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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
Proportional non-compliance fees consist of penalty payments that are imposed if maximum limits on emissions or effluents are exceeded. To constitute an economic instrument, such fees must be linked to the rates by which prescribed limits are exceeded. The fee may be applied at the same per unit levels by which limits are exceeded (constant average and marginal rates), or may comprise a sliding scale under which the unit charge increases the greater the limits are exceeded (increasing average and marginal rates). Fixed penalties, such as fines for non-compliance, are not classed as economic instruments.
No examples of proportional non-compliance fees have been found within Australia. Proportional non-compliance fees may represent an anomaly in rational approaches to environmental management. If a threshold (safe standard) can be defined, the basis for exceeding the standard may be difficult to justify. Such systems are likely to be opposed strongly by environmental groups and the general community. They would also be extremely difficult to monitor and enforce.
Product charges may be imposed on inputs to economic activities as a means of indirectly controlling adverse environmental impacts. In some European countries, for example, charges are levied on fuels according to their sulphur content, as an incentive to reduce emissions of sulphur oxides. Concessional taxes are also imposed on recycled lubricating oils to promote resource conservation and reduce adverse environmental impacts.
Differential taxes have been applied in Australia on recycled paper, to encourage reuse of paper, conserve timber supplies and reduce waste disposal and litter.
Proposals have been considered in Australia to impose product charges on phosphorus in detergents and on agricultural fertilisers to control excess levels of nutrients in inland lakes and rivers. Introduction of such charges is within the jurisdiction of the Commonwealth, but they could be administered by the States. The main disadvantages are that such charges may not be linked to environmental damage in specific locations, and may also add unnecessarily to the cost burdens of efficient and non-polluting producers.
One example of a product tax is the system of charges for ozone depleting substances, administered by the Commonwealth Government and State governments. The following case study describes Australia's experience in using charges for ozone depleting substances. As a case study it illustrates a number of important issues.
First, there is the problem of coordinating policies among the Commonwealth and the States. Not all States have introduced specific controls and, where legislation has been passed, it differs between States. Second, there is the question of interstate competitiveness and trade. Some States have banned the import of ozone depleting substances even though their use is permitted in others. Third, the appropriate form of control must be determined. Originally, it was proposed to have a comprehensive system of tradeable quotas. Within the States, direct regulations have been introduced governing the phase-out of scheduled substances, supported by charges to cover administrative costs.
In the case of ozone depleting substances, agreement by industry to comply with phase-outs proposed by the Commonwealth obviated the need for economic instruments such as tradeable quotas or product charges; indeed, the phase-out rate has exceeded the formal requirements.
Scientific evidence has proven that the natural balance of stratospheric ozone has been upset by the production and release into the atmosphere of certain chemicals that destroy ozone. These ozone depleting substances include chlorofluorocarbons (CFCs), halons, methyl chloroform, carbon tetrachloride, hydrochlorofluorocarbons (HCFCs) and methyl bromide. The substances are widely used in refrigerators, air conditioners, fire extinguishers, in dry cleaning, as solvents for cleaning electronic equipment, and as agricultural fumigants.
The increase in UV-B radiation associated with ozone depletion is likely to have a substantial effect on human health. Potential risks include increases in the incidence of eye diseases, skin cancer and infectious diseases. Additional environmental risks include damage to plants, crops and marine life.
In March 1985, an international treaty, the Vienna Convention for the Protection of the Ozone Layer, was agreed. Following agreement that concrete measures were required to curb the increasing use of ozone depleting substances, the Montreal Protocol on Substances that Deplete the Ozone Layer was finalised in September 1987. The protocol has been signed by over 150 countries, including Australia.
In Australia, the main policy document guiding response to ozone depletion is the Ozone Protection Strategy, approved by the Australian and New Zealand Environment and Conservation Council (ANZECC) in 1989 and revised in 1994. ANZECC endorsed an additional strategy for HCFCs in 1995. The revisions reflected the broad-ranging nature of changes in Australian environmental policy and incorporated changes made to the Montreal Protocol at London (1990) and Copenhagen (1992).
The instrument selected by the Commonwealth Government to control ozone depleting substances was direct regulation, supported by legislation. During the policy formulation phase, there were close consultations with industry, resulting in general agreement on the phase-out recommended under the Ozone Protection Strategy.
As part of the regulations accompanying the relevant Acts, the Commonwealth and the relevant States have levied fees on ozone depleting substances. The fees represent one of the few examples of a product charge applied in Australia as part of programs to meet environmental objectives. However, the fees have been designed only to cover administrative costs.
In 1995, the Ozone Protection Act 1989 was amended to implement Commonwealth Government policy and Australia's international obligations under the Montreal Protocol which were outlined in the ANZECC Strategies. The Commonwealth Act continues to control the import, manufacture and export of ozone depleting substances. State and Territory environment protection authorities and environment departments agreed to complementary legislation and are responsible for controlling the sale and use of ozone depleting substances. They also ensure proper training and accreditation of the people who service equipment containing these substances. State and Territory legislation controls sale and use.
The amended Ozone Protection Act has two broad objectives:
The new control regimes called for a ban on domestic consumption of:
'Consumption', the term used by the protocol, is defined as the total quantity of substance manufactured plus imports less exports in a given year.
Description of Instrument
Although the approach adopted by the Commonwealth to phase out CFCs was based on regulation and voluntary cooperation, it allowed free trading in the quota between licensees for the import, export or manufacture of CFCs. However, there were only about a dozen licensees; the market was quite thin; only a dozen trades occurred after 1989; and trades virtually ceased.
The targets set for phasing out HCFCs will result in minimal consumption levels being achieved by the end of 2014, 18 years after controlling legislation was first introduced. This lead time is more than twice that applying to earlier controls over CFCs, and seems likely to reduce any restructuring costs incurred by industry through providing substantially greater scope for alternatives to emerge and phasing out equipment in line with standard depreciation formulas.
The development of new control regimes benefited from lessons learned from earlier experiences with CFCs. The CFC phase-out experience generated a wealth of experience among stakeholders which proved to be valuable in determining how best to phase out HCFCs. In summary, the Commonwealth decided to set stronger upper limits wherever possible on the quantities that could be manufactured or imported. The new licensing system also will provide industry with more flexibility in the HCFC user industries. The approach is based on the principle that total HCFC emissions should be the main focus of controls and that end-use controls, such as bans on refrigeration equipment, are administratively complex and difficult to enforce.
The amendments, which took effect from 1 January 1996, ban the import and manufacture of CFCs, halons, carbon tetrachloride and methyl chloroform, with limited exceptions. Provisions for those exceptions establish a system of 'essential uses licences' for the import, export and manufacture of CFCs, halons, carbon tetrachloride and methyl chloroform (currently only issued for manufacture of medical dose inhalers and specific laboratory uses); and establish a system of 'used substances licences' for the import and export of used or recycled CFCs, halons, carbon tetrachloride and methyl chloroform.
The amendments also introduce a system of 'controlled substances licences', quotas and reporting for the import, export and manufacture of HCFCs, limiting the quantity per year to that permitted under the amended Act in accordance with a timetable set by the Montreal Protocol; and for methyl bromide, limiting the quantity per year to that permitted under the Montreal Protocol.
In addition, the Act imposes a two-yearly administration fee for each licence issued under the Act, set by regulation at $10,000 until the year 2000, except for essential uses licences, for which the fee is $2,000. The licence fees are based on cost recovery and are substantially higher than those applying under earlier legislation.
Industry representatives were consulted on the level of fees, which are levied according to the quantity and ozone depletion potential (ODP) of HCFCs imported or manufactured, and the amount of methyl bromide imported or manufactured.
The Ozone Protection Trust Fund was established to allow the revenue from the licensing schemes to be directed into ozone protection programs. This will ensure that revenue collected from licensees at the time of peak activity (1996-2000) can be expended at the times of low activity (2000-2030), when the need for information programs will be most critical.
To establish funding for the new licensing scheme, the Ozone Protection (Licence Fees-Imports) Act 1995 and Ozone Protection (Licence Fees-Manufacture) Act 1995 allow for non-refundable licence fees (activity fees) to fund administration of the legislation and industry and public awareness programs; and enable the setting of fees by regulation.
The legislation establishes an Australian cap for HCFC consumption, set at 300 ODP tonnes in 1996, three ODP tonnes in 2015 and zero ODP tonnes in 2030. This is well within levels permitted under the Montreal Protocol and was set in accordance with industry estimates of the shifts in consumption which could reasonably be absorbed by firms, given the expected availability of alternatives.
In direct contrast to the Commonwealth's previous approach, quotas are to be introduced only if voluntary efforts by industry to curtail imports/manufacture within the limits set under the Act are unsuccessful. The 'trigger' for quotas is 90 per cent of the industry limit specified in the Act. The majority of industry licensees are anxious to avoid quotas in the early years of the HCFC system, so quotas are not expected to be in place before 1999.
Assessment Against Criteria for Evaluation
The relatively stringent regulatory measures, in the form of licences, substance quotas and end-use bans on equipment, provide a high degree of assurance that Australia's domestic legislative and international treaty obligations have been or will be satisfied. These measures could place a heavy adjustment burden on companies, particularly if few alternatives are available. Commonwealth Environment Protection Agency consultative approaches and education campaigns have attempted to limit these pressures to a sustainable level for a majority of firms and contain costs to relatively few areas of the economy. Overall, the restructuring pressures faced by industry as a whole appear to have been within reasonable limits up to the present time.
Australia continues to be a world leader in phasing out ozone depleting substances, in many cases ahead of requirements. The use of licence fees and other administrative charges, however, has been incidental to the main process of achieving targeted reductions. Active participation by industry groups in administering the regulations has meant low government costs and effective self-regulation by industry. Australia's approach has been based on a highly cooperative partnership between industry, the community, and all levels of government.
Australia has used high levels of lead in petrol, the permitted level being 0.3-0.84 grams per litre. Very few Organisation for Economic Cooperation and Development (OECD) countries allow lead concentrations exceeding 0.15 grams per litre. It was estimated that 90 per cent of lead emissions in urban areas in Australia could be attributed to petrol use, posing serious threats to health, especially in children. In 1993, the National Health and Medical Research Council recommended a national goal for lead concentrations in blood of less than 10 micrograms per decilitre. It estimated that between 25 per cent and 50 per cent of Australian children aged zero to four years had blood lead levels exceeding this concentration (NHMRC 1993).
Until 1993 there was no economic incentive for motorists to use unleaded in preference to leaded petrol. Until 1993 Australia was only one of three OECD countries that did not apply differential excise taxes on these fuels. In other OECD countries, unleaded petrol sells for between 6 and 12 cents per litre less than leaded petrol, as a consequence of differential product taxes.
In the 1993-94 Budget, the Government announced its intention to increase the excise on all dutiable petroleum products, other than aviation turbine fuel and aviation gasoline, to phase in a tax differential between leaded and unleaded petrol (Department of Finance 1994).
Description of Instrument
The proposed differential announced in the Budget was 5 cents per litre by February 1995, ignoring price index adjustments. There was strong opposition by the public, mainly because of the perception that it was a regressive tax. Lower income earners were considered to be more likely to own and operate older vehicles, which used leaded petrol. This led the Government to decide to reduce the tax differential from 5 cents per litre to 2 cents per litre.
Assessment Against Criteria for Evaluation
The full effects of the tax differential have yet to be observed. It is technically feasible for many vehicles to switch from leaded to unleaded petrol in some models, but most older vehicles can operate only on leaded petrol. It is worth noting that, when proposals were first made to introduce unleaded petrol in Australia, the petroleum companies strongly resisted the policy, arguing that it would result in increased costs for refinery operations and for distribution at retail outlets. Motor vehicle manufacturers also claimed that they would face increased costs from re-tooling.
Extensive public information campaigns were conducted to inform motorists of the technical prospects for switching fuels. It was estimated that, of the one million vehicles capable of using both fuel types, about 250,000 switched to unleaded petrol within a month of the scheme's introduction. After one year, sales of leaded petrol declined from 52.2 per cent of the market to 49.1 per cent. By 1995 leaded petrol sales had declined to 43 per cent of the market.
Continuing improvement can be expected only over time, as older vehicles are replaced by new vehicles running on unleaded petrol. Direct regulations requiring new vehicles to use unleaded petrol will help this trend. The average age of the vehicle stock in Australia is one of the highest among OECD countries.
As an economic incentive, the differential tax has clearly encouraged a switch in fuel use from leaded to unleaded petrol where this has been technically possible. Public information programs have helped this process. It is possible also that information campaigns informing people of the health dangers of using leaded petrol have contributed to the success of the instrument.
The potentially regressive impacts of the tax differential impose social and political constraints on the use of this economic instrument. Long-term, permanent improvement will be achieved mainly through direct regulations requiring new vehicles to use unleaded petrol.
Each year, Australia exports 5 million tonnes of woodchips valued at $400 million, yet imports about one-third of the paper consumed domestically and has a trade deficit in the pulp and paper sector exceeding $1 billion (RAC 1992). This has raised important economic policy questions about value adding and use of the nation's plantation and forest resources.
A number of environmental issues were perceived to have been associated with the production and use of paper in Australia. The disposal of waste paper represents the loss of a potentially valuable resource, as well as contributing to disposal problems at landfill sites. The production of pulp logs for paper products was also seen to add to harvesting pressures on native forests.
The reclamation and recycling of waste paper offered one prospect for alleviating these problems. Until the late 1980s, however, there was little economic incentive for this to occur. Most paper recycling programs in Australia up to that time were the result of local government initiatives and community cooperation.
On 20 July 1989, the then Prime Minister announced, in his Statement on the Environment (Commonwealth of Australia 1989b), that the Government would exempt certain printing and writing paper, tissue paper, toilet paper and paper bags from sales tax where these were made of wholly recycled paper.
Description of Instrument
The tax exemption created significant economic incentives for paper manufacturers to use recycled paper, and this led to major investments in manufacturing facilities specially designed to handle recycled paper inputs.
On 25 June 1992, the Commonwealth Government introduced the Sales Tax (Exemptions and Classifications) Amendments Bill. The Bill removed the sales tax exemption for certain wholly recycled paper products, including toilet and facial tissues, exercise books and some types of paper bags. A general rate of 21 per cent was applied.
In September 1992, the Government provided temporary transitional assistance to specialist manufacturers of 100 per cent recycled paper used in products affected by the removal of the sales tax exemption. These producers were adversely affected by the change in tax regime and needed time to adjust to the new economic circumstances. Traditional assistance was made available for three years, calculated on a decreasing basis.
The Commonwealth Environment Protection Agency reviewed the transitional scheme, concluding that the scheme had provided sufficient short-term assistance and therefore should be discontinued at the end of the three-year period. The remaining wholesale tax exemption was abolished on 1 November 1995.
Assessment Against Criteria for Evaluation
The tax exemption was abandoned for a number of reasons. According to Treasury, the tax created the following market distortions.
The Commonwealth Environment Protection Agency review of the transitional assistance scheme concluded that the scheme had resulted in significant environmental benefits, but recommended its abolition because it had been proved administratively inefficient. The review recommended that the scheme should be replaced by a broader strategic mechanism to support the recycling of post-consumer high grade waste paper. It advised that the mechanism should seek to:
encourage the expansion of existing markets or development of new markets for recycled paper products, although manufacturers presently using post-consumer high grade waste paper should also be eligible for assistance
provide financial assistance to manufacturers of paper products containing recycled fibre, on the basis of the quantity of post-consumer high grade waste paper used by the manufacturer.
The outcome from this recommendation was the High Grade Waste Paper Program.
Differential taxes on products should, in principle, be an effective mechanism to encourage shifts in producer and consumer behaviour to conserve resources and improve the environment. This case study has demonstrated, however, that indirect impacts on behaviour may not be foreseen and this can lead to inefficiencies in the operation of markets, inappropriate investments within the private sector and additional costs to government. Furthermore, environmental objectives may not be met effectively.