Environmental services auctions under regulatory threat

•Laboratory experiments explore strategic responses in procurement auctions when a threat of regulation is levied.•Strict and lenient regulatory environments are examined.•Auction efficiency improves under threatened regulation.•Adverse selection increases under threatened regulation.

This paper examines how strategic responses of bidders and efficiency properties are impacted in auctions for the procurement of environmental services when a threat of regulation is levied. Laboratory experiments reveal characteristics of bidder behavior in different regulatory environments. Experimental results provide insight into efficiency and equity tradeoffs inherent in regulatory policy applications with respect to environmental services auctions. While it is possible to reduce the amount of public funds necessary to purchase a given level of environmental services, adverse selection costs and equity considerations may outstrip the benefits gained from threat implementation.