Dynamic aspects of effluent taxation under uncertainty

The optimal adjustment process for an effluent charge is derived when the firm's response to the charge is uncertain. The optimal process is shown to exhibit the dual effects of caution and probing. Because of uncertainty, society should be risk averse or cautious when setting the charge. However, because of the possibility of generating information for improved future control, this caution is balanced by the incentive to probe for additional information. Finally, if the uncertain parameters of the firm's response function are nonautonomous, their change over time must be explicitly considered to avoid bias in estimation.