Mechanism Design for Voluntary Supply Chain Responsibility Initiatives Bruce Paton San Francisco State University Greening of Industry Network Conference Cardiff, Wales July 2006

Voluntary Supply Chain Responsibility Initiatives: Definition Programs that commit firms to manage social and environmental conduct in their supply chains beyond legal requirements Programs that commit firms to manage social and environmental conduct in their supply chains beyond legal requirements

Key Dimensions Of Voluntary Supply Chain Responsibility Initiatives High uncertainty – allows proliferation of sweatshops and environmental abuses High uncertainty – allows proliferation of sweatshops and environmental abuses Growing consumer and business customer concern Growing consumer and business customer concern Verifying performance is costly and difficult Verifying performance is costly and difficult Strong price pressures driven by globalization and shift to Chinese production Strong price pressures driven by globalization and shift to Chinese production Weak institutional context for enforcement of laws and norms Weak institutional context for enforcement of laws and norms

Insights from Economic Literature on Mechanism Design Purpose: Achieve a socially desirable objective in the presence of private information Purpose: Achieve a socially desirable objective in the presence of private information Typical formulation: 1 regulator, 1 regulated party Typical formulation: 1 regulator, 1 regulated party Maximize social benefits Maximize social benefits Subject to: Participation constraints Incentive compatibility constraints

Mechanism Design for Voluntary Supply Chain Responsibility Initiatives Maximize economic value of trade Subject to: Participation Constraint: reasonable restrictions and monitoring requirements Participation Constraint: reasonable restrictions and monitoring requirements Incentive Compatibility Constraint: Verifiable protection against social and environmental abuses Incentive Compatibility Constraint: Verifiable protection against social and environmental abuses

Mechanism Design in Voluntary Supply Chain Responsibility Initiatives Complex social welfare function Complex social welfare function Many actors with different constraints Many actors with different constraints Government faces participation and incentive compatibility constraints Government faces participation and incentive compatibility constraints Government not credible unless they’re in it for the long term Government not credible unless they’re in it for the long term

A Preliminary List of Constraints ActorsParticipation Incentive compatibility National Governments budget from legislature, broad participation no relaxation of regulatory requirements Participating Firms limited scope, address relevant issues achievable goals NGOs $ for data collection, address relevant issues credible goals, measurable targets Local Governments address relevant issues, don’t constrain growth credible goals, measurable targets

MandatoryDiscretionary Emerging Existing Opportunity Matrix Structural Foundation Laws, Regulations Structural Frontier Collective Action Social Foundation Norms Expectations Social Pressures Strategic Frontier Differentiation

Key insights Participation and incentive compatibility constraints exist for all participants Participation and incentive compatibility constraints exist for all participants Identifying constraints in advance can anticipate problems and identify opportunities Identifying constraints in advance can anticipate problems and identify opportunities Constraints may not be obvious – may need to interview participants to identify them Constraints may not be obvious – may need to interview participants to identify them Participation has to have tangible and specific value to participants Participation has to have tangible and specific value to participants