageofenvironmentalqualitymanagementwithcostmanagementisreferredtoasenvironmentalcostmanagement.

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Linkingenvironmentalandcostmanagementshouldbeginwiththeconstructionofanen-vironmentalcostfunctionthatcapturestheimpactofactivitiesadoptedtoprevent,detect,andcorrecttheadverseeffectsofthefirm’sproductionprocessesontheenvironment(HammerandStinson1995;HughesandWillis1995).Constructinganenvironmentalcostfunctionrequiresadefinitionofenvironmentalcoststhatallowsenvironmentalcostbehaviortobeexaminedaschangesinenvironmentaldegradation(badoutput)occur.Logically,ifenvironmentalcostsareafunctionofenvironmentaldegradation,thenenvironmentalcostscanbedefinedasthosethatareincurredbecauseenvironmentaldegradationexistsormayexist.The‘‘mayexist’’componentisanimportantaspectofthedefinitionasitallowsfornonzeroenvironmentalcostsforastateofzeropollution,which,attheveryleast,impliessomecostisneededtomaintainazero-pollutionstate.

Ithasbeengenerallyacceptedthatthetimeprovencostclassificationandmanagementtechniquesadoptedtoreducequalitycostscanprovidesimilarresultswhenappliedtoenviron-mentalproblems(Chandrashekaretal.1999;HammerandStinson1995;HughesandWillis1995;Dunk2002).Therefore,environmentalcostsareclassifiedintotwomajorcategories,con-trolandfailurecosts,dependingontheirbehaviorwithrespecttochangesinbadoutput.Controlcostsarethosecostsincurredtoavoiddegradationandtomonitorandensurethatthefirm’seffortstodetectandreducepollutionareoperatingasexpected.Examplesofcontrolcostsincludedesigningenvironmentallyfriendlyprocessesandtestingforcontamination.

Failurecosts(internalplusexternal)arethecostsincurredbecausecontaminantsandwastehavebeenproducedandthusdegradationhasoccurred.Internalfailurecostsareincurredtopreventthereleaseofwasteandcontaminantstotheenvironment.Examplesofinternalfailurecostsincludetreatinganddisposingoftoxicwasteandmaintainingpollutionequipment.Externalfailurecostsareincurredafterdischargingwasteandcontaminantsintotheenvironment.Ex-amplesofexternalfailurecostsincludecleaningupoilspillsanddamagingecosystemsfromsolidwastedisposal.

EnvironmentalCostFunction

Abasicenvironmentalcostfunctioncanbedepictedasfollows:

T(q)ϭC(q)ϩF(q),

(1)

whereqisthelevelofenvironmentaldegradation,T(q)representstotalenvironmentalcosts,andC(q)andF(q)aretotalcontrolandtotalfailurecosts,respectively.Asdenoted,themagnitudeoftotalenvironmentalcostisafunctionofq,whichisthelevelofenvironmentaldegradationatwhichafirmoperates.Thevariableqisconcernedwith:(1)theamountofcontaminationemittedintotheair,water,andlandduringproduction;and(2)theactualmaterialsandenergywastedintheproductionprocesses.Thus,itisameasureoftheenvironmentaldegradationwhentheeffectsofallformsofresourceinefficiencyandpollutionhavebeentakenintoaccount.ThecostbehaviorsofcontrolandfailureactivitiesrequirethatCЈ(q)Ͻ0andFЈ(q)Ͼ0.

Threecommentsrelativetotheenvironmentalcostfunctionwarrantmention.First,ascontrolactivitiesdiminish,moredegradationwouldbeexpectedtooccur;thus,controlcostsareas-sumedtodecreaseasenvironmentaldegradationincreases.Ontheotherhand,failurecostswouldbeexpectedtoincreaseasenvironmentaldegradationincreases.

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Second,whileallexternalfailuresarecreatedbythefirm,theresponsibilityforpayingforthemisdivided.Privateexternalfailurecostsarepaidforbythefirm(referredtohereafterasprivatefailurecosts).Examplesincludethecostofremediationandpenalties.Socialexternalfailurecostsareassociatedwithfailurescreatedbythefirmbutpaidforbyothers(referredtohereafterassocialfailurecosts).Socialfailurecosts,then,representthatportionoftotalfailurecoststhathavebeenshiftedfromthefirmtosociety.Examplesofthistypeofcostincludelosingtheuseofalakebecauseofcontamination,ortheunnecessaryreductionofalimitedamountofresourcesbecauseofaninefficientorunproductiveproductionprocess.

However,becausesocialfailurecostsareexternalitieswhoseeffectsextendandspillovertounrelatedparties,assigningavaluetothesecostsisbothdifficultandcontroversial.Forexample,Cooper(1992,16)suggeststhataccountinghastoooftentrampledoverandignoredtheeffectsofexternalitiesinthesearchforanddefinitionofprofitandthus,doesnottrulyaccountforthesecosts.However,agrowingnumberofenvironmentalandbusinessleadersadvocatethatitisimportanttoconsiderthesecostsandhowtheirpresenceaffectsdecisionmaking(U.S.EPA1995,16;Ditzetal.1995,4.)Todoso,however,requireseconomicmodelsthatassociateexternalitiesandtheircostswiththeproductionactivitiesthatcreateenvironmentalproblems(CallenandThomas1996,87).

Third,giventheincidenceofsocialfailurecosts,theenvironmentalcostfunctioncanberewrittenas:

T(q)ϭC(q)ϩFp(q)ϩFs(q),

(2)

whereF(q),totalenvironmentfailurecost,hasbeendecomposedintotwocomponents:Fp(q),whichrepresentsprivatefailurecostsandFs(q),whichrepresentssocialfailurecoststhatarecreatedbythefirmbutpaidforbyothers.Thus,forthefirm,thetotalprivatecostfunctioncanbeexpressedas:Tp(q)ϭC(q)ϩFp(q).Thetotalcostfunctioncanalsobeexpressedasthesumofprivateandsocialcosts:

T(q)ϭTp(q)ϩFs(q).

(3)

TheEnvironmentalCostFunctionandtheTraditionalParadigm

Figure3providesacost-pollutionanalysisforthetraditionalparadigm.Underthetraditionalparadigm,C(q)→ϱasq→0.Thus,itiscostlyandimpracticaltoachieveapollution-freestate.Therefore,thebestthatthefirmcandoistochoosealevelofenvironmentaldegradationthatminimizesitscosts.Thisinvolvesselectingtheoptimaltradeoffbetweencontrolandfailurecosts.Thisoptimallevelshouldbewheretotalcostisminimized(qt);however,becauseafirmcanshiftsomeofitscoststosociety,itstotalcostfunctionisbasedontheprivatecostfunction,Tp(q),andthus,thefirmwillselectqpasitsoptimallevelofpollution.Atthislevel,thefirmpollutesatahigherlevelthanwhensocialfailurecostsareincludedandthiscreatesademandforregu-lation.Specifically,viaregulationthegovernmentconvertssocialfailurecoststoprivatefailurecostsandforcesfirmstocontemplatehowtolowerpollution.Accordingly,underthetraditionalmodelthereisnoeconomicincentivetoreduceqptoqt.Therefore,ifsocietywantsthefirmtoreducepollutionbelowqp,ithastorelyonregulationtomakeexcesspollutionaprivatefailurecost.However,thebestenvironmentaloutcomethatcanbeachievedisbyprivatizingallsocial

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FIGURE3CostAnalysis:TraditionalParadigmT(q) Tp(q) CostF(q) Fp(q) C(q) 0qt qp qmax Degradation failurecosts,thuscreatinganeconomicincentiveforthefirmtoloweritspollutiontosomenonzeroamount,specifiedasqt.Undertheseconditions,anyfurtherreductionswouldbeop-posed(byfirms)andachievedonlythroughprofit-reducingmandates.TheEnvironmentalCostFunctionandtheEco-EfficiencyParadigmEco-efficiencyassumesthateconomicdegradationisaformofeconomicinefficiency,whichimpliesthatdT/dqϾ0(whichmeansthatenvironmentalcostsdecreaseasdegradationde-creases).Ofinterest,accordingly,istherelationshipbetweencontrolcostsandfailurecoststhatwillproducethistypeofeco-efficienttotalcostfunction.Figure4illustratestheanalysisthatdeterminesthisrelationship,usingonlyC(q)andF(q),whereF(q)ϭFp(q);thus,initially,weas-sumethattherearenosocialcosts.Forsimplicity,linearcostfunctionsareused;however,theresultseasilygeneralizetocurvilinearfunctions.Threepossiblecasesareconsidered.ThefirstcaseassumesthatF(q),whichisdepictedasOT,andC(q),whichisdepictedasC2M,havethesameabsoluteslope,andthus,͉dC/dq͉ϭ͉dF/dq͉.Underthisscenario,T(q)ϭC2T,ahorizontalline,implyingthatdT/dqϭ0.Thismeansthatenvironmentalcostsremainconstantasdegra-dationincreases,somethingnotlikelytohappen.Forthesecondcase,werotatethecontrolcostcurve(C2M)totheright,creatinganewcontrolcostcurve,C3M,whichrelativetoOT,hasalargerabsoluteslope(͉dC/dq͉Ͼ͉dF/dq͉).ThetotalcostcurveisnowC3T,whichhasanegativeslope,andthus,dT/dqϽ0,contradictingtheeco-efficiencyparadigm(thisoutcome,however,isconsistentwiththetraditionalcostfunction).Finally,forthethirdcase,werotatethecontrolcostcurve(C2M)totheleft,creatingthecontrolcostcurve,C1M,whichrelativetoOT,hasasmallerabsoluteslope.ThetotalcostcurveisnowC1T,whichhasapositiveslope,consistentAccountingandthePublicInterest

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FIGURE4Eco-EfficientRelationshipsforControlandFailureCostFunctions C3 C2 Cost C1 T O (qmin) Degradation Variables:Oϭminimumdegradation(qmin).Mϭmaximumdegradation(qmax).OTϭfailurecostfunction,F(q).C1Mϭcontrolcostfunction,C(q),if͉dC/dq͉Ͻ͉dF/dq͉.C2Mϭcontrolcostfunction,C(q),if͉dC/dq͉ϭ͉dF/dq͉.C3Mϭcontrolcostfunction,C(q),if͉dC/dq͉Ͼ͉dF/dq͉.CiTϭtotalcostfunction(threepossible),C(q)ϭCiM,iϭ1,2,3. M (qmax)withtheeco-efficiencyparadigm.Thus,wemustconcludethateco-efficiencyrequiresthat͉dC/dq͉Ͻ͉dF/dq͉.Thelastrelationship(thirdcase)impliesthatincreasingcontrolcostswilldrivedownfailurecostssuchthatpollutioncanbeeliminatedandtotalenvironmentalcostsdecrease,outcomesthatareconsistentwiththeeco-efficiencyparadigm.Inaddition,underthiseco-efficiencycon-dition,controlcostsdonotincreaseasymptoticallyasq→0;ratherthecostfunctionhasanintercept,implyingafinitecostforqϭ0.Thus,controlcostswillbeincurredatthezero-pollutionstatebutonlytoensurethatthestateismaintained.Twoobservationsabouttheoutcomeofthethirdcasewarrantmentioning.First,notethattheminimumforthetotalcostfunctioniswherepollutionisatitsminimum(effectivelyzero).Second,undertheseconditionsthereisnoimmediateandevidentroleforregulationwithoutinvokingboundedrationality.Therefore,asAccountingandthePublicInterestVolume7,2007

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pointedoutearlier,forthissetting,theroleofregulationisinformational,wouldmandatepollu-tionsreductionswithoutspecifyinghow,andthatifandwhenthemarketsareconvincedthateco-efficiencyisavalidparadigm,thentheneedforregulationshoulddisappear.Figure4providesthebasicconditionsunderwhichcontrolandfailurecostsaremanagedtoreducetotalcostsandprovidessomeinsightconcerninghowfirmsmightreactinresponsetoregulatorymandates.However,theanalysisandresultingconclusionsconcerningregulationassumethatallenvironmentalcostsareprivatecosts.Suppose,however,thatsocialfailurecostsexistandafirmisable(allowed)toshiftsomeofitsenvironmentalcoststoathirdparty(i.e.,FsϾ0,meaningsocialfailurecostsarepresent).Figure5illustratesthismorerealisticscenario.Thecurves,C1M,OT,andC1T,representthecontrolcost,totalfailurecost,andtotalcostcurves,respectively,wherethecurvesareselectedaccordingtotherelationshipsrequiredbyeco-efficiencyaswasillustratedinFigure4.However,inFigure5threepossibleprivatefailurecostcurves(OP1,OP2,andOP3)areillustrated,alongwiththeircorrespondingtotalprivatecostcurvesFIGURE5Eco-EfficiencyandPrivateFailureCostsT P1 Cost C1 P2 P3 O (qmin) Degradation M (qmax )Variables:F(q)ϭOT(totalfailurecostfunction).Fp(q)ϭOPi,iϭ1,2,3(threepossibleprivatefailurecostfunctions).T(q)ϭC1T(totalcostfunction).Ti(q)ϭC1Pi,iϭ1,2,3(threepossibleprivatetotalcostfunctions).C(q)ϭC1M(controlcostfunction).AccountingandthePublicInterestVolume7,2007

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(C1P1,C1P2,andC1P3).Thedifferencebetweentotalcostsandprivatefailurecosts,C1TϪC1Pi,whereiϭ1,2,3,isameasureofthesocialfailurecosts,Fsi(q),whichareincreasingini.

Thesocialfailurecostbenchmark,Fs2(q),isC1TϪC1P2becauseitstotalprivatecostcurve,C1P2,hasconstantcostsforalllevelsofq.IfanyfirmportrayedhassocialfailurecostslessthanC1T–C1P2,thenitstotalprivatecostfunctionwillhaveapositiveslope(forexample,C1P1satisfiesthiscondition),andunderthiscondition,actionstakenbyafirmtoreduceenvironmentaldegradationwillalsodecreaseitsprivatecostsandthusincreaseprofits.FirmswiththispropertyaredefinedasCategoryIfirms.Thus,theprivatecostfunctionforCategoryIfirmsbehavesinthesamewayasthetotalcostfunctionportrayedforCase3ofFigure4and,accordingly,regulatoryactionsimposedonCategoryIfirmswouldbeinformational.However,ifsocialcostsaregreaterthanC1TϪC1P2,thenthetotalprivatecostcurveisdecreasinginq,andincreasingpollutionistheactiontakentoreducecostsandincreaseprofitability.Firmsinthiscategory(CategoryII)wouldopposeanyregulationthatwouldmandateareductioninenvironmentaldegradationbecauseanyreductionwouldincreaseitstotalprivateenvironmentalcostsevenifthe‘‘how’’ofpollutioncontrolisnotspecified.

TheimplicationsofFigures4and5areconsiderable.First,ifallenvironmentalcostsareprivatetheneco-efficientoutcomesarepossible.Second,ifeco-efficiencyisavalidparadigmandsocialfailurecostsexist,thenonlyCategoryIfirmswillfindthatmandatedreductionsalsoreducebothsocialandprivatecosts.Fromapolicystandpoint,therewouldbenoneedtoprivatizethesocialcostsforthesefirms.Third,ifsocialcostsaresufficientlylarge,thenmanagersofCategoryIIfirmswillfindthatmandatedreductionswillbecostly(privatecostsincreaseandsocialcostsdecrease),and,fromtheirpointofview,eco-efficiencyisnotvalid.Therefore,fromapolicystandpoint,theprivatizationofsufficientsocialcoststotransformthesefirmstoCate-goryIfirmsisneededtochangethisviewpoint.However,undertheeco-efficiencyparadigm,itmaynotbenecessarytorequirethatallsocialcostsbeprivatizedtobringaboutthedesiredenvironmentaloutcomes.Thisoutcomeclearlyhassomeappealingpoliticalimplications.Forexample,itislikelythatlobbyingfortheprivatizationofsomeratherthanallofthesocialcostsisamoreattainablepoliticalgoal;thisgoalshouldprovidethecorrecteconomicincentivestoproducethedesiredpollutionreduction.

Ofcourse,themagnitudeofsocialcostsrequiredtoplacefirmsinoneofthetwocategoriesisanempiricalquestion.Nevertheless,theoutcomesportrayedhereinindicatethatthereisarationalandempiricalneedtomeasureandreportbothsocialandprivatecosts.Theyalsosuggesttheneedtobeginprivatizingsomeofthesocialcosts,atleastforsomefirms.Theseobservationsareconsistentwithexistingenvironmentalmanagementandcostaccountinglit-eraturewhichindicatesthatitisimperativethatthecostofexternalitiesbecapturedaspartofanenvironmentalcostmanagementagenda(Parker1997;Ditzetal.1995;U.S.EnvironmentalProtectionAgency1995).Assuch,onlybyknowingprivateandsocialcostsandhowthesecostsbehavewithchangesinq,willmanagersreallyunderstandhowtomanagetheirenviron-mentalstrategy.Moreover,knowledgeofbothprivateandsocialcostsappearstobeneededforaregulatoryagencytostructureappropriateregulatoryrules.

Eco-EfficiencyandEco-Justice

Figures4and5alsoprovidesomethoughtprovokinginsightintohowenvironmentalman-agementatamicro(firm)levelrelatestotheissuesofglobalconsumptionandsustainability.First,itseemsreasonablethatfirmsassumeresponsibilityforalltheenvironmentalcoststhat

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theycause.Second,giventhisoutcome,itshouldbeemphasizedthateco-efficiencyanditsassociatedcostfunctionimplythatbusinessorganizationscanandshouldreduceenvironmentaldegradationiftheywishtopursueacost-minimizationstrategy.Bysodoing,environmentaldegradationisminimizedand,thus,theoretically,firmshaveanincentiveofcontributingtosus-tainabledevelopmentviatheefficientuseoftheenvironment.However,sustainabledevelopmentalsohasaneco-justicedimensionthatisconcernedwithdistributionofresources.Relativetotherestoftheworld,thedevelopedeconomiesareconsumingalargeshareoftheearth’sresources,manyofwhicharenonrenewable.Afairquestiontoaskiswhetherbusinessorga-nizationshaveanydutytoaidandrespondtoeco-justiceconcernssuchasover-consumptionofresources.Itseemsreasonableandethicaltoarguethatthereisadutytoaidandrespondtothoseconditionscausedbyafirmthatcreatesomecostordegradationthatothersbearortounjustconditionsfromwhichacompanybenefits(MargolisandWalsh2003).

Therearevariouswaysofresponding.Onepossibilityistoreduceconsumptionwithinthehigh-consumingsocietiesandredistributeresourcessothatthoseofthecurrentandfuturegenerationsenjoysimilarstandardsofliving.Thisapproachmaynecessitatealoweringofthestandardoflivingformanyinthedevelopedeconomies.Alternatively,changingthepatternsofconsumptionmaybepossiblesuchthattheoutcomeraisesthequalityoflifeforeveryoneandyetmaintainsconsumptionwithintheboundsoftheplanet’sresourcecapabilities(aParetosuperiorapproach).Changingthepatternsofconsumptiontoachievesustainableconsumptionwillrequireinnovationandcreativebusinessmodels,andthus,thismaynotbeassimpleasitappears.However,aswehavedemonstrated,adoptingeco-efficiencymaybeveryhelpfulasinnovationisattheheartoftheeco-efficiencyparadigm.

Anotherapproachistocreatenewbusinessmodelstoreduceinter-andintragenerationalinequitybyblendingsocialandfinancialvalues.Thisblendingapproachisreferredtoassus-tainablelivelihoodsandmeansdoingbusinesswiththepoorinwaysthatsimultaneouslybenefitthepoorandthecompany(WBCSD2004).Themarketplaceisusedcreativelysothatthepoorareallowedandencouragedtobecomeactiveparticipantsascustomersandentrepreneurs.Sustainablelivelihoodshastheobjectiveofprovidingincome-generatingjobsandensuringac-cesstocleanwater,sanitation,housingandhealthcaresothatthosewithjobscancontinuetowork.Eco-efficiencyandsustainablelivelihoods,then,arepossiblebusinessresponsestothechallengeofsustainability(DeSimoneandPopoff1997,21;WBCSD2004)andtogetheraddressbothefficiencyandallocationissues.Regulationcanplayarolebylimitingnegativeenviron-mentalimpactsavailabletofirmsandallowingthemtheflexibilitytoinnovate;moreover,regu-lationintheformoftaxpoliciesandothereconomicincentivescanencouragenewbusinessmodels.

Thus,innovationandnewbusinessmodels,collectively,cancreatenewproductsthatareenvironmentallyfriendlyandacceptabletoconsumerswhich,inturn,canchangepatternsofconsumption.Forexample,nanotechnology,aninnovativeapproachtomanufacturing,promisestobemuchmoresparingofresourcestobuildanythingoutofanything.Nanotechnologyisalsocreatingnewproductssuchasaphotovoltaicmaterialthatcanbepaintedonaroofandusedasameansofprovidingasourceofcleanandcheapsolarenergy(MeridianInstitute2005).Marketingthisproducttobothdevelopedandlessdevelopedeconomieswouldbeanexampleofhowinnovationandanewbusinessmodelcouldchangethepatternofconsumptionwhilesimultaneouslyimprovingthequalityoflifeforall.Clearly,eco-efficiencyandeco-justicedonothavetobemutuallyexclusive.

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TheRoleofEnvironmentalManagementAccounting

Integratingcostmanagementintoenvironmentalactivitiesisnotwithoutdebate.Forex-ample,somecontendthatconventionalmanagementaccountingmayactuallyencourageenvi-ronmentaldegradationbecauseitreflectstraditionalneoclassicaleconomicsandthusconveysthemessagethatimprovingenvironmentalperformanceiscostly(GrayandBebbington2000).However,becauseaccountingisconductedwithinasocialcontext,ithelpsconstructsocialreality—itisnotaneutralactivity(Gray2007).Theimmediateimplicationisthataccountantshaveamajorresponsibilityofhelpingtocreateandvalidatetheeconomicandsocialrealityofeco-efficiency.

Forexample,theeco-efficientenvironmentalcostfunctionclearlysuggeststheneedforbothmonetaryandnonmonetaryinformation.Assuch,itmakessenseforafirm’saccountantstopositionanenvironmentalmanagementaccountingsystem(EMAS)tocollectandreportnotonlyinformationoncontrolandfailurecostsbutalsoinformationonthelevelofenvironmentaldegradation.Thus,anEMASshouldbedesignedsothatphysicalinformationisprovidedontheuse,flows,andfinalstatesofenergy,water,andmaterials(includingwasteandemissions).TheEMASshouldalsoprovideinformationonenvironmentalcostsandsavings.GibsonandMartin(2004)notethatreportingbothenvironmentalcostsanddegradationmeasuresovertimewouldallowinternalandexternalstakeholderstoassesseconomicandecologicalprogress.

Inmoreconcreteterms,SavageandJasch(2005)offersomeverypracticalsuggestionsandmotivationsconcerningtheroleofaccountinginestablishinganEMASwithinanorganiza-tion.Specifically,accountingcantaketheleadinimprovingandestablishingcommunicationandlinksbetweendepartmentsthathavetechnicalenvironmentalexpertiseandthosethatassessthefinancialconsequencesofenvironmentalactions.Environmentalpersonnelandtechnicalstaffhaveknowledgeofenvironmentalissuesandflowsofenergy,water,materials,andwastes,buthavenounderstandingofhowthesearereflectedinthefirm’saccountingrecords.Forexample,considerthefollowing:aproductiondepartmentthatproduceswasteneedstoknowthecostsofwastedisposal;andresearchanddevelopmentneedstoknowtheenvironmentalcostsofvariousproductandprocessdesigns.Giventheseneeds,anEMASshouldsupplyaccountinginformationtosupportinternaldecisionmakingconcernedwithsuchinitiativesascleanerpro-duction,greendesignsforproductsandprocesses,environmentallymotivatedsupplychainmanagement,andenvironmentalmanagementsystems.Therefore,bymoreaccuratelytrackingtheflowofenergy,water,materials,andwastes,moreefficientplanningofenvironmentalproj-ects,includingthemeasurementoftheireconomicreturns,anEMAScanhelpfosterandsupportthereductionofcostsandenvironmentalimpacts.Bythesemeans,managementaccountantscanactivelypromoteeco-efficiencyandhelpestablishitsvalidityandreality.

FrostandWilmshurst(2000)suggestthatpracticeorientedmanagementaccountingshouldprovideinformationaboutfinancialmanagementthatproducesbetterdecisionmaking.Basedonareviewoftheliterature,theyfindthatfromanenvironmentalperspective,theseexercisesaddvaluewhentheyfocusoncostreductionsandimprovements,assistinprioritizingenviron-mentalactions,andguideproductpricingandproductdevelopmentdecisions.Additionally,Dillardetal.(2005)suggestthatanEMAScanprovidedirectcontributionstoanenvironmentalagendabygatheringandreportinginformationaboutthevariouscharacteristicsofwaste.Im-plicitly,accountantsaddvaluebymeasuringtheoperationalandmarketaspectsofenviron-mentalactivitiesandassociatingthemwithfirmperformance.Forinstance,accountantscanhelpafirmconsiderhowthecostandavailabilityofrenewableenergycouldaffecthowproducts

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areinitiallydesignedandultimatelydistributedtocustomers.Accountantsmightalsoprovideinsightastohowtheissueofrecyclingandenduseresponsibilitymightaffectearlydesigndecisions.Thisisespeciallyimportantbecauseconsideringtheentirelifecycleofaproductcancontributetototalcostreduction.

Unfortunately,thepracticalapplicationsofusingcostinformationtosupportcriticalenvi-ronmentalprojectsandinitiativesareusuallyimpactedbythefactthatthesecostsarehiddenwithinoverheadaccounts(Joshietal.2001).Identifyingandreportingcontrolandfailurecostsrequiresaninternalaccountingsystemthatseparatesthesecostsfromthegeneraloverheadcategory.Onewaytodothisisthroughactivity-basedcosting,asitrepresentsaconvenientandpowerfulapproachtoaccomplishthisseparation.Activity-basedcostingisofbenefittoenvironmentalmanagementbecauseitassumesatwostageapproach:thefirst-stageidentifiesandcollectsenvironmentalcostsinsegregatedcostpoolswhilethesecond-stagestageassignsenvironmentalcoststooutputsbasedonacausaldriver.Controlactivitiessuchasdesigningproductsandprocesses,auditingenvironmentalrisks,recyclingproducts,testingforcontami-nation,andmeasuringcontaminationlevelscanbeidentifiedandtheircostscollectedinthefirst-stageoftheactivity-basedcostingmethodology.Asimilarapproachcanbeusedforfailureactivitiessuchastreatinganddisposingoftoxicwaste,maintainingpollutioncontrolequipment,cleaningupcontaminatedsoil,andrestoringlandtoitsnaturalstate.Thetotaloftheactivitycostsforeachcategorywouldgivemanagementanunderstandingofitscurrentcontrolandfailurecosts.Thisisimportantformanyfirms,asthesecostsareasignificantpercentageoftotalproductioncosts(Ditzetal.1995).Moreover,aninternalenvironmentalcostreportdetailingthesecostsbycategorymaybesufficienttomotivatemanagementtopaymoreattentiontoenvironmentalactivitiesbecauseitcreatesanawarenessofthemagnitudeofthesecostsandtheirimportance.

Thesecondstageofactivity-basedcostingcanbeusedtoreduceandmanageenviron-mentalcosts.Inthesecondstage,appropriatecostdriversareusedtoassignenvironmentalactivitycoststoindividualproductsandprocesses.Identifyingthemagnitudeoftheenviron-mentalcostsassociatedwithproductsandprocessesinthismannercanactasastrongermotivationfortakingcorrectiveactionthansimplyknowingwhichproductsandprocessesarecausingenvironmentalproblems,especiallyifcorrectiveactionreducesthesecostsassug-gestedbytheeco-efficiencyparadigm.Specifically,usingthemethodologyofactivity-basedcosting,costassignmentscanrevealwhichproductsandprocessesare‘‘dirty’’andwhicharerelatively‘‘green.’’Therefore,activitybasedcostingcanbeusedtoidentifyandprioritizetheenvironmentalcostsassociatedwithproducts,processes,andawidearrayoffirmactivities.Indoingso,managersareabletounderstandandtargetareasofopportunityincurrentprocessesanddesignconsiderations(McLaughlinandElwood1996).Giventhis,itislikelythatdirtyprod-uctsandprocessescanberankedaccordingtothemagnitudeofenvironmentalcostsandmanagerscanthenfocusoncleaningupthemostcostlyproductsandprocessesfirst.Moreover,iftheParetoprincipleisoperative,thenitverywellmaybethat20percentofthedirtyproductsandprocessesarecausing80percentoftheenvironmentalcost.Armedwiththisinformation,managerscanredesigndirtyproducts(andprocesses)tomakethemmoreenvironmentallyfriendlyorperhapsevenceaseproducingsomeproducts,whileatthesametimehavingaccesstothecostsavingsassociatedwiththeiractions.

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Finally,acompany’saccountingsystemshouldseektodistinguishactivitiesthatoptimizevalue.Therefore,processvalueanalysisisanotherpowerfultoolthatcanbeappliedtoenviron-mentalcosts.Forinstance,inadditiontousingenvironmentalcostassignmentstoidentifytrou-blespots,ananalysisandclassificationofenvironmentalactivitiesasvalue-addedandnonvalue-addedcanbeveryhelpfulinreducingbothpollutionandcosts.Forexample,processanalysiswilllikelyrevealthatallfailureactivitiesandmostdetectioncostsarenonvalue-added.Moreover,supplementalanalysesofthesecostswouldrevealwhythesenonvalue-addedactivitiesareperformedandcanleadtotheirrootcausesandprovideinsightregardinghowtheactivitiescanbereducedandeventuallyeliminated.

Atthispoint,theindividualcomponentsofeco-efficiencyhavebeenidentified.Itisnowpossibletolinkthecomponentstogethertocreateastrategytofacilitateandevaluatedecisionmaking.Thislinkwillaffecttwodecisionmakingprocesses.First,itwillassistfirmsinidentifyingwaystoreducepollutionandcosts,giventheprevalentconstraintsoftechnologyandregulation.Second,itwillallowinterestedpartiestheabilitytoassesstheextenttowhichthedecisiontoimplementastrategyofenvironmentalproactivismhasimprovedfirmvalueandsociety.Assuch,itcanactasanimpetustothecreationofenvironmentalpoliciesthattakeintoaccountbotheconomicandenvironmentalbenefits.

Figure6portraystheeco-efficientdecision-makingframework.Asdepicted,environmentaloutcomeisafunctionofadecisionmakerreactingtoenvironmentalmanagement,regulatoryguidance,costmanagement,andproduction(technology)actions.Thedecisionmakerisplacedinthecentertohighlightthefactthatfirmdecisionsshouldbemadebasedoninteractionwithallcomponentsoftheframework.

Theframeworkassumesthattheimpetusforfirmenvironmentalmanagementisbasedonpressuresfromstakeholders.Freeman(1984)definesastakeholderasanygrouporindividualwhocanaffectorisaffectedbytheachievementofanorganization’sobjectives.Stakeholdersthusincludepartiesinterestedintheenvironmentalactivitiesofthefirmsuchasregulatorybod-ies,investors,communities,employees,andenvironmentalgroups.Theneedforinformationvariesbystakeholder.However,Neuetal.(1998)pointoutthatsomestakeholdersaremorerelevantthanothersandhavedifferentialinfluence—itispossiblethatshareholders,creditors,andregulatorsmightbemorerelevantandinfluentialthanenvironmentalistsandthegeneralpublic.Accordingly,Neuetal.(1998)indicatethatwhentheinterestsofgroupsconflict,firmactionswilltendtofavorthemoreinfluentialgroup.

Forexample,investorsarelikelytobeinterestedincostsavingsgeneratedbyimprovedenvironmentalperformance;thusbothcostsavingsandpollutionreductionsneedtobedis-closed.Communities,ontheotherhand,valueinformationaboutthetypeofpollutionthatisproduced,howtheamountproducedcomparestothelimitsallowed,andhowhazardouswastesaremanaged.Thelikelihoodthattheenvironmentalinformationdesiredbycommunitieswillbeprovideddependsontheextentthatthemoreinfluentialandsupportivestakeholdersfeelthattheinformationiscommensurablewiththeirinterests.Ofcourse,ifeco-efficiencyisavalidparadigmthenenvironmentalresponsibilityandprofitabilityarenotzero-sumgames,thuselim-inatingmuchoralloftheconflictandmakingitmorelikelythattheinterestsofallstakeholderswillbeserved.

Themodelassumesacontinuousinteractionamongthefourmodelcomponents.Thisin-teractionoccursalongrouteL1.Alongthisroute,decisionsaremadeabouttheextenttowhich

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FIGURE6Eco-EfficientDecision-MakingFrameworkL2Stakeholders L1RegulatoryGuidance L1EnvironmentalManagementDecisionMakerCostManagementIntermediateOutcomes L1ProductionActionsL1Cost PollutionReductions ReductionsFirmValueL1 = route for everyday decision making.L2 = route for all stakeholder evaluation of outcomes.thefirmwillengageinenvironmentalmanagementgivenregulationsthatareinplace,thecostassociatedwithcompliance,andtheavailabilityofproductiontechnology.Asshown,thekeyaspectoftheframeworkisthedecisionmaker,whoisresponsibleforgathering,analyzing,andvaluinginformation.Moreover,themodelalsoassumesthatwhileonecomponentisnomoreimportantthananother,toignoreonewillhaveanegativeimpactonthevalueofallothers.RouteL2isusedtoevaluatetheintermediateeffectsproducedbythecontinuousinterac-tionsthatoccurinL1.Specifically,L2allowsstakeholderstooccasionallyassesswhethertheactionsemployedwithinthefirmhaveresultedincostandpollutionreductions.Theseinter-mediateoutcomesareimportantbecausetheyarepartofthefunctionthatdefinesfirmvalue.Therefore,iftheintermediateoutcomesarepositive,informationprovidedtothemarketindicatesthatenvironmentalmanagementhaspaidoffandthefirmisrewarded.Inaddition,internalman-agementviewsthispositivefeedbackasasignalthatstakeholdersaresatisfiedwiththestepsadoptedtoguideenvironmentalandeconomicperformanceandthus,useittoimprovesub-sequentperformance.Ofcourse,similarbutoppositeactionswouldfollowwhenthereisanindicationthatintermediateoutcomesarebelowacceptablelevels.Specifically,thefirmwouldbeinformedthatstakeholdersaredissatisfiedandwouldtakecorrectiveaction.AccountingandthePublicInterestVolume7,2007

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Themodelspresentedinthisstudyindicatethatenvironmentalmanagementmustinteractwithregulations,theavailabilityoftechnology,andcostmanagementtobeeffectiveinitspursuitofpollutionandcostreduction.Therealkeytothis,however,istounderstandhowcostsandenvironmentalimpactsareassociatedandhowthatrelationshipisaffectedbyregulationandthechoiceoftechnology.Assuch,itisimportantthatallenvironmentalactivitiesbeassignedacostandthatthesecostsbeevaluatedrelativetohowtheyreactinresponsetochangesmadeinregulationsandtechnology.Basedontheoutcomesemanatingfromsimilarapproachessuchasqualitymanagement,activitybasedcosting,andprocessvalueanalysis,itisnotunrealistictoassumethatgatheringandinterpretinginformationaboutenvironmentalcoststhatoccurthroughouttheorganizationcanbeakeytoprovidingtangiblebenefitstothedecisiontobeenvironmentallyresponsive.

Thediscussionsabovealsoindicatethatthereisroomforopportunitiestoreducepollutionwhilesimultaneouslyimprovingthevalueofthefirm.Todoso,however,requiresacoordinatedeffortonthepartofboththebusinesscommunityandlegislatorstounderstandtheneedsofeachandtoofferalternativesthatwillprovidegainsforeachparty.Centraltotheobjectiveofbothpartiesistounderstandthecostsbehindenvironmentalmanagementandhowthesecosts,andtheactivitiesthatproducethesecosts,canbecontrolledbytheadoptionofproactiveproductionprocessesthatarealignedwiththetotalenvironmentalcostfunction.Onthepartoflegislatures,thisrequiresregulationsthatmandateoutcomesratherthanprocedures.Inpart,thiswillrequireregulatorstodevelopabetterunderstandingofthetrendsintheprivatesectortowardadoptingproactiveenvironmentalmanagementsystems(Rondinelli2001).

Asourmodelsdepict,thesepoliciesshouldalsoseektoprivatizeatleastsomesocialcosts.Furthermore,policymandatescannotbedevoidoffiscalrepercussionsasnoncompliancemustinvolvetheassessmentofpenaltiesandfines.Accordingly,policyinitiativesoughttoconveyastrongandseriousmessagetofirmsthatthereisanexpectationthatstandardswillbemetbut,moreimportantly,firmswillbefreetopursueinnovativeactivitiesthatsimultaneouslyreducepollutionandcosts.

Likewise,thebusinesscommunitymustdoitspart.Specifically,firmsshoulddevelopmoreeffectivecostmanagementsystemsthatdoabetterjobofcapturingandreportingallenviron-mentalcosts.Intheshortrun,firmscanusetheinformationabouttheirenvironmentalcostfunctiontorespondtoexistingregulationinthemosteconomicalmanner.However,inthelongrun,firmscanprovidedatathatwillassistlegislatorsinunderstandingthefinancialimpactoftheregulationstheydraft,thefinancialconstraintscreatedbythem,andhowtheymayinhibitfirmsfromproducinganythingotherthanminimumcompliance.Together,thisinformationmightprovidesomeinsightandprovokeinquiryastohowactionstakenbythefirmwillaffectabroaderperspectiveonsustainabilitythatincludeseco-efficiencyandeco-justice.

Thereareseveralfruitfulextensionsofthisstudy.First,additionalempiricalanalysesoftherelationshipsidentifiedwouldbequiteuseful.Forinstance,moreresearchisneededconcerningregulationandhowitaffectstheabilityoffirmstoimproveenvironmentalperformance.AdditionalevidenceisespeciallyneededconcerningthetractabilityofthePorterhypothesis.Moreevidencesupportingthehypothesisisneededbeforemangersandregulatorsenthusiasticallymodifytheirenvironmentalpolicies.AdditionalevidenceismorelikelynowthatregulatoryagenciessuchastheEPAareemphasizingenvironmentaloutcomesmorethanspecificmethodstoachievetheoutcomes.Moreover,legislativemandatesarealsofocusingmoreonrequiringpollutionreduc-tion,ratherthanspellingouthowthisreductionistobeachieved.Byexaminingtheperformance

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