Pitfalls and Opportunities in the Use of Market based Incentives for Biodiversity Conservation

2009·7.5 MB·English

by  Paul Morling

Journal ofthe Bombay Natural HistorySociety, 106(3), Sept-Dec 2009 263-276
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PITFALLS AND OPPORTUNITIES IN THE USE OF MARKET-BASED INCENTIVES
FOR BIODIVERSITY CONSERVATION
PaulMorling
'RoyalSocietyfortheProtectionofBirds,Sandy, UKSG192DL. Email:[email protected]
Market arrangements fail to capture the range of benefits provided by conservation because of their public goods
nature.Inconsequence,biodiversityisroutinelyundervaluedandoverexploited.Avarietyofinstrumentsandpayment
schemes have been developed to help finance conservation5.by capturing these non-marketed benefits. This paper
reviews market-based approaches identifying the salient features which determine their potential for improving
conservation finance.
Key words: Market-based Instrument, Payment for Ecosystem Services, biodiversity conservation, environmental
decision making
INTRODUCTION Demand enhancements and information disclosure,
such aseco-labelling, andcertification.
Market-based mechanisms have taken a respected The first and perhaps most important surrounding the
positionamongthetoolsforachievingbothconservationand use of market-based incentives is that, from an economic
broader environmental objectives. The title of the reports, perspective,environmentalproblemshavetraditionallybeen
“Harnessing Market Forces to Protect the explained as results of market failure or the absence of
Environment,” (Project88Conference 1989)and"Harnessing markets. The market failure perspective poses several
Markets for Biodiversity” (OECD 2001) are suggestive of questions that are not answered satisfactorily by the
the expectations placed on the power of market forces to conventionaleconomicapproachtoenvironmentalproblems.
achieveenvironmentalgoals. Othertitlesonthesubject,such • First, when and how is it possible to transform the
as “SilverBulletorFool’s Gold,” (Landell-Mills and Porras problem setting under interest so that quasi or real
2002) suggest that more circumspection is necessary before markets can be created where none existed before?
wholesale acceptance ofmarket-based mechanisms as tools • Second, what economic, distributive and governance
ofbiodiversity conservation. Market-based mechanisms are advantages or disadvantages do market-based
basedonthemarketforcesofsupply,demandandtrade.They instruments offer in comparison to government-
rely upon price-type signals and trading among agents centered regulatory solutions orpublic supply?
responding to economic opportunities, such as increased • Thirdly,whatisthefullrangeofmarket-basedsolutions
incomesorlowercosts.Instrumentsconsideredtobe“market- that are applicable forconservation?
based” include: • Fourthly, whatarethekey issuesthatdeterminewhich
market-based solutions can be expected to support
1. Price-based instruments, such as taxesforundesirable conservation?
behaviours, such as habitat degradation, pollution or Thepurposeofthispaperistoaddressthesequestions
species takes, fees, and penalties; andconsidertherolethatmarket-basedinstrumentscanplay
2. Price-based instruments, such as subsidies, to reward in achieving conservation objectives. While there certainly
desirablebehaviours,suchasmaintenanceoflandunder may be opportunities, there are also pitfalls that must
forest cover, debt-for-nature swaps and conservation be avoided in implementing these instruments for
easements; conservation.
3. Price-basedliabilityapproachessuchasdeposit-refunds
and performance bonds; 1. Market failure versus ecosystem services as the
4. Quantity-basedinstruments involvingmarketcreation basis ofconservation transforming the problem setting
and trading of responsibilities, such as wetland Conventional welfare economics suggests that
mitigation banks, carbon credits, fishing permits and environmentalproblemsarecausedbytheabsenceofmarkets
land development rights; orby marketfailures suchasexternalities, publicgoods,and
Paperreadatthe InternationalConferenceon ‘ConservingNature inaGlobalizing India' at Bengaluru; February 17-19. 2(X)9
PITFALLSAND OPPORTUNITIES IN THE USE OF MARKET-BASED INCENTIVES
imperfect information. This public goods element to 2005). A vast amount of more narrowly focused valuation
environmental problems has suffered from consistency research exists. However, natural systems should not be
problems. Somescholarshavedefinedpublicgoodsasgoods valued only in terms of the benefit streams they generate.
that are provided publicly, others have underlined the Naturalsystemsprovidelifesupportservicesandhave“glue
difficulty ofexcluding unauthorized users as theirhallmark, value”, because they constitute the infrastructure without
andstillothershaverightlyassociatedpublicgoodswithnon- which the provision of ecosystem services would not be
rival or joint consumption. The lack of excludability and possible (Turner etal. 2003).
rivalry inconsumptionprovides an incentive forconsumers Ecosystem services’ thinking has undoubtedly
tofree ride anddisincentivestopotential providers whoare broadened possibilities for supporting biodiversity
unable to exclude unauthorized users. From an efficiency conservation. Ecosystem service approaches are steadily
point of view, this results in too high or low level of an gaining currency in policy spheres with a numberofrecent
environmental impact or service, and a corresponding governance reforms being either directly underpinned by
suboptimal allocation of environmental resources. such an approach or compatible with it. For example, the
Conventional solutions have relied predominantly on EuropeanUnion’sHabitatsandWaterFrameworkDirectives
command and control measures or the public provision of createmulti-levelgovernancesolutionswithjurisdictionsthat
public goods. respect spatial aspects of the pertinent resources. These
Intermsofexternalities,conventional theoryportrays governance solutions also recognise a range ofusergroups
environmental problems as unwanted side-effects of andinvolvetheminplanninganddecision-makingprocesses.
otherwise beneficial economic activities. It then suggests a Thesupportofenvironmentalprotectionmeasuresunderthe
narrowrangeofgovernment-centeredpolicyresponsessuch European Common Agricultural Policy (CAP) in turn
asregulations,forgettingthatgovernmentinterventionisnot commissions ecosystem services from private providers.
alwaysneededtoresolveexternality problems ifagentscan These payments forthe provisionofecosystemservicesare
bargainwithoneanother(Coase 1960;Cheung 1973).There notsubsidies:theyarepricespaidfortheprovisionofservices
is evidence that manyjointly consumed or high exclusion to private providers, who own and control environmental
costgoodshavesuccessfullybeenprovidedprivately(Coase assets such as forests, pastures, oragricultural land.
1974) orcommunally (Ostrom 1990). Therefore, there may In recent years, lack of information or information
exist alternative working governance solutions which have asymmetriesbetweenpotentialmarketparticipantshascome
been overlooked by the dominant policy paradigm. toseenasafurtherreasonformissingorinefficientmarkets.
Analternativeframeworkforaddressingenvironment/ Formarketstodevelopinconservationrelatedservices,one
economic interactions stemsfromtheviewthatbiodiversity setofrequiredinformationisunderstandingthefunctioning
andecosystemservicesplayafundamentalroleinsustaining ofecosystems andecosystemservices, theirdependenceon
allhumanactivity,andthatwell-functioningecosystemsare landcoveroruseandmetricsformeasuringservicedelivery
germane to human welfare. The concept of ecosystem over baselines. Recognition, and identification, and better
services has its roots in ecology, but many ecological scientificunderstandingofecosystemserviceshavetherefore
economists have made it astarting point fortheireconomic ledtomorevoluntary,Coasiantypebargains,betweenprivate
analysis. Ecosystemservicescanbedefinedas“thebenefits parties.
humans receive, directly or indirectly, from ecosystems” Nestle, whichowns the natural mineral watersources
(Costanza et al. 1997; Farber et al. 2006) or as “the end ofVittelinFrance,protectedthespringcatchmentarea,which
products ofnature that yield human well-being” (Boyd and hadbeen intensively farmed(withresulting nutrientrun-off
Banzhaf 2005). Ecosystem services are generated by and pesticide residues), by purchasing and reforesting the
ecosystemfunctions,suchasregulation,habitat, production catchment. Itfurtherreducednon-pointpollutionbysigning
andinformation,whichinturnareunderpinnedbyecosystem 18-to-30-year contracts with the local farmers to reduce
structures and processes (de Grootetal. 2002). nitrate pollution (The Economist 2005). In 1998, a
Ecosystem services are of unquestionable economic hydroelectricity company signed a voluntary agreement to
relevance. Costanza et al. (1997) have estimated that the pay a local NGO, the Monteverde Conservation league for
valueoftheworld’secosystemservicesisatleast$33trillion the water-based services provided by the forest they own
annually. Balmford et al. (2002) have demonstrated that (Reyes et al. 2002). In the Philippines, a hydroelectric
natureconservationoftengenerateshighereconomicreturns company also provides incentives to local communities for
than intensive use of natural systems, which entails their reforestation of a water catchment (Mero 2002).
conversion (Turner et al. 2003; Naidoo and Adamowicz Conservation easements and land trusts are also examples
264 J. Bombay Nat. Hist. Soc., 106 (3), Sept-Dec 2009
PITFALLSAND OPPORTUNITIES IN THE USE OF MARKET-BASED INCENTIVES
of self-organized private deals between organizations and (Stavins2001). Somehavearguedthatcommand-and-control
landowners whereby a conservation or protection regulations are not necessarily worse in this respect and
2.
arrangementis privately negotiated and purchased. caution against a blanket prescription for market-based
approaches(PorterandvanLinde 1995).Someauthorsargue
What economic, distributive, and governance that such approaches are more suited for the institutional
advantages or disadvantages do market-based contextofmodem nations, ratherthan developing countries
instruments offer in comparison to conventional (Russell and Powell 1996).
government-centered solutions such as regulation and The choice of instrument type is often a matter of
public supply? distributivejustice. For example, many agri-environmental
The choice of governance and institutional schemesrecognizetransferableentitlementsoffarmerswhile
arrangements in the management or delivery of services industrial polluters are oftenregulated.The latteroften have
affirmsorredefinesentitlementstoenvironmentalresources, marketpowerwhichenablesthemtosharecostsofimproved
and has thus both efficiency and distributive consequences. environmental protection with their customers by raising
Choices between different instruments for biodiversity prices. Farmers have a far weaker position to do so in the
conservation are primarily about the distribution of wealth marketsforagriculturalproduce,soaremorecost-conscious.
and income, and about the realization of sought-after Distributivejustice is an importantissue forconservation of
conservationoutcomes. biodiversity in both the developing and developed world. If
Characterizationsofenvironmentalpolicyinstruments the costs and benefits conservation accrue unevenly to
commonly distinguish between “command and control” differentgroups,thoseleftwiththecostsarehardlymotivated
measures and “market-based” measures. Command and to contribute to conservation.
control measures include a wide range of environmental Adisadvantageofmarket-basedinstrumentsisthatthey
regulations, binding environmental plans, and procedural arenotgoodinguardingagainstirreversibilitiesordangerous
requirements. outcomes. It is noteworthy, however, that regulatory
The common feature of both categories of policy restrictions on activities and market-based instruments can
instrument is the creation of entitlements to ecosystems or be complementary. Forexample, restrictions can be used to
ecosystem services. Environmental regulations are often prevent irreversible and dangerous outcomes, like safe-
viewedpurely as constraints butthey docreate entitlements minimum standards, and market-based instruments can be
(albeit non-transferable ones). Regulations that prohibit the usedtoinduceeffectiveoutcomesthatgobeyondtheselimits.
useofsubstancessuchasDDT,orthetakingofanendangered
species, create the entitlement to be free from the adverse 3.Thefullrangeofmarket-basedinstrumentsapplicable
consequences of these actions. Similarly, the conditions of forconservationinstruments
pollutionpermitsissuedundertheUS'sCleanWaterAct,vest Table 1 provides a summary of policy instruments
in the polluter conditioned entitlements to the capacity of conventionally deemed tobe market-based.
watercoursestoassimilatewastes. Suchentitlementsareless
explicitthaninthesphereofmarket-basedinstrumentswhere 4. Price-based instruments, such as taxes, fees, and
there has been a better understanding of how they create penalties,forundesirable behaviours
transferable entitlements, which facilitate theirexchange. These incentives have incommonthe factthat there is
Conventionalwisdomhasitthatcomparedtocommand some“price”placedonanundesirableordesirablebehaviour.
andcontrolmeasures,market-basedinstrumentsarebetterat There maybe legal distinctions betweentaxes and fees, fees
achieving environmental objectives at lower cost to both interpretedasapriceforservices“received."Howandwhere
industry and society. This is due to the ability to transfer taxes or fees can be levied depends on statutory orjudicial
responsibilities across parties, as in the case of tradable requirements. Penaltiesarea“price”placedonproscribedor
permits, and the incentives created by some instruments for prohibitedbehaviours,andarepunishmentsforviolating,for
parties to reduce environmental management costs through example, legal responsibilities.
introduction ofbetter technologies and practices. Evidence
from pollution control programs supports this view. The US 4.1 Opportunities related to taxes, fees and penalties
AcidRainprogramusedatradingschemetoreduceemissions These pricing instruments may be effective in
of sulphur dioxide. The resulting market was estimated to circumstances where there is clearly something to place a
haveresultedincostsavingsof$1 billionannuallycompared priceon and wherepaymentsarecollectable.Thus, themost
totheexpectedcostsunderacommandandcontrol approach commonlyusedprice-basedconservationrelatedinstruments
J. Bombay Nat. Hist. Soc., 106 (3), Sept-Dec 2009 265
PITFALLSAND OPPORTUNITIES IN THE USE OF MARKET-BASED INCENTIVES
Table 1: Summaryof policyinstrumentsconventionallydeemedtobe market-based
Type Instrument Definition
Price-based instrumentsforundesirable behaviours Direct acompulsory unrequited payment not
proportional tothegood orservice received in
return forthatpayment.
Fees Price paid in remunerationforspecificservices.
Penalties
Input/outputtaxes
Price-based instrumentsto reward desirable behaviours Subsidies an unrequited current paymentforprovision ofa
good orservice.
Indirectfiscal fiscal incentivessuch astaxexemptions, capital
grants, priceguaranteesandthe provision of
cheapcredit.
Paymentfor Avoluntarytransaction inwhich an
ecosystem services environmental service is boughtbya minimum
ofone service buyerwho, in return,
compensatesa minimum ofoneservice provider,
ifand only ifthe providersecuresthatservice.
Conservationeasements Alegal agreementbetweenalandownerand
anotherentity, thatpermanentlylimits land uses
ofthe propertyin orderto protectconservation
values.
Auctions Competitivetendering process.
Price-based liabilityapproaches Deposit refunds Monetarydeposits paid byconsumersatthetime
ofpurchase and returnablewhen items are
returned.
Performance bonds Deposits requiredfrom extractive industries
refundable ifthepayerfulfilscertainobligations.
Quantity-based instruments Capand Trade Markets inwhich established rightsorallowances
can be exchanged.
Biodiversityoffsets Conservation actions intendedtocompensatefor
the residual, unavoidable harm tobiodiversity
caused bydevelopmentprojects, soastoensure
‘no net loss’ofbiodiversity.
Tradabledevelopment Rightstodevelop inconservation areasthatcan
rights be sold fordevelopment rightsoutside a
restricted area.
IndividualTradable Output/productioncontrolsthatassign exclusive
Quotas individual rightsto harvestspecific portionsofan
overall natural resource quota.
Product-based instruments Ecolabels Information systemsforconsumerproducts
confirming the product has been produced in
accordancewithcertain environmental standards
Certification Processofcertifyingclaims made in relationto
environmental standards.
includehunting,loggingandfishinglicenses,timberharvest some developing countries although experiences with them
taxes, export and import fees fortraded flora and fauna, and have notalwaysbeenencouraging(Kimetal. 2006).Timber
protected area user fees. Timber harvest taxes are used in harvest taxes should be based upon the full costs oflogging
266 J. Bombay Nat. Hist. Soc., 106 (3), Sept-Dec 2009
PITFALLSAND OPPORTUNITIES IN THE USE OF MARKET-BASED INCENTIVES
activities,otherwisetherewillbetoomuchtimberharvested price of hotel rooms, some of which is earmarked for
relative to other uses of resources. These costs include not conservation. Fees are one ofthe easiest and most common
only direct logging costs, but also the costs ofopportunities price-basedinstrumentsforcapturingwillingnesstopayand
foregone,whichmayincludetheecosystemserviceslostwith may cover access to protected areas or associated activities
forestconversion(Yaron2001).Withforestry,taxestoreduce related to conservation (photography permits). Evidence
harvestingcouldresultinawiderangeofecologicalbenefits suggest that fees charged do not always fully cover the
in addition to just limiting biomass removal. Setting such 4w.i2llingnesstopayoftouristsattractedbynature(Naidooand
taxes in a non-arbitrary manneris the key to using taxes for Adamowicz 2005)
conservation. Knowing the ecological impacts of timber
harvests,andevaluatingthoseimpactsineconomictermswill Pitfalls
be an important element in implementing such a tax. 4.2.1 Failure todefineandassignproperty rights
Taxes are useful in resource use cases, where the A critical requirement for price-based instruments is
behaviourisobservable,thereissomethingtotax,thereisan thatthepropertyrightsassociatedwiththe“goodorservice”
identifiable agent to tax and property rights can be clearly beingpricedarewell-establishedandenforced. Forexample,
established. Ifobservationisdifficult,punitivepenaltiesmay setting a price on the degradation ofwetlands will have no
be the only meaningful deterrent, where penalties are set so meaningifthereisconfusionaboutwho“owns”thewetlands.
highthattheyareextremelyonerousifone iscaught. Higher Thegoodorservicethatispricedmustbeclear, itsunitswell
penalties must offset the higher likelihood that one will not measurable,andtherightswell-established.Theseinstruments
be caught. Ofcourse, the functioning oftaxes is predicated willnotworkwellwheretheinstitutionsorculturalconditions
on state capacity to collect taxes and to keep corruption at are not conducive to establishing and accepting the concept
bay. ofproperty rights.
Taxes have been used in several developed countries
such as the Netherlands, Sweden, and the United States to 4.2.2 Behaviourmusthe observableandenforceable
control nitrogen discharges from agricultural non-point One precondition for the success of price-based
sources. The primary motivations were to protect water approaches is that the behaviour be observable and capable
quality and human health by such taxes, and also enhance ofbeingmonitored.Thisisnotalwaysthecase;forexample,
riparianenvironments. Generally,aninstrumentwillbemore intheenforcementofconservationeasementsinremoteareas,
efficient thecloseritisappliedtotheenvironmentaldamage or penalties for prohibited species takes or harvesting
but input taxes can be attractive instruments for controlling behaviour. Enforcement may be formal, such as monitoring
discharges from numerous non-point sources, because they by aresource agency, orinformal, such aswatchfulcitizens.
entail lower monitoring and enforcement costs than other The inability to adequately observe behaviour can lead to
instruments,suchastechnologicalrequirements. InSweden, selfinterested agents avoiding compliance with contractual
a tax of0.2 Euros or about $ 0.25 per kilogram ofnitrogen obligations. It can also lead to perverse effects such as the
has reduced nitrogen utilization in agriculture by about 10 incentivetodestroyanendangeredspeciesorhabitatonone’s
per cent (OECD 2001). Similar taxes have been introduced propertybeforeitisdiscovered(PolaskyandDoremus 1998;
forpesticides. Although not common in developing country LueckandMichael2003).Developingcountries,inparticular,
contexts, input taxes may have potential because they are mayhavedifficulty incollectingtaxesorfees,andenforcing
relatively easy to implement with limited informational and compliance with aprice-basedconservation system.
institutional demands.
It is conceivable that the external costs of loss of 4.2.3 Price incentives are most effective the more directly
biodiversity,associatedwithclearingnativevegetationcould relatedto the undesirable behaviour
besubjecttotaxbuttodate,suchtaxationhasnotbeendirectly The successofthese incentives alsodepends upon the
associated withconservation. extenttowhichthe“price”isdirectlyrelatedtotheundesirable
The tax system can be used to notionally capture behaviour.Whileitmaybemoreadministrativelyconvenient
willingness to pay for conservation in addition to making to levy the price on one behaviour, if this is not highly
polluterspayfordamage. Belizechargesatouristtaxof$3.75 correlated with the undesirable behaviour, incentives are
foreachpassengerarrivingincountrybyplaneorcruiseship, reduced and the instrument less effective. For example,
with the proceeds going to a national conservation trust that suppose the sole conservation objective is to protect an
supports protected areas and other conservation activities. endangered species from capture by humans; then a penalty
Costa Rica and othercountries impose a tourism tax on the leviedonharmorharassmentofaspecieswouldbethe most
J. Bombay Nat. Hist. Soc., 106 (3), Sept-Dec 2009 267
PITFALLSAND OPPORTUNITIES IN THE USE OF MARKET-BASED INCENTIVES
directinstrument. But supposeit isdifficultorimpossible to proscribingorprohibitingwetlandsdegradationmaybemore
measurespeciesharmdirectly.Asecond-bestinstrumentmay effective thanusingpricing instrumentstoensurebehaviour
be a penalty for degradation ofhabitat associated with that commensurate with the required habitatextent.
species. This may still allow an agent to take the species by If pricing is based upon the benefits lost from some
hunting even when the associated habitat remains undesirable behaviour, a measure ofthese benefits must be
undisturbed. established. Forexample, we mustknow the marginal value
ofwetlands servicesbeforewecansetabenefits-basedprice
4.2.4 Price incentives must be set at theproper margins of on behaviours that degrade those services. This may not be
behaviour simple. It may be easierto establish the cost to an agent for
Price incentivesmustalsobeonthepropermarginsof notengaging inthe undesirablebehaviour, suggestingthat a
behaviourtocompelagentstorespondinadesirablemanner. cost-based price wouldbe administrativelyeasier.
For example, setting land development fees at a fixed rate When enforcement is uncertain, it is reasonable to
independent of the level of land conversion creates fewer consider setting prices at higher levels to account for the
conservation incentives compared to a fee based on the uncertainty. For example, suppose we wanted agents to
amount of conversion. This is the same issue faced in effectively incorporate a price of $100 into their decision
designing fees for water use; a fixed fee may not induce calculus before deciding to engage in some undesirable
consumersandfirmstocutbackonwateruse.Thedownside behaviour,suchasdumpingwastesintostreams.Butsuppose
to pricing on the proper margins ofbehaviour is that agents thereisonlya 10 percentchancethatsuchbehaviourwillbe
mayattempttoavoidthe leviesthrough undesirable actions; observedbytheenforcers.Thensettingapriceof$1000would
e.g.,illegalhabitatconversionorwatertheft. So,enforcement result in an expected price of $100 (10% x $1000). This is
of the levies may require observing both legal and illegal one of the arguments to assigning punitive damages; that
behaviours. enforcement is uncertain and it signals to other agents that
the price oftheir undesirable behaviour will be high ifthey
4.2.5 Pricesmustbe setatthe correctlevels are caught. In this example, actual damages would be only
Settingpricesatthecorrectlevelisanotherprecondition $100, but the punitive damages would be $900.
forsuccess. Ingeneral,ifwewanttoseebehaviouratacertain
level, such as anumberofacresremaining undeveloped, we 4.2.6 Uncertaintyaboutexpectedbenefits
must know what the cost ofthat behaviour is for agents in Another basis ofpricing ofbehaviours is the benefits
terms ofthe benefits foregone from not pursing alternative we expect to obtain when that behaviour is avoided. Under
options. Then the prices must be set at a level somewhat in this interpretation, if the benefit of avoiding dumping into
excessofthatcost. Ifthepriceissettoolow, itischeaperfor streamsis $100, then settingthe priceat$100at leastallows
theagenttopaythetax,fee,orpenalty, than toengage inthe recoupingofdamages. But ifwe do notknow these benefits
behaviour we seek to achieve. Forexample, ifa landowner ortheycannotbeevaluatedinmonetaryunits,whichisoften
can obtain an additional income of$100 from some activity the case, then setting a price based on benefits received is
we would liketodiscourage, apriceofat least$100mustbe problematic. In such cases, reverting to prescriptive or
leviedtodiscouragethatbehaviour. Unfortunately,wecannot proscriptiverules, such aspermitsormandatedactions, may
always know these costs to agents. The more uncertain we be prudent.
are about agent costs, the more likely it is that prices will
have to be altered to achieve acceptable outcomes. This 4.2.7Agentsmustbe responsive to thepricing instrument
problem arises because of imperfect information about the Another precondition for using these pricing
opportunity costs agents face and compounded by the fact instruments is that agents are responsive to these prices. It
that agents, whose behaviour we seek to change, may face may be that agents are not highly rational, or do not make
very different opportunity costs for undertaking the same decisionsbaseduponthesamecostsandbenefitsunitsasthe
actions. Auction mechanisms are one means of addressing prices. While pricing is perfectly general, i.e., the price can
this informational asymmetry. If there is considerable be monetary, ortime, orchickens, etc., the prices may be in
likelihood that some behaviour could be especially units that do not stimulate behaviour. The prices must have
deleterious, it may be more useful to simply proscribe the meaning. Monetary prices in a culture that is not highly
behaviourratherthan usethemoresubtlepricinginstrument. monetized, or market oriented, may not be very effective.
An example would be ifit isabsolutelycritical tomaintain a Also,theremaybesocialreluctancetoacceptpricesforthings
givenareaofwetlandsforacriticalconservationgoal.Directly that were traditionally free.
268 J. Bombay Nat. Hist. Soc., 106 (3), Sept-Dec 2009
PITFALLSAND OPPORTUNITIES IN THE USE OF MARKET-BASED INCENTIVES
4.2.8 Inadvertentdistributionalconsequences Subsidies and payments may also be the most useful
Suchprice-basedmechanismsconformwiththepolluter instrument when equity issues dominate a conservation
pays principle with the statutory incidence ofthe tax falling objective. In many instances, conservation requires afew to
on the polluter. The economic incidence ofthe tax may not. bearthecoststhatbenefitmany.Ifthiscircumstanceisviewed
Depending in part on the elasticity ofdemand forthe goods as too unfair, giving asubsidy may be more acceptable than
or services incurring the tax, businesses can pass on the tax a tax, fee or penalty. This may be particularly important in
intheformofhigherpricesforbuyers,lowerwagestoworkers agriculture, as farmers are often viewed as being marginal
orlowerreturns to investors. economicenterprises.
Subsidy programs may offset costs to agents of
5. Payments and Subsidies engaging inconservation activities. Subsidies maybe in the
Subsidies or payments forecosystem services are the form oftax deductions orcoverage ofcosts. Forexample, a
opposite of taxes, fees and penalties, and place prices on Brazilian program, ICMS Ecologico, awards a share of
desirable behaviours. There is an important distinction nationalsalestaxcollectionstomunicipalitiesiftheyengage
between the twoinstruments. Apaymentfora service sets a in programs to establish restricted areas (Grieg-Gran 2000).
priceontheservice,andagentscandecidewhethertheywish This is presumably to offset the costs in lost revenues to
to “sell” that service. Asubsidy represents compensation to municipalitiesfromrestrictionsonlanduseanddevelopment.
anagentforengaginginadesirableactivity;thecompensation Ontario, Canada, has a tax incentive program for land
can be direct or indirect, as in the case of tax breaks. The conservation,wherebylandownerscanreceive 100%property
“pay for service” may have a different image to the public taxreliefforpreservinglandinacceptablecondition.Eligible
than the “subsidy for an activity.” While subsidies are landsincludeprovincially“significant”wetlands,habitatsfor
sometimes the cause of conservation problems, such as endangeredspecies,andlandsofnaturalandscientificinterest.
subsidies to the fishing industry that result in over-fishing (http://www.mnr.gov.on.ca/MNR/cltip/).
(Myers and Kent 2001; Fujita et al. 2004) or agricultural The Environmental Stewardship program in England
subsidiesthatresultinoveruseofland, theycanalsobe used is a good example of a payment scheme (http://
toachieveenvironmentalobjectives. Paymentsforecosystem www.defra.gov.uk/erdp/schemes/es/default.htm). Farmers
services, where“producers”ofenvironmentalservices(e.g., receivepaymentsperhectareinreturnforacceptingapackage
landholders whose forested land filters water) are ofmanagementmeasures.Eachmanagementoptionreceives
compensatedby“consumers”(e.g.,downstreamwaterusers), a numberofpoints, and the farmeris then paid basedon the
are one such rapidly emerging mechanism. Despite their numberofaccumulatedpoints. Pointscanbe awardedbased
increasingpopularity, theseinstrumentsdohavepitfallsthat upon national or local significance and priorities. Since the
need careful consideration. Payment systems include both program began in 2006, over 3 million hectares have been
fixed prices as well as auction-based prices. enrolledwith23,000agreementsandover£105 millionhave
been paid.
5.1 Opportunities related to subsidies andpayments Indevelopingnationswithweakregulatoryandtaxation
Subsidies and payments may be more effective than systems, paying for ecosystem conservation may be one of
taxes, fees, orpenalties in certain instances. Forexample, if the most effective ways to achieve conservation goals. The
anagenthastherighttoanactivity,suchastherighttodevelop best known ecosystem service payment system outside of
land, subsidies or payments may be the only price-based high-income nations is the one established by Costa Rica in
instrument available to deter that activity under the initial 1995. The scheme was designed to enhance and sustain
assignment ofproperty rights. This may be necessary in the forestedecosystemservices,includingcarbonsequestration,
case ofspeciesprotection, asthe legal battlesinthe US over biodiversity, watershed management, and landscape beauty.
the Endangered SpeciesAct suggest. Paying people to save The program pays landowners US$202/ha for forest
species rather than penalizing them ifthey do not may be a protection, US$314/ha for sustainable forest management,
useful, albeitexpensive, solution(Jenkinsetal. 2004).Also, and US$516/ha forreforestation (Miranda etal. 2004) fora
compensating persons who have been harmed as a result of contracted five years of protection. The state’s National
conservation programs, such as farmers whose crops are Forestry Finance Fund (FONAF1FO) purchases these
damaged by preserving elephant herds, would increase the services,thensellsthemtointerestedbuyers. Forexample,it
likelihoodofharmedpartiesagreeingtotheprograms. Itmay maysellcarbonsequestrationcreditstointernationalbuyers,
be less costly simply to pay agents to do something rather watershedmanagementcreditstonationalhydroelectricutility
than face what may be protracted legal costs. companies. So it is a hybrid purchase and trading program.
J. Bombay Nat. Hist. Soc., 106 (3), Sept-Dec 2009 269
PITFALLSAND OPPORTUNITIES IN THE USE OF MARKET-BASED INCENTIVES
where the state is the trading agent. argument that government intervention may not always be
Literatureoninformationeconomicshasforcedpolicy necessary to manage externalities.
makers to reassess policy mechanisms employed for many Both public sponsored and self organized deals have
policy problems andhas led to increasing interest in auction also created markets based on the establishmentofproperty
basedapproachesforpubliclyfundedbiodiversity programs rights and the environmental aspects ofassets, such as non-
ratherthanfixedpriceapproaches(Stonehametal. 2003). In developedstateofland. Developmentrightsandotherrights
negotiating biodiversity contracts, the conservation agency can be distinguished from other property rights and traded
and potential participant will have varying information separately by using, forexample, conservation easements.
regarding the ecological worth of landholdings and on the Landtrustsandconservationeasementsarewidelyused
opportunitycostsofconservation.Auctionscanhelpaddress in the United States and elsewhere to pursue conservation
this information asymmetry and potentially achieve greater goals. Land trusts purchase land for conservation or buy
conservation outcomes at lower cost than fixed payment developmentrightsorconservationeasementsonlandwhich
schemes. The Australian Catchment Care program is an remains in external ownership. In Indiana, Sycamore Land
example of such an auction-based scheme to achieve cost- Trust has been one flexible tool for attaining local
effective natural resource management actions (http:// conservationgoalswithouttheinvolvementofthestate(York
www.napswq.gov.au/mbi/roundl/project26.html). In this et al. 2006) and land trusts have also been used in the
recentlydevelopedprogram, landholdersbidforcontractsto Mountain West for landscape and open space preservation
establish conservation activities. These activities are scored (Booth 2002). However, land trusts allocate the costs of
onthebasesofenvironmental valueandthreats.Thescoreis conservation to the public, which means that availability of
then related to the proposed landholder cost; and proposed funds will curtail the volume ofconservation. Enforcement
contracts are ranked on a cost-effective basis. Contracts are ofeasementsinthecourtscanalsobecostlyandthecontinuity
established for the most cost-effective bids until funds are of land trust depends on private donations. There is also a
exhausted or a reservation cost-effective price is reached. possibility ofconflict between local and widerconservation
A full trial of the scheme was run in a watershed, where goals and priorities.
29 bids were submitted, and 17 were selected forfunding. Tradable developmentrights may be useful toachieve
Anotherexampleofanauction-basedpaymentscheme land-based conservation objectives. The initial assignment
is the Bush Tender program in Australia (http:// ofrights is critical to the acceptability ofthis instrument, as
www.ecosystemservicesproject.org/html/publications/docs/ is the question of who can buy these rights. Trading rules
Intro_to_MBIs_2005.pdf).Farmersproposedbidsforprojects must be well-defined and administered, as these rights may
thatwerethenrankedbytheirbiodiversitybenefits.Winning be economically meaningful and contentious assets. These
bids were then selected based on their cost-effectiveness. rightsmaybeeitherintheformoftradablerightstodevelop,
Analysisoftheprogramconcludedthattheauctionapproach orasdevelopment “reduction"credits. Conservationgroups
delivered 25% more native vegetation forthe same cost as a maybegiventherighttopurchase.Asinthecaseofall these
grantsscheme. market-based instruments, monitoring and enforcement are
Theauction-basedpaymentschemesareusefulasthey critical tosuccess.Assuringthatdevelopmentdoesnotoccur
utilize competitive forces to achieve the most cost-effective where proscribed may not be easy. For example, Brazil is
conservation goals. However, they are administratively allowing such trading under its general rule that requires
complexandrequiremeasurementsofconservationoutcomes, landowners in the Amazon forest to maintain half of their
a task that may not be simple, depending on the outcomes land in forest (Jenkins etal. 2004).
desired. Useful measuresofoutcomesrequire morethanjust
measuresofland area impacted. 5.2 Pitfalls related to subsidies and payments
Payment schemes are not limited to government 5.2.1 Property rightsmustbe well-defined
sponsored programs. Private agents may have sufficient Alteringbehaviouriscostlyandthesecostsarethesame
incentives to pay for services useful to them. As noted, the to society whether subsidies (payments) or taxes (fees and
Perrier-Vittelcompany,whichsellsbottledwater,hasfinanced penalties)are usedtoalterbehaviour.Thetypeofpriceused,
reforestation and is working with farmers to develop less subsidy or tax, defines property rights in status quo and
polluting management practices (The Economist 2005). In determines who bears the cost of that change. Taxes leave
SouthAfrica,aprivateecotourismcompany,Conscorp,pays thecosttoprivate agent while subsidiesredistribute thecost
landowners to restore farmlands and stock them with native in part or in whole to the public. The argument for just
wildlife (Heal 1998). These are good examples of Coase’s compensation intakingsisalsobasedonthefairnessissueof
270 J. Bombay Nat. Hist. Soc.( 106 (3), Sept-Dec 2009
PITFALLSAND OPPORTUNITIES IN THE USE OF MARKET-BASED INCENTIVES
who should bearthe costofan action. enforcement ofthese conditions. In many cases monitoring
ofcomplianceandenforcementarecostly, whichmeansthat
5.2.2 Politicaldifficulties implementation and outcomes can fall short ofthe goals.
Subsidies may face political difficulties, as they may
be viewed as paying agents to do something they should 6. Deposit refund instruments
already be doing according to local norms or customs. For Deposit-refund instruments are specialized types of
example,payingsomeonetostopusinglandinacertainway pricing instruments. Typically, a deposit is paid up front for
maybeseenasimplicitlysanctioningausethatwasformerly an item or action, and a refund is given upon completion of
taboo. Payments for actions may be viewed as more some desirable action, such as return ofthe item ormeeting
acceptable; even the terms “subsidy” and “payment” have someactioncriterion. Performancebondsrequireanup-front
different connotations. liability and, ifthe terms ofenvironmental management are
satisfied, the liability disappears.
5.2.3 Financiallimitations
Subsidiesandpaymentsrequirefundstofinanceorcan 6.1 Opportunities relatedto depositrefund instruments
result in the loss ofgovernment revenues in the case oftax Deposit-refundsonhazardousmaterials,suchasoiland
breaks.Financiallimitationsmayrestricttheuseofsubsidies. batteries can be helpful in reducing disposal risks and can
thereforehaveaminorroletoplayinenhancingconservation.
5.2.4 Permanence ofoutcome Performance bonds can play a more important role in
Related to financial limitations is the issue of achieving conservation or remediation objectives. These
permanence, a factor which must be considered when bonds are used in the US to secure funds to meet surface
assessing appropriate mechanisms for biodiversity or miningreclamationrequirements.TheminingcompanyGold
ecosystemservices.Assumeafarmerispaid,throughauction Field’s 2003 Annual Report noting that in Ghana, it funds
orsubsidy, to fence offa stretch ofnative vegetation. When environmentalrehabilitationcostsbypostingaUS$3million
payments cease, she allows her cattle to graze the area, so reclamation bond, while in Australia, it guarantees its
thatmostofthebenefitsofbiodiversityconservationwillbe environmental obligations by providing the western
lost. With water quality, in contrast, the benefits from the Australian governmentwith unconditional bank-guaranteed
service of water purification will have been enjoyed performance bonds to the amount of AUS$12.3 million.
throughout the contract. Whether such bonds are large enough, or remediation
objectives are actually met are serious questions for the use
5.2.5 Perverse incentives ofthese instruments. Forexample, the state ofPennsylvania
Subsidiesandpaymentscancreateperverseincentives. has had mining reclamation bonds in place for a long time,
Asubsidyorpaymenttoavoidanactivitymayinduceagents butthecostsofacidminedrainageremediationhavedwarfed
toengageinmoreofthatactivity. Forexample,payingagents the bond fund, leaving the citizens of the state with major
toceasepollutingastreammaycausethemtowanttoincrease unfundedcleanupcosts. Bondscouldbeusedtoassureproper
proposed discharges in order to obtain higher subsidy timberpractices,asapre-conditionforwetlandsdevelopment
payments. Subsidiesandpaymentsmayalsoencourageentry oras a condition forreceiving afishing permit.
and delay exit from an industry, exacerbating the original
conservation issue. This latter issue is most likely to be a 6.2 Pitfalls related to deposit refund instruments
problemwhenthemostinefficientfirms/farmersarealsothe 6.2.1 Certifiability
mostenvironmentallydamaging. Pre-conditions for success of this instrument include
certifiability that a deposit was paid on the items or actions
5.2.5 Equityconsiderations for which refunds are claimed, and that the items or actions
In the Costa Rican example above, it is only farmers areasclaimed.Thisisaproblem,forexample,intherecycling
withpropertyrightstolandwhocanbepaidforconservation. ofusedoil;thereturnedoilcanbecontaminatedorpurchased
5.2.6 Costsofmonitoring andenforcement where deposits were not required. It is a problem with
Payments and subsidies are paid for taking specific performance requirements forecosystem restoration; a long
actions,suchasadheringtoaspecificlandmanagementplan, monitoring period may be necessary to assess whether
building storage capacity for manure, or setting land aside performancecriteriaaremet.Suchalongtimeperiodmaybe
from cultivation. Their effectiveness depends on the ability financially orpolitically unacceptable.
tomonitorcompliancewithapplicableconditionsandonthe
1 Bombay Nat. Hist. Soc., 106 (3), Sept-Dec 2009 271
PITFALLSAND OPPORTUNITIES IN THE USE OF MARKET-BASED INCENTIVES
7.Quantity-basedinstrumentsinvolvingmarketcreation scheme for protecting marine resources in a heavily trawl-
and trading damaged area offthe coast ofCalifornia (New York Times
Whereas price-based instruments, notably taxes, 2006). In order to reduce trawl fishing, several non-profit
provide security regarding the cost of a policy objective, environmentalgroupshavebegunpurchasingfishingpermits
quantitybasedinstrumentsprovidemorecertaintyasregards from fishermen along the central California coast. The
specific policy objectives. These instruments rely upon the purchases,atacostofseveralhundredthousandeach,include
incentives of agents to trade responsibilities amongst one both the permits and the boats. The environmental
another.Theclassiccasesaretradablepermitsforpollutants, organizations then own the boats and permits, andcan lease
such as sulphur dioxide and carbon dioxide, and tradable these to fishermen with restrictions on fishing locations and
fishingquotas.Thetrades maybebasedonallowances,such techniques. This would not have been a useful tool if the
as permitted emissions or fish catch, or on reductions, such fishermenwouldhavechangedtheirlocationsandtechniques
asemissionsreductioncreditsorreductionsinfishingeffort. favourably without the buy-out; but this did not seem to be
Typically,agentsareassignedsomeinitialresponsibility,e.g., the case.
allowable emissions, or required reductions, and if some In response to regulatory requirements for
agents are more successful than others in meeting those compensatory mitigation, conservation banks have been
responsibilitiestheycantraderesponsibilities.Althoughthere established to generate credits for habitat restoration.
havebeensomevoluntarycapandtrade schemes, mostsuch Conservationbankshavebeenestablishedtomitigatedamage
schemes depend on well-defined, enforceable legal and toawidevarietyofecosystems,includingshort-grassprairie
regulatory frameworks and old-growth pine forests in the United States. The most
well-known example of conservation banking is the U.S.
7.1 Opportunities related toTrading wetlands banking programs that allow agents to bank and
Tradablefishingrightshavebeenusedbyanumberof buywetlandsrestorationanddevelopmentcredits.Thereare
developedcountriestomanagefishstocks.Althoughresource over 500 wetland mitigation banks operating. When
management underlies their introduction, regulating fishing mitigationratiosaresetabove 1:1,therecanpresumablybea
contributesdirectlytothewiderhealthofmarineecosystems net gain in wetlands. However, the extent to which banked
(McIntyreetal. 2007). Setting the allowable catch and then wetlands represent the same functionality as developed
dividing up the rights can be difficult, requiring scientific, wetlands, and the extent to which the banked wetlands are
economic,andcommunityknowledge.Enforcementcanalso successful over the long term, limit the possible net gains
be a problem, but can range from formal to community (Salzman and Ruhl 2001).
actions. Using trading instruments for more complicated Australiahas used atrade mechanismto achieve cost-
conservation objectives may be problematic. Biodiversity effective salt load reductions in the Hunter River (http://
conservationiscomplicatedbythefactthatthereisamultitude www.ecosystemservicesproject.org/html/publications/docs/
ofspecies and interactions that must be preserved. Trading Intro_to_MBIs_2005.pdf). Individual polluters are given
baseduponspecies,perse,oreven“bundles”ofspecieswould initial licenses to discharge a given quantity ofsalt into the
not be a very effective or practical means of protecting river. Polluterscan then trade amongstthemselves.
biodiversity. Rather, trading of habitats, perhaps weighted
for species potential or richness, may be a more useful 7.2 Pitfalls related to MarketCreation andTrading
application of trading. Australia is proposing a program 7.2.1 Assignmentandrights andequity implications
,
creating tradable rights for landowners who conserve There must always be an initial assignment ofrights.
biodiversity on their land; and developers must obtain such Thesewilloftenbepoliticallycontentious.“Grandfathering”
rightsfromacommonpoolinordertodevelopland(Jenkins and auctioning are two possible assignment procedures for
et al. 2004). Perhaps the most developed program for cap and trade schemes, each with theireconomic andequity
biodiversity mitigation is the US wetland banking program implications.Whenthevalueofthepermitsishigh,theinitial
introducedundertheCleanWaterActof1972,wherewetlands assignmenthassignificantfinancialequityimplications,and
qualities can be used as weights (e.g., Habitat Units) for alsoaffectsthetrading itself.An agentwithan initiallylarge
measuring credits. Both schemes are based on the notion of assignment has a significant asset, and may use that asset in
‘nonetloss’ofbiodiversity.Someresearchershaveproposed undesirableways.Forexample,ifafewagentsreceivealarge
tradable invasive species permits to protect biodiversity number of land development rights, they may be able to
(Horan and Lupi 2005). control development to their advantage simply by the
Another useful example is the recently developed possession of these rights; they may use them to drive
272 J. Bombay Nat. Hist. Soc., 106 (3), Sept-Dec 2009