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Abstract
Achieving high compliance rates in incentive-based agri-environmental schemes is an
important issue. This paper explores the use of a mixed penalty-reward approach under
heterogeneous compliance costs. Specifically, we examine the use of a “compliance
reward” under asymmetric information and output price uncertainty. Using a
budget-neutral approach, three possible sources of financing are considered: 1. funds
obtained by reducing monitoring effort; 2. the proceeds of fines collected from
participating farmers who are inspected and found not to be in compliance; and 3.
money saved by reducing the number of farmers enrolled. We discuss the advantages
and disadvantages of each source of funding and analyze them numerically for both
risk-neutral and risk-averse farmers. We show that under certain conditions a mixed
penalty-reward system can increase the likelihood of compliance without increasing
programme costs. For risk-averse farmers, however, conditions that ensure a positive
outcome from compliance rewards become more restrictive. The implications of these
findings are outlined for the future design of agri-environmental schemes with
reference to cost-share working lands programmes such as EQIP in the United States.