An increasing number of environmental protection programs offers financial compensation to farmers in exchange for conservation services. Incentive-compatible contracts can be designed to mitigate excess compensation, but the extant literature suggests that outcomes are always second-best so that other instruments (such as conservation auctions) may be preferred. We argue that the claim regarding the first-best solution never being incentive-compatible is correct if all conservation costs are variable in nature; if there are fixed costs too, the first-best compensation scheme may be incentive-compatible after all. Given the relevance of fixed costs in conservation issues, we conclude that incentive-compatible contracts should be given a second chance as a policy measure to induce conservation.
- Asymmetric information
- Mechanism design
- Payments for ecosystem services