Greenwashing Risks in Environmental Quality Competition: Detection and Deterrence

The rising prevalence of greenwashing by firms has emerged as a major concern for regulatory authorities over the past decade. This paper examines the impact of regulation on firms' strategic decisions regarding greenwashing and environmental quality in an oligopolistic market. We model two firms that compete on environmental quality and greenwashing levels, operating under the oversight of a regulatory authority. The authority's policy instruments include a detection mechanism and fines imposed on firms engaging in greenwashing. Using a differential game-theoretical framework, we examine the effectiveness of regulatory interventions like detection and penalties in reducing greenwashing behavior and enhancing environmental quality. Additionally, we discuss the post-detection trajectories of both firms, providing insights into the effects on consumer perceptions and market competition. We find that while regulation can reduce greenwashing as expected, it may also reduce firms' environmental quality efforts. Indeed, when penalties are sufficiently high, the marginal returns on investment in greenwashing exceed those from actual green quality improvements.