Discretionary Exemptions from Environmental Regulation: Flexibility for Good or for Ill

We model firm and regulator behavior to examine theoretically the use and consequences of discretionary exemptions (also known as variances, waivers, or exceptions) in environmental regulation. Many laws, such as the Clean Water Act, impose limits on harmful activities yet include ``safety valve'' provisions giving the regulator discretion to grant full or partial exemptions that provide permanent or temporary relief. This discretion begets flexibility over the law’s de facto stringency. Our model places a profit-maximizing pollution discharger under the purview of a fully informed regulator who imposes discharge limits. We show that when a regulation is otherwise inflexible, an exemption that relaxes the limit for high cost firms can improve social welfare by reducing the costs of achieving a level of environmental quality. We further demonstrate that if abatement technology improves in effectiveness over time, a temporary exemption can increase social welfare by adjusting abatement in response to dynamic conditions. We also show that if the labor market is sticky, exemptions can ``create jobs.'' If a regulator is driven by an unequally weighted social welfare function, she can use exemptions to meet redistributive ends. However, these beneficial impacts of exemptions rely on a fully informed and benevolent regulator; otherwise, the discretionary nature of exemptions leaves them open to abuse. A regulator who is captured by industry, focused only on her jurisdiction, or answerable to a set of elites can abuse exemptions in ways that reduce social welfare, such as allowing inefficiently high pollution or inducing a cost-ineffective pattern of abatement.