13 Market-based instruments for watershed protection-what do we know?

Shin Nagata^[21]

ABSTRACT

Using market mechanism for resource allocation is generally inadequate. Public and future goods arguments are needed for forest, or watershed management. This may require special arrangements in the form of government intervention, or direct government administration. Biodiversity is one example of the “area functions” of forest where we need to consider a certain area where each spot carries out its own task (spot-specific functions), such as production of wood and non-wood forest products, carbon sequestration, watershed conservation, erosion control and strict nature preservation.

WHY SHOULD WE PROTECT WATERSHEDS?: MARKET FAILURE VS. GOVERNMENTAL FAILURE

We rely on market mechanisms for resource allocation in general, but there are exceptions, as in the case of market failures. For forest, or watershed management, public goods and future goods arguments are relevant. In other words, we need a special arrangement other than market mechanism for dealing with the environmental function and long-term elements of resource management. This special arrangement may be government intervention, or direct government administration. These days, we hear of governmental failures as well as market failures. If the government were perfect and ideal, there would not be government failures. In reality, however, the government, just as the market, is not perfect and ideal.

CLASSIFICATION OF PUBLIC GOODS

Paul Samuelson (1954) may be the first economist who characterized public goods in his monumental article, “The pure theory of public goods”. He emphasized joint consumption of public goods and private goods. Others, like Masgrave (1939), emphasized public goods exclusively. Joint consumption and the exclusivity of goods are related, but yet we can consider them independently.

In some cases joint consumption can be achieved without any interaction from consumers; we may take this as pure joint consumption. Yet in some cases, there occurs much intermingling. On the extreme, one’s consumption prohibits the other’s-a pure individual consumption.

We can envisage cases where joint consumption is possible, but consumption can be controlled; we restrict the entrance to the theater where joint consumption, i.e. watching the act, is possible inside. We call this case as club goods. Depending on the technical or physical characteristic of consumption, entrance restriction is easy in some cases, but difficult in others. We can arrange entrance control; some theaters can be set free of charge, i.e. public in some sense.

If we draw a figure with a horizontal axis to represent the extent of joint consumption and a vertical axis to represent the extent of entrance ease, the first quadrant indicates “public goods”, the third “private goods”, the second “club goods”, and the fourth “common pooled resources”. This last case is problematic; entrance is free, but joint consumption is limited, i.e. one’s consumption interferes with the other’s. In some cases free entrance is restricted to certain members. In still other cases, the rule of use is different for members and non-members; use is prohibited to non-members, and among members certain rules are kept to avoid overuse.

Joint vs. individual consumption

Exclusivity

Public goods, private goods, club goods, and common pooled resources

Extent of coverage

Global vs. regional public goods

We may need another simple and purely technical classification of public goods, by the extent of coverage of service. Carbon sequestration is one important function of the forest to prevent global warming; the beneficiary is everybody on earth. Coverage of water control and/or erosion control by the forest depends on the watershed under consideration. In some cases, it covers a limited area within a local community, but in others, it covers a rather wide area spreading over several prefectures. With international rivers, it may cover several countries.

Spot-specific functions and area functions of forest

Biodiversity is surely one of the most important issues today. We may want to retain endangered species for biodiversity, but if we keep only these species, we cannot have diversity. In some places we may keep some endangered species but in nearby places we may need another, and next to them still yet another. So to have diversity, we need to consider a certain area where each spot carries out its own task.

Biodiversity is one example of the functions of forest where we need to consider “area”. Educational and recreational functions of forest are other examples. We may add landscape conservation to this list of area functions of forest. These area functions of forest are based on spot-specific functions of forest, because they can be fulfilled well when each spot of forest is designed to perform its spot-specific task. I may enumerate spot-specific functions of forest as production of wood and non-wood forest products, carbon sequestration, watershed conservation, erosion control and strict nature preservation.

Mutual relation among spot-specific functions: using production possibility sets

If we produce wood, which is formed from water and carbon dioxide in the air, we fix carbon from the air. So we may postulate that, as wood production increases, so does carbon-fixation in a parallel fashion (Figure 1).

Strict nature conservation can be fulfilled if no human intervention takes place. So we may postulate that if wood production is carried out in any amount, strict nature conservation function disappears (Figure 2).

These two combinations are rather extreme cases. In most cases, most functions of forest are compatible, but not in a perfect parallel fashion. If we take wood production and water conservation, they are at a minimum with no trees in the forest area. If we set felling age too low, the extents of their functions would be small. They increase as felling age increases to some point, but if we set felling age too high, they will decrease. So, if we evaluate their functions in monetary values, we may draw diagrams as shown in Figure 3.

If we take a locus of wood production and water conservation as felling age increases, we may derive a production possibility set for wood production and water conservation (Figure 4).

Figure 1

Figure 2

Figure 3

Figure 4

Figures 1-4. Mutual relations among spot-specific functions

We may call these three cases as perfect compatible, non-compatible, partially compatible, and we may write a matrix indicating the mutual compatibility of each of the two spot-specific functions as follows:

P stands for perfect compatibility, N for non-compatibility, and C for partial compatibility. L indicates that if strict nature conservation is targeted, erosion control and water conservation are fulfilled in a limited way.

Ways to protect watershed: price vs. quantity regulation, voluntary vs. mandatory planning

Incentive mechanism may be key issues here. Price regulation, if it is embodied as tax-reduction, may work if there is well-defined tax system. Otherwise tax-reduction may not indicate the desired corrective action. Likewise, quantity regulation may not work if the enforcement mechanism is well defined. If a certain fine is negligible, in monetary and social senses, many people do not obey the quantity regulation.

We may envisage voluntary and mandatory plannings to regulate long-term resource management. Again, we have to think about the incentive mechanism behind each of the planning schemes. Voluntary planning may bring a certain reward to the volunteers; that is probably why they become volunteers. If one does not obey mandatory planning, one is punished. In that sense, mandatory planning is observed, because there is incentive to avoid punishment.

BIBLIOGRAPHY

Musgrave, R.A. 1939. The Voluntary Exchange Theory of Public Economy. Quarterly Journal of Economics 53:213-37.

Samuelson, P.A. 1954. The Pure Theory of Public Expenditure. Review of Economics and Statistics 36:387-89.