Measuring Environmental Efficiency: Critical Issues and Solutions
31 Pages Posted: 25 Sep 2012 Last revised: 30 Nov 2012
Date Written: September 24, 2012
This paper reveals the unintended consequences of the two most widely cited and classical models for measuring environmental efficiency --- the hyperbolic efficiency model (HEM) and directional distance function (DDF). We prove the existence of three main problems: (1) these two models are not monotonic in undesirable outputs (i.e., a firm's efficiency may increase when polluting more, and vice versa), (2) strongly dominated firms may appear efficient, and (3) some firms' environmental efficiency scores may be computed against strongly dominated points. To address these problems, we propose a weighted additive model. We use the supply-chain carbon emission data from the 50 largest publicly traded U.S. manufacturing companies to compare the existing models with our model. The empirical results corroborate our analytical findings that these two classical models may generate spurious efficiency estimates and must be used with extreme caution, and that our model provides reliable estimates of environmental efficiencies.
Keywords: environmental efficiency, undesirable outputs, data envelopment analysis, greenhouse gas emissions
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