Corporate Social Responsibility Under Imperfect Regulatory Oversight

Abstract: We study a model in which corporate social responsibility (CSR) arises endogenously in response to imperfect regulatory oversight. In our model, a firm, a regulator, and workers interact. The firm generates profits but creates negative spillovers that can be attenuated through regulation. A regulator who cannot perfectly monitor firm compliance may have to set inefficiently loose regulation in order to ensure firm compliance. The firm may then hire a socially responsible worker who enjoys over-complying with regulation and taking actions to ameliorate the negative spillovers; the firm then benefits by extracting rents created by allowing this worker to engage in CSR. The key prediction of our model is that a reduction in regulatory oversight leads to an increase in CSR. We test the model in two ways. Using UK data we find that firms on average had lower CSR ratings after the introduction of mandatory greenhouse gas emissions disclosures compared to firms from the other 15 European countries which did not have a mandatory disclosure policy in place. Using US data, we find that industries most hit by outsourcing and globalization are those that increase their CSR scores the most. Both sets of results support the predictions of the model.