The Limits of Limited Liability: Evidence from Industrial Pollution

The Limits of Limited Liability: Evidence from Industrial Pollution

Pat Akey, Ian Appel

Series number :

Serial Number: 
611/2019

Date posted :

July 05 2019

Last revised :

June 10 2020
SSRN Share

Keywords

  • Limited Liability • 
  • Industrial Pollution • 
  • moral hazard • 
  • Risk-shifting • 
  • investment

We study how parent liability for subsidiaries’ environmental cleanup costs affects industrial pollution and production. Our empirical setting exploits a Supreme Court decision that strengthened parent limited liability protection for some subsidiaries.

Using a difference-in-differences framework, we find that stronger liability protection for parents leads to a 5.9% increase in toxic emissions by subsidiaries. Evidence suggests the increase in pollution is driven by lower investment in abatement technologies rather than increased production. Cross-sectional tests suggest convexities associated with insolvency and executive compensation drive heterogeneous effects. Overall, our findings highlight the moral hazard problem associated with limited liability.

 

Published in

Published in: 
Publication Title: 
Journal of Finance, Forthcoming

Authors

Real name:
Pat Akey
Prof.
Real name:
Ian Appel
Boston College