Insight Series

Payments for Ecosystem Services: Scaling Up…and Down

May 12, 2010
By admin

By Steve Zwick

A key question of any Payment for Ecosystem Services Scheme is how big – or small – to go.  Size brings economies of scale, but often at the cost of focus.  Here’s a look at lessons learned in Latin America.

7 May 2010 It should come as no surprise that Rafael Gallo wants to protect Costa Rica’s watersheds: The island nation’s sparkling rivers and waterways are both his playground and livelihood.

In 1985, Gallo co-founded Rios Tropicales, an ecotourism company that takes travelers whitewater rafting on eight of Costa Rica’s pristine rivers. Rios Tropicales later established a fund that assists in the preservation, protection, and restoration of the rivers, streams and watersheds of Costa Rica.

“It was natural to us to protect the rivers we were running, help the communities we were visiting, and train fellow Costa Ricans to do what we were doing,” Gallo recently said.

Rios Tropicales is a relatively small outfit that Gallo and his partners grew organically from the ground up. But the company also partners with the national-scale Fondo Nacional de Financiamiento (FONAFIFO), the branch of the Ministry of the Environment and Energy that administers Payments for Ecosystem Services (PES). In this capacity, FONAFIFO acts as an umbrella for local organizations that earmark payments to recipients in their target watersheds.

While Rios Tropicales has the flexibility and focus of a small-scale PES, FONAFIFO has the legitimacy and managerial economy of a national-scale program. The scale of each organization plays a part in its overall effectiveness.

Scaling Decisions: Large or Small?

Choosing the right scale of operation is key when implementing a watershed PES, or PWS (Payments for Watershed Services) program. Some PWS schemes function better at one scale than another, in terms of cost-efficiency, sustainability, equity, and other performance indicators.

But when is a PES scheme too small? Imagine a program that doesn’t integrate enough local service providers. As a result, the non-paid upstream actors could jeopardize the service. Conversely, the PES might be too large if varying degrees of rainfall cancel out peak flows in the catchment’s larger basins. It may also be too large if political processes bog it down with side objectives.

Going big often makes sense from an economic and administrative point of view, due to economies of scale. The costs of both starting and running a PES scheme tend to be lower at larger scales. If the state is generally recognized as a good custodian of resources, a national-level initiative may secure legitimacy for the PES more quickly than it would for an NGO or user-led initiative.

Marketing to investors may also be easier at larger scales. Donors financing the start-up costs of PES schemes often like the prospect of larger-scale impacts that benefit more people. For those doing advocacy work, the bigger the impact, the better.

Downsides to Going Big

However, when it comes to PES schemes, bigger isn’t always better.

In fact, some large-scale government PES schemes are just too big to meet their stakeholders’ needs. Because of this, many developing countries are enacting decentralization policies, effectively scaling down — or breaking up — large-scale schemes in order to provide transparency and a better fit.

Large-scale, government-run schemes also run the risk of being sidelined for the sake of competing political objectives. The Mexican national watershed scheme, for instance, initially zeroed in on areas that were highly threatened by deforestation. Over the years, though, the focus shifted toward the poorest providers, unintentionally compromising the scheme’s environmental additionality.

National-level PES schemes, such as those found in China, Costa Rica, and Mexico, also have a harder time targeting high-value, high-threat zones. In addition, these schemes come up short in terms of differentiating payment rates in space, which is one of the best ways to make PES schemes more efficient: When payment rates are fixed, they fail to reflect variations in the quality or amount of service provided. Key economic signals between buyers and sellers get lost, making resource allocation less efficient. In particular, there is a high risk of paying for actions that would have happened anyhow (zero additionality).

Going Smaller

In cases where decentralization has given considerable decision-making power to regional governments, financing at the sub-national level makes sense. Colombia, for example, is currently engaged in efforts to create a nationwide PWS system. Colombia’s best chance for success is to go regional, which in Colombia’s case means the corporaciones autónomas. These regional environmental agencies collect legally mandated payments from both hydroelectric power producers and industrial water consumers.

For user-financed schemes, the PWS scheme’s scale should fit closely with the scale of the principal biophysical service that users want. Accordingly, the most logical spatial unit with which to begin is often the micro watershed. Though the biophysical aspects of the service end up playing a big part in scaling decisions, economic, social, and political factors are just as important.

Other factors that should be considered include the number of units utilized; the source(s) of financing; the services and sub-services being provided, as well as their respective users; the dimensions of the watershed; the administrative context; the possibility of scaling up and/or scaling down; and time (e.g., contract length).

When Does It Make Sense to Scale Up?

When a pilot program succeeds, there may be a temptation to increase its scale. But when is “upscaling” a good idea?

To answer that question, let’s use a hypothetical example. Imagine a pilot PWS scheme succeeded at reducing sedimentation in a single village. The first question to ask before upscaling would be: Can the PWS be scaled up within the watershed? In other words, can the scheme be made to encompass the entire watershed that makes up the potential area of influence?

The answer is yes if it certain conditions are met: First, water users would need to be willing to extend payments. Second, the critical areas would need to be distributed fairly within the entire watershed. Finally, the delivery of service would need to be significantly improved by extending coverage.

If, on the other hand, environmental threats are concentrated in “hot spots” that are already covered, and if user resources are likely to remain limited, intra-watershed upscaling is not desirable.

A second question to ask would be: Should the PWS scheme be extended beyond the single watershed? Under certain conditions, functions like aquifer recharge might depend on processes functioning in neighboring watersheds. If this were the case, it would be an argument in favor of upscaling.

Upscaling may also be a possibility if several services from the same watershed are sold simultaneously. If a PES scheme provides carbon services in addition to water, for example, then an extension beyond a single watershed could be meaningful, since carbon services are not limited to the watershed. If the scheme aims to produce other integrated ecological benefits (it aims to create a biodiversity corridor, for example), upscaling can also be a good idea.

When to Avoid Changes in Scale

However, upscaling should not be the goal of every PES program. Because risk and uncertainty are higher at the outset, starting out small may make it possible to manage and adapt the program more effectively. Starting from scratch with a single-design, large-scale scheme also precludes important learning experiences and experimentation.

There are several advantages to staying small. Besides being able to maintain flexibility and focus, small-scale PWS schemes foster a participatory process and negotiated solutions. On the down side, small-scale PWS schemes suffer from high transaction costs and receive rather than make policy. In addition, any innovations that might occur will have a limited impact.

Conversely, there are times to avoid “downscaling” a large-scale scheme. To mitigate climate change, “avoided deforestation” schemes are currently being developed. National-scale carbon accounting frameworks can limit project-induced displacements of environmental threats (“leakage”) and are clearly preferable in these cases.

Besides being better at addressing leakage and the phenomenon known as “free-riding,” (e.g., non-paying users exploiting non-excludable services), large-scale PES schemes enjoy economies of scale, are able to replicate good ideas quickly, and are able to fine tune their policies.

Because of these different considerations, PES scale decisions should be made according to the subsidiarity principle. In other words, PES schemes should be organized at the least-centralized, competent level of authority, given the nature of the environmental problem the program is trying to solve.

Vertical Upscaling

Once a decision has been made to scale up, how is it done?

In a typical upscaling process, a good idea develops in a suitable context for innovation and a pilot program is created. If the pilot looks promising, it can be scaled up vertically. In other words, it can be escalated to a higher level of decision-making. summarizes some of the main features of upscaling.

For example, a pilot PES scheme in Los Negros, Bolivia, was the direct inspiration for the development of a larger-scale flood protection PES scheme in the Rio Grande basin. Similarly, Ecuador recently developed a national forest conservation PES (Sociobosque) that was clearly inspired not only by the Costa Rican national PES program, but also by smaller-scale field projects at home. (This process is also sometimes referred to as “scaling out.”) In both cases, some of the same NGO actors also lobbied for the legal steps required to upscale vertically, and provided technical assistance as well.

Vertical upscaling, however, isn’t always a spontaneous, bottom-up process. PES programs such as the seven-million hectare Chinese Sloping Land Conversion Program and the British Environmentally Sensitive Area Program first commissioned pilot phases. These pilot schemes tested strategies under different circumstances.

The advantage of these planned strategies was that certain factors of variation in the samples could be controlled. Each of these programs also made upscaling an explicit, stated aim.

Horizontal Upscaling

Upscaling can also be achieved horizontally. In these cases, the initiative is not escalated to a higher political-administrative level. Instead, upscaling can be achieved through the gradual inclusion of additional participants within a predefined zone (e.g., extending coverage of a PES scheme within a watershed). The previously mentioned Los Negros scheme, for instance, started off with only a few households under contract in 2004, but later spread by word-of-mouth and trust-building to cover 2774 hectares.

Horizontal upscaling also occurs through replication. Thanks to the NGO Fundación Natura Bolivia, the Los Negros scheme has been replicated in the neighboring Comarapa and Mairana watersheds. The Ecuadorian NGO Cederena piloted the Pimampiro watershed PES in 1999, and has since replicated the scheme at the El Chaco and Celica sites. Similarly, the PASOLAC program is involved in the execution and development of ten different municipal-level watershed PES schemes in Central America.

With 14 and 300 hectares under contract, the Comarapa and Mairana watersheds are still a lot smaller than the Los Negros scheme. But where replications are often small, repeated replication can arguably yield a significant cumulative impact. Moreover, replicating the same type of scheme under different circumstances contributes to the understanding of PES systems in general.

Upscaling and Dryland Agriculture

What scaling issues and obstacles might confront PES programs focused on dryland agriculture? These kinds of programs are still quite new: No government-financed schemes in the Southern Hemisphere are focused solely on dryland agriculture, and only a handful of small user-financed schemes exist.

One potential concern for upscaling water harvesting and water retention schemes is hydrological: If downstream areas suffer from water shortages, the intensification of large-scale agricultural schemes would make them worse.

In Colombia, an organic farming scheme involving poor farmers revealed low upscaling rates within the watershed. Thus far, it has not been possible to sell the organic farming concept to commercial banks in order to make use of their credit channels. Technical assistance is also scarce and costly. In similar settings, the lack of markets for new seeds can also constitute obstacles for upscaling, in spite of their superior economic returns. These problems will need to be analyzed on a case-by-case basis.

Multi-Scaling

In the world of PES schemes, not much up- or downscaling has actually occurred yet: Big schemes tend to stay big and small schemes tend to stay small although, as mentioned, the latter may be replicated at similar scales elsewhere.

The high financial and political costs of moving across scales may simply keep it from happening (ongoing payments are often expected to continue; renegotiating incentives and redesigning contracts can be cumbersome). This underscores the importance of choosing the right scale from the outset, before the initiative becomes locked into certain modalities.

It is also important to note that multiple PES scales can and do operate successfully on the same playing field. Though differently scaled, Rafael Gallo’s ecotourism company Rios Tropicales and the Costa Rican government’s FONAFIFO co-exist and supplement each other. In addition to partnering with Rio Tropicales to protect the island’s rivers and waterways, FONAFIFO also acts as an umbrella for breweries and water-utility companies who provide services to users in other target watersheds.

What makes multi-scaling interesting is that you can have the best of both worlds: the legitimacy and managerial economies of the national-scale PES, and the flexibility and focus of small-scale schemes. Parallel implementation of large- and small-scale schemes encourages complementary experiences and cross-fertilization of knowledge.

“While government organizations and NGOs are certainly important in protecting Costa Rica’s natural resources,” says Gallo, “The partnership of local and indigenous communities to support and self-monitor wildlife and forest protection is our biggest achievement.  Without such grassroots ownership and involvement, many valuable and well-meaning efforts at environmental protection ultimately fail.”

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Insight Series: Asian Governments Explore Ecosystem Markets for Environmental Protection

May 12, 2010
By admin

By Steve Zwick

Cash-strapped governments across Southeast Asia are experimenting with market-based schemes to preserve nature by recognizing its economic value. Such schemes have proven effective in other parts of the world, and here’s a look at the reasoning behind them.

In his younger days, Vietnamese farmer Hoang Van Thang made a name for himself hunting birds. Now in his 60s, he’s protecting the birds and their habitat.

“We need to preserve wildlife for the next generation,” he told the author of a report on the web site of the Hanoi National University of Education’s Mangrove Ecosystem Research Centre (http://mangrovesvn.org/index.php/mangroves-wetland/).

So he and roughly 30 other volunteers spend much of their time patrolling small patches of mangrove forest near his village in Nam Dinh Province, about 150 kilometers south of Hanoi, removing illegal snares and keeping an eye out for tree-cutters. Their actions seem to be having an impact.

“Our team hasn’t seen any cases of bird snaring for a long time,” he says. “And local people don’t cut down the mangroves anymore.”

But the areas they patrol are just a tiny part of a 7100-hectare natural park, the bulk of which is manned by an understaffed team of park rangers. Funding for those rangers and the larger scheme within which they operate comes from charitable donations and taxes.

These funds pale in comparison to the needs of farmers, ranchers, and crabbers – all of whom inadvertently put tremendous stress on the mangrove forests, which have never really recovered from toxins unleashed during the Vietnam War.

To take the pressure off mangroves and other ecosystems, the government of Vietnam is exploring financing schemes that replace the economic incentive to destroy mangroves with an economic incentive to preserve them. These schemes begin by recognizing that mangroves aren’t just pretty places for nature lovers – they are part of a critical ecosystem that feeds the local economy.
Short-Term Gain; Long-Term Loss
Nature and commerce have been at odds for centuries, with nature clearly getting the worst of it – especially in the developed world. The dynamic has accelerated in the last half-century, and in the developing world as well, where subsistence farmers often must choose between feeding their families and preserving fragile ecosystems.

But the apparent conflict between commerce and nature is a false one, because in the long run commerce is not opposed to nature. In fact, commerce depends on nature, because everything we buy, sell, eat, and produce is ultimately derived from nature – and not always in the most obvious way. Mangroves, for example, provide shelter for vulnerable fish and breeding ground for shrimp. They also shield the coast from slow erosion and sudden storms; they extract impurities from water and pull carbon dioxide from the atmosphere, depositing it in the ocean floor – thus helping to reduce the greenhouse effect and slow climate change.

Thang’s actions, therefore, aren’t just good for birds. They’re good for coastal farmers, offshore fishermen, the tourism industry – and anyone threatened by climate change.

Payments for Ecosystem Services

Each of these groups has a vested interest in the health of the mangroves that Thang is voluntarily protecting. They should, in theory, be the ones paying the most to guard the mangroves that deliver the so-called “ecosystem services” upon which their livelihoods depend.

“Payments for Ecosystem Services” (PES) schemes begin with the premise that ecosystems are worth more alive than dead, but they work in several different ways.

Some begin by identifying the economic value of the services provided by living ecosystems and then persuading those who benefit the most to pay for its upkeep.

Others work by determining the amount of pollution that an ecosystem can handle and then auctioning off permits that emitters can then buy and sell among themselves. This are generally not called PES, but instead referred to as “cap-and-trade”.

Either way, the goal is to promote the most efficient use of valuable resources by letting government establish the rules and leaving the market to find the best way to proceed within that framework.

Apples and Air

All of these services provide tangible benefits to people who receive them – just like apples and oranges do. Unlike apples and oranges, however, the benefits of ecosystem services are spread diffusely among different people, leaving little incentive for any individual to pay for them.

You can buy an apple, in other words, and you can buy an orange – but you can’t buy the clean air you generate by saving a mangrove tree. What’s more, if you grow an apple or an orange in a way that dumps insecticides into water, you spread that cost among scores of people who might not even be aware of it.

Pollution is called an “externality”, because its cost is not borne by the person who creates the pollution, but rather by society at large. Society – in the form of government – has responded by passing laws against pollution and the wanton destruction of nature.

Such laws work quite well in many cases, but they can often be overly restrictive. They also create little incentive to find new and innovative solutions, and are often expensive to supervise.

PES schemes offer a new tool that is designed to encourage larger-scale and longer-term preservation of living ecosystems by incorporating the economic value of nature’s services into our economy. Rather than simply banning certain practices, PES schemes aim to calculate the cost of environmental degradation and incorporate it into the cost of production. This way, someone who runs a clean apple orchard that doesn’t muddy nearby streams will pay less for his externalities than someone whose orchard dumps pesticides and other chemicals into local water.

Who Should Pay?

In a straight PES scheme, you begin by figuring out who should pay, who should receive, and how the payments are measured. Mangrove guardians like Thang, for example, might be able to earn a commission from fishers if they can prove that their activities increase the number of healthy fish in surrounding waters. They could also earn commissions from tour boat operators, because mangroves often support the coral reefs that attract tourists and divers. Easiest of all: they can collect carbon payments from industrialists who want to reduce their “carbon footprint” by paying men like Thang to help them capture a percentage of their industrial emissions in trees.

The ecosystem services of a mangrove forest can, therefore, be broken into specific “products”: namely, the protection of species (which are a sign of an overall environmental resiliency), the shielding of coastal areas, the filtration of water, and the sequestration of carbon, among others.

In this example, the carbon payments would come from a cap-and-trade scheme such as the ones outlined in the Kyoto Protocol’s “flexibility mechanisms”. Climate-change negotiators are now working on a successor to the Kyoto Protocol, and current proposals make it possible for factories to offset their industrial emissions by preserving or restoring a patch of rainforest, thus capturing carbon in trees.

The most advanced cap-and-trade program to date, however, has nothing to do with carbon. Instead, it has to do with sulfur dioxide, which is the leading cause of acid rain.

The United States launched its Acid Rain Program (http://en.wikipedia.org/wiki/Acid_Rain_Program) in the 1990s with a cap on sulfur dioxide emissions. A “cap” is the overall amount of pollution allowed into a system, and the government issues allowances based on that cap. Companies that emit sulfur dioxide receive some allowances for free and have to buy others. Then the government begins lowering the cap, and companies that reduce their emissions faster than the cap drops can earn a profit by selling their allowances, while companies that are slow to reduce emissions have to pay more for them. This creates an incentive to reduce emissions in the most efficient way possible, and emissions of sulfur dioxide in the United States are now more than 65% lower than they were in the mid 1970s.

Mitigation Banking and WQT

Cap-and-trade can also be applied to wetlands, biodiversity, and water – where it’s called “mitigation banking” and “water quality trading” (WQT).

Pioneered in the United States, mitigation banking draws its strength from two laws: the Clean Water Act (CWA) and the Endangered Species Act (ESA), each of which contains provisions that, in a nutshell, say that anyone who damages the habitat of an endangered species or dredges or fills certain kinds of wetland has to make sure he does so in a way that results in no net loss of habitat or wetland.

The law makes it clear that companies have to first look for ways to prevent damage to the environment. If, however, they can prove that their project is worthwhile and that some environmental damage is unavoidable, they can proceed – provided they restore wetland and/or habitat of equal or greater environmental value than what’s destroyed.

This has led to the proactive restoration of degraded wetland and habitat across the United States as so-called “mitigation bankers” restore marginal farmland to its natural state in the hopes of selling credits to people building roads and houses nearby. In some cases, it’s resulted in healthier habitat than existed before the construction took place, and the model could be tweaked for use across Asia.

Likewise, WQT schemes work by determining how much pollution a body of water can handle, and then letting farms and factories trade among themselves to encourage the most efficient way to reduce runoff into lakes, rivers, and streams.

A Tool in the Belt

None of these schemes is a panacea, and many are still in the early phases of development, but each has the potential to become a valuable tool in the effort to build a sustainable economy for tomorrow.

Their implementation, however, requires a re-thinking of the role of government, the role of the private sector, and the role of civil society. Just as we need to abandon the idea that commerce and environmentalism are in opposition to each other, we also need to recognize that all sectors of society have common goals.

A sustainable economy is one that incorporates all of society’s goals and values – in part by recognizing all of the costs of production.

This will lead to more men like Thang working to preserve nature’s services for future generations – and not as volunteers, but as providers of an ecosystem service.

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