Reynaert, Mathias and Sallee, James “Who Benefits When Firms Game Corrective Policies?” (April 2018) (Revised version published in American Economic Journal: Economic Policy, 13(1), 372-412, 2021) | WP-289R
Firms sometimes comply with externality-correcting policies by gaming the measure that determines policy. This harms consumers by eroding information, but it benefits them when cost savings are passed through into prices. We develop a model that highlights this tension and use it to analyze gaming of automobile carbon emission ratings in the EU. We document startling increases in gaming using novel data. We then analyze the effects of gaming in calibrated simulations. Over a wide range of parameters, we find that pass through substantially outweighs information distortions; on net, consumers benefit from gaming, even when they are fooled by it.