Outline of day - Department of the Environment · – Main auctions of interest in NRM are 1 st and 2nd price sealed bid auctions. – Main difference between English and Dutch and

Outline of day

0830 - 0850 Introduction – Drew Collins

0850 – 0900 Overview of exercise – Stuart Whitten

0900 – 1000 Price Based MBIs and Auctions 1 – Auction basics

1000 – 1030 Morning Tea1030 – 1120 Auctions 2 – Auction design1120 – 1150 Practical Metric Design – (David Parks NRE Victoria)

1150 - 1200 Experimental Auction1200 – 1400 Lunch 1400 – 1430 Experimental Results

1430 – 1500 Auctions 3 –Tools in auction design and other design issues

1500 – 1600Practical experience with Auctions

1400 - 1410 David Walker LPLMC1410 - 1420 Michael GarrodOnkaparinga1420 - 1430 Carla MilesBush Returns1430 - 1440 Cheryl GoleWWF WA1440 - 1500 Discussion

1600 - 1630 Afternoon Tea

1630 - 1720 Workshop – Report back

RIRDC | CSIRO | BBG | GBCMA | DIPNR NSW

1. Price based Market-Based Instruments

StructureStuart Whitten

CSIRO Sustainable Ecosystems

Price based MBIs - Structure

• What are price based MBIs?

• How do price based signals work?

• Targeting price based signals

• Deciding between price based options

• Note: much of the background from Drew Collins

• Questions are welcome at any time

Where do price based MBIs fit?MBIs

‘encourage behaviour through market signals rather than through explicit

directives’

Price-based

Lever behavioural change by changing

prices in existing markets

Quantity-based

Lever behavioural change by specifying the ‘amount’ of new rights / obligations

Market friction

Lever behavioural change by making

existing private markets work better

Eg: Changing taxes, introducing levies, giving subsidies

Eg: Introducing a ‘cap and trade’ scheme or

an offset scheme

Eg: Disclosing information such as

via ecolabelling

What are price based MBIs?

• Facilitative, incentive or coercive?

• Price based MBIs form part of the ‘incentive’ group of instruments.

• The goal is to directly alter landholder pay-offs thereby substituting in part or whole for the missing market signal.

• Comprised of:

– Subsidies (including grants and payments)

– Taxes (including penalties and fines).

Subsidies

• Input subsidies – Commonwealth = NHT, NAP, tax concessions

– State = most devolved grant programs, materials grants

– Local = Rate rebates, free native trees.

• Outcome subsidies – BushTender and similar outcome metric based auctions

• Product subsidies – water and energy efficient appliances, ULP excise exemption

Taxes

• Output taxes– Pollution, development & waste disposal fees

• Input taxes– Abstraction charges, parking and toll charges

• Outcome taxes– Noise levies

• Product taxes – Lubricating oils, tyres, fuels

à But Australian environment tax levels are low by international comparisons

International Price Instruments - subsidies

• Overall, subsidies generally intended to encourage resource exploitation and industry development, NOT environmental protection

– US$950b in 2000; or 3.6% world GDP

• Where act to promote greater externalities, are termed ‘perverse subsidies’

• There has been a shift to environmentally beneficial subsidies such as US CRP and Aust. NHT, NAP, etc

Environmental MBIs becoming common eg:

Example: Blair’s Green Tax Reforms

• landfill levy

• aggregates tax

• vehicle excise duties (registration fees)

• fuel taxes

• energy taxes

• tax treatment of company cars

• greenfield development

• parking levies and congestion taxes

Vehicle Excise Duties -from 2001

Annual charge for cars

• based on CO2 emissions

• four tax bands, adjusted for fuel type

• saving equivalent to 10% drop in fuel bill

Deciding between instruments

Biophysical inputs

Species/climate/geology

Labour inputs

Other inputs

Fencing/herbicide

Production of Biodiversity Conservation

Biophysical Outputs

Species etc

Landscape aesthetic outputs

Other outputs

Biophysical inputs


Biophysical inputs


Labour inputs

Other inputs

Fencing/herbicide



Biophysical Outputs

Species etc

Biophysical Outputs

Species etc

Landscape aesthetic outputs

Other outputs


• Identify target outcomes and define practical incentive opportunities.

• Efficient price based instruments will target the most restrictive constraints in the most cost effective way!

• Sometimes the cost of targeting may be greater than the benefits over other approaches.

• The discipline in the outcome approach helps the focus in other approaches.


Non variable and non competitive

Highly variable and competitive

Spectrum of biodiversity conservation incentives

Open entry uniform incentives Example: 100 free native trees to all rural landholders in the region

Restricted entry uniform incentive Example: Landcare tax deductions that allow full deduction of expenses in year they are incurred.

Applied entry rule based incentives Example: Remnant vegetation cost-sharing fencing by application with allocation of funds according to set criteria.

Competitive entry auctions Example: BushTender style auctions with variable payments according to landowner bids.


• Price based instruments tend to vary according to the level of payment and competitiveness.

Degree of competitiveness

Degree of variability

None

Baby Bonus

Free Native Tree ProgramFlat rate fencing contract

Rate rebates

Landcare tax deductions (capped)

Purchase of covenants or land

Individually negotiated mgmt agreements (special sites)

Region wide grants program eg native vegetation mgmt with multiple actions

Targeted grants program eg riparian works in targeted streams

Auctions and competitive tenders

TRANSACTION COSTS


• As the rate of competitiveness and rate of variability increase so to do transaction costs.

• A particular issue in deciding between instruments is the variability in costs and outcomes – it is this variability that underpins auctions and tenders.

Heterogeneity and appropriate mechanisms

Owner variability (in terms of costs)

Homogeneous Heterogeneous

Homogeneous Standard fixed price contracts and payments for specified outputs

Auctions (variable payments

for homogeneous products)

Protection variability

Heterogeneous

Site-specific management agreements

Site-specific management

agreements and payments


• In most of our landscapes we have both cost and outcome heterogeneity ...

E.G. difference in salt generation by sub-catchment

Eg. Cost difference in recharge reduction

0

20

40

60

80

100

120

140

160

180

0 1000 2000 3000 4000Recharge (Mls)

Pric

e ($

/Ml)

supplydemand

Questions?


2. Auctions and Tenders – Auction basics



Auction basics - structure

• What are auctions and tenders?

• Why use auctions or tenders?

• Design Fundamentals 1 – market failures.

What are auctions?

• Auctions are a tool for allocating a good with unknown price amongst competing buyers.

• The NRM auctions we will discuss are termed a ‘reverse auction’ – allocating a fixed budget for an unpriced good between competing sellers.

Types of auction

• Four main types of auction

1. English auction = clearing sale or antique auction where ascending bids are called out.

2. Dutch auction = opposite of clearing sale, auctioneer states price then lowers until someone buys.

3. 1st price sealed bid = paid price of bid. Also known as a discriminatory price auction.

4. 2nd price sealed bid = paid price of first loosing bidder. Also known as a Vickery auction when only one good sold, or a uniform price auction when many sold.

Types of auction

– Main auctions of interest in NRM are 1st and 2nd price sealed bid auctions.

– Main difference between English and Dutch and sealed bid auctions is that participants can observe rival bids in the former and revise their own accordingly.

– This is important in a general sense and will be returned to later.

Why might auctions be preferred?

• Stoneham notes several reasons for auctions:

– Useful in setting unknown prices

– Less costly and time consuming than a series of individual negotiations

– More flexible than a fixed price

– Can be structured to extract information about values

More broadly … public tenders / auctions for

• Public type non-market good or ecosystem service

• Information asymmetry about costs and impacts on farmers

– farmers know costs better than government

(Latacz-Lohmann and Van der Hamsvoort 1997)

• Leverages heterogeneity between landholders in either costs or ecosystem service production potential.

• Sufficient additional gains from trade through auction to warrant costs over alternative options.

Thinking about auctions …

• Need to design to overcome impediments to efficient provision of ecosystem services …

• Economists find it helpful to think of the impediments as a combination of market and government failures.

• The goal is to design the instrument to minimise the impact of either.

Potential market failures identified

Small numbers of participants, collusion, or dominant players.

Market power

Payments don’t match capital constraints or costs of making a bid prohibitive

Constraints to auction entry

Outcome known later but costs incurred upfront. Difficult to monitor implementation / effectiveness.

Difficulty measuring / monitoring success

Insufficient knowledge about the relative and absolute impacts of landuse change

Scientific uncertainty

Landholders may not be familiar with tools and techniques to change management

Information failure

Landholders don’t know public benefits from changing management

Asymmetric information

Government doesn’t know private costs of changing management

Asymmetric information

Unclear definition or allocation

Difficulty in defining or measuring good / service

Rights

Overcoming market failures

• There are also some additional design issues that are important that will be discussed later.

DISCLAIMER

• This is not a recipe!

• The importance of these failures will differ from issue to issue and from region to region.

• Seek advice and think hard before implementing.

Property right issues

• Who holds the rights to the ecosystem service?– Generally a de facto right held by the land manager that is

contractually specified.

• How are property rights measured?– This is the question of an appropriate and practical metric

• Is there a minimum duty of care requirement?– Is existing behaviour important or only the aggregate

outcome?

Property rights

Property right characteristic

Description

1. Clearly defined Nature and extent of the property right is unambiguous 2. Verifiable Use of the property right can be measured at reasonable cost 3. Enforceable Ownership of the property right can be enforced at reasonable

cost 4. Valuable There are parties who are willing to purchase the property right. 5. Transferable Ownership of the property right can be transferred to another

party at reasonable cost. 6. Low scientific uncertainty *

Use of the property right has a clear relationship with cause and effect.

7. Low sovereign risk *

Future government decisions are unlikely to significantly reduce the property right’s value.

Murtough et al 2002

What really matters in metric design?

What is a metric:

• The metric is the measure of what is being bought and sold in the market.

• It is THE critical element in evaluating alternative actions / purchases.

• Therefore it reflects a complex bundle of tradeoffs.

What really matters in metric design

• Quantity / quality

• Relative change

• Location

• Timing

• Risk / certainty

• Irreversibility

• Spillover impacts

Ø Hectares versus species

Ø Marginal improvements matter

Ø Upstream / downstream

Ø Years to achieve outcome

Ø Thresholds / failure rates

Ø What happens if nothing is done?

Ø Will the solution create problems?

What really matters in metric design - relative change

• Aim is usually to pay only for

the improvement in outcomes

• Need to measure the relative

improvement of different

actions!

• Hence, good baseline estimates

needed for comparisons.

• Economists often refer to this

as the margin

Continue as usual

Change management

A

B

Time

Outcome

What really matters in metric design?

• The most important aspect of metric design is quantity / quality.

• This is often adjusted by subtracting what would happen anyway (the do nothing baseline)

• Location, timing and risk weight the quality / quantity attribute.

• Irreversibility and spillovers are often included as filters but can be included as weights.

• If multiple output metrics are considered individual metric weights will need to be considered.

An example – measuring contribution to instream salinity

Consider spillovers – not considered majorSpillover impacts

Not identifiedIrreversibility

Consider probability of success of actions?

Consider permanence of landuse change?Risk / certainty

Steady state model (all short / medium term)Timing

Single specified downstream point

No path impacts, thresholds, synergiesLocation

Change from standardised baseline estimate defined broadly by grazing / erosion DOC

Except for regeneration?Relative change

Salt discharge estimated from landuse change using ? Model.Quantity / quality

Outline of day

0830 - 0850 Introduction – Drew Collins

0850 – 0900 Overview of exercise – Stuart Whitten

0900 – 1000 Price Based MBIs and Auctions 1 – Auction basics

1000 – 1030 Morning Tea1030 – 1120 Auctions 2 – Auction design1120 – 1150 Practical Metric Design – (David Parks NRE Victoria)

1150 - 1200 Experimental Auction1200 – 1400 Lunch 1400 – 1430 Experimental Results

1430 – 1500 Auctions 3 –Tools in auction design and other design issues

1500 – 1600Practical experience with Auctions

1400 - 1410 David Walker LPLMC1410 - 1420 Michael GarrodOnkaparinga1420 - 1430 Carla MilesBush Returns1430 - 1440 Cheryl GoleWWF WA1440 - 1500 Discussion

1600 - 1630 Afternoon Tea

1630 - 1720 Workshop – Report back

Market failure and mechanism design

• Asymmetric information - cost– We don’t know land manager’s costs of changing

management

– Use a well structured tender mechanism to reveal.

• Sealed bid, discriminatory price auction suggested. Further discussion after exercise.

– Set a reserve price to reduce risk of overpayment if failure in tender.


• Asymmetric information - benefits– Land managers do not know public benefits of changing

management.

– Need to signal relative importance. Usually via extension program informing of desired management changes rather than revealing metric results (which are meaningless without comparison in any case).


• Information failure – tools and techniques– Landholders may not know how to change management and therefore

cannot submit an intelligent bid

– Support tender with an extension campaign.

• Scientific uncertainty – This is a problem for any policy approach and should be considered

early.

– If uncertainty is limited to some suggested solutions then may be considered in metric

– If public concerns about efficacy then communication strategy may address


• Difficulty in measuring or monitoring success– Issue for any incentive

– Effectiveness of solution (or even input action) often only known in the future

– Effective monitoring options are costly or intrusive

– Think hard about pragmatic tradeoffs in achieving effective incentives for compliance and effectively monitor public investment while working with land managers.

– Often the range of acceptable actions restricted to reduce risk here, but innovation is the driver of longer term dynamic efficiency under MBIs.

– Can also search for ex ante indicators of commitment and success but this is very difficult to achieve in a transparent way.


• Constraints to auction entry– Tradeoffs between clear incentives for compliance and

overcoming capital constraints often need to be made.

• This may for example require a large up-front payment and small ongoing payments

– Bid payments may be needed because gathering information and preparing bids is costly to potential participants.

• These should only be set to cover entry costs or non-genuine bids may be made.


• Market power– ‘What really matters in auction design is robustness

against collusion and attractiveness to entry – just as in ordinary industrial markets’ (Klemperer 2004).

– Develop targets for bid numbers for an effective auction and consider likelihood of reaching target

• Target information campaign to increase numbers if needed.

– Identify potential for collusion or dominant players.

• Generally less likely in sealed bid NRM auctions but important to consider for accountability.

Questions?


3. Auctions and Tenders –Other issues and design tools



Other auction design issues …

• One auction or many?

• Additional marketed ecosystem services

• One bid or many and group bids

• Permanent versus temporary change

• Interaction with other incentive programs

One market or many?

4. Separate single outcome markets – relatively greater freedom in sites and management actions.

3. Programs/Markets with management actions specified, but greater freedom in location

No

2. Programs/Markets with biophysical sites specified, but greater flexibility in management actions

1. Multiple outcome market – site and management actions reasonably specific

YesBiophysical

Hotspots Overlapping (biophysical

outcome occurring at

the same spatial scale)

NoYes

Management Actions Overlapping (multiple outcomes from single action)

Other mechanism design issues …

• One auction or many

– May be efficient where overlapping actions and targets

• Additional ecosystem services

– Are other marketed ecosystem services likely – e.g. carbon

– Decide whether to include and pool, direct to buyer or do nothing


• One bid or many and group bids– Because landholders costs vary they may wish to submit multiple bids

– No reason identified to disallow multiple bids but suggest they are mutually exclusive for simplicity.

– Same for group bids but exercise caution if market power possible.

• Permanent versus temporary change– Temporary likely to be more cost effective

– In many cases temporary change will be permanent – especially if payment provides for capital investment with low maintenance costs.

– Difficult to identify appropriate premium in most cases.


• Interactions with existing mechanisms– Continuing other incentives may create gaming issues and pervert

market outcomes – generally recommend avoid unless symmetries anticipated.

– Also may increase policy costs because multiple mechanisms for 1outcome

• Changes to stakeholder expectations– May mean cannot effectively return to past mechanisms

– Market scheme as a new way of cost sharing or achieving change

Emerging areas in auction design

• Changes to stakeholder expectations

• Combinatorial auctions


• Changes to stakeholder expectations

– May mean cannot effectively return to past mechanisms

– Example from Israel: Childcare centre introduced late pickup fines instead of moral disapproval and peer pressure. This lead to many more late pick-ups. The fee was removed and an attempt made to return to the previous instrument but late pick-ups did not fall.

600

800

1000

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1 2 3 4 5 6 7 8 9 10 11 12

period

cont

ribut

ions

to th

e pu

blic

goo

dcontrol

competitive tender

more competitive tender

open access tender open access


• Andrew Reeson at CSIRO has been researching this area.

• Preliminary results indicate that:

– Performance was weak compared to a control.

– There is evidence of adverse behaviour on discontinuing the tender. Economists term this ‘crowding behaviour’ because the positive behaviour is crowded out.


• Combinatorial auctions

• These are used where there are complements between goods that enhance the value of specific packages of outcomes.

• A specific NRM example is biodiversity corridors.

• We think there may be a very large range of these but auction design becomes much more complex and the costs may outweigh the benefits.


• We have been working on simple combinatorial auction design in collaboration with John Rolfeat CQU.

• We designed and tested a two round auction to obtain biodiversity corridors across the desert uplands.

30%

20%

20%

N Watering pointsWater courses> >

Major Ridgelines Vegetation

New tools in auction design

• We have also been working on workshop based auction design in collaboration with John Rolfe at CQU.

• Workshops are convened at which landholders are invited to submit bids to trial auctions.

• These bids enable us to test landholder understanding of key parameters such as desired management actions, bid description and submission and so on.

• These workshops are likely to be valuable communication tools and may also assist in developing expectations about prices and quantities offered.

Questions?

For more information….

Stuart Whitten


[email protected]

Presentation will be on our website soon:

www.ecosystemservicesproject.org.au

Documents

Outline of day - Department of the Environment · – Main auctions of interest in NRM are 1 st and 2nd price sealed bid auctions. – Main difference between English and Dutch and