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Environmental Economics Research Paper No.5
Consultancy report prepared by: Dr David James, Ecoservices Pty Ltd
Commissioned by Environment Australia
© Commonwealth of Australia, 1997
ISBN 0 642 26850 9
This report is an updated and expanded version of Using Economic Instruments for Meeting Environmental Objectives: Australia's Experience, an environmental economics research paper prepared by the author for the Department of the Environment, Sport and Territories (DEST) in 1993 (James 1993). Instruments for environmental and natural resource management can be defined as administrative mechanisms adopted by government agencies to influence the behaviour of those who value the natural environment, make use of it, or cause adverse impacts as a side-effect of their activities.
In the last few years there has been greater support for using economic instruments to manage the environment. In part, this has been the result of broader policy initiatives based on international and national commitments, as well as an increasing realisation that economic instruments offer scope to achieve environmental objectives in more cost-effective ways than traditional command-and-control or regulatory mechanisms. Thus the use of economic instruments for environmental management may be one way of achieving more efficient government, and of encouraging environmental good practice while improving economic performance and international competitiveness.
An important development has been the greater use of economic instruments in managing natural resources that have significant environmental connections, for example, in areas such as forestry, fisheries, land conservation, water quality, river flows and the maintenance of biodiversity. The present report covers many of these areas.
The report discusses economic instruments in the international context, including recommendations made by the World Commission on Environment and Development, the United Nations Conference on Environment and Development and the Organisation for Economic Cooperation and Development. In the national context, it discusses economic instruments in relation to the Ecologically Sustainable Development Working Groups, the National Strategy for Ecologically Sustainable Development, and the Intergovernmental Agreement on the Environment.
The main instruments surveyed in this report follow the same classification system recommended by the Organisation for Economic Cooperation and Development. They are:
Where possible, the report uses case studies to illustrate the practical application of economic instruments in Australia. The following format has been used in each case study to help compare instruments:
The report explains how economic instruments perform and where their potential advantages lie, compared to regulatory mechanisms. The main advantages are related to economic efficiency as economic instruments enable the achievement of environmental objectives at least cost to the community. The instruments do, however, have practical limitations and there is no guarantee that they will automatically result in the cheapest solutions. Poorly designed economic instruments can cost as much as command-and-control systems.
Emission and effluent charges are discussed as a means of encouraging better environmental performance, particularly in relation to pollution control. The South Australian Environment Protection Authority pioneered the use of this instrument in Australia with its charging system for discharges to the marine environment, and the same system is being maintained under the Environment Protection Act 1993 (proclaimed in May 1995). The New South Wales Environment Protection Authority is currently introducing another innovative charging system under its load-based licensing scheme.
A wide range of government agencies employ user charges for waste management. The Trade Waste Policy and Management Plan, introduced by Sydney Water in 1991, is presented as a case study. Water and sewerage authorities in other States have adopted similar schemes.
Environment taxes and levies are used in the water and sewerage industry, and increasingly by local governments. An important lesson, demonstrated by a case study of the Special Environmental Levy applied by the Sydney Water Board, is the need to assure those who pay the levy that the funds are allocated to the prescribed environmental purpose.
Product charges are not widely applied in Australia. There are, however, several examples, such as the tax exemption on recycled paper, which has now been abolished, and the differential tax on unleaded petrol. The report discusses both of these case studies, as well as a case study on ozone depleting substances.
Deposit refunds have been very successful in South Australia as a means of reducing litter from beverage containers, as the case study on the South Australian Beverage Container Deposit scheme illustrates. Deposit refunds could be applied more widely in Australia for waste management, on items such as motor vehicles, batteries and other consumer durables.
The report contains an extensive discussion of tradeable discharge permits. There is considerable interest in this instrument for environmental protection, particularly in New South Wales, and theoretically such permits offer many advantages. Case studies of the Hunter River Salinity Trading Scheme, the Murray-Darling Basin Salinity Scheme, bubble licences for the Hawkesbury-Nepean and Sulphur Dioxide Management in the Kwinana Industrial Area discuss practical experiences with permits.
Tradeable resource use rights are a commonly used economic instrument. The report provides a general summary of experience in Australia, with case studies on tradeable water entitlements in Victoria, individual transferable quotas in fisheries management, and log pricing and allocation in forestry. An important feature of all the resource systems in these case studies is that they are based on renewable natural resources with constraints on maximum allowable use rates. The main function of tradeable rights is that they encourage allocation of the resource to the highest valued purpose, while meeting the yield constraint.
The report briefly discusses user charges for natural resources and environmental amenity. We can expect wider use of this kind of instrument as governments increasingly implement the user pays principle to cover the costs of managing natural areas and resources.
Performance bonds involve an upfront guarantee by developers, mining companies or other users to ensure that, should they go bankrupt or otherwise neglect their environmental responsibilities, there will be funding available to cover the cost of rehabilitation. Queensland has an innovative performance bond system for its mining sector, which contains economic incentives designed to encourage companies to implement best practice mining and rehabilitation processes.
Other economic incentive systems discussed in the report include the Accredited Licensee System and Cleaner Production in Victoria. The report provides an extensive coverage of economic incentives for biodiversity conservation, including voluntary actions by the private sector, economic incentives for conservation management, application of the user pays principle, and taxes and charges designed to raise revenue specifically for biodiversity conservation.
The report discusses economic incentives being used by local government. Councils are increasingly meeting the challenge of designing and implementing conservation strategies and resource management plans at the local and regional scale, and using economic incentives to help achieve their aims. The main incentives used are environmental levies, rate rebates and in-kind contributions. Programs tend to focus on the protection of vegetation, natural habitat, heritage sites, water quality and land resources. Many of the local government initiatives are undertaken on a collaborative basis, including co-funding arrangements, with State governments and the Commonwealth Government, and with stakeholder groups such as catchment management committees.
The report concludes with a general evaluation of economic instruments in relation to several criteria.
In terms of effectiveness in achieving environmental objectives, it is evident that the most successful instruments are those that specify quantity or quality constraints or standards. Tradeable permits generally do this. Performance bonds also appear to be effective in meeting environmental objectives.
There may be some uncertainty about the effectiveness of pricing controls based on the user pays/polluter pays principles in achieving the desired level of environmental protection. Price increases may not always effectively promote conservation of resources because users may not change their behaviour when faced with an incremental change in their costs.
The South Australian deposit scheme for beverage containers suggests that deposit refunds can successfully reduce litter and encourage product and materials recovery.
In terms of efficiency gains, there is a general problem of determining how to assess such gain. Usually, the gains from economic instruments are claimed relative to those from poorly designed command-and-control systems. In the case of tradeable resource use rights, there is evidence of improved economic viability in several industries. Efficiency gains have been reported by water supply authorities servicing urban areas and for irrigated agriculture. In fisheries using individual transferable quotas, rationalisation of fleets has led to higher economic returns to operators and the industry as a whole. There is some evidence that trade waste programs are resulting in greater efficiencies in industry, including reduced generation of waste and greater reclamation of materials.
Tradeable permits and user charges provide ongoing incentives for improved efficiency and environmental performance. The Queensland mining bond system provides effective ongoing incentives for sound environmental management. Self-regulation by industry is an important component of the Kwinana sulphur dioxide control scheme.
Equity aspects vary according to the type of instrument and the way it is designed and implemented. The objectives of efficiency gains and of social equity may at times be in conflict, and equity problems are probably the main obstacle to introducing user pays pricing to encourage better resource use. Adverse price effects may be cushioned by incorporating direct regulations and other policy measures to back up economic instruments. For example, in pollution control programs, economic charges may be supplemented by product, equipment or performance requirements as well as education, information exchange and training.
Community acceptance is essential to the success of any system of resource management or environmental protection. The community has generally been somewhat suspicious of economic instruments, but there is now greater understanding and acceptance of their use. Experience suggests that public support for economic instruments and financing mechanisms will be most favourable where it can be demonstrated that funds are being allocated to environmental programs and projects. Local councils and other water authorities have generally gained acceptance for environmental levies.
Industry acceptance is an essential aspect of implementing economic instruments. The important message to convey is not whether the instruments will result in any cost, but whether they are likely to enable industry to comply with the environmental objectives of government at a lower cost than those of alternative instruments.
Administrative feasibility depends on existing and proposed institutional structures, legislation and administrative procedures. Jurisdictional constraints may create particular problems of policy coordination.
Administrative costs of economic instruments are difficult to determine, especially on a comparative basis with other regulatory regimes. Economic instruments in principle should not cost more in administrative resources than command-and-control regulations, and there may be good reason to expect lower costs, depending on the design of any particular system. Provisions for cost coverage can be incorporated in the design and operation of instruments. Environmental and user charges of many kinds are imposed by governments to raise revenue to cover costs. Revenue can also be raised through licence fees or by auctioning user rights.