Compendium of Economic Instruments for Environmental Policy - EFTEC 63

8/10/2019 Compendium of Economic Instruments for Environmental Policy - EFTEC 63

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A Compendium of Economic Instruments forEnvironmental Policy

August 2004

eftec, 73-75 Mortimer Street, London W1W 7SQ; tel: 0207 580 5383; fax: 0207 580 5385;[email protected]; www.eftec.co.uk


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A Compendium of Economic Instruments for Environmental Policy

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TABLE OF CONTENTS

1. INTRODUCTION.........................................................................................................1

1.1. Objectives and tasks..............................................................................................1

1.2 Scope ................................................................................................................1

1.3 Report structure....................................................................................................1

2. ECONOMIC INSTRUMENTS.............................................................................................2

2.1 What are economic instruments and why use them in environmental policy? ............................2

2.2 Types of economic instruments..................................................................................32.2.1 Economic instruments using existing markets............................................................42.2.2 Economic instruments creating new markets...........................................................52.2.3 Summary.......................................................................................................6

2.3 Evaluating economic instruments................................................................................9

3. REVIEW OF ECONOMIC INSTRUMENTS............................................................................ 13

3.1 Economic Instruments for Agriculture ........................................................................ 143.1.1 Danish Pesticides Tax ...................................................................................... 143.1.2 Swedish Pesticides Tax .................................................................................... 163.1.3 The Dutch Minas System - Nitrogen and Phosphorus Surplus Levies................................. 183.1.4 Swedish Charge on Cadmium Content in Fertiliser .................................................... 19

3.2 Economic Instruments for Nature Protection ................................................................ 203.2.1 Transferable Development Rights for Farmland Preservation in the US ............................ 203.2.2 Individual Tradable Quotas for Fisheries in New Zealand ............................................ 233.2.3 Direct Payments for Forest Conservation in Costa Rica............................................... 253.2.4 Performance Bonds for Mining Sector in Queensland, Australia ..................................... 273.2.5 Oil Pollution Charge for Shipping, Finland.............................................................. 29

3.2.6 Tax on Aggregates Extraction in Sweden................................................................ 313.2.7 Marine Park Fee Systems around the World ............................................................ 333.2.8 User Fees for Egypts Red Sea Islands and Coral Reefs ............................................... 37

3.3 Economic Instruments for Solid Waste ........................................................................ 393.3.1 Irish Plastic Bag Levy (Plastax) ......................................................................... 393.3.2 UK Landfill Tax.............................................................................................. 413.3.3 Waste Disposal Charges and Non-compliance Fines in Central and Eastern Europe .............. 443.3.4 Beverage Container Deposit Refund System in Maine, US ............................................ 463.3.5 Charge on Car Batteries in Hungary ..................................................................... 48

3.4 Economic Instruments for Water............................................................................... 503.4.1 Water Quality Permit Trading in the US................................................................. 503.4.2 The Hunter River Salinity Trading Scheme, Australia ................................................. 52

3.4.3 Transferable Water Entitlements in Victoria, Australia............................................... 55

REFERENCES.............................................................................................................. 57

ABBREVIATIONS AND ACRONYMS ..................................................................................... 61


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1. INTRODUCTION

1.1. Objectives and tasks

The purpose of this report is to provide a review of the menu of economic instruments that have beenused for environmental policy. The review is intended to provide a non-technical summary and is targetedat officials in national and local environment agencies and local agencies responsible for land use planningand development.

In achieving this purpose, the report fulfils two roles. Firstly, in Section 2, it provides an accessible andnon-technical explanation of economic instruments (also termed as market-based instruments) and theirapplicability to environmental (including natural resources) management. This section also outlinescriteria that could be used in selecting and implementing economic instruments for environmental policypurposes. The second function of this report is to provide examples of the use of economic instrumentsfrom around the world. These examples are presented in Section 3.

1.2 Scope

The term economic instrument encompasses a wide range of policy measures and tools that may be usedto address environmental problems. Of particular relevance to the six Black Sea countries are instrumentsthat have budget neutral or revenue raising properties. With this in mind, the choice of case studies

presented in this report focuses mainly on such instruments. Environmental friendly subsidies, thoughimplemented in some countries, are not included in the review since they are not budget neutral or do notgenerate revenue. Similarly, not many pollution or development permit trading schemes are reviewed,since these require extensive environmental and other institutions and frameworks to be in place forsuccessful implementation and may, therefore, be considered only in the long-run within the region.

The versatility of economic instruments means that they may be applied to virtually the whole range ofenvironmental problems faced by individual countries or groups of countries. The review of case studiespresented in this report sets out to reflect this. The exception to this is water use and pollution,especially in the context of nutrient control, since this issue is covered by a project within the GEF BlackSea Ecosystems Recovery Project (eftec, 2004).

1.3 Report structure

Following this introductory section, Section 2.1 introduces the reader to the concept of economicinstruments and the rationale for their use in environmental policy. In Section 2.2 the various types ofeconomic instruments that are used for the purposes of addressing environmental problems aresummarised. Here, instruments are classified as those which seek to modify the outcome in existingmarkets (Section 2.2.1) and those which seek to create new markets (Section 2.2.2). By way of a tabularsummary in Section 2.2.3, economic instruments are matched to different economic sectors andpollution types. Finally, Section 2.3 provides a discussion of the necessary considerations for evaluatingthe use and role that different economic instruments may play in environmental policy making. Theevaluation criteria outlined suggest a framework in which relevant authorities in Black Sea (and other)countries can judge the potential feasibility of different economic instruments.

Section 3 focuses on case study examples of the implementation of various economic instruments thathave been applied to address environmental problems. This compendium of practical examples presents20 case studies that are grouped according to instruments for agriculture (Section 3.1), nature protection

(Section 3.2), solid waste (Section 3.3) and water (Section 3.4).

Each case study provides a breakdown of the instrument and the environmental issue it addresses, as wellas the intended policy objectives/targets and similar examples of instrument operating elsewhere. A moredetailed description of the instrument focuses on its practical operation and related discussion. Finally, inmost instances further reference material is listed.


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2. ECONOMIC INSTRUMENTS

2.1 What are economic instruments and why use them in environmental policy?

A comprehensive definition of economic instruments (EIs) is a rather difficult task because of the diverseset of policy measures comprising them. Generally, a distinction is made between market-based economic

instruments and non-market based ones. The main focus of this report is directed to the former but thelatter are not completely excluded in the study because the effectiveness of EIs in reality depends on theright mix of the two types, i.e. to develop a policy package combining market-based and non market-based economic instruments.

The theoretical rationale behind this type of intervention is to secure an optimal level of pollution and toachieve optimum rates of resource use and depletion. The key difference between the two types is thatthe former relies on the market mechanisms as markets are seen as an efficient means to do theallocation of scarce resources and the latter rely on regulations.

The practical reason for implementing market-based economic instruments is to send out a signal that theuse of a resource imposes costs on others, i.e. some form of external costs which are not covered in theprice of the product or service. To overcome such environmental problems economic instruments increaseefficiency in resource use (thereby decreasing total demand and reducing environmental damage) and/or

generate revenue. These two aims can at times be mutually exclusive. For example, a tax that is highenough to create an incentive for polluters to stop polluting would not generate much revenue sincepolluters would rather reduce pollution than pay the tax.

The main reasons for many environmental problems can be traced back to two fundamental causes: (i)policy failure and (ii) market failure.

Policy failure arises from government policies that generate perverse incentives with regard to the usesof resources and pollution behaviour. In other words, these policies encourage overexploitation ofresources and excessive amount of waste and other emissions. The policy failure shows itself in the formof environmentally damaging subsidies. These are those subsidies that are put in place to enhance thecompetitiveness of certain products, processes, economic sectors, or regions and that together with theprevailing taxation regime (unintentionally) discriminate against sound environmental practices.

To recommend and implement new economic instruments to reduce pollution or improve resourcemanagement, while such environmentally damaging subsidies are still in place cannot be an efficientpolicy. Therefore, policy analysis has to start by investigating the existence of environmentally damagingsubsidies in relevant economic sectors and country. Identification and removal of such subsidies will notonly have environmental benefits and lead to substantial budgetary savings but often result in the users ofthe natural resources facing higher bills. Therefore, removing subsidies is by no means easy especiallyconsidering the political, competitiveness and distributional implications.

Market failure, on the other hand, refers to the lack of actual markets for certain environmental goods orservices and/or the failure of conventional markets to consider the environmental impacts of man-madegoods and services or exploitation of natural resources. In other words, prices in actual markets generallydo not reflect the true or full cost of producing the goods and services, leading again tooverexploitation of natural resources and excessive amounts of waste and other pollution. Theenvironmental impacts, therefore, are external to the market mechanism, and are often referred to as

externalities. The use of economic instruments, such as taxes, is an increasingly common approach tointernalise these externalities in the price of the goods and services and as mentioned below is inaccordance with the polluter pays principle.

Economic instruments, in particular taxes and charges, have been introduced as one way to implement thePolluter Pays Principle (PPP), which has become widely accepted as the general framework forinternalising environmental externalities. In 1972, the principle was adopted by the OECD Council as aneconomic principle for allocating the costs of pollution prevention and control (OECD, 1972). The primaryconcern of the Council in 1972 was to address the international economic and trade implications ofenvironmental policies. The OECD recommendation provided guidelines that place restrictions on the roleof government subsidies in order to ensure that polluters pay the costs of protection measures madenecessary by their activities. With regard to environmental protection measures, the Council (OECD 1972,


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Annex, A.4) found that they should not be accompanied by subsidies that would create significantdistortions in international trade and investment. Rather, by placing costs of pollution prevention onpolluters, the PPP demands that the cost of protection activities be reflected in the market prices ofgoods and services.

The integration of environmental concerns into economic growth and development policies has emergedas a priority concern of modern environmental policies since the 1970s. During the 1970s and 1980s,environmental policies in industrialised countries of the OECD were based primarily on a system oftechnical regulations. However, it became increasingly recognised that traditional regulatoryenvironmental policy, despite some successes, failed to address new environmental pressures and preventfurther unacceptable environmental damage. Moreover, these policies imposed potentially high costs toachieve environmental quality objectives. In recent years, economic instruments, as opposed tocommand and control regulations, have been recognised for their flexibility and cost-effectiveness inattaining environmental objectives (OECD, 2001 and EEA, 2000). However, examples show that economicinstruments can only be effective with a well functioning institutional framework1as a report published byWorld Bank summarises:

In a country where environmental regulations are not enforced and environmental agencies are weak,economic instruments are not of much help either. Introducing pollution charges should go along withimproving the overall environmental policy framework and strengthening the institutional capacities ofenvironmental agencies (World Bank 1998, p. 166)

Another reason for the widespread application of market-based economic policy instruments was theirsuccessful implementation. Examples of this are water effluent charges in several European countries,such as France, Germany and the Netherlands, in the 1970s and 1980s coming as a consequence ofsubstantial water pollution problems in many rivers, like the River Rhine.

As mentioned above, policy makers showed a growing interest in market-based instruments forenvironmental policy during the 1980s. An early indication of this change was the emphasis given toeconomic instruments in environmental policy by the report of the World Commission for Environment andDevelopment in 1987. Furthermore, the Rio Declaration on Environment and Development (1992)discussed economic instruments, and in particular the Principle 16 states:

National authorities should endeavour to promote the internalisation of environmental costs and the useof economic instruments, taking into account the approach that the polluter should, in principle, bearthe cost of pollution, with due regard to the public interest and without distorting international tradeand investment.

The advantages of the use of economic instruments is furthermore highlighted in a more recent ECpublication (EC 2000, p.3): The use of economic instruments, such as taxes, subsidies or other incentive

payments, or tradable emission permits, will frequently offer a more effective means of achievingenvironmental policy objectives than traditional environmental policy instruments such as directregulation of polluting activities.

The interest in implementing market-based instruments became an essential part of policy to combatenvironmental pollution, such as climate change and water pollution, in many European countries as wellas many developing countries and countries undergoing transition to market economy. However, a majordifference in the instruments implemented in Western European countries compared to the situation inthe economies in transition can be recognised: the former relied mainly on product taxes, such as energytaxes, while the latter introduced a rather complex system of pollution charges covering a very largenumber of air emissions and water effluents and in addition the generation of solid wastes.

2.2 Types of economic instruments

As mentioned above market-based economic instruments (EIs) comprise a rather broad group of policyinstruments. Their common element is found in their reliance on market price mechanisms to internalisecosts and provide financial incentives to economic actors.

Because of their flexibility, these economic instruments are traditionally discussed in contrast toregulatory or command-and-control instruments. While theoretical treatments often consider market-

1See Sderholm 1999 for more information analysing the relation between economic instruments and the institutional framework.


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based EIs as alternatives or substitutes to regulatory instruments, the margin between the two issometimes very narrow. Many of the most effective examples of achieving environmental policy targetsillustrate that regulatory and economic instruments are interrelated and complementary.

Moreover, several environmental pressures exist for which the application of market-based economicinstruments is not an effective policy tool. For example, economic instruments may not be appropriate inareas such as hazardous wastes, or concentrated hot spot pollution areas that pose a risk to publichealth. In such cases, the use of EIs is limited and needs to be utilised in conjunction with other policymeasures.

Evaluations of the different instruments applied in environmental policies show that EIs are regularlyintroduced in parallel with other policy measures, so it is often difficult to isolate the impact of theinstrument when reviewing environmental quality trends.

The most common economic instruments in use today fall into one of two categories:

o Instruments that usethe existing marketsinvolve moving towards free market prices on the one hand(by removing or reducing subsidies and perverse incentives, i.e. policy failures) and moving beyondfree market prices (by addressing market failure) on the other; and

o Instruments that create new markets are a relatively new approach to solving environmentalproblems. These instruments are affecting prices not directly but by designing an institutional andregulatory framework addressing current shortcomings and failures in environmental policy.

2.2.1 Economic instruments using existing markets

Economic instruments belonging to this group are generally more common today and the followinginstruments belong to this category.

Subsidy removal or reduction is a classic and well-known example of policy reform: reduction in orelimination of subsidies normally results in reduced environmental impacts (from reduced use of thepreviously subsidized resources or services) and monetary savings to the governments. Subsidy removal,however, is only the first step.

Environmental taxes and charges can then be used to reflect the additional costs to others(externalities) that are created by the use of resources. Environmental taxes and charges can be based on

emissions, inputs and outputs. Basedon varying concepts of the role and purpose of these instruments inpractice, however, a generally accepted definition of the term environmental taxes and charges doesnot exist in current literature.

The current widely accepted definition by the European Commission, the European Statistical Office(Eurostat) and the OECD is based on the rationale that an environmental tax is definedthrough the taxbase. According to this definition, an environmental tax is a tax whose tax base is a physical unit (or a

proxy of it) that has a proven specific negative impact on the environment (OECD, 1997 and EC, 1997).Further, a distinction is generally made between the terms tax and charge. Taxes are defined as:compulsory, unrequited payments to general government. Taxes are unrequited in the sense thatbenefits provided by government to taxpayers are not normally in proportion to their payments. Chargesor fees are defined as compulsory requited payments to either general government or to bodies outside

general government, such as for instance an environmental fund or a water management board (OECD,1999).

While taxes may be earmarked for certain purposes, the term charge has generally been applied in Centraland Eastern Europe (CEE) and Eastern Europe, Caucuses and Central Asia (EECCA) when their explicit roleis for raising revenues for environmental funds. As environmental concerns received greater attention,environmental taxes were recognised by public policy makers for their potential to simultaneously addressenvironmental concerns, finance public services, raise public revenues and potentially replace othertaxes. Today, a commonly used classification of taxes and charges distinguishes between three types,based on their function in public/environmental policy.

The first type is revenue-raising taxes, which may influence behaviour but still yield substantial revenuesover and above that required for related environmental services or regulation.


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The second type is incentive taxes, which are levied with the objective of changing environmentallydamaging behaviour without the intention to raise revenues. Indeed, the success of such a tax may bejudged by the extent to which initial revenues from it fall as behaviour changes.

The third type is cost-covering charges or user charges/fees, whereby those making use of theenvironment contribute to or cover the cost. This type of EIs recognises that many individuals as well asthe economic sectors receive important benefits from the use of the environment, but may pay very littleor nothing for this right, often leading to poor levels of service or overuse of the resource. Theintroduction of user charges is one way to capture part of this benefit, improve levels of management andservice, and share the benefits from exploiting natural resources. For example, user charges are imposedto finance public provision of water and sanitation services. The level of a cost-covering charge isdetermined by the service it is intended to deliver and revenues are primarily used to finance collectiveservices, e.g. water supply, wastewater and waste collection.

These three types of environmental taxes are not mutually exclusive: a cost-covering charge may haveincentive effects. For example to encourage the rational use of water, an incentive tax may raiserevenues, and revenue-raising tax may be partially used to finance related environmental purposes. Inparticular, cost-recovery user charges must resemble pure market prices for a good or service, and play animportant role both as a financing tool for public services, i.e. covering the full-costs of delivering theservice, and incentive instruments that reduce environmental pressures. In practice, the design of overalltax regimes and the environmental concerns being addressed tend to influence which of these functions isprimarily being served. Moreover, the type of instruments selected may also determine their impact onbroader public policies.

Markets are also useful in establishment of performance bonds and deposit-refund systems. Performancebonds can be used in the field of environmental pollution policy. Non-compliance fees are the most widelyapplied variation of this bond. In general, performance bonds are payments to authorities which takeplace prior to an activity that is potentially environmentally harmful. These bonds are refunded ifenvironmental regulations are met, and forfeited if they are not. These are used less frequently thanother economic instruments, due to difficulties in monitoring environmental damage and legal restrictionsin setting up contracts, and have been applied mainly where there is a clear potential for environmentaldamage, such as mining. Australia, Norway, Sweden, Canada and the US use slightly different variations ofthese instruments in controlling environmentally harmful production (Markandya and Perelet, 2002).

Deposit refund schemes require a deposit to be paid upon the purchase of potentially polluting products.This deposit is refunded if the product or its residues are returned for disposal and recycling, therebyavoiding pollution. This is a type of economic instrument which is designed to encourage recycling, and/orto cover the costs of environmentally sound waste disposal. These systems provide incentives to preventpollution, and reward good behaviour. Deposit refund systems are often applied to widely-used productssuch as beverage containers, and have sometimes been applied to car hulks. They can be considered avaluable tool for environmental management, although in general they are not powerful enough for majorenvironmental problems, because of their voluntary character and the low value of the deposits. Their useon bottles and cans has proved very effective in reducing the amount of such materials disposed of intothe general waste stream. Deposit refund systems are being extended beyond bottles and cans to includedisposable batteries, lubricating oils, electronic equipment, white goods (refrigerators, stoves, washingmachines) and automobiles. They encourage companies and consumers to take a life cycle approach toproduct management. Designed appropriately, they can provide an accurate reflection of environmentalcosts. They also offer new ways for companies to provide services to their clients, such as leasing productsinstead of selling them, and they can also encourage repeat business (Markandya and Perelet, 2002).

The last category of economic instruments that use existing markets is targeted (environmentallyfriendly) subsidies, where an explicit subsidy is offered to achieve a socially desirable outcome. Althoughthese go against the general trend of subsidy removal and polluters pay principle, there are cases whensuch subsidies may be justified. This could especially be the case for projects for public-privatepartnerships or small/medium sized bankable projects.

2.2.2 Economic instruments creating new markets

The second group of economic instruments, i.e. those that create new markets, involves defining propertyrights, privatising and decentralizing, establishing tradable permits and rights, and creating internationaloffsets.


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Establishing property rights, privatisation and decentralization can play an important role in movingmany aspects of environmental management out of the state sector, which is often starved for capital andinto more commercial operations where there is a strong incentive both to generate revenue and to makeinvestments that will increase revenue in the future. Water and sanitation works are typical examples ofthese.

Tradable permits and rights involve the explicit creation of a market in environmental resources,encouraging efficient use and fostering the recognition that these resources are scarce and valuable. Forthe tradable permits to function well, first, the permit must actually create a property right. Second, thequestion of initial allocations of permits must be handled equitably. Finally, there must be no artificialobstructions to trading permits.

International offset systemsextend the notion of a market for environmental resources across countryboundaries, permitting firms and institutions to meet environmental objectives by purchasing abatementwherever on the globe it is cheapest. Carbon offsets and joint implementation projects are examples ofthis. Debt for nature or environment swaps can also be characterised as a form of such international offsetsystems. The concept behind this approach is to reduce the debt burden of a country by making anagreement between the indebted country and the creditor countries. This deal grants the possibility towrite off some of the debt on the condition that the released funds are used to achieve predeterminedenvironmental goals.

In addition to these economic instruments, voluntary approacheshave increasingly been used. There aremany different types of voluntary approaches, with an equally wide range of terminology used to describethem. However, they can be usefully classified into the following three broad categories:

o unilateral commitments: where individual firms, or groups of firms set up environmental improvementprogrammes without any external involvement and communicate these to their stakeholders;

o public voluntary schemes: where public bodies develop general schemes that define minimumstandards of performance, and individual firms decide whether to join (eco-labelling is an example forthis type of economic instrument); and

o voluntary or negotiated agreements: where government interacts with firms (either individually orcollectively) to agree a performance target (or targets) and to define the commitments and/orobligations of both sides.

While in the long run voluntary agreements are budget neutral and can even save the government funds ifprivate sector took responsibility for pollution control, they do not generate revenue and do not savemuch of the monitoring and administration costs for the government. For these reasons and also becauseof the scarce evidence about their impacts, these instruments are not included in this compendium.

2.2.3 Summary

Regardless of the type of economic instrument, the existence of a well functioning institutional frameworkis crucial for success. Any environmental policy tool requires a well-structured and enforced regulatorysystem to be in place along with compliance monitoring and compliance culture as well as well functioningmarkets and economic, taxation and financial systems. There are many examples around the world ofperfectly designed pollution charge systems not being effective due to the lack of a well functioninginstitutional framework, weak enforcement authorities and, hence, ineffective environmental policy.

With this requirement in mind, Table 2.1 presents the types of economic instruments against each of therelevant sectors and pollution types.


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Table 2.1: A general typology of economic instruments

USING MARKETS

Environmental taxes on Cost covering charges - userfees for

Sector

Subsidyremoval /reduction Emissions Inputs Products

(outputs)Naturalresources

Services

Perforbonds/refund

Waterresources

Reduction inwater subsidy

Waterresourcestaxes

Water pricingWatershedprotectioncharges

Waterpollution

Reduction inwastewatersubsidy

Watereffluenttaxes

Sewagecharges

Sustainableagriculture /soilprotection

Reduction inagriculturesubsidies

Taxes onpesticides andfertilisers

Biodiversity/protected

areas

Reduction inland

conversionsubsidies

Bio-prospecting

fees

Watershedprotection

chargesParkentrance fees

Air pollution Reduction inenergysubsidies

Emissiontaxes

Energy taxesDifferentiatedgasoline prices

Environmentallyrelated producttaxes

Royalties forfossil fuelextraction

Refundto awacompli

Solid waste Reduction inwaste subsidy

Wastedisposaltaxes

User fees forwastemanagement

Deposisystem

Hazardouswaste/toxicchemicals

Reduction inagrochemicalsubsidies

Product taxes Bond ftreatm


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Table 2.1: Continued

CREATING MARKETSSector

Propertyrights/decentralization

Tradable permits/rights International offsetsystems

Vo

Water resources Water rights Water markets Water trading across

bordersWater pollution Environmental liability Tradable wastewater

discharge permitsInofwth

Sustainable agriculture Land ownershipParticipatory irrigationmanagement

Transferable developmentrights

Beanpe

Biodiversity/protected areas Biodiversity patents and bioprospecting rights

tradable conservationcredits

Tradable conservationcredits; debt-for-natureswaps

Air pollution Environmental liabilityPrivate energy production

Tradable emission permitsAuctionable permits

Joint implementation oncarbon offsets

Solid waste Environmental liability Tradable recycledcontents

Hazardous waste/toxicchemicals

Environmental liability Tradable permits/rights International offsetsystems

Bean


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2.3 Evaluating economic instruments

Political interventions aiming to correct policy and/or market failures can lead to an improvement inenvironmental quality and to a greater economic efficiency. As discussed above quite differentpossibilities for intervention to correct these failures exist. What all of them have in common is that theycan be effective only when environmental policy objectives are clearly identified at the beginning of thepolicy making process. After identifying the environmental policy objectives governments should assessthe rationale for getting involved, i.e. why is there a need for government intervention for achieving some

predetermined targets.Governments should further evaluate the costs and benefits of intervention. As briefly mentioned above,the selection process of the most appropriate EIs must be done in the context of the prevailingadministrative and institutional framework. Finally, the selected economic instruments have to beimplemented, while measures and mechanisms should simultaneously be put in place to evaluate andmonitor the progress made in achieving the policy objectives. This last step allows quick action if itbecomes necessary to adjust and revise the instruments.

As part of the process of selecting the suitable EIs for tackling individual environmental problems,questions relating to the actual design and measures to assess and evaluate the EIs should be addressed.The latter point of assessing the efficiency of instruments is of great importance but rarely done inpractice. The following criteria can be seen as guidance for undertaking such an analysis. The list iscertainly not complete but covers the main issues.

o Cost-efficiency of the instrument: e.g. if there are large differences in abatement costs betweenpolluters, there may be considerable cost savings in all economic instruments over regulatorymeasures.

o Capacity of the instrument to achieve the environmental objectives: e.g. permits perform betterthan taxes here since the number of permits can be set equal to the emissions target. Taxes havehigher risk of underachieving, especially if the tax level is set too low so that polluters prefer to paythe tax rather than change use or emission behaviour.

o Dynamic efficiency: e.g. instruments can encourage innovation in production processes that cutresource use and emissions beyond a predetermined standard as well as save money.

o Complex environmental criteria / difficulty in monitoring: e.g. when environmental processes are

complex and emissions are hard to monitor, more blunt instruments like input or output taxes will haveto be preferred.

o Vested interests and concern for distributional issues: e.g. although this depends on the socio-economic, political and cultural characteristics of each country, on the whole taxes are more difficultto ensure political acceptability for than targeted environmentally friendly subsidies. This is not to saythat instruments that will not have initial political support should be discarded. It is rather a pointabout designing and presenting new instruments in a way that takes potential political difficulties intoaccount.

o The numbers of agents (users or polluters): e.g. if there is a very small number of polluters orresource users, voluntary approaches may be better to implement, while tradable permits work best ifthere is an intermediate (not too many and not too few) number of users or polluters.

o

Rent seeking or strategic behaviour induced by the instrument: e.g. subsidies, no matter howcarefully targeted, are likely to encourage strategic behaviour while tradable permits may be used as abarrier to entry into a sector.

o Requirements for institutional framework for successful implementation: e.g. a functioninginstitutional framework does not only cover formal rules but also informal constraints on humanbehaviour, such as conventions and norms (Sderholm, 1999).

Many of these general criteria can also be found in the list developed by the OECD for assessing theeffectiveness of taxes and charges (OECD, 2001) and presented in Box 2.1.


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Box 2.1: The OECD evaluation criteria

The environmental effectivenessof a tax can be measured as the extent to which the tax delivers itsenvironmental objectives. The quantitative emissions reduction effect of a tax depends on the response ofthe polluter to the price incentive.

Economic efficiencyhas two aspects. Environmentally related taxes exploit the different opportunitiesfor abatement within a sector, and within an economy, by creating incentives for those firms, or sectors,with the lowest abatement costs to undertake most abatement of the polluting activity, resulting in anefficient cost-minimising pattern of abatement activity. A measure of economic efficiency is therefore theextent to which there is a tendency to equalise abatement costs across pollution sources.

It would also be useful to have a measure of dynamic efficiency. Environmentally related taxationcreates incentives for firms to develop new technologies and techniques that might abate more cheaply,therefore a possible test is to appraise the type and cost of abatement before and after a tax is levied.

It is important to design environmentally related taxes to achieve environmental and revenue objectiveswhilst minimising the administrative costsof operating the tax. Many environmentally related taxes areadded to, or modify, existing taxation in order to reduce administrative costs. However, many taxes, suchas that on carbon/energy have multiple exemptions and rebates, including rebates linked to negotiatedagreements that may be costly to administer. Administrative costs could be compared to other taxation,for example VAT and to total revenues collected.

A potential advantage of some environmentally related taxes compared to command and controlapproaches, is a reduction in compliance costsfor business or households. Compliance costs include anyextra costs of operating less polluting production technology, and the administrative costs of measuringand verifying compliance. Industry can decide how to respond to a tax, whereas with regulation thisflexibility is limited. Households may also incur additional expense and loss of utility due to changingconsumption patterns.

The revenuesraised by a tax on emissions, activity, or product depend on the behavioural response ofthe taxpayers to the charge. Revenues are not a good indicator of the environmental effectiveness of atax. If producers respond to a tax by reducing output and/or investing in abatement activities then thetaxable item (the emissions) will reduce, as will revenues. If the price elasticity of the taxed product oractivity is low (in absolute value), an increased tax rate could raise higher revenues.

Environmental taxation will also impact more generally on the economy and on producer and consumerbehaviour. It is difficult to disentangle and quantify these soft effectsthat may include changes in thegeneral price level, technology mix, employment, international trade, and income distribution andchanges in producer or consumer attitudes and awareness of environmental issues. Where possiblequalitative information on these effects could be given.

A sometimes hotly debated theme in the economic literature is the question whether EIs should be usedextensively in developing countries and countries in transition to a market economy. One of the argumentsfor implementing economic instruments in these countries is as Bell (2002) notes that some advisors

flatly promised that economic instruments would have lower institutional and human resourcerequirements than command and control (p. 10). However, Bell questions this argument as a glitteringand ultimately incorrect promise in countries with small and underfunded environment ministries (p.10).

Other constraints impairing the effectiveness of economic instruments for environmental policy, especiallyof environmental taxes and charges, in economies in transition are discussed by Sderholm (1999) indetail. He identifies the lack of functioning markets and no viable economic and social institutions arefactors accountable for this situation. Furthermore, a rather lax monitoring and enforcing environmentalcompliance is another a factor obstructing the overall good experience gained with EIs in reducingenvironmental pollution.

Ecotec et al (2001) use a list of criteria to evaluate the effectiveness of environmental taxes and charges.By its very nature, this list applies to ex-post analysis of economic instruments. We have revised this listand adapted for the purposes of an ex-ante analysis as presented below.


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Purpose of tax/charge:

o Should / could the tax/charge have a significant incentive effect for environmental protection andmanagement?

o Should / could the tax/charge raise revenue for particular environmental activities (e.g. throughearmarking)?

o Should / could the tax/charge raise revenue for the general national budget?

Tax / Charge Design:

o What are the current levels and past profiles of the economic instrument to be revised or relatedeconomic instruments if a new one is to be designed?;

o What is the optimum (and/or feasible) point of application for the tax/charge (e.g. households,retailers, wholesalers etc.)?

o Is there an externality evaluation (in monetary or other units) supporting the design of the tax? If not,decide if one should be commissioned, design and commission such a study if a decision is taken tocommission one.

Organisational Arrangements:

o Which institution should have the responsibility to design the tax/charge (e.g. Ministry ofEnvironment, Finance or other)?

o Who should be responsible for the implementation/administration (tax collection)?o

Who should decide whether there would be any exemptions from tax/charge?o What are the planned changes to exemptions over time (e.g. exemptions to expire after a given

number of years)?o What was the collection efficiency for the existing economic instruments (to be revised or related to

the one to be designed)?

Portfolio of Policy Instruments complementarity and substitutability of taxes with other instruments:

o Is the tax/charge to be implemented on its own, or as a part of a whole package of economic or otherpolicy instruments? If the latter, the whole package needs to be described and analysed to understandthe full scale of the effects of the main tax/charge studied.

o Is the tax/charge a substitute for an existing instrument?o Which alternative instruments (e.g. voluntary agreements) been included in the analysis of the

impacts of the proposed tax/charge?

Potential Effect and Effectiveness of the Tax:

o Is the tax/charge designed to have an incentive effect?o Are there any cases of win-win effects (environment and economic efficiency) which can be

achieved, for example, by reducing other taxes as a result of generating revenue through theproposed environmental tax/charge?

o Are there likely to be other effects of the tax/charge such as technology or technique innovation etc.(dynamic efficiency)?

o Is there any evidence that the tax/charge may create perverse incentives (evasion, relocation ofindustrial activities from one region to another etc.)?

Effect on Producers:

o

What are the key sectors affected?o What are the price effects at the different stages of the production or service chain?o What is the level of tax as a percentage of the cost of production?o To what extent are the price increases passed on through the value chain? Answering this and the rest

of the questions here requires information about the price elasticity of demand and supply.

Effect on Consumers:

o Which consumers are affected?o What is the level of tax/charge as a percentage of the sale price?


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o Have any concerns been raised by consumers of the effect of the tax, and if so what are they andwhich are important? In order to answer this question, a reasonably well developed design of theproposed instrument has to be opened to stakeholder consultation. The same applies for the responsesfrom producers.

Equity and Distributional Effects:

o Are there significant differences of tax/charge burden across different sectors of the economy?o Are there significant differences of tax/charge burden across different household (income) groups?o

Is there quantitative evidence for significant regional (geographical) effects?o What are these differences, and are there any specifically disadvantaged groups?o Is there quantitative evidence for significant distributional effects?o Are there measures in place to compensate for distributional effects, and what are these?o If only qualitative data are available, are the distributional effects deemed to be significant by the

stakeholder consultation?

Trade and Competition Issues:

o Have concerns been raised regarding adverse effects on competition (e.g. in water market if providedprivately or in products and services that cause water pollution), and what are these?

o What evidence is there of adverse effects on competition?o Who are the likely winners and losers? (this links to the effects of producers and consumers)

Revenue:

o What is the projected tax/charge revenue (on an annual basis)?o What is the level of revenue as a percentage of GDP, and as a percentage of the turnover affected

sectors?o Who is to determine the use of revenues? Are the revenues earmarked or not?o What is the mechanism for using the revenues (e.g. earmarking, say, with an Environment Fund or

through the general budgets)?o What would the revenues be used for (to finance environmental or other investments, to support

sectors, to replace other taxes)?o Is the use of the revenues likely to lead to any likely positive environmental effects (linked to

earmarking)?

Employment:

o Have any concerns been raised on the employment impacts of the environmental tax/charge duringthe technical analysis and/or stakeholder consultation?

o Is there any evidence for this concern (if mainly voiced during stakeholder consultation)?o Is there any indication /estimation of positive effects of taxes/charges on employment?o Are there any cases likely to lead to win-win effects (environment benefit and employment gains)?

Administrative and Compliance Cost:

o Who is managing the tax at the level of government?o Is there an administrative burden and what constitutes this burden? Develop a cost estimate for this

burden.o If only qualitative evidence is available, would it be fair to say that the administrative burden is (a)

large (b) medium (c) small (d) insignificant, where the brackets of costs for (a) to (d) will have to bedecided during the design process.


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3. REVIEW OF ECONOMIC INSTRUMENTS

The remainder of this report provides a review of the practical implementation of a selection of differenteconomic instruments. The case studies are presented from a variety of different countries, includingWestern Europe and Scandinavia, Central and Eastern Europe, the United States, Australia and NewZealand, Central America as well as Africa (Egypt). The case studies are grouped on the basis as towhether they are economic instruments for: agriculture (Section 3.1); nature protection (Section 3.2);

solid waste (Section 3.3), or; water2

(Section 3.4).

Each case study provides a summary of the instrument that describes the:

o Environmental issue/problem to be addressed (e.g. environmental and health impacts caused bypesticide use);

o Economic Instrument (e.g. tax on pesticide input);o Similar examples (e.g. other countries that implement the same instrument);o Key targets (e.g. specified reductions/targets);o Administering institution (e.g. the environment ministry or tax authority); ando Key stakeholders (e.g. electricity generation sector, industries etc).

Following the initial summary, a more detailed description of the instrument is provided. The descriptionsection is intended to highlight the background to the instrument and provide information concerning its

practical operation. Where relevant this includes rates of tax or charge, revenue receipts, environmentaleffect, administration details and other salient points. In some case studies an additional commentssection is included, which focuses on further issues related to the instrument. Finally, references forfurther reading are given.

The coverage of the review of economic instruments is very much dependent on the availability of sourcematerial, both in terms of quantity and quality. Whilst there are many examples of the practical use ofeconomic instruments, studies describing and analysing these instruments in significant detail in terms ofthe empirical experience are somewhat fewer.

The most comprehensive listing of economic instruments used for environmental policy purposes isprovided by the OECD/EEA database3. Other detailed sources of information include Ecotec et al (2001), areport to the European Union that outlines the use and environmental implications of environmental taxesin European Union Member States. The study provides a detailed review of nine different taxes and

charges, with 27 individual country examples. The US Environmental Protection Agency (US EPA, 2001)provides a similar exercise that reports the US experience with economic instruments and incentives forenvironmental protection. In relation to Central and Eastern European Countries, the RegionalEnvironmental Center for Central and Eastern Europe (REC) provides several sources of information, underthe mandate of the Sofia Initiative on Economic Instruments (Klarer et al, 1999a; Klarer et al 1997b. Seealso REC Database on Environmental taxes and Charges4). Finally, TemaNord (2002) provides a usefulreview of the use of economic instruments in the five Nordic countries (Denmark, Finland, Iceland,Norway and Sweden).

2Note that eftec (2004) provides a detailed report focussing on the role economic instruments can play in the Black Sea region toaddress nutrient control and remediation. Here the focus is on other water related issues such as allocation and salinity of watersupplies, as well as permit trading for nutrient control that was not covered in eftec (2004) (e.g. tradeable effluent permits).3See : http://www1.oecd.org/scripts/env/ecoInst/index.htm4See: http://www.rec.org/REC/Programs/SofiaInitiatives/EcoInstruments/Database/SIEI_database.html


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3.1 Economic Instruments for Agriculture

3.1.1 Danish Pesticides Tax

Environmental issue: Environmental and health problems arising from use of pesticidesType of economic

instrument:

Product / input charge

Similar examples: Sweden, Belgium.Key Targets: Reduction in pesticide consumption by 50% by 1997Administering institution: Ministry of TaxationKey stakeholders: Fertiliser producers, farmers, regulatory bodies

Description

A tax on pesticides was introduced in Denmark in 1986 as part the wider National Action Pesticide Plan.The intention of the National Plan was twofold, firstly to reduce pesticide consumption by 50% within aten year period both in terms of treatment frequency and the quantity of active ingredient, and secondly,to shift consumption patterns toward less harmful pesticides. The specific target set for 2002 was areduction in treatment frequency from 2.5 to 2.0 or lower, i.e. annual treatment frequency on treatedacreage should be 2.0 or lower, with the tax being one measure employed to attain this reduction.

The pesticides tax is levied as a proportion of the retail price. The use of pesticides is typically measuredin terms of the number of doses applied to cultivated land (the treatment frequency) and also in terms ofthe quantity of active ingredients (e.g. kilograms) within a specific product. Difficulties in measurementmeant that it was not possible to implement the tax on the basis of toxicity or other indicators that relateto health and environmental impacts (DEPA, 1999).

Domestic manufacturers and importers of pesticides are required to pay the tax when a pesticide productis sold for use in agriculture. In 1986, the tax was initially introduced as a value-added tax (VAT) at a rateof 3% of the wholesale price of all pesticides. This effectively superseded a charge that was previouslylevied to finance administration of registration of pesticides. In 1996, the rate was increased to anaverage 15% of the retail price (specifically insecticides were 27% of retail price; herbicides, fungicidesand growth regulators were 13% of retail price; and microbiological agents were 3% of wholesale price). In1998 the tax was further increased to an average of 37% of retail price (insecticides 35% of retail priceincluding tax but excluding VAT; herbicides, fungicides and growth regulators were 25% of retail priceincluding tax but excluding VAT; and microbiological agents were 3% of wholesale price).

Further tax increases have been introduced in order to meet further objectives of the National PesticideAction Plan. The tax base is the still the retail price of pesticides. Current tax rates are 53.85% of theretail price (excluding VAT) of insecticides, 33% of the retail price (including VAT) of herbicides,fungicides and growth regulators and 3% of the gross value (including VAT) of microbiological agents(Nienhaus and Knickel, 2004).

In 1994, revenues from the pesticide tax were approximately 5.9 million. As a result of increase in thetax rate, revenue from the tax rose to approximately 40.1 million in 1998. Revenues from the tax havebeen redirected to agriculture via reductions in property taxes and other measures. Approximately 55% ofthe tax revenue has been used to reduce property/land taxes whilst 35% of revenue funds monitoring andresearch programmes concerning pesticides and the environment. Remaining revenue typically covers thecosts associated with administering the tax (Ecotec et al, 2001).

The Danish pesticide tax provides an example of a case where an economic instrument is introduced aspart of a package of measures implemented to address a particular environmental problem. In addition tothe tax, complementary policy instruments that have been implemented include regulation (for sale andconsumption of pesticides), voluntary agreements between the Danish Ministry of Environment and localauthorities regarding the phasing out of pesticides, and measures aimed at providing advice to farmers onhow to reduce pesticide use.

Ecotoc et al (2001) report that the average crop-specific treatment frequency fell by 15-20% between1995 and 1998 (much of this decrease is attributed reduced demand for fungicides), but targets set by the


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National Plan have not been achieved. Moreover, these reductions have been offset by a trend towardscrops that require an increasing intensity of pesticide spraying. In terms of active ingredients, sales fell by40% over the period 1985 to 1996 (6,972 tonnes down to 4,238 tonnes). This reduction is partly attributedto the National Action Plan, but also to an 11% reduction in cultivated arable land and use of lower-dosepesticides (OECD, 1998).

Further reading:

Danish Environmental Protection Agency (DEPA), 1999, Economic Instruments in Environmental Protectionin Denmark, Copenhagen.

Ecotec, CESAM, CLM, University of Gothenburg, UCD, and IEEP (2001) Study on the Economic andEnvironmental Implications of the Use of Environmental Taxes and Charges in the European Union and itsMember States, report to European Commission. Available at:http://europa.eu.int/comm/environment/enveco/taxation/environmental_taxes.htm


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3.1.2 Swedish Pesticides Tax

Environmental issue: Environmental and health problems arising from use of pesticidesType of economicinstrument:

Product / input charge

Similar examples: Denmark, Belgium.Key Targets: 50% reduction in pesticides use by 1990 and by a further 50% by 1996Administering institution: Swedish National Tax Board

Key stakeholders: Fertiliser producers, farmers, regulatory bodies

Description

In a similar fashion to Denmark, Sweden introduced a tax on pesticides in 1984 with the expressed purposeof reducing the environmental and health risk associated with their use. Again, the tax was part of alarger national programme which intended to reduce the use of pesticides by 50% by 1990 and by a further50% by 1996 (SEPA, 1997).

Until 1994, the tax on pesticides was, in fact, a charge, with revenues used to finance various pesticidesaction plans. However, increase in the tax rate in 1994 significantly increased the level of revenues raisedand these revenues, which were transferred to the Swedish national budget. Prior to discussing the detailsof the Swedish pesticides tax, the following paragraph outlines complementary charges that have beenlevied on the use of pesticides in Sweden.

In addition to the introduction of the pesticide tax/charge, the Swedish government also implemented anadditional pesticides price regulation charge in 1986 and a further pesticide registration charge. Theprice regulation charge was levied on the basis of 3.2 per dose of pesticide used. Revenue from the priceregulation charge was used to support the export of agricultural products. In 1992, the price supportcharge was abolished along with the ending of guaranteed prices for cereals. The pesticide registrationcharge is intended to finance the operation of the National Chemical Inspection for control of pesticides.The registration charge is levied annually as 1.8% of sales of pesticides during the year, with a maximumamount of approximately 22,000 and a minimum of 220 for the year.

In contrast to the Danish pesticides tax, the Swedish tax on pesticides is levied at a fixed rate. Initially thetax rate was approximately 0.4 per kilogram of active substance. This was then raised to nearly 0.9 perkilogram in 1988 and further to 2.2 per kilogram in 1994 (Ecotec et al, 2001). Manufacturers andimporters of pesticides, who are liable for the tax, are required to register with the Swedish National Tax

Board. In addition, all pesticides must be registered and approved by the National Chemical Inspection.

Revenue from the Swedish pesticide tax during the period 1995 2001 was between 6.6 million and 8.7million (Nienhaus and Knickel, 2004). Over this period, there were 44 registered taxpayers including boththe importers and the domestic manufacturers. The Swedish Environmental Protection Agency reports thatthe estimated administrative costs of the tax, incurred by the National Tax Board were less than 1% of thetotal tax revenue (SEPA, 1997).

Ecotec et al (2001) report that the pesticide tax has had a significant effect on the consumption and useof pesticides. In particular, the 1600 tonnes of pesticides used in 1994 was 35% of the annual averageconsumption of pesticides between 1991 and 1985. However, the effect of the tax alone is difficult toidentify due in part other policy measures that include an advisory service for farmers as well aspesticides research and development (in much the same fashion as the Danish National Action Plan). Inaddition, during this time there have been a number of changes to agricultural policy (particularly in the

abolition of price support for crops), the abolition of the price support charge and the banning of thecommercial use of several pesticide products.

In summary, the Swedish Environment Protection Agency (1997) reports that the level of the tax is too lowto influence long-term consumption and use behaviour. The tax accounts for between 5-8% of thepurchase price of pesticide products. In order to reduce use by 10% in the future, an increase in the taxrate to 25% could be required. Of particular relevance here, is the fact that currently there exist fewsubstitutes to the use of pesticide, so its consumption is particularly insensitive to changes in price.


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Further reading


Swedish Environmental Protection Agency (SEPA) (1997), Environmental taxes in Sweden Economic

instruments of environmental policy, Report 4745.


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3.1.3 The Dutch Minas System - Nitrogen and Phosphorus Surplus Levies

Environmental issue: Eutrophication of water bodies, contamination of drinking water,acidification of land and other impacts caused by fertiliser use inagriculture

Type of economicinstrument:

Product/input charge

Similar examples: Austria (fertiliser tax abolished in 1994), Finland (fertiliser tax abolished

in 1994), Sweden (nitrogen fertiliser tax).Key Targets: Reductions in mineral surpluses and increased mineral efficiency inconjunction with the Nitrate Directive.

Administering institution: The Levies BureauKey stakeholders: Government, farmers, regulatory bodies

Description

The EU Nitrate Directive requires that groundwater and surface water pollution from nitrates be reduced.The Dutch Minas (mineral accounting system) and levy system for the agricultural sector was introducedfor nitrogen and phosphorus surpluses in 1998. Farmers are required to record purchases of nitrogen andphosphorus inputs in purchased feed, fertiliser, manure and outputs in plant and animal products. Thisenables nitrogen and phosphorus balances to be established at the farm level. Surplus of nitrogen andphosphorus above certain pre-determined levels are then subject to levy which the farmer must pay. The

levy free surplus is lowered over time.

The surplus is calculated as the input, of nitrogen or phosphorus, per hectare minus the output perhectare. In 2003, the levy free amount of nitrogen was 140kg per hectare for grassland and 100kg perhectare for arable land. For phosphorus, the levy free surplus amount was 20kg per hectare. For surplusesover the levy free amount, the 2003 tax rate was 2.3 per kilogram of nitrogen and 9.1 per kilogram ofphosphorus (Nienhaus and Knickel, 2004). Previously for the period 2000 to 2002 the respective tax rateswere 0.7 per kilogram for nitrogen and 2.2 per kilogram for phosphorus (Ecotec et al, 2001).

Overall, Nienhaus and Knickel (2004) report that nutrient surplus fell from 512 million kilograms ofnitrogen in 1998 to 334 million kilograms of nitrogen in 2002. For phosphorus, the nutrient surplus droppedfrom 140 million kilograms in 1998 to 87 million kilograms in 2002.

Revenue from the levies is not earmarked and contributes directly to the Dutch Ministry of Finances

central budget. Annual revenue generated by Minas is reported to be approximately 47.5 million(Nienhaus and Knickel, 2004).

The Minas System is administered by the Levies Bureau, which has the responsibility of implementing andrunning the scheme. Administering the scheme involves a General Inspection Service. The Dutch Ministryof Agriculture estimated that the cost of this service would be 11.5 million whilst other administrationcosts to the Levies Bureau would be 12.7 million per year. In terms of the administration costs incurredby farm, such as recording of inputs and outputs of nitrogen and phosphorus and producing the requiredaccounts, Ecotec et al estimate this to be in the range 220 to 580 per year.

Additional Comment

While an interesting example, according to a ruling of the EU Court of Justice, the Minas System needs tobe revised or abolished in the near future since it is not full in accordance with the EU Nitrates Directive.

Further Reading



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3.1.4 Swedish Charge on Cadmium Content in Fertiliser

Environmental issue: Cadmium release to the environmentType of economicinstrument:

Product/input charge

Similar examples: Austria (fertiliser tax abolished in 1994), Finland (fertiliser tax abolishedin 1994), Netherlands (nitrogen and phosphate levies), Sweden (nitrogenfertiliser tax).

Key Targets: Reduction in the cadmium content in fertilisersAdministering institution: National Tax BoardKey stakeholders: Fertiliser producers, farmers, regulatory bodies

Description

In 1994 Sweden introduced a charge on cadmium fertiliser, replacing a charge on phosphorus that hadbeen levied since 1984 (in addition, a charge on nitrogen in fertiliser has existed since 1984 in Sweden).The tax was introduced to reduce the use of fertiliser in the agricultural and forestry sector and also tocreate an ongoing incentive to reduce cadmium content in fertiliser. The charge is approximately 3.3 pergram of cadmium where cadmium content exceeds 5 mg per kg of phosphorus (Oosterhuis et al, 2000).

In much the same way as the Swedish tax on pesticides reported previously, the tax is levied on domesticmanufacturers and importers of fertiliser products who are required to register with the administering

authority. Furthermore, the cadmium in charge is actually tax since revenues go to the state budget. Priorto 1994, revenues generated by fertiliser taxes financed environmental projects and research. Revenuesfrom the cadmium charge were approximately 1 million in 1996, of which administrative costs wereapproximately 1% (Drake and Hellstrand, 1998).

Within two years of the cadmium charges introduction, the significant reductions in the cadmium contentof fertilisers were seen. Prior to the introduction of the charge, mean concentration of cadmium wasapproximately 35-40 grams per tonne of phosphorus. Following the implementation of the charge, meanconcentration of cadmium fell to 20 grams per tonne of phosphorus (SEPA, 1997). However, the extent towhich this arose from the cadmium charge is uncertain since it was only one aspect of government policythat also included standard and voluntary agreements (Drake and Hellstrand 1998).

The cadmium charge is administered by the National Tax Board (in conjunction with the tax on nitrogen).Producers and importers are required to report quantities and cadmium content of fertilisers each month.

Enforcement is limited to audits (25 of which were carried out in 1999), but actual cadmium contents arenot measured by authorities.

Further reading

Ecotec, CESAM, CLM, University of Gothenburg, UCD, and IEEP (2001) Study on the Economic andEnvironmental Implications of the Use of Environmental Taxes and Charges in the European Union and itsMember States, report to European Union.http://europa.eu.int/comm/environment/enveco/taxation/environmental_taxes.htm

Oosterhuis, F.H., Brouwer, F.M. and Wijnants, H.J. (2000) A possible EU wide charge on Cadmium inphosphate fertiliser: Economic and Environmental Implications, Final Report to the European Commission.

Swedish Environmental Protection Agency (SEPA) (1997a), Environmental taxes in Sweden Economicinstruments of environmental policy, Report 4745.


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3.2 Economic Instruments for Nature Protection

3.2.1 Transferable Development Rights for Farmland Preservation in Calvert County,Maryland, US

Environmental issue: Urban development of farmlandType of economicinstrument:

Transferable development rights

Similar examples: New Jersey Pinelands, Montgomery County (Maryland) and Dade County(Florida), all US.

Key Targets: Maintenance of the rural landscape and sustaining agriculture throughthe preservation of farmland, forests, environmentally sensitive andunique natural areas, and historic landmarks.

Administering institution: Local GovernmentKey stakeholders: Landowners, Developers, Local Government

Description

Between 1973 and 1997 agricultural land cover fell from 27% to 21% and forest land cover fell from 63% to51% in Calvert County, Maryland, US. Land development pressure arose due the close proximity of two

major urban areas, Washington D.C and Baltimore. For example, during the 1990s Calvert Countyexperienced a population increase of over 45%.

The Calvert County transferable development rights (TDR) programme began in 1978 and is the primaryinstrument for addressing the many land-use and environmental problems that land development poses.Typically, the negative environmental effects associated with development are not taken into account inprivate decision-making (e.g. they are external to the market). In addition, undeveloped land providesnon-market and public good benefits such as open-space, wildlife habitats. Generally, in the absence ofsome form of intervention, existing markets will ignore these benefits.

The TDR programme is an example of an economic instrument that creates a new market in order toaddress planning and environmental pressures. Within the created market, the right to develop land canbe traded between buyers and sellers of TDRs. Because a market solution is sought, TDRs have thepotential to result in efficient land use allocations. The market price signals to land owners the relative

values of preservation and development.The basic premise behind a TDR programme entails the local government determining the maximum levelof land that may be developed within a specific area. Development rights, corresponding to the maximumamount of land that may be developed in the area, are then distributed to landowners in the area. Iflandowners face different opportunity costs of not developing their land, some will sell their rights whilstothers will seek to purchase more rights that enable them to build at a higher density than their initialallocation permits. The flexibility allowed by the creation of a market for development rights enables landto be allocated to its most efficient use.

Typically different locations within the TDR scheme area are designated as either sending areas orreceiving areas. Sending areas are usually rural locations in which the right to develop is sent away,whilst receiving areas are usually located in areas of urban growth. Hence the intention is to preservecurrently undeveloped areas by redirecting development to areas that are already serviced by urban

amenities (such as transport, water and sewerage etc).Typically, landowners (such as farmers) may build a certain number of residential units on their land.However, with a TDR scheme, rather than sell their property for development, the landowner may sell therights to develop those residential units elsewhere. Hence, developers may purchase TDRs in order todevelop land in receiving areas. Once a landowner has sold the TDRs relating to their property, the landmay only be used for agricultural or forestry purposes. Hence, sale of the TDR permanently preserves landfrom development.

The Calvert TDR programme focuses specifically on the preservation of farmland in order to maintain therural character of the area. In order for a property to be eligible to sell TDRs, the landowner must firstapply to the County to establish an Agricultural Preservation District (APD). In order to be granted APD


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status, the land (farm or forest) must satisfy soil (good quality) and acreage (at least 50 acres if standingalone, or 10 acres if adjacent to an existing APD), requirements. A parcel of land in an APD must be keptin its agricultural or forest use for a minimum of 5 years. Over this period of time the landowner is exemptfrom Calvert County property taxes.

Once land has been designated as an APD, the landowner may sell TDRs as they choose. Each acre of landnot previously developed on a property can be granted one TDR. However, the sale of a single TDR from aproperty places the entire property in permanent easement status. This contrasts to other US examples ofTDRs and effectively means that the landowner faces an all or nothing decision whether or not to retainfull development rights to their land.

Not only may developers purchase TDRs, but the County Government can also act as a buyer of TDRs inorder to address concerns over increasing development. In 1991 Calvert County began an initiative ofpurchasing and retiring (PAR) TDRs to address concerns over rapidly increasing development. A secondinitiative with a lower requirement for expenditure began in 2001, that of leverage and retire (LAR).Landowners who sell TDRs to the County under LAR are compensated over time, before the principle valueof the TDR is paid after a specified period. For instance, for a 15 year period the landowner receives tax-free interest payments and is then paid the principle after 15 years. This enables landowners to reducetheir overall tax liability and transfer income to the future. Under this approach the county can retire agreater area of land for a smaller up-front cost (financed by tax-free bonds). In addition, in order topreserve a specific area of land designated as an APD, the County only needs to purchase one TDR topreserve that area of APD.

Markets for TDRs are similar to that of markets for tradeable emissions permits, but do have a significantdistinction in that decisions to sell development rights are of an irreversible nature. In addition, TDRmarkets are susceptible to domination from few buyers and sellers (e.g. monopsony where a small numberof developers purchase TDRs) and this may entail high transaction (and search) costs which could reducethe efficiency of the market. Furthermore, TDR markets typically require a greater role for theGovernment, not just in determining the overall amount of TDRs and designating sending and receivingareas, but also an active role in purchasing TDRs to preserve land.

In mid 2002 there were approximately 19,600 acres of land designated as APD status in Calvert County. Intotal, 12,644 TDRs had been sold, corresponding to the permanent preservation of approximately 13,000acres. This accounts for around 13% of agricultural and forest land in Calvert County (which, in turn,implies that nearly 10% of all county land in has been permanently preserved). Calvert County currentlyhas the objective of preserving 40,000 acres of farmland by 2020.

McConnell et al (2003) report that between 1983 and 1993, average TDR price doubled in real terms from$1,211 in 1983 to $2,578 in 1993 (both US $ 1999). From 1993 to 1999, prices have remained virtuallyconstant in real terms. Over all transactions up to 2001, average TDR price was $2,582 (US $ 1999).

Finally, McConnell et al report that the structure of Calvert County TDR programme is conducive to anefficient market for buying and selling development rights. Specifically, sufficient demand fromdevelopers, sufficient supply from farmers and stable TDR prices has helped convince those involved ofthe viability of the scheme. The Government has allowed the market to develop and move towardsimproved performance and efficiency and has aided this process through the provision of information andpurchases of TDRs at announced prices.

Additional comments

In the Czech Republic an alternative approach has been adopted in order to discourage conversion ofagricultural land and forests (Klarer et al, 1999a; REC Database). In 1995 a land conversion chargesystem was introduced, which is administered by the Czech soil protection agency. Developers who wishto convert agricultural or forest land to other uses are subject to the charge. For agricultural land, thelevel of charge varies according to soil quality and other environmental factors. Furthermore, land innational parks and other protected areas may be subject to even greater rates of tax (between 5 and 20times the basic rate).

The charge levied on conversion of forested land reflects the importance of this land in the CzechRepublic. Approximately one-third of the country is covered by forest, which has not only an importantrole in water, air and land environment functions, but also has an economic significance through theproduction of wood. Charge rates for both temporary and permanent conversions of forest land are


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determined by multiplying the average yearly production of wood by the average price of wood and thenby a further environmental coefficient. For forests managed for wood production, this coefficient is 1.4,whilst for protected areas of forests the coefficient ranges from 2.0 to 5.0. Hence, charge rates willtypically be higher for protected forest land.

Revenue from both the agricultural and forest land conversion charges is distributed to the stateenvironmental fund (60%) and municipal budgets (40%). Revenues are used to fund environmentalprotection and rural area support policies (Klarer et al, 1999a). In 1997, revenue from the charge foragricultural land conversion that was allocated to the environmental fund was approximately $14 million,whilst revenue from the forest land conversion charge contributed approximately $0.6 million to the fund.Klarer et al (1999a) note that collection efficiency of the charge is reported to have been limited.

Further reading

McConnell, V., Kopits, E. and Walls, M. (2003) How Well Can Markets for Development Rights Work?Evaluating a Farmland Preservation Program, Resources for the Future Discussion Paper 03-08.Available from www.rff.orgat: http://www.rff.org/Documents/RFF-DP-03-08.pdf

Klarer, J., J. McNicholas, E. Knaus (eds) (1999a) Sofia Initiative on Economic Instruments, Sourcebook onEconomic Instruments for Environmental Policy in Central and Eastern Europe: Abridged Version A RegionalAnalysis.

REC Database:http://www.rec.org/REC/Programs/SofiaInitiatives/EcoInstruments/Database/SIEI_database.html


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3.2.2 Individual Tradable Quotas for Fisheries in New Zealand

Environmental issue: Depletion of fish stocksType of economicinstrument:

Individual Tradable Quotas (ITQ)

Similar examples: Iceland, South Africa, Chile, AustraliaKey Targets: To keep fish catch within Total Allowable Catch limits based on

biological assessment of the species

Administering institution: Ministry of FisheriesKey stakeholders: National government, fishing industry

Description

In the absence of any form of government intervention, fisheries typically suffer from problems ofcommon and open access. Where property rights are ill-defined or non-existent, incentives for sustainableuse and management of natural resources, such as fisheries, are usually scarce. Coupled with thedifficulties of monitoring and exclusion fisheries are often over-exploited. Furthermore, continualtechnical improvements in fishing have made boats more effective in for harvesting fish and statesubsidies to fishing-related capital equipment (e.g. subsidised loans for boats) and operations havecreated a vast overcapacity of vessels. As such, many fisheries face the risk of substantial of depletion ofstocks. In order to address these problems, the New Zealand Government introduced an individualtransferable quota (ITQ) scheme with the objective of creating property rights to fish stocks prior to

catch.

Prior to 1976, New Zealands fishery policy focused primarily on the development of inshore fisheries thatwere exhibiting signs of over fishing. For example, catches of red snapper had reached a peak in 1978 andfallen by approximately 43% by 1983. Government instituted programmes from the 1960s onwards hadresulted in increased fishing effort. In particular, subsidies for an industry in a regulated open-accesssetting were cited as the main reasons for excess capacity and the associated depletion of fish stocks ininshore fisheries in the early 1980s.

However, extension of the exclusive economic zone (EEZ) to 200 miles in 1978 had the effect ofnationalising offshore fisheries. To promote domestic fishing in the offshore fisheries, the Governmentintroduced subsidised loans, duty- free imports of large fishing vessels, and a price support mechanism. In1983, a quota-based system was established for nine companies fishing seven offshore species. Eachcompany was allocated quotas (i.e. right to catch a given amount of a particular species of fish) for a ten-

year period on the basis of investment in catch and processing capital.

The depletion of inshore fisheries, the development of the offshore quota program, and deregulation ofmarkets in the 1980s contributed to a conducive atmosphere for establishing ITQs as a fundamentalcomponent of fisheries management in New Zealand. The 1986 Fisheries Amendment Act created the ITQsystem after several years of consultation with industry. Since then, further modifying legislation has beenpassed several times, but the basic structure of the system has remained intact.

The NZ Ministry of Fisheries determines the annual total allowable catch (TAC) of each fish stock on thebasis of a biological assessment and other environmental and socio-economic factors. The aim in settingthe annual TAC is to move fish populations towards levels that will support the greatest annual catch(known as the maximum sustainable yield). This differs from what, in theory, would be the most efficientlevel of harvest that accounts for the potential regeneration of the fishery stock. Hence, with the NewZealand ITQ, the total number of permits issued for a particular species each year corresponds to the

maximum sustainable yield of that species.

Typically, fishing quotas may only be traded within the same fish stock, i.e. not across species, years ordifferent regions of the EEZ. Quota rights may be broken up and sold in smaller quantities or leased orsub-leased in any amount. Furthermore there are no restrictions on the amount of times a quota can besold, leased or sub-leased. There are, however, limits on foreign quota holdings. Compliance andenforcement of quotas involves detailed reporting procedures that track fish from a vessel to a licensedfish receiver (on land) to export records, along with an at-sea surveillance program including on-boardobservers.

Initially, individual quotas were allocated free of charge to fisherman on the basis of average catches from1982 to 1984, in terms of fixed annual tonnages into perpetuity. In some fisheries, the initial catch


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allocations exceeded the maximum sustainable yield, and it was necessary for the Government to buyback quotas. This proved to be expensive; NZ$45 million for inshore fisheries alone. The cost of purchasingquotas led the Government to