EPA-240-R-01-001
                                    January 2001
 The United States  Experience
    with Economic Incentives
for Protecting the Environment
                NCEE#
                NATIONAL CENTER FOR
                ENVIRONMENTAL ECONOMICS
         Office of Policy, Economics, and Innovation
              Office of the Administrator
           U.S. Environmental Protection Agency
               Washington, DC 20460
                                              Pollution Charges, Fees, Taxes
Deposit-Refund Systems
                                               Trading Programs
                                              Subsidies for Pollution Control
                                             *_

                                               Liability Approaches
Information Disclosure
                                               Voluntary Programs

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The U. S. Experience with Economic Incentives for Protecting the Environment
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                                                                      Executive Summary
EXECUTIVE SUMMARY
I.      Purpose of This Report
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                                                                                 Pollution Charges, Fees, Taxes
                                                                                   Deposit-Refund Systems
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                                                                                    Trading Programs
Over  its 30-year  history the predominant tool  used by the U.S.  Environmental
Protection Agency (EPA) to help achieve the nation's environmental goals has been
uniform, nationally applicable regulations derived  from environmental law.  Those  .• ife"'.'f'",
regulations, e.g., source-specific emissions limits, product specifications, and pollution-
control guidelines, have been responsible for much of the improvement in air and water
quality that is evident in the country today.
But over the past 20 years, and during the past decade in particular, EPA has begun to
use a much broader array of tools to manage  environmental quality. Among these
relatively new tools, several kinds of economic incentives are being applied more and
more widely. Once considered an academic abstraction or a revenue-raising adjunct to
traditional regulatory mechanisms, market-based economic incentives are being used
now as the principal instrument  for controlling a growing number of environmental
problems. To varying degrees, federal, state, and local governments are promoting the
use of economic incentives as  an environmental management tool  because of the
perceived advantages and effectiveness of these incentives.

Because  of the wide—and  growing—use of economic  incentives at all levels of
government in the United States, it is important to understand them more clearly. For
example, what kinds of economic incentives are being used today to address what kinds
of problems?  Are particular incentives  better  suited for use at specific levels of
government? Even more important are questions regarding relative effectiveness. How
well have economic incentives performed in terms of improving environmental quality?
How economically efficient and  cost-effective have they  been? To what extent have
they stimulated technological change and innovation? How can past experience with
economic incentives help  improve their use today and in the future?
This report attempts to answer those questions by  providing a broad overview and
analysis of the current use of economic incentives as an  environmental management
tool in the United States.  To that end, it makes  use  of, and builds on, related reports,
surveys, and research. This report expands and updates the information contained in an
earlier EPA report (1992) and a  report to EPA in 1997 that documented the growing
use of economic incentives in the United States and foreign  countries. It  also notes
related research by the National Academy of Public Administration (NAP A).
At the same time, this report is not exhaustive. It does attempt to identify most of the
incentives currently in use at the federal level for environmental pollution control.
However, it limits its discussion of incentives at  other  levels of government to a
representative  sample of programs.  A  complete survey and assessment  of the large
number of incentives currently in use at the state and  local  levels would require a much
broader  study  than this report.  Likewise,  the report  only briefly  summarizes  a
voluminous theoretical and applied literature on economic incentives.
                                                                                 1
                                                                                    Voluntary Programs
                                                                                 Subsidies, for Pollution Control
                                                                                    Liability Approiches
                                                                                   Information Disclosure
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The U. S. Experience with Economic Incentives for Protecting the Environment


II.     Definition of Economic Incentives

For the purposes of this report, economic incentives are defined broadly as instruments that use
financial means to motivate polluters to reduce the health and environmental risks posed by their
facilities, processes, or products.  These incentives provide monetary and near-monetary rewards
for polluting less and impose costs of various types for polluting more, thus supplying the
necessary motivation to polluters. This approach provides  an opportunity to  address sources  of
pollution that are not easily controlled with traditional forms of regulation as well as providing a
reason for polluters  to improve  upon  existing  regulatory requirements.  Under traditional
regulatory approaches, polluters  have little or no incentive to cut emissions  further or to make
their products less harmful once they have satisfied the regulatory requirements.
The  definition of economic incentives  used  here is quite broad. As such,  a  great  many
instruments and programs could  be included  in this review. By necessity the report focuses on
the most significant federal programs and a representative sampling of activities at the state and
local level.

III.    Value of Economic Incentives

Economic incentives have a singular advantage over traditional forms of regulation: they harness
the force of the marketplace to reduce environmental and health risks. While this feature does not
make economic  incentives applicable  to  every source of pollution, market forces  often can
operate where traditional regulations would be ineffective. Sources  of pollution include point
sources such as discharge pipes and stacks; area sources such as factories and storage areas; and
non-point sources such as streets, farms, and forests. In a traditional regulatory system, owners of
many of these sources have an incentive to comply—i.e., avoidance of enforcement actions—but
releasing pollution has no economic cost to the owner. Consequently, owners  of these sources of
pollution (hereafter referred to as "sources") normally have no  incentive to do more than the
regulations require, whether it is a limit on emissions or on the use of a specific technology.
With  market incentives, sources of pollution can see an economic value in  reducing pollution
because  doing so  saves  them  money.  Consequently,  the difference between a traditional
regulatory system and economic  incentives can lead to several public health, environmental, and
economic benefits.
First,  economic incentives in some circumstances can be structured to achieve larger reductions
in pollution than would result from traditional regulations. For example, a program that allows
trading of pollution  reduction  obligations  among sources  may be  able  to  require greater
reductions in pollution than a similar program  that does not use trading. Pollution charges  or
voluntary pollution prevention programs could encourage sources to reduce emissions below
permitted amounts.
Second,  economic incentives often can  control pollution at lower  costs than can traditional
regulations. By setting standardized emissions, product, or technology requirements, traditional
regulations do not usually take  into consideration the  different costs of compliance faced by
different sources. But in an incentive system,  the marginal  costs of controlling pollution play an
essential role.  When emission allowances  or credits can be bought and sold by the sources, the
sources that have relatively  low costs of pollution control  will  reduce  more  pollution than
sources that have  relatively high  costs of pollution control. Thus, when economic incentives are
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                                                                      Executive Summary
used, goals of reducing pollution—whether applied over a facility, an industry, or the nation as a
whole—will be achieved at the lowest cost as determined by market forces. One study done for
the EPA (Anderson. 1999) estimated that the potential savings from widespread use of economic
incentives at the federal, state, and local level could be almost one-fourth of the approximately
$200 billion per year currently spent on environment pollution control in the United States.
Third, the use of economic incentives, in contrast to that of traditional regulations, can control
the pollution that is  caused by  a multitude of small and dispersed sources.  A traditional
regulatory system, which relies on reporting, inspections, and fines for  noncompliance, becomes
very cumbersome and expensive to administer when applied to thousands, or even millions, of
sources. For  many  serious environmental concerns today, such as surface  water quality and
global warming,  the sources of the problem can indeed number in the millions. Deposits on lead-
acid batteries and variable charges for  solid waste disposal are  two good  examples of how
economic incentives can more effectively manage the quantity of pollution that is released from
large numbers of small and dispersed sources.
Fourth,  economic  incentives can  stimulate technological improvements and innovations in
pollution control in situations where traditional regulatory mechanisms may not.  In some cases,
traditional regulatory mechanisms can stimulate technological change. For example, challenging
numerical performance standards have prompted the development  of cleaner  technologies (e.g.,
catalytic converters).  Also, when regulations require  the use of the best  available  control
technology (BACT), manufacturers of pollution control equipment have an incentive to improve
the performance of the products they  offer for sale. But traditional regulations that specify the
approved pollution  control technologies  discourage sources from developing better pollution
control technologies. Not only is there uncertainty that an improved pollution control technology
would be approved, but greater pollution control normally is costly. What  source would want to
engage  in  greater control  of pollution than is required by  existing regulations? Economic
incentives,  on the other  hand, attach a value to controlling pollution. In some cases the value is
an explicit monetary amount, while in other  cases the financial impact is indirect. Therefore,
sources  have an incentive to  develop  technologies that  are more  effective or  less costly,
particularly when pollution reduction obligations can be traded among sources like  any other
commodity in the marketplace.
Clearly, economic incentives  have several advantages that make them attractive environmental
management  tools.  When properly designed  and used  in appropriate  circumstances, they can
achieve environmental results beyond those of traditional regulations, they  can  achieve  those
results at lower  costs, they often can do a better job of controlling large  numbers of  small
sources, and they provide a valuable spur to technological innovation.
However, just as economic incentives have advantages, they also have limitations. One of the
most significant disadvantages is that they are often inappropriate for dealing with environmental
issues that revolve around equity concerns. Many types of environmental standards are designed
to protect individuals around the site of a polluting facility; in some cases the specific purpose is
to protect individuals exposed to the highest pollutant concentrations. In general, people are not
willing to accept higher risks to their health because it is "more economical" to reduce risks to
others. There are many such environmental and health standards, including toxicity standards for
air, waste management  standards, and cleanup standards.  For  example, risks cannot  be  traded
between Superfund  sites. To do so would mean that some people would live near an unsafe site
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The U. S. Experience with Economic Incentives for Protecting the Environment


that doesn't meet federal standards because other people would live near another site that is
twice as safe as required by federal standards.

IV.    Types of Economic Incentives

This report examines several types of economic incentives that are currently in use in the United
States at all levels of government, and it assesses their advantages and disadvantages. Although
all these incentives give sources  of pollution  an impetus to minimize their emissions,  the
incentives take widely differing forms. In fact, the variety of economic incentives in use today is
one of the most remarkable developments in environmental management over the past decade.

1.     Fees, Charges, and Taxes
From the perspective of sources that are  subject to environmental fees, charges, and taxes, these
three  terms are largely interchangeable in terms of their effects.  They  all  require  that  the
generator of a designated type of pollution pay a fee (or charge or tax) for each unit of pollution.
These fees make attractive tools for managing the environment because they attach an explicit
cost to polluting activities and because sources can easily quantify their  savings if they reduce
the amount of pollution they emit. One disadvantage is that fees do not guarantee the amount by
which a source would reduce pollution.
Pollution-related fees, charges, and taxes are widely collected at all  levels of government,  and
they are one of the most prevalent economic incentives in use today. For example, fees linked to
air emissions are imposed in California, Texas, and several other states, while permit fees for
water effluent discharge are based  on the volume and toxicity of the discharge in Washington,
New  Jersey, and Wisconsin, among others. Per-bag  fees on households that  dispose  of solid
waste are in effect in more than 3,000  communities across the country. Fees that are tied to
resources such as the use of grazing lands, water, and sewage systems are widely levied in the
United States.
Similarly, environmental taxes are usually imposed  on landfill operations and the disposal of
hazardous wastes. Product charges are sometimes levied on products—e.g., chlorofluorocarbons,
low-efficiency  automobiles, fertilizer, motor oil, and packaging—that  are believed  to have
harmful effects on the environment. Other fees are being charged on activities that are potentially
damaging to the environment, for example, wetlands development and storm water runoff.
Although fees can generate substantial revenues for the government  agency that imposes them,
they tend to be set at rates too low to have a significant impact  on pollution. Generally speaking,
if pollution fees or taxes were set at rates equal to the incremental damage being caused by the
pollution, or at a level that would force changes in business or personal behavior, they would be
controversial. Concerns about the competitiveness of U.S. businesses would be raised if foreign
companies were not subject  to  similar  fees.  Consequently,  the rates of  most  of these
environmental fees  and taxes  are  not set  high enough to achieve  U.S. environmental goals,
although in some specific cases fees and taxes are working well as a mechanism for controlling
pollution.

2.     Deposit-Refund Systems
Deposit-refund systems require a monetary deposit at the time of sale of a product. The deposit is
returned  when the item  is returned at the end of its useful life. In the United  States,  deposit-
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                                                                      Executive Summary
refund systems have been applied most widely to help control the disposal of lead-acid batteries,
but they also are being applied  in some states to products such as aluminum and glass cans,
pesticide containers, and tires. When used products are valuable, as is currently the case for lead-
acid batteries, the private sector often creates and manages a disposal system. Regardless of who
manages the disposal of such products, the fees charged by this system help subsidize the return
of recyclable products.
Deposit-refund systems appear to be most appropriate for discrete,  solid commodities such as
beverage containers, batteries, and car bodies that would cause environmental harm through their
improper disposal. Government-mandated deposit systems for less discrete substances, like air
and water pollutants,  have not been attempted. One factor that limits the widespread use of
deposit-refund systems is their high transaction cost. Collecting  and refunding deposits on the
sale of individual products such as beverage containers tends to be expensive, and additional
costs are involved in collecting and returning used products for disposal.

3.     Marketable Permits
There are two distinct types of trading systems: cap-and-trade systems and credit systems. Cap-
and-trade systems seek a specific environmental result; trading allowances to release pollution is
simply an option to minimize the cost of achieving the emission reductions specified  in the
regulatory cap on emissions. In the cap-and-trade approach, allowances for future emissions are
sold or granted to existing sources. Uncapped credit systems, on the other hand, do not establish
any fixed ceiling on total  emissions. Total emissions can increase if new sources of pollution
enter the market and as existing sources increase production. In  uncapped systems,  credits are
earned for controlling pollution beyond a baseline specified in one's permit. Distinctions between
cap-and-trade  and credit systems are discussed in much more detail in chapter 6.Two well-
known examples of cap-and-trade systems are EPA's Acid Rain Trading Program and Southern
California's RECLAIM. A wide variety  of other federal, state and local programs feature some
form of emission or effluent trading. For example, some of the high-mountain communities in
Colorado  require permits to use  wood-burning appliances.  Existing homeowners are given
permits reflecting historic use but  those who wish to install a new  wood  stove in a home are
required to retire two existing permits, a rule that helps reduce air pollution. Certain classes of
heavy-duty engines are subject to emissions averaging to meet an  average performance standard,
which is just the trading of pollution control obligations within a company, as well as emissions
trading  between companies. The rights to burn dry grass are subject to trading in Spokane
County, Washington, and land development rights are traded in a few jurisdictions in Maryland,
New Jersey, and Florida. In some areas, wetland mitigation credits can be  created, banked, and
sold to offset the adverse effects of development.
Trading programs have certain features that have made them increasingly popular in the United
States.  In  a trading  program,  capital  moves between  companies involved  in trades,  and
innovative, entrepreneurial  companies can profit from low-cost reductions  in emissions. In
addition,  cap-and-trade  programs can provide  great  certainty  about  the  magnitude  of
environmental improvement that will be achieved.
At the same time, trading programs may have several drawbacks, including the potential for high
transaction costs and inactive markets, especially in credit or open-market systems. High costs
can be attributed to the need to verify each reduction before authorizing the  credit. Clearly,
trading programs should not be applied to all environmental problems. The long-term effects of
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The U. S. Experience with Economic Incentives for Protecting the Environment


trading programs on technical innovation vary  from program to program. Some have spurred
considerable  innovation, such as the acid  rain program,  while others have not due to high
transaction costs.

4.     Subsidies
Subsidies to support reductions in pollution take many forms. Among the many subsidies that are
used at all levels of government to help manage  environmental pollution are grants, low-interest
loans,  favorable tax  treatment,  and preferential procurement policies for products  believed to
pose relatively  low environmental  risks.  Subsidies are used to support private-sector pollution
prevention and  control activities, the cleanup of contaminated industrial sites, farming and land
preservation, consumer product waste management, alternative automobile fuels, clean-running
cars, and municipal wastewater treatment.
Subsidies for environmental management  are  sometimes criticized because the government
entity providing the  subsidy—and the taxpayer, ultimately—is helping  to bear the costs  that
should be the responsibility of the polluter. Other environmentally related  subsidies, such as
federal support  for timber harvesting in the national forests, are also criticized because they in
fact  have proven harmful to the environment. Nonetheless, subsidies have become a fairly
common tool to manage the environment at every level of government.

5.     Liability
Being  held legally responsible  for health or environmental damages is  a potent incentive for
sources to reduce or avoid pollution, since if found liable they can face extraordinarily large and
unpredictable damage claims. The Clean Water Act, for example, requires the cleanup of oil and
petroleum  products  spilled  into the nation's waters, while the  Superfund  Act and the Oil
Pollution Act impose liability for environmental damages caused by the release of hazardous
substances and  oil, respectively. Since  1990, awards and settlements for damages to natural
resources under these and related state statutes total more than $700 million, with a number of
cases that involve large sums still in varying stages of litigation. Liabilities associated  with the
cost of cleanup  at Superfund sites total billions of dollars.
With potential costs of this magnitude, sources have a powerful incentive to minimize their legal
exposure.  Consequently,  expensive  technologies  that  control  pollution  or  aggressive
environmental management  systems can  seem very reasonable  to sources. While liability has
prodded  sources to take significant actions to reduce pollution, such as managing hazardous
wastes on site, it is sometimes difficult to quantify the environmental results of those actions or
to establish a causal link between concerns over liability and reductions in pollution.

6.     Information Disclosure
The collection and public availability of information on environmental performance has proven
to be a strong incentive for sources to reduce their emissions of pollution. The incentive derives
from a number of factors. For  example,  when  companies collect emissions information, they
learn about the  nature and magnitude of their emissions.  When such information is made easily
accessible  to the public, workers  and local communities have a much better idea of the
environmental risks they face, so they are more prone to support or demand actions to reduce
emissions. When a source's emissions are shown to decline over time, the source often reaps the
benefits of better relationships  with its employees and  with the local community. Finally, in
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                                                                      Executive Summary
some cases a proven, long-term record of environmental  stewardship makes a  company's
products more desirable to consumers.
The  disclosure of environmental performance information is  much more common today than a
decade  ago. Although some information is  disclosed voluntarily,  other information must  be
released to the public as required by statute. The two best-known laws mandating the public
disclosure of environmental information are the Toxics Release  Inventory provisions of the
federal  Community  Right-to-Know  Act and  California's  Proposition 65. Other  forms  of
information  reporting   include   environmental   impact   assessments,  product   labeling,
environmental performance awards, Securities and Exchange  Commission (SEC) environmental
reporting requirements, and disclosure requirements for lead paint and radon when homes are
sold.
Information disclosure has been a powerful tool for reducing pollution. Over the past decade, the
Toxics  Release Inventory,  for example, shows  that sources have substantially reduced the
amount of substances listed in the inventory that they release  into the environment. Because the
TRI  requires only the reporting of information,  actions taken  by sources to reduce pollution are
voluntary and in all likelihood relatively low cost.

7.     Voluntary Actions
Although government programs that encourage sources to reduce pollution on a voluntary basis
were virtually unheard  of 20 years ago,  they  have become  one of the  fastest growing
environmental management tools in the country. At present, EPA and state governments have a
variety of programs in place that encourage sources like private companies, schools, hospitals,
and universities to reduce specific kinds of pollution. A 1999 EPA survey identified 54  such
federal partnership programs, up from 28 just three years earlier. More than 7,000 organizations
now participate in EPA's voluntary programs, and in  1998 those participants  conserved 1.8
billion gallons of clean water,  7.8 million tons of solid waste, and prevented the release of air
pollution in an amount equivalent to taking 13 million cars off the road. At t the same time, EPA
estimates these organizations saved roughly $3.3 billion. Literally hundreds  of similar programs
are in operation at the state and local levels.
There are a number of reasons why voluntary reductions in pollution are proving more and more
popular with  sources, and they  are  related  to the incentives  associated with  information
disclosure.  When sources  voluntarily  reduce pollution  and their employees, neighboring
communities, and customers learn about it, sources gain several benefits. Voluntary actions taken
by sources often  reduce employees' exposure to harmful pollutants, thus lessening sources'
liability and  improving  their   relationship  with labor.  Sources  enjoy  better  relations  with
neighboring communities, and a reputation for good environmental stewardship may attract more
customers for their products. In some cases, sources also save money by taking these actions.
Moreover, sources that join voluntary partnership programs can be eligible for various kinds of
technical assistance from sponsoring government agencies. For example, they can receive free
information on the cost and  availability of energy-efficient technologies.
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The U. S. Experience with Economic Incentives for Protecting the Environment


V.     Conclusions

1.     Diversity of Economic Incentives at EPA
EPA is well known for its use of emissions trading as a key feature of its program to control acid
rain. However, acid  rain emissions trading is  only one of the  economic incentive programs
managed by EPA.
Emissions trading, averaging, and banking are helping control major air pollution problems such
as stratospheric ozone depletion and ozone-forming nitrogen oxide emissions. They are helping
this country to achieve national goals for cleaner fuels,  and they are built into virtually all EPA
rules for motor vehicles and engines. New efforts to implement a Total Maximum Daily Load
(TMDL) program in areas with impaired water quality are expected to substantially increase the
use of water effluent trading in the years ahead.
EPA subsidies are helping to revitalize brownfields across the country. In addition, the Agency is
rapidly expanding the kinds and extent of environmental information that it makes available to
the public and that it requires sources of pollution to disclose to the public. The Toxic Release
Inventory required by Superfund may be the public's most well  known and most widely used
EPA database,  but over the past several years it has been augmented by many  others.  For
example, beginning in 1998 drinking water suppliers have been required to provide households
with information on the  quality of their  drinking water. Moreover,  in 2000  EPA began
publicizing the emission characteristics of motor vehicles to help  consumers in their purchasing
decision and to encourage vehicle manufacturers to further reduce  emissions.
Voluntary programs have also become a major environmental management tool at EPA over the
past decade. The Agency now manages dozens of such programs, many  of which have led to
measurable reductions in pollutant emissions. In some cases EPA's voluntary programs  have
given U.S. companies  an incentive  to develop less  polluting products,  like computers  and
household appliances, the sale of which reduces pollution in every part of the country.
EPA has incorporated nearly every type of economic incentive currently in use in the United
States into its programs. And the growth of those incentives over the past decade suggests that
the Agency is likely to increase its use of them in the decade ahead.

2.     Wide Application at Other Levels of Government
The survey undertaken in this report demonstrates the extent to which economic incentives have
been adopted  as an environmental management tool at state and local levels in the United States.
The report discusses dozens of such applications in  detail,  but there are hundreds more that are
known but not included for analysis here.
Not only are the number of  state and local economic incentives  growing, but their diversity is
remarkable. In fact, one of the most interesting aspects of economic incentives that are  being
tested in different states and communities in the 1990s is their rich variety. Several examples
follow. Communities in California, Washington, Michigan, Wisconsin, Minnesota  and  many
other  states are charging fees to households for collecting and disposing of their solid  waste
based on the amount of waste generated. More and  more states are  imposing taxes on the
generation of hazardous wastes. North Carolina imposed a disposal fee on "white goods" such as
refrigerators  and freezers  in  1995, the  same year  that  Minnesota levied  a  tax on the
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"contamination value" of property. As an outgrowth of EPA's proposed Open Market Trading
Rule, states like Illinois, Michigan, New Jersey, Texas, and Pennsylvania have developed trading
programs for air emissions. In addition to EPA's subsidies for developing brownfields, states like
New Jersey, Pennsylvania,  Delaware, Minnesota, Ohio, Arizona,  and Tennessee are offering
similar subsidies. In addition, trading  programs for water effluent are in various  stages of
development in Long Island Sound, the Boise River, Chesapeake Bay and many other locations.
The sheer numbers and variety of these programs make them a difficult topic for analysis within
a single limited study. However, they do suggest that state and local governments will continue
to be a major developer and user of economic incentives well into the future.

3.     Unique Contributions to Environmental Management
In some instances it is difficult to quantify the reductions in pollutants or the improvements in
human health and environmental quality that result from the use of specific economic incentives.
However, there is little doubt that such incentives are  providing a new and unique element to
environmental management in the United States. In many cases,  incentives are generating health
and environmental benefits beyond what is possible with traditional regulations, and sometimes
they can be applied in situations where regulations might not be possible at all. It is difficult to
imagine,  for example, the public  supporting a regulatory system that  mandated reductions in
household waste, but household wastes are declining significantly in communities that charge for
waste collection based on the amount generated.
The contributions to environmental management made  by economic incentives are as varied as
the incentives  themselves.  Deposit-refund systems are helping change  the environmental
behavior of individual consumers in ways that traditional regulations could  not. Deposit-refund
systems and taxes on products and outputs are reducing the pollution caused by a multitude of
small and geographically dispersed sources  that  typically  are  difficult  to  control through
traditional regulations.
Many economic incentives give an impetus to technological change and innovative pollution
control because sources  can generate  profits by  finding better, cheaper ways of reducing
emissions. EPA's voluntary programs are a particularly good example of economic incentives
acting as an  incubator for technological improvements. When businesses take  initiative on their
own or work collaboratively with government to find ways to reduce pollution,  instead of merely
reacting to government regulations, they tend  to apply the same inventiveness and cost-cutting
skills used in other parts of the business. In this sense, voluntary programs, as well as other kinds
of economic incentives, unleash the qualities of  American  entrepreneurs  that  make U.S.
businesses such strong competitors in the marketplace and encourage these sources to use those
skills to protect the environment.

4.    Cost Savings
Economists have long understood that economic incentives have  the potential to reduce pollution
at a cost below that imposed by traditional  regulations. The national experience of using
economic incentives over the  past decade reinforces this point of view. In  some cases, it is
difficult to quantify the costs imposed by a particular incentive. In other cases, the hoped-for cost
reductions do not materialize to  the extent  expected. However,  in general, it is clear  that
economic incentives do provide the opportunity to achieve any  given level  of pollution control
with substantial cost savings.


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The U. S. Experience with Economic Incentives for Protecting the Environment


Evidence supporting the lower costs of economic incentives is both theoretical (derived from
models) and empirical (based on the results of operating programs). At least 40 studies based on
computer  modeling of  different  scenarios  for controlling  pollution  show  that  economic
incentives should be more cost-effective  than traditional regulations.  One study (ICF, 1989)
estimated that allowance trading in EPA's acid rain program could result in savings to affected
utilities of $700 to  $800 million per year  over the long term. The actual cost savings now are
believed to be at least twice  this amount.  Other areas  also offer potentially large savings.  For
example, effluent trading has the potential to save sources as much as $7.5 billion annually. Even
if the cost savings from using market incentives are less than predicted as a result of regulatory,
institutional, transactional, or legal restraints, or some  combination of these factors,  the actual
savings undoubtedly are still significant.

5.     Applicability to Specific Environmental Problems

The  nation's recent—and growing—experience with economic incentives has helped improve
our  collective  understanding  of  their  relative usefulness  and  applicability  to specific
environmental problems.  Experience to date suggests that, even  though a  wide variety of
incentives are available, any  particular one may be effective in managing only a fairly narrow
range of problems (see Table ES-1).
Product taxes, for example, have been imposed on such diverse goods as fertilizer, tires,  and
chlorofluorocarbons. It is most useful to apply these taxes to products that have many consumers
because administering these taxes is relatively simple and inexpensive. Product taxes have the
added advantage of raising revenue  for the taxing authority. For other environmental problems,
however, raising revenue may be a less important, or even inconsequential, consideration.
Subsidies often are politically popular. In contrast to taxes, they transfer funds  to specific targets
within the  private  sector where incentives  for  conservation,  recycling or  pollution  control
currently are lacking. Consequently,  subsidies may be most useful in situations in which targeted
assistance is  essential  and  other policy  approaches  would be  politically  unacceptable  or
ineffective.
Deposit-refund systems, like  input or output taxes, appear to be most useful  when applied to
numerous,  decentralized sources of pollution.  However, these systems tend  to  have high
administrative costs compared to alternative instruments  such  as taxes and  fees. Clearly,  the
relative ability to administer the incentive would be a primary consideration when choosing
among these alternatives.
In short, any government agency interested in using economic incentives has a range of options
from which to choose. The environmental  success of the incentive selected depends to a great
extent on the characteristics of the specific  environmental problem at hand.
                                                                                  January

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                                                                                           Executive Summary
Table ES-l.Uses of Economic Incentives
 Incentive
Examples
Pros & Cons
  Pollution Charges &
  Taxes
Emission charges
Effluent charges
Solid waste charges
Sewage charges
Pros: stimulates new technology; useful when damage per unit of
pollution varies little with the quantity of pollution

Cons: potentially large distributional effects; uncertain
environmental effects; generally requires monitoring data
  Input or Output
  Taxes & Charges
Leaded gasoline tax
Carbon tax
Fertilizer tax
Pesticide tax
Virgin material tax
Water user charges
CFC taxes
Pros: administratively simple; does not require monitoring data;
raises revenue; effective when sources are numerous and damage
per unit of pollution varies little with the quantity of pollution

Cons: often weak link to pollution; uncertain environmental effects
 Subsidies
Municipal sewage plants
Land use by farmers
Industrial pollution
Pros: politically popular, targets specific activities

Cons: financial impact on government budgets; may stimulate too
much activity; uncertain effects
  Deposit-
  Refund Systems
Lead-acid batteries
Beverage containers
Automobile bodies
Pros: deters littering; stimulates recycling

Cons: potentially high transaction costs; product must be reusable
or recyclable
  Marketable Permits
Emissions
Effluents
Fisheries access
Pros: provides limits to pollution; effective when damage per unit of
pollution varies with the amount of pollution; provides stimulus to
technological change

Cons: potentially high transaction costs; requires variation in
marginal control costs
  Reporting
  Requirements
Proposition 65
SARA Title III
Pros: flexible, low cost

Cons: impacts may be hard to predict; applicable only when
damage per unit of pollution does not depend on the quantity of
pollution
 Liability
Natural resource damage
assessment
Nuisance, trespass
Pros: provides strong incentive

Cons: assessment and litigation costs can be high; burden of proof
large; few applications
 Voluntary Programs
Project XL
33/50
Energy Star
Pros: low cost; flexible; many possible applications; way to test new
approaches

Cons: uncertain participation
2001
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The U. S. Experience with Economic Incentives for Protecting the Environment
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                                                                             Table of Contents
                                     Table of Contents

1.   Introduction	1
    1.1    Purpose of the Report	1
    1.2    Scope of the Report	1
    1.3    Organization of the Report	3
2.   Government Policy on Economic Incentives	5
    2.1    Reports and Strategies	5
           2.7.7   Project 88 Report.	5
           2.1.2   Report of the EPA Economic Incentives Task Force	6
           2.1.3   President's Council on Sustainable Development	6
           2.1.4   Economic Report of the President	6
    2.2    Executive Orders and Initiatives	7
           2.2.7   Executive Order 12291	7
           2.2.2   Executive Order 12866	7
           2.2.3   Climate Change Initiative	9
           2.2.4   Greening the Government.	9
           2.2.5   National Performance Review	10
           2.2.6   Reinventing Environmental Regulations	10
           2.2.7   National Environmental Technology Strategy	10
    2.3    Recent Environmental Management Initiatives	11
           2.3.7   Performance Track Approach at EPA	77
           2.3.2   EPA Air and Water Policy Initiatives	77
           2.3.3   EPA Research Activities	77
           2.3.4   Promotion of Economic Instruments Abroad	77
    2.4    Legislation: Clean Air Act Amendments of 1990	12
3.   The Cost Effectiveness and Environmental Effects of Incentive Systems	13
    3.1    Introduction	13
    3.2    Traditional Regulatory Approaches	14
    3.3    Incentive-Based Mechanisms	16
           3.3.1   Pollution Charges, Fees,  and Taxes	17
           3.3.2   Deposit-Refund Systems	19
           3.3.3   Marketable Permit Systems	19
           3.3.4   Subsidies for Reducing Pollution or Improving the Environment	20
           3.3.5   Liability for Harm Caused by Pollution	27
           3.3.6   Information Disclosure	22
           3.3.7   Voluntary Pollution Reduction Programs	23
    3.4    Relative Cost Effectiveness	23
    3.5    Economic Instruments and Technological Change	27
    3.6    Impacts on Environmental Quality	29
    3.7    Finding the Right Instrument for the Problem	30
4.   Pollution Charges, Fees, and Taxes	33
    4.1    Introduction	33
    4.2    Water Fees	34
           4.2.1   Indirect Discharge and User Fees	34
           4.2.2   Direct Discharge Fees	35
           4.2.3   Some State Effluent Permitting Fees	36
           4.2.4   Stormwater Runoff Fees	37
    4.3    Air Emission Fees	37
           4.3.1   Permit Fees	37
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           4.3.2   Ozone Non-attainment Area Fees	40
    4.4    Solid Waste Disposal Fees	41
           4.4.1   Variable Pricing Programs	41
           4.4.2   Landfill Taxes	46
           4.4.3   Hazardous Waste Taxes	47
    4.5    Product Charges	48
           4.5.1   Federal Product Charges	49
           4.5.2   State Product Charges	50
    4.6    Road User Fees	53
    4.7    Wetland Compensation Fees	54
    4.8    Grazing Fees	55
    4.9    Minnesota Contamination Tax	55
5.  Deposit-Refund Systems	57
    5.1    Introduction	57
    5.2    Beverage Containers	58
           5.2.7   Maine Bottle Deposit System	59
           5.2.2   California Beverage Container Recycling Program	62
           5.2.3   Summary of Beverage Deposit/Refund Systems	63
    5.3    Lead-Acid Batteries	64
    5.4    Maine Pesticide Container Deposit System	64
    5.5    Other Products	65
    5.6    Voluntary Deposit Systems	66
    5.7    Performance Bonds	66
6.  Trading Programs	67
    6.1    Trading in Clean Air Act Programs: An Overview	69
    6.2    Foundations of Air Emissions Trading	71
           6.2.1   Offset Program	72
           6.2.2   Bubble Policy	72
           6.2.3   Banking	73
           6.2.4   Netting	73
           6.2.5   Evaluation of Early Emission Trading Activities	74
    6.3    Acid Rain Allowance Trading	76
           6.3.1   Allowances	77
           6.3.2   Monitoring and Compliance	78
           6.3.3   Allowance Auction	79
           6.3.4   Transaction Costs	79
           6.3.5   Results	80
    6.4    NOX Regional Ozone Programs	82
           6.4.1   OTCNOX Budget Program	83
           6.4.2   NOX Budget Trading Program	84
    6.5    Chlorofluorocarbon  (CFC) Production Allowance Trading	85
    6.6    Lead Credit Trading	86
    6.7    Gasoline Constituents	87
    6.8    Tier 2 Emission Standards	89
    6.9    Heavy-Duty Truck Engine Emission Averaging	89
    6.10   Corporate Average Fuel Economy (CAFE) Standards	90
    6.11   Hazardous Air Pollutant (HAP) Early Reduction	91
           6.11.1  The Petroleum Industry NESHAP	92
           6.11.2  Hazardous Organic Chemical NESHAP	92
    6.12   Regional Clean Air Incentives Market (RECLAIM)	93
    6.13   Other State Programs	96
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                                                                            Table of Contents
           6.13.1  Illinois Emission Reduction Market System	96
           6.13.2  Michigan Emissions Trading Program	97
           6.13.3  New Jersey Emission Trading Program	97
           6.13.4  Texas Emissions Trading Program	97
           6.13.5  Pennsylvania Emission Trading Program	98
           6.13.6  Wood Stove and Fireplace Permit Trading (Colorado)	98
           6.13.7  Grass-Burning Permit Trading (Washington)	99
     6.14   Effluent Trading	99
           6.14.1  Effluent Bubble	100
           6.14.2  Effluent Trading: Point-to-Point	707
           6.14.3  Effluent Trading: Point-to-Non-point Sources	702
           6.14.4  Future Prospects for Effluent Trading	103
     6.15   Wetland Mitigation Banking	106
     6.16   Greenhouse Gas Emissions	107
7.    Subsidies for Pollution Control	Ill
     7.1    Introduction	Ill
     7.2    Pollution Prevention and Control	Ill
           7.2.1   Tax Benefits	773
           7.2.2   Louisiana Environmental Scorecard	114
           7.2.3   Supplemental Environmental Projects	775
           7.2.4   Loans and Tax Exempt Bonds	775
     7.3    Brownfields Programs	116
           7.17   EPA Pilot Grant Projects	777
           7.3.2   Tax Incentives and Loans	777
     7.4    Farming and Land Preservation	118
           7.4.1   Conservation Reserve Program	779
           7.4.2   Conservation Reserve Enhancement Program	727
           7.4.3   Wetlands  Reserve Program	722
           7.4.4   Compliance Provisions	723
           7.4.5   Highly Erodible Land Conservation and Sodbuster Provisions	7 23
           7.4.6   Swampbuster Program	124
           7.4.7   Subsidies Created Under the 1996Farm Bill	725
           7.4.8   Impacts of Conservation Programs	126
           7.4.9   State Initiatives	126
           7.4.10  Purchase of Development Rights Programs	727
     7.5    Consumer Product Waste Management	128
           7.5.7   Advance Disposal Fees	128
           7.5.2   Deposit Handling Fees	729
           7.5.3   Recycling Loans and Grants	729
           7.5.4   Tax Incentives	737
           7.5.5   Preferential Procurement of Recycled Products	737
           7.5.6   Recycled  Content Policies	732
     7.6    New Jersey's Information Awards Program	133
     7.7    Alternative Fuels  and Low-Emitting Vehicles	133
           7.7.7   Federal Subsidies	134
           7.7.2   State Subsidies	735
           7.7.3   Car Buyback Schemes	136
     7.8    Renewable Energy and Conservation	136
     7.9    Municipal Sewage Treatment Plant Construction	137
     7.10   Accelerated Review of New Pesticide Formulations	139
     7.11   Subsidies That May Harm the Environment	139
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           7.11.1  Subsidies for Timber, Minerals, and Water Extraction	139
           7.11.2  Agriculture	141
           7.11.3  Mortgage Interest Tax Deduction	142
8.  Liability Approaches	143
    8.1    Introduction	143
    8.2    Liability for Cleanup Costs	144
    8.3    Liability for Damage to Natural Resources	145
    8.4    Civil and Criminal Liability	147
           8.4.1   Resource Conservation and Recovery Act (RCRA)	148
           8.4.2   Comprehensive Environmental Response, Compensation, and Liability Act
                  (CERCLA)	149
           8.4.3   Clean Water Act (CWA)	149
           8.4.4   Clean Air Act (CAA)	150
    8.5    Tort Liability	150
9.  Information Disclosure	153
    9.1    Background	154
    9.2    National Environmental Policy Act (NEPA)	155
    9.3    Emergency Planning and Community Right-to-Know Act (EPCRA)	155
           9.3.1   Trends in Toxics Release Inventory (TRI) Data	156
           9.3.2   Incentive Effect of the Toxics Release Inventory	158
    9.4    State Chemical Reporting Programs	159
           9.4.1   Massachusetts Toxics Use Reduction Act (TURA)	159
           9.4.2   New Jersey Reporting Requirements	160
    9.5    Drinking Water Consumer Confidence Report	161
    9.6    EPA Reporting of Environmental Information	162
           9.6.1   Automobile Pollution Rankings	162
           9.6.2   Envirofacts	162
           9.6.3   Sector Facility Indexing (SFI)	162
    9.7    Proposition 65	163
    9.8    Hot Spots Act	164
    9.9    Labeling Schemes	164
           9.9.7   OSHA Warning Labels	165
           9.9.2   FTC Guidelines for Environmental Marketing Claims	165
           9.9.3   Green Seal and Other Seals of Approval	166
           9.9.4   Single-Attribute Labels	167
           9.9.5   Report Cards and Information Disclosure	168
           9.9.6   Energy Efficiency Labeling	168
           9.9.7   Hazard Labels	770
    9.10   Environmental Performance Awards	170
    9.11   Securities and Exchange Commission Disclosure Requirements	171
    9.12   Summary	171
10. Voluntary Programs	173
    10.1   Background	173
    10.2   Federal Initiatives: Climate Change	174
           70.2.7  Green Lights	176
           10.2.2  Energy Star Partnership Program	176
           10.2.3  Climate Wise	775
           10.2.4  WasteWise	178
           10.2.5  Methane Reduction Programs	775
           10.2.6  CoalbedMethane Outreach Program	779
           10.2.7  Natural Gas Star Program	779
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                                                                           Table of Contents
           10.2.8 Agstar Program	779
           10.2.9 Assessment of Climate Change Programs	180
     10.3   Public Voluntary Initiatives: Pollution Prevention	181
           70.17 33/50 Program	757
           10.3.2 Design for the Environment (DfE)	183
           10.3.3 Environmental Accounting Project (EAP)	184
           10.3.4 Environmental Leadership Program (ELP)	185
           10.3.5 Water Alliances for Voluntary Efficiency (WAVE)	185
           10.3.6 Community-Based Environmental Protection (CBEP)	186
           10.3.7 Voluntary Mobile Source Emission Reduction Program (VMEP)	186
           10.3.8 Pesticide Environmental Stewardship Program (PESP)	757
           10.3.9 Commuter Choice Leadership Initiative	757
     10.4   Industry Initiatives	188
     10.5   Federal Negotiated Agreements	189
           70.5.7 Project XL	759
           10.5.2 Common Sense Initiative (CSI)	797
     10.6   An Assessment of Pollution Prevention Efforts	193
     10.7   Voluntary Programs Developed by EPA Regions	193
     10.8   State Programs	194
           10.8.1 Massachusetts Recycled New sprint Program	194
           10.8.2 Adopt-a-Highway Programs	194
           10.8.3 State Voluntary Cleanup Programs	795
     10.9   Conclusions	195
Index	197
Bibliography	201
About the Report	223
Endnotes	225
                                       List of Figures

Figure 3-1.   Control Options fora Source	15
Figure 3-2.   National Long-Term Air Quality Trends, 1979-1998	16
Figure 3-3.   Tax Per Unit of Emissions	17
Figure 3-4.   Comparison of Emission Tax and Emission Limit	28
Figure 4-1.   Water and Wastewater Charges (monthly average)	35
Figure 4-2.   Solid Waste Flows in San Jose	43
Figure 5-1.   Lead Recovery from Lead Acid Batteries	65
Figure 6-1.   Internal and External Trading	80
Figure 6-2.   Acid Rain Allowance Prices	81
Figure 7-1.   Cumulative SRF Investments (in billions of dollars, 1988-1999)	137
Figure 9-1.   Reported TRI Releases	156
Figure 10-1.  Energy Savings in Showcase Buildings	177
Figure 10-2.  Goals and Accomplishments of EPA's Climate Change Programs: 1995—2000	180
Figure 10-3.  Releases of TRI Chemicals (1988-1994)	183
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The U. S. Experience with Economic Incentives for Protecting the Environment
                                        List of Tables

Table 3-1.   Considerations for Selecting Regulatory Instruments	14
Table 3-2.   Potential Savings from Using Economic Incentives to Control Air Pollution	25
Table 3-3.   Potential Savings from Using Economic Incentives to Control Water Pollution	26
Table 3-4.   Potential Savings from Using Economic Incentives to Control Solid Waste	26
Table 3-5.   Potential Savings from Using Economic Incentives for Other Pollution-Related Issues	27
Table 3-6.   Uses of Economic Instruments	31
Table 4-1.   Fees, Charges, and Taxes in Environmental Policy	33
Table 4-2.   State Effluent Permit Fee Structures	36
Table 4-3.   Air Emissions Permit Fees in Maine	38
Table 4-4.   Emission Fees in SCAQMD	39
Table 4-5.   Air Toxics and Ozone-Depleting Chemicals Emission Fees in SCAQMD	39
Table 4-6.   Variable Rate Structures	42
Table 4-7.   Responses to Variable Rate Pricing	45
Table 4-8.   Hazardous Waste Landfill Fees in California	47
Table 4-9.   California Hazardous Waste Generation Fees	47
Table 4-10.  Federal and State Tire Charges	51
Table 5-1.   State Beverage Container Deposit-Refund Systems	59
Table 5 -2.   Beverage Containers: Estimated Tons Recycled and Costs of Collection in Maine	61
Table 5-3.   States with Mandatory Lead-Acid Battery Deposit Systems	64
Table 6-1.   Emission Trading Activity in the Los Angeles Area	74
Table 6-2.   Origin of 1999 Allowable Emissions	77
Table 6-3.   OTC's NOX Budget Program Allocations and Emissions (1999)	83
Table 6-4.   Benefits of Achieving Early Emission Reductions	92
Table 6-5.   Reclaim Trading Credit Prices	95
Table 6-6.   Open Market Emissions Trading Registry Report (2000)	97
Table 6-7.   Estimated Cost Savings from Iron and Steel Intraplant Trades	100
Table 6-8.   Effluent Trading Projects	104
Table 6-9.   Accepted USIJI Projects	109
Table 7-1.   The Use of Subsidies in Environmental Management	112
Table 7-2.   Points Under Louisiana Scorecard System	114
Table 7-3.   Funding for Conservation Subsidy Programs of the U.S. Department of Agriculture (FY
            1998) in millions of dollars	118
Table 7-4.   Conservation Reserve Acreage and Rental Payments	120
Table 7-5.   Estimated Social Benefits and Costs of CRP	120
Table 7-6.   Status of Conservation Reserve Enhancement Programs	121
Table 7-7.   Wetland Reserve Program's First Enrollment (1992)	123
Table 7-8.   Economic Benefits and Costs of Conservation Compliance	124
Table 7-9.   Impacts of Conservation Programs	126
Table 7-10.  Purchase of Development Rights Programs in States	128
Table 7-11.  State Subsidies for Used Tire Management	129
Table 7-12.  Financial Assistance Programs in Wisconsin that Promote Recycling (1994-95)	130
Table 7-13.  State Loan Funds for Recycling  Enterprises	130
Table 7-14.  Alternative Fuel and Vehicle Subisdies	134
Table 7-15.  Federal Procurement Requirements for Alternative Fuel Vehicles by Model Year	135
Table 7-16.  Alternative Fuel and Vehicle Subsidies in the Ozone Transport Region	136
Table 7-17.  Water Subsidies of the U.S. Bureau of Reclamation	140
Table 8-1.   Largest Natural Resource Damage Settlements Brought by the U.S. Government	146
Table 8-2.   Criminal Penalties for Violations of the Clean Water Act	149
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                                                                             Table of Contents
Table 9-1.   Classification of Environmental Labeling Schemes	165
Table 10-1.  Federal Voluntary Programs for Greenhouse Gases	175
Table 10-2.  Energy Savings from Green Lights/Energy Star Program	176
Table 10-3.  Federal Voluntary Pollution Prevention Programs	182
Table 10-4.  Federal Negotiated Voluntary Programs	189
Table 10-5.  Economic Benefits for Select Project Sponsors of Project XL	191
Table 10-6.  Selected Regional Voluntary Programs of EPA	193
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The U. S. Experience with Economic Incentives for Protecting the Environment
                                           List of Acronyms

                 ADF             Advance Disposal Fee
                 AEL             Acceptable Exposure Level
                 AF              Alternative Fuel
                 AFV             Alternative Fuel Vehicle
                 API              American Petroleum Institute
                 AQMP           Air Quality Management Plan
                 ATU             Allotment Trading Units
                 AUM             Animal Unit Months
                 BAAQMD        Bay Area Air Quality Management District
                 BAT             Best Available Technology Economically Achievable
                 BCRP           Beverage Container Recycling Program
                 BLM             Bureau of Land Management
                 BOD             Biochemical Oxygen Demand
                 BPT             Best Practicable Control Technology Currently Available
                 Btu              British Thermal Unit
                 CAA             Clean Air Act
                 CAFE           Corporate Average  Fuel Economy
                 CalCAP          California Capital Access Program
                 CARB           California Air Resources Board
                 CBEP           Community-Based Environmental Protection
                 CCAP           Climate Change Action Plan
                 CCTI             Climate Change Technology Initiative
                 COM             Clean Development Mechanism
                 CEM             Continuous Emission Monitoring
                 CEQ             Council on Environmental Quality
                 CERCLA         Comprehensive Environmental Response Compensation and Liability Act
                 CFC             Chlorofluorocarbon
                 ChU             Methane
                 CLEAN          California Loans for Environmental Assistance Now
                 CLI              Consumer Labeling Initiative
                 CMA             Chemical Manufacturers Association
                 CNG             Compressed Natural Gas
                 C02             Carbon Dioxide
                 CPCFA          California Pollution Control Financing Authority
                 CPTC           California Private Transportation  Company
                 CRP             Conservation Reserve Program
                 CRS             Congressional Research Service
                 CSI              Common Sense Initiative
                 CWA            Clean Water Act
                 DACS           Department of Agriculture and Community Services (Florida)
                 DEM             Division of Environmental Management
                 DfE              Design for the Environment
                 DOE             Department of Energy
                 DOT             Department of Transportation
                 EAP             Environmental Accounting Project
                 EBI              Environmental Benefits Index
                 EER             Energy Efficiency Rating
                 EHS             Environmental Health and Safety
                 EIP              Economic Incentive Program
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                                                                                         List of Acronyms
                 ELP             Environmental Leadership Program
                 EO              Executive Order
                 EPA             Environmental Protection Agency
                 EPCA           Energy Policy and Conservation Act
                 EPCRA          Emergency Planning and Community Right-to-Know Act
                 EQIP            Environmental Quality Incentive Program
                 ERC             Emission (or Effluent) Reduction Credits
                 ERMS           Emission Reduction Market System
                 EU              European Union
                 FGD             Flue Gas Desulfurization
                 FTC             Federal Trade Commission
                 FWPCA          Federal Water Pollution Control Act
                 FY              Fiscal Year
                 GEF             Global Environment Facility
                 GHG            Greenhouse Gas
                 GNP             Gross National Product
                 gpm             Grams Per Mile
                 HAP             Hazardous Air Pollutant
                 HEL             Highly Erodible Land
                 HFC             Hydrofluorocarbon
                 HON             Hazardous Organic Chemical NESHAP
                 IET              International Emissions Trading
                 IPTEP           Industrial Property Tax Exemption Program
                 IRR             Internal Rate of Return
                 ISO             International Organization for Standardization
                 Jl               Joint Implementation
                 kWh             Kilowatt Hour
                 LAER           Lowest Achievable Emission Rate
                 MACT           Maximum Available Control Technology
                 MMBtu          Million Btus
                 MMTCE          Million Metric Tons of Carbon-Equivalent
                 MOU            Memorandum of Understanding
                 mpg             Miles Per Gallon
                 MSDS           Material Safety Data Sheet
                 N20             Nitrogen Oxide
                 NEPA           National Environmental Policy Act
                 NESHAP         National Emission Standards for Hazardous Air Pollutants
                 NFRC           National Fenestration Rating Council
                 NGO            Nongovernmental Organization
                 NLEV           National Low Emission Vehicle
                 NMOG          Non-Methane Organic Gas
                 NOAA           National Oceanic and Atmospheric Administration
                 NOx             Nitrogen Oxide
                 NPDES          National Pollution Discharge Elimination System
                 NRDC           Natural Resources Defense Council
                 NSR             New Source Review
                 ODC             Ozone-Depleting Chemical
                 OMB            Office of Management and Budget
                 OPA             Oil Pollution Act
                 OSHA           Occupational Safety and Health Administration
                 OTC             Ozone Transport Commission
                 P2              Pollution Prevention
2001
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                 P3               Public-Private Partnership
                 PAH             Poly-Nuclear Aromatic Hydrocarbons
                 PDR             Purchase of Development Rights
                 PET             Polyethylene Terephthalate
                 PFC             Perfluorocarbon
                 POTW           Publicly Owned Treatment Work
                 ppm             Parts Per Million
                 PRIA             Public Rangelands Improvement Act
                 PSD             Prevention of Significant Deterioration
                 RACT            Reasonably Available Control Technology
                 RCRA            Resource Conservation and Recovery Act
                 RECLAIM         Regional Clean Air Incentives Market
                 RIA              Regulatory  Impact Analysis
                 RFF             Resources for the Future
                 ROG             Reactive Organic Gases
                 RTC             RECLAIM Trading Credits
                 RVP             Reid Vapor Pressure
                 SARA            Superfund Amendments and Reauthorization Act
                 SCAQMD         South Coast Air Quality Management District
                 SCS             Scientific Certification Systems
                 SEC             Securities and  Exchange Commission
                 SEP             Supplemental Environmental Project
                 SFe              Sulfur Hexafluoride
                 SFI              Sustainable Forestry Initiative
                 SIC              Standard Industrial Classification
                 SIP              State Implementation Plan
                 SMCRA          Surface Mining Control and Reclamation Act
                 SOCMI           Synthetic Organic Chemical Manufacturing Industry
                 S02              Sulfur Dioxide
                 SRF             State Revolving Fund (Clean Water)
                 STEP            Strategies for Today's Environmental Partnership (API)
                 TSCA            Toxic Substances Control Act
                 TDR             Transferable Development Rights
                 TMDL            Total  Maximum Daily Load
                 TNRCC          Texas Natural Resource Conservation Commission
                 TRI              Toxics Release Inventory
                 TSP             Total  Suspended Particulates
                 UNFCCC         United Nations Framework Convention on Climate  Change
                 URVs            Unit Risk Values
                 USAID           United States Agency for International Development
                 USDA            United States Department of Agriculture
                 USIJI             United States Initiative on Joint Implementation
                 VMT             Vehicle  Miles Traveled
                 VOCs            Volatile  Organic Compounds
                 VOM             Volatile  Organic Matter
                 WAVE            Water Alliance  for Voluntary Efficiency
                 WRAP           Waste Reduction Awards Program
                 WRP             Wetlands Reserve Program
                 WRI              World Resources Institute
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                                                                            Introduction
1.  Introduction

In recent years, economic instruments have achieved a prominent place among the tools
used  by  governments  to  manage  the  environment. Once mainly  an academic
proposition, or a revenue-raising adjunct to traditional regulatory mechanisms, market-
based economic incentives are now being used as the principal instrument of control on
a number  of environmental issues. Nowhere is this fact more evident than  in the 1990
Clean Air Act Amendments, which created many programs that are underpinned by
market-based mechanisms.  The  Clean Water Act  Amendments of 1992,  the Safe
Drinking Water Act, and a host of state and local initiatives also contain important new
incentive-based initiatives.

1.1    Purpose of the Report

This report expands upon and updates two earlier EPA  surveys on the use of economic
instruments for  managing the  environment.  A  1992 EPA report  documented  the
growing use of economic instruments to manage the environment in the United States
and also characterized the experiences of many other countries.1 A 1997 report to EPA
reviewed many additional programs in  the United States and in  other nations.2 Since
these reports were issued, many new instruments have  been  implemented and existing
instruments have been subjected to evaluation  by academics  and government agencies.
Thus, an update is not only timely but also a good opportunity for offering new insights
and perspectives. This is not the first such update. Particularly noteworthy are survey
articles by Stavins and Hahn and  recent research by the National Academy of Public
Administration.3 While the basic conclusions of the earlier EPA reports are still valid,
the number of instruments that have  been  reviewed for their efficacy  has grown
substantially. A number of subtle and not so subtle differences in perspective also may
be evident to the reader.
This report attempts to go well beyond simply enumerating existing  market-based
mechanisms for managing the environment by examining key issues. How well have
these instruments performed? How  economically efficient or cost-effective are these
mechanisms in achieving the goals  of environmental management? What are their
effects upon the environment? Why are  potential  gains from economic  instruments
seldom observed in practice, and what can be done to improve this record? What can be
learned in  these cases that will assist in the formulation of new mechanisms?

1.2    Scope of the Report

For the purposes of this report, the term "economic incentives" will be defined broadly
as instruments that provide continuous inducements, financial or  otherwise, to sources
of pollution, to reduce their releases of pollutants or make their products less polluting.
In essence, with incentives, sources view each unit  of pollution as having  a cost,
whereas under more traditional regulatory approaches pollution may  be free or nearly
so once regulations have been satisfied.

Pollution Charges, Fees, Taxes
  Deposit-Refurtd Systems
   Trading Programs
Subsidies for Pollution Control
   Liability Approaches
  information Disclosure
                                                                                    Volynlar* Proarams
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The U. S. Experience with Economic Incentives for Protecting the Environment


To achieve maximum cost effectiveness, each source should control pollution to the point where
the last units of pollution cost the same amount to control at each source. To achieve efficiency,
the  situation that maximizes the  difference  between benefits  and costs, pollution  should be
controlled until the per-unit costs of controlling pollution that are faced by each source are equal
to the incremental value of damage to health and the environment caused by that pollution. This
latter objective is much more difficult to achieve, so much so that it is of interest primarily as an
academic or theoretical exercise; it does not have great regulatory significance.
The  definition of economic incentives used  here  excludes  mechanisms that use explicit or
implicit price signals to control activities that have pollution as a by-product. While sometimes
known as "environmental incentives," programs that provide  ride  sharing, bike paths, high-
occupancy vehicle lanes, parking surcharges, and the like are beyond the scope of this report.
However, there is a brief discussion of congestion pricing that addresses a problem  not unlike
(and quite likely linked directly to) pollution. While of interest  because these mechanisms may
lead  to a reduction in pollution, they provide neither an explicit  nor an implicit price on units of
pollution. Excluding  these  mechanisms  carries no particular implication regarding EPA's
perspective regarding their present or future applications.
Payments per unit of pollution  are perhaps the clearest example of an incentive, as the term is
used in this report. Credits and  allowances to reduce pollution also provide direct price signals.
As such,  sources receive rights that can be sold and used by another source.  Subsidies for
pollution control and deposit-refund systems also create continuous financial incentives. Finally,
indirect financial incentives are  created  through reporting requirements, liability  rules,  and
voluntary programs. All of these mechanisms provide financial  incentives for sources to reduce
their emissions and to make their products more environmentally friendly.
The  principal  contrast between incentive mechanisms and traditional regulatory approaches is
that the latter  do not provide incentives to reduce releases below  permitted levels, or to make
their products less harmful to the environment once regulatory requirements are satisfied. Under
traditional regulatory approaches,  sources are tempted to view releases within permitted amounts
as having no cost and products that  release  less pollution than allowed by requirements s as
having no incremental value. Sources operating within the limits  of existing regulations  have
little reason to act until new regulations are issued.
In fact, if firms  reduce pollution below permitted amounts or  produce products  with superior
environmental performance, they may  trigger actions  by  regulators  to  impose tougher
requirements based on a source's past performance. Thus, under traditional forms of regulation
there may be perverse incentives not to innovate  and not to improve the technology to control
pollution. Nonetheless, some incentives to exceed regulatory requirements do exist.  Releasing
less than permitted amounts of pollution provides a margin of safety to sources in the event of
equipment malfunctioning; it often leads to fewer inspections; and it may trigger a tightening of
regulations  that would  adversely  affect  competitors.  Vendors   of equipment  that controls
pollution also may have an incentive  to design equipment and processes that exceed  regulatory
requirements.  If they design technologies that exceed  these requirements, EPA  might adopt
stricter  pollution control requirements,  thus creating  a market  for the vendors'   products.
Although this report attempts to make a careful distinction between traditional and market-based
approaches, these distinctions are often blurred in practice. A range of pollution control measures
does exist. They  span the spectrum from such highly prescriptive traditional regulatory measures
as technology requirements to such purely market-oriented measures as deposit-refund systems
                                                                                   January

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                                                                            Introduction
or pay-per-bag methods for municipal waste disposal. Between these extremes exists a broad
range of instruments, with no clear dividing line between traditional regulatory approaches and
methods based  on economic incentives. Many  approaches  to  environmental  management
embody some features of incentive mechanisms along with a heavy dose of direct regulatory
action. Most of the best known examples of economic incentive approaches, such as the acid rain
trading program  and the gasoline lead credit trading program, also have some features that are
found in traditional regulatory approaches  such as enforcement for noncompliance.
While many incentive programs are reviewed herein, including all that could be identified at the
federal level, this report  makes no pretense of being exhaustive. The literature  on  economic
incentives is  immense.  Many  levels  of government  have  adopted  such programs or  are
considering their use.  Rather than being comprehensive, an attempt has been made to identify
those mechanisms that are most likely to have significance in the long term. In doing so, many
important initiatives have undoubtedly been omitted because of a lack of information or the need
to create limits on the scope of this report. For example, economic mechanisms for  allocating
water are noted only briefly, despite the potential effect of this mechanism on the environment,
because pollution control is not the primary objective of water allocation. Likewise, the brief
discussion  on highway  pricing and congestion  charges merely  serves to  introduce  these
incentives, since  the effects of these fees on the environment—although they may be potentially
significant—have yet to be documented.

1.3    Organization of the Report

This report is organized into eight additional chapters that are briefly summarized below.
Chapter 2  examines  current and  past U.S.  government  policies that  incorporate incentive
mechanisms, with an emphasis on policies initiated by the Clinton administration.
Chapter 3 provides an overview of the various types of incentive mechanisms in terms of their
cost effectiveness and  environmental effects, both in theory and in practice.
Chapter 4 discusses pollution-based fee, charge, and tax systems in place in the United States,
and fees imposed on the quantity and quality of emissions, or both, that are released into the
environment.
Chapter 5 considers deposit-refund systems to encourage recycling or the proper disposal of the
product.
Chapter 6 covers trading systems,  including credits for pollution reductions that have been
achieved (open market programs) as well as emissions cap-and-trade (allowance) programs.
Chapter  7 discusses  subsidy systems,  including grants,  low-interest  loans,  favorable  tax
treatment, and preferential procurement policies  for products believed to be environmentally
friendly. The chapter also considers the potential benefits that could be achieved by eliminating
subsidies that harm the environment. Chapter 8 addresses the use of liability as a mechanism for
compensating victims when sources release pollution that causes harm to human health and the
environment  and also as  a mechanism  for encouraging  sources to  comply  with existing
environmental regulations.
Chapter 9 discusses in some detail the potential effects that economic incentives may have on the
information  reporting requirements of two  laws.  They  are the Emergency  Planning and
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The U. S. Experience with Economic Incentives for Protecting the Environment


Community  Right-To-Know Act (EPCRA), which established the  Toxics Release Inventory
(TRI) reporting requirements, and California's Safe Drinking Water and Toxic Enforcement Act,
commonly referred to as Proposition 65. Other forms of information reporting are also reviewed
in this  chapter,  including  environmental  impact assessment reporting,  product  labeling,
environmental  performance  awards,  Securities  and   Exchange   environmental  reporting
requirements, and lead paint and radon disclosure requirements.
Chapter 10 looks at programs under  which EPA and the states ask companies to voluntarily
participate in activities to reduce pollution and protect the environment.
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                                                 Government Policy on Economic Incentives
2. Government Policy on Economic Incentives

From the early  days of the EPA, policy makers  have recognized that economic
instruments  held  the potential  to  improve the cost effectiveness  of environmental
management. The Nixon administration proposed to use emission fees to limit sulfur
dioxide,  however this initiative failed in  Congress.  Gradually, as  allowed by  its
governing statutes, EPA began to  experiment with  the  use  of economic incentives,
introducing emissions trading in the early 1980s. The Clean Air Act Amendments of
1990, a product of the  Bush administration,  greatly increased the use of economic
incentives in environmental management.  The Clinton administration has continued
strong support for the use of economic incentives in  environmental management. This
chapter   highlights   some  of  the  key  reports,  executive  orders,  environmental
management innovations, and legislation that demonstrate the growing commitment to
expanding  the  use  of innovative,  cost-effective approaches  to  environmental
management.

2.1    Reports and Strategies

2.1.1  Project 88 Report
Sponsored by Senators Heinz and Wirth, a group of public policy scholars prepared the
Project 88 Report in 1988.4 It identified 36 proposals  for "innovative solutions to major
environmental and  natural  resource problems."  Among the economic  incentives
included in these proposals were

   •   a national market for CC>2 offsets;

   •   internationally marketable permits for greenhouse gases;

   •   marketable permits for potential ozone-depleting substances, SO2, NOX,  and
       point and non-point sources of water pollution;

   •   a deposit-refund system for hazardous wastes that can be placed in containers;

   •   taxes on fuel-inefficient vehicles with rebates for fuel-efficient vehicles;

   •   taxes on certain pesticides; and

   •   air emissions charges for mobile sources.
Round II of the Project 88 Report evaluates in detail implementation issues regarding
three  areas where incentives  might be applied:  global climate  change, solid and
hazardous waste management,  and natural  resource  management.  Many  of the
initiatives proposed in the Project 88 Report  subsequently were enacted:  solid waste
management  unit  pricing,  the Gas-Guzzler tax on fuel-inefficient vehicles, and
marketable permits for 862, NOX, and water effluents. The proposal for an international
market in greenhouse gases that was contained within the Kyoto Protocol also flows
directly from this report.
            »4JF
Pollution Charges, Fees, Taxes
   Trading Program*
Subsidies for Pollution Control
  Information Disclosure
                                                                                    Voluntary Programs
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The U. S. Experience with Economic Incentives for Protecting the Environment


2.1.2  Report of the EPA Economic Incentives Task Force
The  1991 report by the EPA Economic Incentives Task Force, entitled Economic Incentives:
Options for Environmental Protection studied  existing and  potential incentive mechanisms for
the purpose of stimulating discussion on the role of such mechanisms in environmental policy.5
The  report focused on four areas where  incentives might be applied: municipal solid waste
management, global climate change, water resource management, and multi-media concerns. In
the preface to the report,  the EPA Administrator  stated, "To  maintain  progress toward  our
environmental goals, we must move beyond a prescriptive approach by adding innovative policy
instruments such  as economic incentives. Properly employed,  economic incentives can be a
powerful force for environmental improvement."

2.1.3  President's Council on Sustainable Development
Created in May 1993, the Council on Sustainable Development includes of representatives from
the Cabinet, industry, and environmental groups.  The Council has the task  of  developing a
strategy to achieve long-term economic growth  without harming natural resources.
In its March 1996 final report, the  Council recommended the use of performance targets  in lieu
of technology standards, commending Project XL for allowing companies to develop innovative
methods to control pollution. It also recommended the adoption of incentives and the elimination
of disincentives for environmental  protection in a number of areas, as well as more cooperation
between industry and government in controlling pollution. One example of cooperation that was
endorsed  by  the  report was the  Common  Sense Initiative, under which  industry  and
environmental groups worked with EPA to study ways to  improve environmental regulations
affecting six specified industries.

2.1.4  Economic Report of the President
Under the terms of the Employment Act of 1946, the President's Council of Economic Advisors
prepares  an Economic Report of the President every year.  Among the topics  discussed in the
1996 report was regulatory reform and its application to environmental policy.
The  report offers  several ideas for "reinventing regulation," which it defines as "taking a new
look at regulation and the regulatory process to ensure that regulations meet  legitimate social
needs, and where necessary  changing  both content and process to improve efficiency and
effectiveness." Efforts to reinvent regulations take several forms, including the "better targeting
of regulatory efforts to  where the need  is greatest," "a shift  in emphasis from prescribing
methods  of compliance to specifying desired outcomes," and "harnessing economic incentives
through market-based regulatory mechanisms."
A significant portion of the report is devoted to reinventing regulation of the environment and
natural resources. "The Administration is improving the way we protect the environment," states
the report, "making government a partner rather than an overseer." The report cites "cooperation
with States and localities, partnerships with the private sector that engender creative solutions as
well as set standards, and careful assessment of the advantages and disadvantages  of alternative
government  action" as a means by which  "environmental protection can be achieved at an
affordable cost."
Stating that environmental rules should impose the least possible burden and that  their benefits
should justify their costs, the report discusses a number of incentive approaches that have been or
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                                                  Government Policy on Economic Incentives
could be used to protect natural resources. The section entitled "Creating Cost-Effective Policies:
Economic  Incentives  for  Environmental  Protection"  includes  liability  for environmental
damages,  fees  and charges,  trading systems, conservation easements, and  the  provision of
information. Trading systems for water pollution, air pollution,  and fishing quotas are discussed
at length.  On the subject of water pollution, the report  contains Administration estimates that
several hundred million dollars to several billion dollars a year could be saved if effluent trading
programs were expanded.

2.2    Executive Orders and Initiatives

2.2.1  Executive Order 12291
President Reagan's E.O.  12291 of February 17, 1981, required a Regulatory Impact Analysis
(RIA) for  proposed "major  rules."  The  definition  of "major rule" was  similar  to  that of
"significant regulatory  action" in E.O. 12866, which replaced E.O.  12291. E.O. 12291 required
that  no regulatory action be  taken "unless the potential benefits to society for the regulation
outweigh the potential costs  to society." Each RIA was required to contain  a "description of
alternative  approaches  that could substantially achieve the same regulatory  goal at lower cost,
together with an analysis of this potential benefit and costs and a brief explanation of the legal
reasons why such alternatives, if proposed, could not be adopted."
After E.O.  12291 was adopted, EPA developed guidelines for conducting  RIAs,  according to
which "each RIA should calculate the benefits  and costs  of a proposed regulation's full range of
effects and should compare them with those of other regulatory  and non-regulatory  approaches."
In the section  entitled "Considering Alternative Approaches," the guidelines called  for the
consideration of "market-oriented regulatory  alternatives  (whether or not  they are explicitly
authorized  in the  Agency's legislative mandate)." Such  alternatives  "include using information
or labeling to enable consumers or workers to  evaluate hazards themselves and using economic
incentives,  such  as fees  or charges,  marketable permits  or offsets,  changes  in  insurance
provisions, or changes in property rights." EPA was required to submit all  RIAs and proposed
regulations to OMB for review. EPA's RIA guidelines were  intended to  increase the use of
incentive mechanisms in environmental  regulation.
E.O.  12291 built  on a number of earlier Executive Orders  and regulations dating back to
President Nixon's "Quality of Life" reviews that required an assessment of alternatives and cost
comparisons for proposed regulations. President Ford's E.O. 11821 of 1974 and E.O. 11949 of
1976 required inflation impact statements for major regulations.  President Carter's E.O. 12044 of
1978 required Regulatory Analyses of the economic consequences of proposed regulations and
alternatives under consideration, and  the Executive Order instructed agencies to select the least
burdensome alternative.

2.2.2  Executive Order 12866
A central idea of President Clinton's Executive  Order (E.O.) 12866 of September 30, 1993 is that
regulations should be adopted only after a reasoned determination concludes that quantified and
nonquantified benefits justify the costs of  the regulation.  Further, E.O. 12866 states that, "in
choosing among alternative regulatory approaches, agencies should select those approaches that
maximize net benefits  (including potential  economic,  environmental, public health and safety,
and  other  advantages; distributive impacts;   and  equity), unless a  statute  requires  another
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The U. S. Experience with Economic Incentives for Protecting the Environment


regulatory approach." This order replaced President Reagan's E.O. 12291. Under E.O.  12866,
agencies are required to assess the benefits and costs of any "significant regulatory action."
Actions deemed "significant" include those that "have an annual effect on the economy of $100
million or more or adversely affect in a material way the  economy, a sector of the economy,
productivity, competition, jobs, the environment, public health or safety, or State, local, or tribal
governments, or communities" or that meet certain other criteria.
E.O.  12866  also  requires  that  agencies  consider the  possibility  of using  incentive-based
approaches for any significant regulatory action. Two specific "Principles of Regulation" in E.O.
12866 refer to incentive-based approaches:
       Ib3:  "Each agency shall identify and assess available alternatives to direct regulation,
       including providing economic incentives to encourage the desired behavior, such as user
       fees or marketable permits, or providing information upon which choices can be made by
       the public."
       Ib8:  "Each agency shall identify and assess alternative forms of regulation and shall, to
       the extent feasible, specify performance objectives, rather than specifying the behavior or
       manner of compliance that regulated entities must adopt."
In January 1996,  an interagency group convened by the Office of Management and Budget
(OMB) issued a document  entitled Economic Analysis of Federal Regulations that provided
guidelines for performing economic analysis of proposed federal regulations under E.O. 12866.6
Among the  topics discussed in these guidelines  were the importance of performance-based
standards, alternative compliance methods, information approaches, and economic incentives.
On the first of these topics, the  guidelines state,  "Performance standards are generally to be
preferred  to engineering or design  standards  because performance standards  provide  the
regulated parties the flexibility to achieve the regulatory objective in a more cost-effective way."
"Performance standards," the guidelines continue, "should be applied with a scope appropriate to
the problem the regulation seeks to address. For example, to create the greatest opportunities for
the regulated parties to achieve cost savings while meeting the regulatory objective, compliance
with air emission  standards can be allowed  on  a  plant-wide, firm-wide,  or  region-wide basis
rather than vent by vent, provided this does not produce unacceptable air quality outcomes (such
as 'hot spots' from local pollution concentration)."
On the subject of ensuring compliance, the guidelines state, "When alternative monitoring  and
reporting methods  vary in their costs and benefits, promising alternatives should be considered in
identifying the regulatory alternative that maximizes net benefits."
The guidelines mention various "informational measures," including "government establishment
of a standardized testing and rating system (the use of which could be made mandatory or left
voluntary), mandatory disclosure requirements (e.g., by advertising, labeling, or enclosures),  and
government provision of information  (e.g., by government publications, telephone hotlines, or
public interest broadcast announcements)."
The guidelines also call for consideration of economic incentives: "In general,  alternatives that
provide for  more  market-oriented approaches, with the use  of economic incentives  replacing
traditional regulatory requirements, are more  cost effective  and should be explored." Incentives
"that may be considered include fees, subsidies, penalties, marketable permits or offsets, changes
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                                                 Government Policy on Economic Incentives
in liabilities or property rights (including policies that alter the incentive of insurers and insured
parties), and required bonds, insurance or warranties."
In March 2000, OMB issued new Guidelines to Standardize Measures of Costs and Benefits and
the Format of Accounting Statements.1 OMB  explains the relationship between this document
and the Best Practices Manual as follows:
       These Guidelines draw from the "Best Practices" document developed in 1994
       and 1995 by an interagency group co-chaired by the Department of
       Transportation and the Council of Economic Advisers. That "Best Practices"
       document in turn revised the "Regulatory Impact Analysis Guidance"published
       by OMB in 1990 after a two-year notice and comment period. You should use this
       document in estimating and presenting the benefits and costs of regulations.
       While it does not represent OMB guidance, you may use the "Best Practices" (Q:
       shouldn 't the document title here be surrounded with quotes as shown in other
       instances in this paragraph?) document as supplementary material to illustrate
      further specific issues or techniques, (page 2)

2.2.3  Climate Change Initiative
The Climate Change Action Plan relies largely on voluntary incentives to achieve reductions in
greenhouse gas emissions. Among its initiatives are Green Lights and Energy  Star,  Climate
Wise, and at  least four voluntary programs to promote  methane recovery (Natural Gas Star,
AgStar, Coalbed Methane Outreach, and Landfill Methane Outreach).  Several of these programs
are described in more detail in Chapter  10.
The  more  recent  Climate  Change Technology Initiative (CCTI)  supplements these purely
voluntary programs with targeted subsidies to improve technologies, so fewer greenhouse gases
are  produced.  Shortly after the  Kyoto  agreement to  reduce  greenhouse  gas  emissions  of
December 1997, the Clinton administration proposed the CCTI  and asked for  congressional
approval of $3.6  billion  in tax  credits  as  incentives and  $2.7  billion  for  research and
development.8  Congress authorized $1.021 billion in R&D and $85 million  in tax credits for FY
1999 and $1.095 in R&D for FY 2000.  The 2001 budget proposed spending over $1.4 billion for
R&D in FY 2001 and $4 billion in tax credits for the CCTI over the next five years.

2.2.4  Greening the Government
Executive Order 13148, issued by President Clinton on April 22, 2000, instructs the head of each
federal agency to ensure that actions are taken to integrate environmental accountability into
routine agency  decision making and long-term planning. Many of the directives of the order
could be classified as economic incentives because they  help to provide information, take full
costs into account in decision making, and reduce the use of toxic chemicals where cost-
effective. Among other things, the order calls for federal agencies to develop and implement
environmental management systems and to ensure compliance with environmental regulations by
implementing  audit  programs  and policies  on  environmental  compliance  that emphasize
pollution prevention. The order also directs agency heads to keep the communities in which
federal facilities are  located informed as to possible sources of pollution, to  make efforts to
reduce the use of toxic chemicals by 10% per year,  to engage in pollution prevention efforts, and
to conduct life cycle cost analysis.  The  order is the  latest of several issued by the Administration
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The U. S. Experience with Economic Incentives for Protecting the Environment


on "greening the government," including E.O. 13101 of September 14, 1998, E.O. 13123 of June
3, 1999, and E.O. 13134 of August 12, 1999.

2.2.5  National Performance Review
Vice President Gore's National Performance Review released a report in 1993 entitled Creating
a Government That Works Better & Costs Less9 Focused on reinventing government, the report
included a number of recommendations for improving environmental protection, some of which
advocated the use of economic incentives. The document's authors suggested that EPA work
with Congress to encourage the use of incentives to reduce water pollution, including wastewater
discharge fees. It also recommended that the conditions  for accessing federal  resources for
activities such as grazing and mining be modified. The purpose of this suggestion was twofold:
first, to ensure that  the government obtains a fair return on its land, and, second, to provide
incentives for improving federal land management.

2.2.6  Reinventing Environmental Regulations
On  March 16,  1995, the President announced the first government-wide regulatory reforms
designed to improve environmental regulation, so the nation achieves a better environment at
lower cost. The President emphasized economic incentives in these reforms. For example, the
document entitled Reinventing Environmental Regulation provides 10 principles for reinventing
environmental protection. One of these principles is that environmental  regulations must be
"performance based" and must allow flexibility while requiring accountability in attaining goals.
Another  principle is that  "market incentives should be used to achieve environmental  goals,
whenever appropriate." The document also  includes  "25  High Priority Actions," a section in
which  open-market  air  emissions, effluent  trading in  watersheds,   and other topics  are
discussed.10 (Subsequent initiatives by EPA to implement these recommendations are described
in Chapter 6.)
In  addition, the document describes actions that can improve compliance, accountability,  and
enforcement.  EPA  now  coordinates  these  activities through its  Environmental  Leadership
Program, a voluntary program  that focuses on the role of compliance management systems in
enforcement. It also provides incentives for auditing, disclosure, and correction. (This program is
described in Chapter 10.) The  document characterizes Project XL (another voluntary program
discussed in Chapter 10) as one of the "Building Blocks for a New System" of environmental
regulation.

2.2.7  National Environmental Technology Strategy
On  March 18, 1995, the Vice President announced a National Environmental Technology
Strategy to "create high-wage jobs and exports and stimulate overall economic growth; reduce
the cost of cleaning up past pollution; and  help prevent future damage to the environment."  The
strategies advocated  the use of economic instruments to promote innovations in pollution control
technologies that enhance the effectiveness of pollution control efforts or reduce cost, or both.
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                                                Government Policy on Economic Incentives
2.3    Recent Environmental Management Initiatives

2.3.1   Performance Track Approach at EPA
How to obtain more environmental protection more  efficiently is the focus  of recent EPA
innovations in environmental management.11 Noteworthy among the new innovative approaches
are rewards for superior environmental  performance.  The current system  of environmental
regulation offers little incentive for firms to go beyond compliance.  EPA now views this
approach as a missed opportunity to encourage top environmental performers.  Through a new
"Performance Track" approach, firms would receive a standard package of incentives such as
public recognition for meeting environmental  criteria. Firms that routinely do much more than
meet established requirements would be placed on a smaller second track and receive a higher
level of recognition and  incentives more  closely tailored to their individual needs. EPA views
this two-tiered reward structure as  a significant step toward a more  performance-based system
that stimulates superior environmental achievement.

2.3.2   EPA Air and Water Policy Initiatives
Among the many initiatives within EPA that concern economic instruments, one on air quality
and one on water quality  are particularly noteworthy. Beginning in the late 1970s, EPA explored
the ways in which flexibility could be integrated into air quality regulation, so cost effectiveness
would be  enhanced. These activities,  which are described in Chapter 6, culminated in the
Emission Trading Policy Statement and laid the groundwork for the broader use of economic
incentive approaches in the Clean Air Act Amendments of 1990. Since then, EPA has provided
trading opportunities in  many  air programs  and rules to combat  a  variety of air  pollution
problems.  In addition, the EPA Office of Water has  actively promoted effluent trading as a
means of improving the cost effectiveness  of attaining its goals on water quality.

2.3.3   EPA Research Activities
Through the years, the Office of Research and Development (ORD),  the EPA policy office, and
several program offices  have supported  research on  economic incentives for environmental
management. Much of that research is available on the Economy and Environment home page at
www.epa.gov/economics. At present, ORD is supporting a program in Market Mechanisms and
Incentives Research.12

2.3.4   Promotion of Economic Instruments Abroad
On April  9, 1999,  Vice President Gore and  Premier Zhu Rongji announced a cooperative
agreement designed to increase markets for U.S. environmental  technology in China. The
agreement will  increase  opportunities  for U.S. investment in  the  Chinese  energy-producing
sector and promote the reduction of greenhouse gas emissions in China through a program to
trade sulfur dioxide (802) emissions. "In an agreement that will move China closer to a system
of emissions trading, the EPA and China's State Environmental Protection Administration signed
a Statement of Intent on  development of a Sulfur Dioxide  Emissions Trading Feasibility Study.
The agreement calls for developing a study to test the effectiveness of emissions trading in China
as a market-based approach to reducing greenhouse gas emissions."13
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The U. S. Experience with Economic Incentives for Protecting the Environment


2.4    Legislation: Clean Air Act Amendments of 1990

While other environmental legislation also creates programs based on economic incentives, the
Clean Air Act Amendments of 1990, enacted during the Bush administration, are particularly
noteworthy. With  the passage  of these  amendments, the  legislative  branch of government
showed strong support for  economic incentives and expanded the regulatory toolbox beyond
traditional regulatory requirements, which had dominated air pollution control policy in previous
years. Among the  incentive mechanisms authorized in these amendments are  the Acid Rain
Trading Program, provisions for offsets and other  trading programs in ozone  non-attainment
areas, early reduction credits for hazardous pollutants, fees based on pollutant emissions, the
possibility of marketable credits for certain fuel constituents, marketable production allowances
for ozone-depleting substances, and labeling of ozone-depleting substances.
12                                                                              January

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                         The Cost Effectiveness and Environmental Effects of Incentive Systems
3. The Cost Effectiveness and Environmental Effects of
   Incentive Systems

3.1    Introduction

This chapter reviews several of the attributes of incentive-based strategies for managing
the environment. From the perspective of economics, pollution is an output that occurs
outside of normal market transactions. Termed an "externality," it has little or no cost to
the source but may impose significant costs on other economic actors. How best to get
sources to control their pollution is an issue that has been studied closely by economists
and policy analysts.
One  means of control is to rely on private negotiations between those who bear the costs
of pollution  and the sources of  pollution. If several conditions are satisfied,  such
negotiations can lead to an optimal level of pollution control in which the full costs of
pollution are taken into account in  the decision process of the source.14 One condition is
that  the sources and victims do not engage in strategic behavior.  Another  condition is
that  individuals who are harmed by  pollution  and sources can negotiate without any
transaction costs (such as personal time or the need for third-party involvement). The
final condition  is that sources  and  victims are fully informed as to risks and harms that
may occur. Although the assumption of no strategic behavior may be reasonable in many
cases,  costless transactions may never be  a realistic  assumption. The more parties who
are harmed and the more geographically dispersed these  parties are, the higher the
transaction costs are likely to be.  Likewise, it is unrealistic to assume that victims of
pollution are as fully informed about risks as are the sources.
The  existence of environmental legislation reflects  the fact that negotiations between
victims and sources of pollution cannot be relied upon as a means of control for most
pollution  problems. EPA's governing  legislation  uses various  approaches  to  set
environmental goals. Under some  of the laws, the goal is to adequately protect public
health  and the environment without  explicitly considering costs.  In  other  cases, the
governing statutes instruct EPA to take costs into account in protecting public health and
the  environment  or to  set goals  that balance  cost,  health   and  environmental
considerations.
Pollution Charges, Fees, Taxes
            ^*.**y

  Deposit-Refund Systems
   Trading Programs
Subsidies for Pollution Control
   Liability Approaches
The governing environmental statutes have varying opportunities and limitations with
respect to the mechanisms that are available for achieving environmental goals. In the
traditional regulatory approach, EPA often specifies requirements for different types of
sources (factories, vehicles, fuels, etc). The regulations may impose limitations on the
amount of discharge,  the  technology  used to control  pollution, the inputs that may be
used, or characteristics of the outputs that are produced.

Market-based or  incentive approaches,  by contrast,  provide  rewards for  reducing
pollution (and, conversely, assign penalties for releasing pollution). The rewards may or
may not be financial. In  contrast to the traditional regulatory approach, an incentive-
based regulatory  strategy  gives sources great flexibility in selecting both the type and
  Inform at I on Disclosure
                                                                                       Voluntary Programs
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The U. S. Experience with Economic Incentives for Protecting the Environment


magnitude of their response and gives them incentives to develop new and cheaper strategies and
technologies to control pollution.
Depending upon the characteristics of the sources of pollution and the damages (see Table 3-1),
some tools of environmental management  are likely to  be  more  cost-effective than are others.
Cost-effective  tools achieve  environmental  goals for  the  least cost.  Other  criteria such  as
fairness, political acceptability, stimulus for innovation and technological  improvement, and
enforceability also could be used in place of, or in conjunction with, cost effectiveness.

 Table 3-1. Considerations for Selecting Regulatory Instruments
 CHARACTERISTICS OF THE SOURCES OF POLLUTION
  • Are the costs of control known with certainty? If not, how great is the uncertainty?
  • Is the technology of pollution control static, or is it likely to change over time?
  • Can the quantity of pollution from each source be measured (or approximated) easily?
  • How many sources are there for each pollutant?
  • Are incremental control costs similar for different sources, or is there considerable variation?

 CHARACTERISTICS OF THE DAMAGE CAUSED BY POLLUTION
  • Does a unit of pollution from each source have the same impact on health and the environment, regardless of where it is
    released?
  • Are the impacts on health and the environment known with certainty? If not, how great is the uncertainty?
  • What are the major sources of uncertainty? What is known regarding the effect of pollution on environmental quality,
    exposures, physical effects, or the economic valuation of effects?
  • How many parties are experiencing damage from pollution?
  • Is it critical to control pollution within narrow limits to achieve environmental goals, or is the damage caused by pollution
    such that there is a continuum of effects from less serious to more serious, with no obvious unacceptable level and no
    obvious safe level of pollution?	
The following  sections  describe alternative  means for managing the environment  and  the
circumstances under which one mechanism is likely to perform better than another tool.

3.2    Traditional Regulatory Approaches

Traditional regulatory approaches normally operate through one of three means: source-specific
emission limits, output specifications, or technology requirements.  A brief description of each
alternative illustrates both the strengths and weaknesses of traditional forms of regulation.
The first  alternative applies emission (or effluent) limits  to specific  sources as a means of
achieving  health  standards or environment-based ambient  standards. The total  amount  of
pollutants  that  are  released could  be limited by setting  emissions standards  for  individual
sources, such that total emissions just equaled the sum of the individual  contributions from each
source. Other pollution allocation  formulas that do not treat new sources  more harshly than
existing sources could also be used. One such formula,  for example, determines a set weight of
pollution that can be released per unit of output.
Unless the authority responsible for controlling pollution is able to identify which sources have
the lowest incremental costs for controlling pollution and insist  that those  sources  implement
their pollution controls first, this source-specific approach to emissions will not be cost-effective.
As Figure 3-1  depicts,  each  source  will usually have a  number of  options for controlling
14                                                                                     January

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                         The Cost Effectiveness and Environmental Effects of Incentive Systems


emissions.  The  least cost  option  (#1  in the  figure)  will  control  some  emissions.  Other
successively more expensive measures may be implemented until all emissions are controlled.
It  is  very difficult  in  practice  to
identify the least  cost  strategy  for
controlling emissions from multiple
Figure 3-1.  Control Options for a Source
Costs

O
CCorstro! options ordered in terms of
decreasing incremental cost)
-- 5
3
2
1
no control
sources. If all control measures and
their   costs   are   known,  linear
programming  or  other  modeling
techniques could be used to find the
least cost  strategy for every level of
emission  control  for the  sources
taken as a whole. However, in most
cases  all   potentially    available
control  measures  are not  known,
and, even if  they  were,  pollution
control laws typically do not allow
an agency to impose strict controls
at one source and relatively lenient
control burdens on  another, even if
their   control   costs   are   quite
different.  Generally, similar sources
must be treated the  same. Furthermore, incremental control costs include more than simply the
costs that  sources must bear in order to comply with regulations, as noted earlier. It is likely to be
difficult to predict in  advance how emission limits would affect production technology, energy
and other  input use, and  other cost elements. Economic instruments avoid the problems that a
pollution control agency would have in identifying the least cost methods of meeting a pollution
control objective by harnessing market forces to identify cost-effective solutions.
The second alternative  specifies certain characteristics of  outputs that are destined  for the
product market.  Some examples include fuel efficiency requirements for automobiles, product
specifications for gasoline, and regulations regarding the ability of products to be recycled and
the recycled  material content  of consumer products.  The  regulatory strategy of imposing
limitations on the polluting characteristics of products is affected by the same issues noted above
that make it difficult to regulate emissions in a cost-effective manner. For example, the cost to
individual refineries of meeting a sulfur limit in gasoline is likely to vary significantly. It would
be more efficient to allow trading among sources to meet pollution reduction obligations than to
apply uniform standards to each source.
The third  alternative imposes technology requirements that specify the techniques or equipment
that sources must use to  control  pollution. EPA prefers to  use  performance-based numerical
limits rather  than technology requirements  whenever feasible,  and,  in fact, the Agency's
programs  rely heavily on  numerical limits. Some standards that are performance-based demand a
level of emission control  that can be met only with one existing technology. Unless pollution
control technologies improve, such performance standards have the same  effect as technology
standards.  (For example,  new source performance standards for SO2  emissions at coal-fired
electric power plants require a 90% reduction in these emissions from their uncontrolled state, a
degree of  control that can be met only by scrubbing.)
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The U. S. Experience with Economic Incentives for Protecting the Environment


Technology standards (or more accurately de facto technology standards) are likely to be less
cost-effective than emission or effluent standards,  since the latter give sources the freedom to
choose the least costly method of compliance. Further, technology standards tend to lock firms
into one  accepted method of compliance, which discourages technical  change and innovation.
However, when emissions  cannot be  measured  or  concerns  exist about the  feasibility  of
enforcing tax or trading systems or both, technology standards provide a practical way to reduce
pollution.
From  a dynamic perspective,  identifying the strategies that should be implemented to control
pollution at the least cost is more problematic. Technology is not static. Over time, the number of
possible options increases. Most of the options offer improvements over earlier technologies, in
terms of  cost, environmental performance or both. A  traditional regulatory strategy to identify
and mandate least cost controls can lock firms into technologies that become progressively less
effective, and thus less attractive, over time.
These issues aside, traditional regulatory policies have achieved much in the United States. For
the most part, traditional regulatory policies have resulted in ambient air and water quality that is
demonstrably better now than  it  was 30 years  ago when the EPA was established. The most
recent Emissions Trends Report (EPA,  1998b)  reveals that emissions of all criteria pollutants
have declined since 1979: In the case of sulfur dioxide and carbon monoxide, emissions have
been reduced by more than 50% and lead emissions by more than 95%. (See Figure 3-2.) Water
quality is also  improving. This  achievement is  significant given the economic growth and
increasing populations that has occurred over the same  period of time.

3.3    Incentive-Based Mechanisms

While incentive-based systems have existed in some form for decades as tools  of environmental

Figure 3-2. National Long-Term Air Quality Trends, 1979-1998
       120
                                            Year
                       -co
-Pb
•NO2
•Ozone
-SO2
Source: EPA 1998b
management, the federal government has aggressively sought their implementation for only the
past 10 to 15 years. Economic incentives  to protect the  environment rely on  decentralized
16
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                         The Cost Effectiveness and Environmental Effects of Incentive Systems
decision making by economic agents, all acting in their own self interest. In contrast, traditional
regulatory approaches to environmental management are based on the regulations established by
federal, state, or tribal governments that have been given the authority to make pollution control
decisions. Actual compliance is the responsibility of the sources of pollution that are subject to
the regulations. However, the flexibility that sources have to choose technology, as well as the
extent of pollution  control, tends to be quite limited  under a  traditional regulatory approach.
Economic incentive methods generally allow sources to select how much they reduce pollution
and the technology that helps them in this endeavor.

3.3.1  Pollution Charges, Fees, and Taxes
Pollution charges, fees, and taxes are payments required of sources for emitting pollution. (The
three terms are used interchangeably here.) Ideally,  sources would pay for each unit of pollution
they emit. A source that is concerned with minimizing costs and is also faced with such a tax will
control those emissions for which control costs are less than the tax and release the remainder.
The source will then pay  the  tax  on each  of those units  of pollution released  into the
environment.
A simplified analysis of charges, fees, and taxes from  an economic perspective is illustrated in
Figure 3-3.  Prior to regulation, total uncontrolled emissions  are equal in magnitude  to EQ.
Damage  to the environment is equal to the area  (c+d+e)  and the source spends nothing  on
pollution control. If an emission fee of magnitude  Ci were imposed, cost-minimizing polluters
would reduce  total  emissions to EI. The total costs of pollution, which is  equal to the sum of
pollution control costs and environmental damage (c+d), are minimized with the fee at level Ci
Emission fees set  at Ci per unit of emissions  cause  cost-minimizing polluters to pay for  all
emissions up to EI, an amount equal to the area (b+c) in Figure 3-3. Polluters subject to the fee
spend an amount equal to area (d) to control emissions beyond EI and reduce environmental
damage by an  amount equal to the area (d+e) relative to uncontrolled emissions.
Emission fees that are high enough to change behavior significantly, like the one shown in this
example, would typically result in large revenue transfers to the government. That is, payments
the government, equal to area (b+c) in  Figure 3-3, tend to be large, especially relative to the
environmental damage that is mitigated, area
(d). For this reason, polluters usually oppose  Figure 3-3.  Tax Per Unit of Emissions
pollution charges, taxes, and fees that would
be high  enough to act as an incentive for
them to reduce pollution. They would prefer
that their environmental expenditures be used
to  control   pollution,  not   sent   to  the
government.
From  an  economic  perspective,  charges,
taxes and fees are basically interchangeable,
although  from   a  legislative   and  legal
perspective  some  differences  exist.  The
House Ways  and Means  Committee must
review proposed taxes, since tax revenues are
a part of general federal revenues. Fees and
Ci
          Emissions
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The U. S. Experience with Economic Incentives for Protecting the Environment


charges, in contrast, are designed to recover some or all of EPA's administrative costs and need
only be reviewed by environment committees and subcommittees. Fees and charges are imposed
in two ways. First, an environmental statute may specify the activities that are subject to fees and
charges.  Second, EPA has additional  general authority to collect and assess fees and charges
under the Independent Offices Appropriations Act (31 U.S.C. §9701). Fees and charges assessed
and collected under this Act must be deposited into the General Fund of the Treasury and cannot
be retained by EPA.
Legislation authorizing pollution fees, taxes, and charges typically limits their magnitude to what
is necessary to recover the costs of administering the program in question or related programs.
Worldwide, the  vast majority of emission tax, fee, and  charge  systems  collect revenues that
amount to only a few percent of pollution control costs.
Two exceptions are noted. The first is the tax  on U.S. chlorofluorocarbon (CFC) production. This
tax was designed to remove windfall profits that would otherwise accrue to CFC producers from
increases in CFC prices due to reductions in  the quantities of CFCs allowed in commerce. This
tax is discussed in more detail later in this report. The second exception is the Swedish charge on
NOX emissions, which is set at a high level with the objective of changing behavior. Power plants
pay the NOX charge on emissions of NOX and  receive rebates in proportion to their energy output.
The  result is a mechanism that raises no revenue for the government yet produces significant
incentives.15 Relatively  clean facilities receive rebates in excess of payments while  relatively
dirty facilities pay more in charges than they receive in rebates.
Designing pollution taxes that minimize the  total costs of pollution (damage costs plus  control
costs) is  difficult for a variety of reasons,  including the lack of data on pollution damages, the
inability to precisely measure emissions, and political opposition to large revenue transfers from
pollution sources (companies) to the authority imposing the tax (government). The  relationship
between the quantity of emissions and the cost of the damages caused by those emissions (often
called the "pollution damage  function")  depicted in  Figure 3-3 is highly simplified  and  glosses
over a number of difficult measurement issues. In many situations,  the function  is not well
known, so the ability of an agency to set charges to equate marginal control costs with marginal
damages is questionable. Moreover, the  damage function may differ from one localized area to
another depending upon the  population at risk, prevailing winds, sunshine, temperature, and
other factors. If marginal control costs or marginal damages differ from one region to another, a
single charge level may be inappropriate. Charges that differ by region may be required in order
to achieve the efficient amount of pollution  control. In addition, an emission tax provides the
pollution control agency with limited control over the physical quantity of emissions  dispersed
into  the  environment because sources have the choice of controlling emissions or releasing
emissions and paying the tax. If the magnitude of emissions is very important, as could be the
case with toxic  emissions that threaten public  health, an emission tax may be  viewed as an
inadequate control over the actual quantity of emissions.
The implementation of emission fees, taxes, and charges also depends  on the ability to measure
emissions. The precision with which a pollution tax can be levied depends on the precision with
which emissions can  be measured. Political concerns may also be an issue in  implementing
emission taxes.  Environmentalists sometimes oppose emissions fees because they seem to
sanction the release of pollution.
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                         The Cost Effectiveness and Environmental Effects of Incentive Systems


3.3.2  Deposit-Refund Systems
A deposit-refund system operates like a tax on the purchase of a product with a subsidy for
returning the used item to a designated collection site. The purpose of the subsidy or refund is to
encourage individuals  and  firms to dispose of these items in  an environmentally acceptable
manner. The tax or deposit is made on the original purchase and yields sufficient revenue to pay
future  refunds. Some or all of the unclaimed deposits may be  used to subsidize collection
facilities. While the magnitudes of the deposit and the refund often are  the same, there is no
reason that this has to be the case.
Although  most  deposit-refund systems are  created by  legislation,  deposit-refund  systems
sometimes are developed by the private sector when the used product has economic value. Thus,
private-sector deposit-refund systems for beverage containers were widespread in the early part
of the twentieth century before cheaper, non-returnable containers appeared. Mandatory deposit
legislation for lead-acid automotive batteries has been enacted in about a dozen states, while the
private sector has created deposit systems for lead-acid batteries in the remainder of the states,
largely because  of the economic value  of used batteries. Ten states have enacted beverage
container deposit-refund systems. Deposit systems exist for car bodies in four European nations,
and for a wide variety of containers  throughout most European  nations. In a  few nations of
Europe, deposit systems help assure the recycling of used motor oil.
Administrative costs are an important  consideration when determining whether to create deposit
systems. Ackerman et al. (1995) estimate that administrative costs average about 2.3 cents per
container—more than  $300 per ton  for steel containers and  $1,300 per ton for aluminum
cans—in  states  with  traditional legislation on beverage  container deposit systems.  A full
accounting of the desirability of deposit-refund systems would compare administrative costs and
the costs imposed on consumers with the  benefits  of reduced disposal costs,  energy  savings,
reduced litter,  and other environmental benefits. Deposit-refund systems  appear best suited for
products whose disposal is difficult to monitor and potentially harmful to the environment. When
the used product has economic value, the private sector may initiate the program.

3.3.3  Marketable Permit Systems
Two main forms of trading systems are  observed:  emission  (or  effluent) reduction  credits
(ERCs), and tradable allowances for future pollution. ERCs are earned by sources when  they
release less pollution  than  is  authorized in their environmental permits. With  either form of
trading system, sources with high marginal control costs will try to buy credits or allowances
from sources with low marginal control costs.  Trading ERCs or allowances in such a situation is
mutually beneficial.
For trading systems to  function well, several requirements  must be satisfied. First, there  should
be several potential participants (i.e., sellers  and buyers of allowances or ERCs) so  that a
functioning  market can  develop. Exactly  how small a universe of potential  participants is
sufficient for a functioning market is difficult to say, but simulation experiments suggest that 8 to
10 participants is  a  reasonable  estimate.16 Second, if  sources are dispersed  geographically,
trading ratios  other than one-to-one  might have to be  imposed  to assure no  degradation in
environmental quality in particular locations.
Third,  pollution control  agencies must have the ability to monitor emissions  (or measure a
surrogate) reasonably well.  The commodity to be traded needs to have constant or near-constant
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The U. S. Experience with Economic Incentives for Protecting the Environment


impacts across the geographic area where trading is allowed. Fourth, the commodity to be traded
must be quantifiable. The process of establishing emission baselines so that credits or allowances
can be quantified is likely to require good historic data on emissions, input use, processes, etc.
Trading  systems tend to be more popular with pollution sources than pollution charges because
in many cases sources do  not have to pay for emissions that are below permitted amounts.  In
fact, the right to emit pollutants up to permitted amounts and not pay for those emissions may
have  a considerable  value once a trading
system is created.
The literature  that  is  cited  later in  this
chapter  predicts  large, potential  savings
from  trading systems.  Available  evidence
on  actual achievements, however,  points to
relatively modest savings from many  of the
programs.  In searching  for the reasons why
such a wide gap exists between the potential
savings  and the  actual  savings,  Stavins
(2000)  identifies  transaction  costs  as the
primary  culprit. For  example,  the need to
ensure that  the credits  claimed under the
trading  system represent real  emissions
reductions  is   one  source  of  transaction
costs.
          Price versus Quantity Instruments

The economics literature makes an important distinction
between price and quantity instruments when a regulatory
authority is uncertain regarding control costs and damage
functions (Weitzman, 1974). Quantity instruments, such as cap
and trade systems, provide the pollution control authority strict
control over the quantity of emissions. Price instruments, such
as pollution taxes and fees, provide strict limits on how much a
firm must spend to control pollution but do not limit the release
of emissions.

With uncertainty, the regulatory authority would not be able to
predict costs well if it implements a quantity-based pollution
control mechanism, or the environmental consequences if it
implements a price-based approach. Which type of uncertainty
is likely to be more serious? If important environmental
threshold effects exist, a quantity approach would be preferred.
But few pollutants have that characteristic;  most exhibit
relatively stable dose-response relationships. Because of
difficulties in forecasting control technologies, it may be more
important to limit the maximum amount that sources incur to
control pollution. Thus, uncertainty may offer a reason to prefer
price to quantity instruments for many types of pollution.
With high transaction costs, the prices that
sellers  receive   for  pollution  rights   is
depressed  and the prices that buyers  must
pay  for these rights remains high, which
makes transactions less attractive for both
buyers and sellers. With transaction costs acting as a barrier to trading, sources find it difficult to
identify potential trading partners and to conclude trades. Transaction costs were especially high
for some  of the  early  emissions and effluent  trading  programs.  Only  a tiny  fraction of the
potentially beneficial trades actually took place.17 Transaction costs were lower for programs
such  as lead credit trading  and resulted in a far higher proportion of available  credits actually
being traded.
Transaction costs also feature prominently in the choice between making trades between sources
within  a  firm (internal trades)  and between  firms (external  trades). For all  of the trading
programs that have been studied, firms exhibit a strong preference for internal trading when it is
feasible, often even when larger cost savings can be achieved by external trading.
                                 18
3.3.4  Subsidies for Reducing Pollution or Improving the Environment
Subsidies are the mirror image of emission taxes. Rather than taxing emissions to  encourage
firms to reduce their emissions, the subsidy approach offers cash payments to firms for reducing
emissions. Polluters  who release  emissions forgo the cash  payment.  Under a subsidy system,
polluters have an incentive to  control all units of pollution whose marginal control cost is less
20
                                         January

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                         The Cost Effectiveness and Environmental Effects of Incentive Systems


than the subsidy. Subsidy systems for pollution control are especially popular in two sectors:
farming and municipal government.
Economists point out a major drawback of subsidy systems. Existing firms, farmers, and other
entities that receive pollution control subsidies would have an incentive to reduce their pollution.
However, the  subsidies  could attract new firms to enter the industry. In some extreme cases,
pollution control subsidies could have the perverse effect of increasing total pollution.
Both federal and state governments have numerous subsidies already written into the tax code, a
number of which are perceived as having  harmful environmental  consequences. Reducing
environmentally harmful subsidies is another mechanism for improving the environment.

3.3.5  Liability for Harm Caused by Pollution
Another approach for resolving environmental issues is to make polluters liable for the damage
their pollution causes. The purpose is twofold: First, to  get  polluters  to make more careful
decisions about the release of pollution; and second, to compensate victims of pollution. Liability
rules control pollution through the decentralized decisions of polluters to act in their own best
interest.
If polluters are liable (and must pay) for the damage they cause, they will control pollution to the
point where the marginal pollution damage equals the marginal costs of control. At this point,
their total payments for controlling pollution and compensating victims are minimized.
Liability can take two forms:  civil law and common law. Civil  liability is expressly written into
law. Many environmental  statutes worldwide have liability provisions. In the United States, the
most important statutes are the  Comprehensive Environmental Response, Compensation, and
Liability Act (CERCLA),  which holds responsible parties liable for cleanup costs, and the Oil
Pollution Act  (OPA), which  holds  responsible parties liable for  damage  to natural resources
caused by releases of hazardous  substances and petroleum. Liability under CERCLA applies to
historic as well as contemporary releases of pollutants. The form of liability is strict, joint, and
several, meaning that a  single contributor can be held responsible for all of the damage, even
though many contributors caused the damage. Furthermore, liability is retroactive. Therefore, an
individual or company can be held liable for actions that were perfectly legal  at the time they
occurred.
In an attempt to improve the incentive effects for cleaning up hazardous waste sites, EPA and the
states have developed numerous  so-called "Brownfields" initiatives, which  are described in this
report. The initiatives provide limited relief from  strict and retroactive liability in exchange for
promises to clean hazardous waste sites and turn  them into productive assets. EPA recognized
the  need to address some of the concerns raised in the past regarding the fairness of enforcement
in Superfund.  As a result, EPA has taken significant steps to reduce litigation, to promote faster
settlements, and to emphasize fairness in the application of Superfund's liability  scheme. By
streamlining the process by which claims are resolved at Superfund sites, EPA is accelerating the
cleanups themselves  and increasing the pace at which contaminated properties can be moved
back into viable economic use, which is the  critical  first step  in expediting many  brownfields
development projects.
Polluters respond to federal and state pollution liability statutes by taking precautionary actions
that reduce the  severity and  frequency of spills. Alberini and Austin  found  this effect with
respect to the  imposition of strict liability laws by states.19 The petroleum industry created the
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The U. S. Experience with Economic Incentives for Protecting the Environment


Marine Spill Response Corporation, an emergency spill response effort, following the Exxon
Valdez spill and the 1990 Oil Pollution Act.20
Common  law,  such as  nuisance, trespass, and  negligence, can be  used to address harm  to
individuals  and to  private property that  is caused by pollution.  The  effectiveness of  these
approaches in dealing with pollution is an open question. In selected applications, liability can be
a strong deterrent, but a number of considerations limit the effectiveness of this approach as a
general solution to pollution-related problems.  One factor that restricts its widespread use  is the
time limit for filing claims, otherwise known as the "statute of limitations." In most jurisdictions,
a case must be filed within two or three years of discovering a harm. In a few jurisdictions, a
case must be filed within a two- or three-year period of when the harm occurred. This distinction
is very important for individuals who develop cancer and other diseases of long latency possibly
as a result of exposure to toxic substances, since observable effects may arise many years or even
decades following the exposure.
A second limiting factor is the burden of proof required by law. The burden of proof required for
a judgment against the defendant is usually the  standard of "more likely than not," which usually
is interpreted as having a probability greater than  50%. Epidemiological studies may suggest that
exposure to a particular toxic substance is but one of many factors  that could have caused a
disease. Satisfying the more-likely-than-not standard  can be difficult. Even if a substance  is
implicated,  it may be difficult to determine which polluter  is responsible  for the harm. For
example,  doctors may determine that  an  auto mechanic's lung cancer likely was caused by
inhaling dust from brake linings, but assigning responsibility to a particular manufacturer may be
impossible.  A few jurisdictions allow the assignment of proportional responsibility  for both the
harm-causing substance and for the determination of who is responsible.
A final limiting factor for liability systems are the transaction costs of pursuing a claim. These
costs include the legal costs of obtaining evidence, reaching agreement among plaintiffs on how
to pursue  a  case, presenting the case, and  following up if the case is appealed. Liability works
best when there is one party on each side of the case and an easily demonstrated harm. When the
harm is large in magnitude,  liability systems  may perform reasonably  well when transaction
costs are small in proportion to the amounts awarded and if there are few  defendants and clear
causation, even if the number of plaintiffs is large.

3.3.6  Information Disclosure
By  information disclosure programs, this  report refers to mandatory disclosure requirements,
such as those  associated with  California's Proposition 65 and the Emergency Planning and
Community Right-to-Know Act (EPCRA), which also is referred to as Title III of the Superfund
Amendments and Reauthorization Act  of  1986.  At the time these statutes were enacted,  there
was  little  evidence as to how companies would  respond to information disclosure rules,  other
than that they strenuously objected to such requirements.
A number of retrospective studies found that EPCRA  requirements gave a strong incentive for
firms to identify and act upon opportunities  for reducing accidental and routine releases  of
hazardous substances.21 Information reporting requirements caused firms to behave as  if all
emissions were costly. Emissions that could be  controlled relatively cheaply were reduced.
22                                                                                January

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                         The Cost Effectiveness and Environmental Effects of Incentive Systems


3.3.7  Voluntary Pollution Reduction Programs
At both the state and federal level, an enormous number of voluntary  programs attempt to
motivate firms and individuals to reduce pollution, promote conservation, and increase recycling.
There are many reasons why voluntary programs are increasing in popularity. First, although the
statutory authorities for creating programs and regulating  sources through  traditional regulatory
mechanisms may be fully implemented,  many less serious pollution and resource conservation
problems remain. Second, voluntary programs are perceived to have low costs because firms and
individuals undertake the measures on a purely  voluntary basis. Unlike  traditional regulatory
measures,  voluntary programs do  not carry the threat of enforcement actions and penalties for
noncompliance.  Third,  voluntary programs  are sometimes used  to experiment with  new
approaches to pollution control, approaches that may be adopted by law or regulation at a later
date.
What incentive do firms and individuals have to participate in voluntary programs? In some
cases, the  reward is limited to the satisfaction of doing a  good deed. Many recycling programs
would be characterized as such. Participants in some voluntary programs receive free technical
assistance regarding pollution control options. The permit approval process may be accelerated
for firms that participate in some voluntary programs. Finally, many voluntary programs publicly
acknowledge the participants  that have  successfully  met  program  criteria.  Being publicly
recognized as an environmentally responsible firm could bring benefits such as increased product
sales, improved access to talented workers, and a lower cost of capital to the firm.

3.4    Relative Cost Effectiveness

Economic analysis indicates that incentive mechanisms can often increase  the cost effectiveness
of pollution control relative to traditional regulatory approaches.  Several  reasons exist for this
conclusion. First, some incentive-based mechanisms explicitly allow the trading of pollution
allowances or pollution reduction credits.  By trading credits or allowances,  sources with high
incremental costs of pollution control  can have their obligations  satisfied by sources  with low
incremental costs of pollution control. Other incentive-based mechanisms levy a charge or tax on
each unit of pollution. Under such an approach sources would control pollution only to the point
at which the incremental  cost of control equaled the charge or tax. In an ideal world that did not
have transaction costs and competitive  markets, both permit/credit trading and  pollution fee,
charge and tax approaches should result in the same marginal cost of controlling pollution at
each source. In such an idealized  world of economic incentives,  control costs should be lower
than (or, at most, the same as) the costs associated with a traditional regulatory approach.
Being cost-effective, though, does not necessarily guarantee that the net benefits of pollution
control are higher when an incentive-based  approach is used. For  example,  the location of
individual sources can matter. One source may be located upwind of a large population center
while another is downwind. Equating marginal control costs per ton or equating the trading of
allowances or pollution reduction  credits among sources may well not maximize net benefits to
society. Imagine the consequences if allowance trading resulted in greater  emissions at a source
upwind of a population center and  lower emissions at a downwind source.
A number of other incentive-based mechanisms, such as information reporting  requirements,
liability rules,  and voluntary programs,  rely  on implicit  charges for  pollution. The cost
effectiveness  of such mechanisms  is  more difficult to predict because  sources are  reducing
2001                                                                                  23

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The U. S. Experience with Economic Incentives for Protecting the Environment


pollution for reasons that have only an indirect financial consequence. In some cases, a financial
link to incentive-based approaches is very tenuous.  The motive for participating in voluntary
programs is largely one of improving corporate  image to customers, to employees, and to
regulators, although management's concern for the environment certainly could be a factor. With
corporate image as the principal goal, the benefit to a firm of reducing emissions is difficult to
express in financial terms. Perhaps the best that could be done is to examine what firms actually
spend  to  participate in  such  programs  to  determine their willingness to  pay for  pollution
reduction. One might find that  firms respond in a  systematic  fashion  to the various indirect
incentives. Across a sample of firms, liability, for example, might generate a higher willingness
to pay for a unit of pollution reduction than an information-reporting requirement, which in turn
might exceed the willingness to pay for strictly voluntary activities.
An emerging literature has examined the impacts of existing taxes on the cost effectiveness of
different approaches to environmental management  (the so-called "tax-interaction"  effect). If
true, the tax interaction effect would raise the social cost of all  environmental programs that
control pollution. It appears that economic instruments fare better under these calculations than
do traditional regulatory approaches.  Goulder et al. (1998) used a general equilibrium model to
demonstrate that preexisting taxes would make pollution control about 35% more costly than
what was calculated with conventional methods. Relative to conventional calculations of cost,
the general equilibrium method shows all forms of  regulation  as being more costly, however
economic instruments maintain their cost advantages. Another observation is that the relative
performance of economic instruments  can be enhanced through  careful design. For  example,
auctioning marketable permits can result in important efficiency gains relative to simply giving
these permits to existing sources (so called "grandfathering").
Parry and Bento (1999) extended the results calculated by Goulder et al. with a simple numerical
model that evaluated the effects of tax-favored  consumption (e.g., employer- provided health
insurance and  the mortgage  interest deduction). In this model, some economic  instruments
perform much better than traditional regulatory alternatives. In particular, the welfare gain from
using revenue-neutral environmental  taxes or the auctioning  of emission permits can be greater
than previously thought. Under certain conditions, the welfare costs of an environmental tax can
be negative.
In a reexamination of the Goulder  tax-interaction effect, Jaeger (2000)  finds evidence  of a
double-dividend effect but not the alleged  tax-interaction effect.22 With the  double-dividend
effect, not only is pollution controlled with a tax or trading program, but revenues are also raised
for other worthwhile programs.
Several studies that compare the theoretical cost  effectiveness  of incentive  mechanisms to
traditional regulatory approaches to managing the environment are summarized in Table 3-2 (air
pollution); Table 3-3 (water pollution); Table 3-4 (solid waste); and Table 3-5  (other pollution-
related issues). Many of these studies did not specify the precise nature of the market-based
mechanism that would be used. Rather, the assumption was  made that either pollution taxes or
marketable permits would yield the least  cost outcome that was identified through linear
programming. One  observes in every case that the ratio  of costs  comparing the traditional
regulatory approach with the market-based approach exceeds  1, and sometimes it far exceeds 1.
24                                                                                January

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                         The Cost Effectiveness and Environmental Effects of Incentive Systems
Table 3-2. Potential Savings from Using Economic Incentives to Control Air
            Pollution
Pollutant
Controlled
Hydrocarbons
Nitrogen dioxide
Nitrogen dioxide
Total Suspended
Particulates (TSP)
Participates (TSP)
Particulates (TSP)
Particulates (TSP)
Reactive organic
gases and N02
Sulfur dioxide
Sulfur dioxide
Sulfur dioxide
Sulfur dioxide
Sulfates
Six air pollutants
Benzene
Chlorofluorocarbons
All regulated air
pollutants
Sulfur dioxide
Ozone
NOx
Study
Year, Source
Maloney & Yandle
(1984)T
Seskinetal. (1983) T
Krupnick( 1986)0
Atkinson & Lewis
(1974)T
McGartland(1984)T
Spofford(1984)T
Dates etal. (1989)0
SCAQMD (1992)0
Roach etal. (1981) T
Atkinson (1983) A
Spofford(1984)T
ICF Resources
(1989) 0
Hahn and Noll (1 982) T
Kohn(1978)A
Nichols etal. (1983) A
Palmer etal. (1980);
Shapiro and Warhit
(1983)T
Bates etal. (1994)0
Haklos( 1994)0
Hahn (1995)0
Krupnick at al. (2000)0
Geographic
Area
Du Pont facilities
in United States
Chicago
Traditional Regulatory
Approach
Uniform percent reduction
Proposed Reasonably Available
Control Technology (RACT)
regulations
Baltimore | Proposed RACT regulations
St. Louis
Baltimore
Lower Delaware
Valley
Baltimore
Southern
California
Four Corners
Area
State Implementation Plan (SIP)
regulation
SIP regulations
Uniform percent reduction
Equal proportional treatment
Best Available Control
Technology
SIP regulation
Cleveland |
Lower Delaware
Valley
United States
Los Angeles
Uniform percent reduction
Uniform emission limit
California emission standards
St. Louis |
United States
United States
Poland
Europe
United States
Eastern United
States

Proposed emission standards
European Community and
German standards
Uniform percent reduction
Vehicle mandate in CA and
Northeastern United States
EPA SIP call provisions
Ratio of Costs:
Traditional
Approach vs.
Incentive Approach
4.15
14.4
5.9
6.0
4.18
22.0
4.0 at 90 ug/m3
1.5 in 1994
1.3 in 1997
4.25

1.78
5.0
1.07


1.96
1.1 to 1.2
1.42
1.3(NEonly)2.0
(CA + NE)
1.83 (utilities)
2.0 (all sources)23
Note: T refers to original citation in Tietenberg (1990), A to original citation in Anderson et al. (1990), and 0 to original publication
   of paper.
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 The U. S. Experience with Economic Incentives for Protecting the Environment
 Table 3-3. Potential Savings from Using Economic Incentives to Control
            Water Pollution
Substance
Controlled
Biochemical
Oxygen Demand
(BOD)
BOD
BOD
BOD
BOD
BOD
Heavy metals
Selenium
Nitrogen
Nitrogen
Phosphorus
Phosphorus
Phosphorus
Source
Year, Source
Johnson (1 967) T
0'Neil(1980)T
Eheartetal. (1983) T
Eheart, etal. (1983) T
Eheartetal. (1983) T
Eheartetal. (1983) T
Opaluch & Kashmanian
(1985) 0
EOF (1994)0
Moore (2000) 0
Shabman and
Stephenson( 1998)0
Faeth (2000) 0
Faeth (2000) 0
Faeth (2000) 0
Geographic Area
Delaware Estuary
Lower Fox River,
Wl
Willamette River,
OR
Delaware Estuary
Upper Hudson
River, NY
Mohawk River, NY
Rhode Island
jewelry industry
Central Valley, CA
Long Island Sound
Long Island Sound
Minnesota River
Valley
Rock River, Wl
Saginaw Bay, Ml
Traditional Regulatory
Approach
Equal proportional treatment
Equal proportional treatment
Equal proportional treatment
Equal proportional treatment
Equal proportional treatment
Equal proportional treatment
Technology-based standards
Best management practices
Equal treatment
Equal treatment
Equal treatment
Equal treatment
Equal treatment
Ratio of Costs:
Traditional
Approach vs.
Incentive Approach
3.13at2mg/l
1.62at3mg/l
1.43at4mg/l
2.29at2mg/l
1.71at4mg/l
1.45at6.2mg/l
1.12at4.8mg/l
1.19at7.5mg/l
3.00 at 3 mg/l
2.92 at 3.6 mg/l
1.54 at 5.1 mg/l 1.62
at 5.9 mg/l
1.22 at 6.8 mg/l
1.8
1.2
1.46 at 3.5 mg/l
1.56 at 3.5 mg/l
2.7at1ppm/l
1 .74 at 1 mg/l
5.9 at 1 mg/l
 Note: T refers to original citation in Tietenberg (1990), A to original citation in Anderson, et al. (1990), and 0 to original
    publication of paper.

Table 3-4. Potential Savings from Using Economic Incentives to Control Solid
            Waste
Substance
Controlled
Municipal solid
waste
Study
Year, Source
Palmer, etal. (1995)
Geographic Area
United States
Traditional Regulatory
Approach
Uniform percent reduction of
10%
Ratio of Costs:
Traditional Approach
vs. Incentive
Approach
2.0
 Of course, these ratios are merely theoretical calculations of potential savings. Actual savings
 could be much less if sources face high transaction costs with trading regimes, a scenario that
 severs as  the basis for comparison in most of the studies. A recent report to EPA (Anderson,
 1999) used these studies and other inputs to calculate the potential savings from the widespread
 use of economic instruments in environmental management. The estimate is large—on the order
 of $45 billion a year, or almost one-fourth of current environmental expenditures of $200 billion
 a year at the federal, state, and local levels.
26
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                          The Cost Effectiveness and Environmental Effects of Incentive Systems
Table 3-5. Potential Savings from Using Economic Incentives for Other
            Pollution-Related Issues
Substance
Controlled
Fuel efficiency
Agricultural
chemicals
Traffic congestion
Study
Year, Source
Charles River
Associates (1991)
Rendlemanetal.
(1995)
Hau(1990)
Geographic Area
United States
United States
Hong Kong
Traditional Regulatory
Approach
Corporate Average Fuel
Economy standards
Uniform percent reduction
Car ownership restraint
Ratio of Costs:
Traditional Approach
vs. Incentive
Approach
4.5
1.1
2.5
Examining the performance of trading systems in particular, one finds that existing applications
fail to achieve anywhere near their theoretical potential cost savings.24 Trades have been fewer
and  cost savings smaller, according to this analysis, than indicated by economic modeling. A
number of explanations have been offered for why  the predicted savings are not realized.25
Regulatory and legal requirements of the actual programs may limit the trading opportunities to a
greater extent than portrayed in the models, especially where the incentive programs operate in
conjunction with traditional regulatory programs. Various models have not fully reflected all the
aspects of real regulatory programs, including the transaction  costs,  restrictive trading rules,
monitoring and reporting requirements, and the administrative burden placed on both emission
sources and regulatory agencies.
In addition to the limitations imposed by the regulatory structure, potential participants in trading
systems may be reluctant to trade emissions credits or allowances, preferring instead the greater
certainty of installing pollution control equipment at their facilities. Moreover, pollution credits
have a limited life whereas engineering controls,  in principle, last for the  life of a facility. In
most trading systems, the vast majority of trades that take place occur within firms, not between
firms. Furthermore, markets for permits that are available for sale tend to be thin, and it may be
difficult to locate potential sellers.26
For tax, charge, and fee systems in the United States, the principal limitation to achieving the
theoretical gains in cost effectiveness has been the generally low level of charges relative to the
levels that would be required to have a significant impact on pollution. Typically, charges are set
to recover the administrative costs of a program, not to affect pollution.
Even if the cost savings of trading systems are less than predicted, the actual  savings are still
impressive.  In the appropriate circumstances, the wider use of  incentive programs that are
feasible in  an actual  policy  setting will  result in  substantial  cost savings while achieving
equivalent environmental goals.  In other circumstances,  the  cost differences  between an
incentive  program and a well-designed traditional  regulatory program will be less, although the
incentive program will provide a stronger stimulus for innovation and technical change.27

3.5    Economic Instruments and Technological Change

Market-based  instruments  should  have   significant   advantages  over  traditional  regulatory
mechanisms in terms of stimulating technical change  and innovation in pollution control. The
reason is  that each  and every unit of pollution is costly to the  source. In contrast, under a
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                                              Cost
The U. S. Experience with Economic Incentives for Protecting the Environment


traditional regulatory  approach, once a source has satisfied the emission limits, all pollution
within those limits has no cost. Why spend valuable resources instituting further  controls when
there is no offsetting cost savings? In fact, there generally is no incentive for a facility to reduce
pollution much below permitted amounts because such an action would invite regulators to
reduce the facility's permit limits.  In many parts of the nation, pollution control agencies are
constantly struggling to find ways of meeting ambient environmental quality goals. Facilities that
demonstrate the possibility of making emission reductions below permitted amounts offer an
easy target for obtaining  some of the necessary emission reductions.  These same innovative
firms  may  be the catalysts  for developing regulations that  require other  firms in the  same
industry to reduce their emissions to the amount shown to be feasible.
Figure 3-4 graphically depicts the difference in  incentives produced by an emissions tax and by a
traditional regulatory  policy.  A firm with marginal control costs (MCC) of MCCi, facing an
emission standard  set at EI will control emissions to  that level and incur costs  equal to  areas
(a+b)  for controlling all  emissions beyond EI. With an emissions tax set at t, the firm also would
control emissions to EI, but the firm would
not only incur control  costs of (a+b) but also  Figure  3-4. Comparison of Emission
would have  to  pay  the tax on  EI  of               Tax and Emission Limit
emissions equal to (c+d+e).
The incentive for sources to  find improved
methods  of  pollution  control  are  much
stronger under the  emissions tax, since total
pollution control costs are much higher. If
the source  finds a new,  cheaper pollution
control technology (represented by the shift
in marginal control costs to MCC2 in Figure
3-4),   total   abatement  costs  under  the
emissions standard approach  would  fall by
an amount equal  to  area (b). Under the
emissions  tax   approach, total  pollution
control outlays would  equal  (a+c+e), a
decrease of (b+d).
It  should not be surprising that the theoretical  and empirical literature concludes that emission
taxes provide the greatest stimulus for technical change and innovation, with marketable permits
offering a lesser stimulus and traditional regulatory approaches the least.  Among traditional
regulatory approaches, it is safe to say that performance-based standards should provide a greater
incentive to innovate than would pure technology requirements.
Long-run changes in behavior and technology  are among the most difficult economic effects to
document.  For that reason,  relatively  little is known  of the  effects that  take  place  as  a
consequence  of different  pollution control  policies. Yet these effects  are thought to be very
important.
Outlays for research and development (R&D)  in pollution control are between 2% and 3% of
total pollution control expenditures.  This percentage  is about the same as the  average R&D
expenditure  in  all of U.S. manufacturing. Pollution  control  that is  based more heavily on
                                                                 MCd
                                                                            Emissions
28
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                         The Cost Effectiveness and Environmental Effects of Incentive Systems


economic instruments would be expected to stimulate greater R&D and, in turn, reduce the costs
of improving the environment over the long run.
There is historical evidence that Clean Air Act requirements (some market-based, some not)
have helped to provide impetus  and market opportunities  for  technology  innovation and
performance improvements. Innovative companies have responded by producing breakthroughs
such as  alternatives to ozone-depleting chemicals and  new  super-performing catalysts for
automobile emissions. There are many examples  of technologies  that were not commercially
available a dozen years ago, but that are now important elements of pollution control programs.
These examples include the following:

       •  Selective Catalytic Reduction (SCR) for NOX emissions from power plants
       •  Advanced gas reburning technology for NOX
       •  Scrubbers that achieve 95% 862 control on utility boilers
       •  Sophisticated new valve seals and detection equipment to control leaks
       •  Water-based and powder-based coatings to replace petroleum-based formulations
       •  Reformulated gasoline
       •  LEVs (Low-Emitting Vehicles) that are far cleaner than those believed possible in the
          late 1980s (an additional 95% reduction  over the 1975 controls)
       •  Reformulated lower VOC paints and consumer products
       •  Safer, cleaner burning wood stoves
       •  Dry cleaning equipment that recycles perchlorethylene
       •  CFC-free air conditioners, refrigerators,  and solvents

This pattern  of technological progress is continuing today. In the regulatory impact statement for
the  1997 ozone and PM National  Ambient Air Quality Standards (NAAQS), EPA identified a
number of emerging technologies—ranging from fuel cells to ozone-destroying catalysts to new
coating technologies—that may hold promise for achieving further air pollution  reductions. EPA
can help foster additional demand for clean technologies  by promoting strategies that create a
market for the most efficient, best performing technologies.

3.6    Impacts on Environmental Quality

A full understanding of the desirability of incentive programs requires information on the actual
environmental benefits that  are achieved relative to command and control alternatives. The
literature focuses  almost  exclusively on the cost side  of the equation as  opposed to the
environmental effects because most studies assume that the same environmental goals are being
sought in both approaches to environmental  management. When comparing incentive-based
policies with traditional  regulatory approaches, or when comparing one incentive-based policy
with another incentive-based policy, there may be  impacts on environmental  quality that would
be of interest to regulators and other parties.
In general, incentive mechanisms based on trading are designed to produce environmental effects
that  closely  approximate what would be achieved through a traditional regulatory approach.
Some  distinctions exist. For example,  a cap-and-trade policy provides  control  over total
emissions, while an open-market trading  approach  does not limit overall emissions.  In an open-
market approach, credits are generated at the sources' discretion. Open-market trading could
reduce total emissions, however, if trading ratios of greater than 1:1 were applied. Some trading


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The U. S. Experience with Economic Incentives for Protecting the Environment


programs described in this report have that feature (e.g., fireplace permit trading), but others do
not.
In most cases, emission tax systems have not been designed to produce a specific environmental
impact. Rather, the primary goal has been to raise modest revenues. (See, for example, Arnold
1995, chapter 11.) However, in the few examples for which emission fees have been set at a level
intended to have environmental impacts, the benefits were greater than  forecast (e.g., Swedish
NOX and SO2 charges, and U.S. chlorofluorocarbon taxes).
Deposit systems appear to have achieved environmental results greater than could be achieved
with a traditional regulatory  approach.  However, the refund must be large  enough  to induce
consumers to bring back the used product. For example, deposits/refunds on automobile bodies
(required in some European countries) function well in assuring the proper disposal of car hulks
when set at a high enough level. A traditional regulatory approach works less well for  car hulks.
Thousands  of abandoned cars are removed at  city expense in New York each year, despite
regulations prohibiting that type of disposal.
Variations in environmental effects can be important in evaluating the overall desirability of
different approaches. Gates et al. provide an example in a comparison of regulatory approaches
for of paniculate matter control in the Baltimore, Maryland, region. The traditional regulatory
approach of applying uniform emission limits to  sources results in control of particulate matter to
an extent greater than necessary to meet ambient air quality standards in some parts of the city.
In contrast, an incentive-based approach achieves the  air quality standard with more uniform
ambient  concentrations  of  particulate matter in all parts of the city.  The extra reductions of
particulate matter in some  areas under the traditional regulatory approach yield a benefit that
                                                      9R
partially offsets the higher costs of the traditional approach.

3.7    Finding the Right Instrument for the Problem

This  chapter  has  described a wide  range of instruments  from  the perspectives of  cost
effectiveness, distributional consequences,  environmental effects, and incentives to develop new
technologies to deal with pollution. An ideal tool would maximize the net benefits that accrue to
society  (all  environmental and  other benefits, less  compliance costs, administrative costs,
monitoring and enforcement costs) without creating major imbalances in the distribution of costs
or benefits.  The evidence  accumulated from  literally hundreds  of applications of  economic
instruments that is reviewed in the following chapters suggests that the set of instruments that
can deal effectively with individual classes of environmental problems is fairly narrow. Table 3-
6 identifies the types of incentive-based  instruments that have been applied to a variety of
environmental  problems. The  relative effectiveness  of the  different mechanisms  is  also
characterized.  The  interested reader is referred to Dower  (1995)  for other perspectives on
selecting the best economic instrument for specific environmental problems.
30                                                                                January

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                                The Cost Effectiveness and Environmental Effects of Incentive Systems
  Table 3-6. Uses of Economic Instruments
   Instrument
Examples
Pros & Cons
   Pollution Charges & Taxes
Emission charges
Effluent charges
Solid waste charges
Sewage charges
Pros: stimulates new technology; useful when damage per
unit of pollution varies little with the quantity of pollution

Cons: potentially large distributional effects; uncertain
environmental effects; generally requires monitoring data
   Input or Output Taxes & Charges
Leaded gasoline tax
Carbon tax
Fertilizer tax
Pesticide tax
Virgin material tax
Water user charges
CFC taxes
Pros: administratively simple; does not require monitoring
data; raises revenue; effective when sources are numerous
and damage per unit of pollution varies little with the quantity
of pollution

Cons: often weak link to pollution; uncertain environmental
effects
   Subsidies
Municipal sewage
plants
Land use by farmers
Industrial pollution
Pros: politically popular

Cons: high budgetary cost; may stimulate too much of the
activity; uncertain effects
   Deposit-
   Refund Systems
Lead-acid batteries
Beverage containers
Automobile bodies
Pros: deters littering; stimulates recycling

Cons: potentially high transaction costs; product must be
reusable or recyclable
   Marketable Permits
Emissions
Effluents
Fisheries access
Pros: provides limits to pollution; effective when damage per
unit of pollution varies with the amount of pollution; provides
stimulus to technological change

Cons: potentially high transaction costs;  requires variation in
marginal control costs
   Reporting Requirements
Proposition 65
SARA Title III
Pros: flexible, low cost

Cons: impacts may be hard to predict; applicable only when
damage per unit of pollution does not depend on the
quantity of pollution
   Liability
Natural resource
damage assessment
Nuisance, trespass
Pros: strong incentive effect

Cons: assessment and litigation costs can be high; burden
of proof large; few applications
   Voluntary Programs
Project XL
33/50
Energy Star
Pros: low cost; flexible; many possible applications; way to
test new approaches

Cons: uncertain effectiveness
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The U. S. Experience with Economic Incentives for Protecting the Environment
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                                                         Pollution Charges, Fees, and Taxes
4.  Pollution Charges, Fees, and Taxes

4.1    Introduction

A pollution charge is a fee based on the  quantity of pollutants that are discharged
into the environment. A user charge is a fee paid in exchange for the use of natural
resources or for the collection or disposal of pollutants. A product charge is a fee
imposed on products that are  believed to have environmentally harmful  effects.
Although the  terms "fee,"  "charge," and "tax" are used interchangeably  in this
chapter, there  are subtle differences. Under federal law, a tax is  a  purely revenue-
raising  instrument, whereas charges or fees  are intended  to  offset costs to the
government. Thus, tax  receipts would  be part  of general revenues. While many
charges and fees that are  collected must be placed in  the Treasury General Fund,
some are allowed to be retained and could supplement agency budgets. The different
types of fees, charges, and taxes discussed in this chapter can be classified in various
ways. They are summarized in Table 4-1.

Table 4-1. Fees, Charges, and Taxes in Environmental Policy
Instrument
Pollution fee
User fee
Product charge
Other fees on
environmentally
damaging activities
Description
Charge based on the
quantity of pollutants
released into the
environment
Fee for the use of
resources
Charge on a product
believed to have
environmentally harmful
effects
Various mechanisms
Examples
Air emissions permit fees in California, Maine, other
states
Effluent permit fees in Louisiana, California,
Wisconsin, other states
Solid waste disposal fees
Water use fees
Congestion or time-based highway tolls
Grazing fees
Gas guzzler tax
CFC tax
State taxes on fertilizers
State advance disposal fees on tires, motor oil,
packaging, other goods
Wetland development fees
Stormwater runoff fees
Most environmental taxes  are  designed  primarily to raise revenue, often to fund
environmental protection activities. The economic rationale behind such taxes is that
those who cause pollution should bear the costs. Such costs include both damages to
the environment and the administrative costs incurred by the authorities that regulate
polluters. To be economically efficient, environmental taxes  should reflect both of
these costs.

Although some charges, especially product charges, have been imposed at the federal
level, the majority of them have been introduced at the state or local level. In the case
of air and water pollution, the federal government has provided policy guidance on
charges, but the states have developed and implemented a wide variety of charges as
they have seen fit.
Pollution Charges, Fees, Taxes
  Deposit-Refund Systems
                                                                                    Trading Programs
                                                                                Subsidies for Pollution Control
                                                                                   Liability Approaches
  Information Disclosure
   Voluntary Programs
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The U. S. Experience with Economic Incentives for Protecting the Environment


Given the multiplicity of environmental taxes—especially at the state and local levels—and the
frequency with which they are adopted or modified, this chapter does not attempt to provide a
comprehensive description of all the environmental taxes in place in the United States. Rather, its
purpose is to describe some of the more important environmental taxes.

4.2    Water Fees

Water fees take various forms,  including user fees  (e.g., for groundwater, surface water, or
drinking water supplied by waterworks) and fees for direct or indirect water discharges. Indirect
discharges are sent to treatment works. The rationale for water user fees is that water is not a free
resource but rather a scarce commodity that should be priced to avoid inefficient use and related
environmental  problems.  The rationale  for discharge fees  follows from the polluter-pays
principle described in  the  previous section. Most water fees are intended  primarily to  raise
revenue to recover the costs of providing service rather than to allocate a scarce resource among
competing interests.

4.2.1  Indirect Discharge and User Fees
Fees  are imposed on households and businesses for discharges of wastewater into  Publicly
Owned Treatment Works (POTWs). Frequently, the water and wastewater utilities that service a
household or business are one and the  same. When a single invoice includes both services, users
may be able to distinguish discharge fees from water user fees only by careful  attention to line
items. Wastewater discharges are not directly metered in most cases; rather they are assumed to
be equal in volume to  water consumption, which is measured. Some discharge fees for larger
businesses are based not only on water use but also on discharge toxicity, which provides them
with a separate incentive to reduce the toxicity of their discharges. Sims found that  toxicity-
based charges provided an incentive for large industrial facilities to reduce the volume of their
discharge.29
With respect to water user fees,  EPA's 1995 Community Water System Survey estimated that
95% of residential  water customers and  98%  of nonresidential  water customers  are  metered.
They pay water charges based directly  on their usage.30
Whether a water user fee has a greater  effect in terms of raising revenue or reducing a potentially
polluting activity depends largely on  the elasticity of the demand for water,  that  is whether
demand is responsive to changes  in price.  If the demand is inelastic, an increase in user  fees will
raise revenue. User fees will not, however, affect consumption behavior in a significant way. If
demand is elastic, however, consumption behavior is likely to be changed by a water fee, but the
revenue-raising prospects are limited.  Although water demand is often assumed to be inelastic,
studies that separate water demand by season have found that household water  demand is
inelastic in winter but elastic in summer. Others have found that water demand by industrial and
agricultural users is sensitive to price changes.31
To promote water conservation, many have suggested the use of rate schedules that impose
higher rates per 1,000 cubic feet  as use increases. Two periodic surveys give an indication as to
the type of rates that water utilities use. The Ernst &  Young survey focuses on only the largest
urban utilities,  while  the EPA  Community  Water System Survey  is a more  comprehensive,
random-sample survey that includes smaller utilities.  The Ernst & Young survey of residential
rates for about  130 utilities reported that 38% use decreasing rates, 37% use uniform rates, and
34                                                                                January

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                                                         Pollution Charges, Fees, and Taxes
22% use increasing rates. It also shows two trends over time: a greater use of increasing rates and
a lesser use of decreasing rates. EPA's Community Water System Survey obtained residential
rates from more than 1,000 systems: 49% use uniform rates, 16% use decreasing rates, and 11%
use increasing rates. Since utilities could report more than one type of rate per class of customer,
the total for all rate types is more than 100%. Taken together,  these two surveys suggest that
smaller utilities in general are less likely to use increasing or decreasing rates than larger utilities.
As shown  in Figure 4-1, periodic surveys of selected water utilities indicate that water and
wastewater fees have risen significantly since 1986. These price increases have exceeded the rate
of inflation. In addition, EPA's Community Water System Survey notes the tendency for large
utilities to raise rates more frequently than small utilities. Smaller utilities raise rates by a greater
amount when they do raise rates, but
                                    Figure 4-1. Water and Wastewater
                                                 Charges (monthly average)
the  differences  are  less  dramatic
when reported in annualized terms.
In addition to water and wastewater
charges,  stormwater  charges  have
been imposed in  a  number of areas.
Ernst  &   Young  found  that   the
number of utilities with such charges
increased  significantly from 1992 to
1994. Their use  varies significantly
across regions: They are used by over
half of all utilities surveyed in  the
West but by  none surveyed in  the
Northeast.  In some  areas, reduced
storm-water  fees  are  assessed   in
return  for measures  that promote
stormwater management.
Finally, in some states, water user  Source: Ernst& Young. 1994. p. 3
fees generate revenues for drinking water programs. New Jersey, for example, raises $2.8 million
annually (out of a total  drinking water program budget of $5 million) from a water use tax of
$0.01 per 1,000 gallons.""
                                            1986
 1988

• water
1990      1992

   • wastewater
1994
                      32
4.2.2  Direct Discharge Fees
The Federal Water Pollution Control Act of 1972 provides for the regulation of point- source
discharges through a system of national effluent standards that are promulgated by EPA. All
point sources must obtain National Pollution Discharge Elimination System (NPDES) permits in
order to discharge effluent.33 By August 2000, EPA had authorized 43 states to issue NPDES
permits.34 In two states, EPA regional offices issue the permits. As of July 1995, about 59,000
municipal and industrial facilities in the United States had received NPDES permits.35
A 1993 survey revealed that 39 states assessed NPDES  permit fees as of December 1993. In 10
of the states, fees varied according to discharge volume and toxicity, while in 18 other states fees
varied  according to discharge volume alone (see Table 4-2). Other criteria sometimes used in
setting fees include the purpose of the water use, the characteristics of the  receiving water, and
the type of facility releasing the discharge.  Some states use point or class systems with various
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The U. S. Experience with Economic Incentives for Protecting the Environment


criteria to determine the fee levels for different dischargers. Fees for Publicly Owned Treatment
Works (POTWs) are sometimes based on the size of the population that is  presumed to be
connected to the local sewage system.

Table 4-2.  State Effluent Permit Fee Structures
r
Fee Structure
States
Flat or varies only according to industry or size of
permit holders.
Varies according to discharge volume
Varies according to discharge volume and toxicity
Alabama, Alaska, Delaware, Hawaii, Kentucky, Maine, Massachusetts,
Pennsylvania, Rhode Island, Utah, Virginia
Arizona, Arkansas, Colorado, Connecticut, Florida, Kansas, Minnesota,
Missouri, Nevada, New York, North Carolina, Ohio, Oregon, South
Carolina, South Dakota, Tennessee, Vermont, Washington
California, Indiana, Louisiana, Maryland, Montana, New Jersey,
Oklahoma, Texas, West Virginia, Wisconsin
Source: Duhl. 1993, p. 10.
The primary purpose of NPDES  permit fees is to raise revenue, especially for the permitting
program. This rationale explains why fees are often based on the complexity of the permit, a
reflection of the administrative effort required to get the permit in place. In a number of states,
fees are set to attain revenue targets.
A secondary purpose is to discourage water pollution. Although the incentive effect of water
effluent fees in the United States has not been studied in a comprehensive way, several factors
limit the likelihood of a strong impact. In some cases, fees are based not on measured discharge
characteristics but rather  on more easily measured parameters that  are  related to discharge
characteristics. Moreover, some fee structures have broad classes  for characterizing discharge
volume, toxicity levels, or both. These structures impose the same fee within a given volume or
toxicity class In such cases, polluters have no incentive to limit discharges unless they can move
from one fee class to another. Finally, the charges are often modest relative to control costs. New
Jersey has the highest effluent fees. In 1993, two facilities in New Jersey paid $702,812. In most
states,  however, the highest  fees are  less than $100,000. As  a  point  of comparison, effluent
control costs typically exceed $5 million each year at a large industrial facility.

4.2.3  Some State Effluent Permitting Fees
Although it is beyond the scope of this report to describe water effluent  fees for all 50 states,
examples from Louisiana, California,  and Wisconsin should illustrate  typical characteristics of
these fees. Each of these states has NPDES permit fees (i.e., effluent fees) that vary with both the
volume and toxicity of the discharge.
Louisiana uses water permit fees to fund not only the state permit program but also the activities
of the Office of Water Resources of the Department of Environmental Quality. (The legislature
no longer provides  general revenues to the Office.) The annual  permit fee is  determined by a
worksheet that assigns points on the basis of several factors: (1) facility complexity; (2) flow
volume and type;  (3) pollutants released; (4) heat load; (5) potential public health threat; and (6)
the designation of a facility as major  or minor, depending upon  how many people it employs.
The points are multiplied by a rate factor of $97.50 per point for municipal facilities and $170.63
per point for industrial  facilities  to determine total annual fees. The  minimum annual fee is
$227.50, and the maximum annual fee is $90,000. In addition to annual fees,  Louisiana imposes
36
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                                                         Pollution Charges, Fees, and Taxes
application fees for new, modified, or reissued permits. In most cases, these fees are 20% of the
annual fee.36
In California, NPDES annual fees are based on the threat to water quality and the complexity of
the permit. There are three categories for each characteristic: Categories I, II, and III for the level
of threat to water quality; and Categories a, b,  and  c for the complexity of the permit. Permit
holders with a I-a rating (the greatest threat to water quality and the most complex permits) pay
the highest fees,  $10,000 a year. III-c permit holders pay the lowest fees, $400 a year. These fees
fund State Water Board programs.
In addition to the NPDES permit fees,  California charges Bay Protection and Toxic Cleanup
fees. This fee structure is similar to that of the NPDES permits  except that it is also applied to
other sources of pollution such as storm drains, boat construction and repair facilities, marinas,
dredging operations,  and beach replenishment activities. Another difference is that its revenues
fund the Bay Protection and Toxic Cleanup Program, which is designed to identify hot spots,
develop a water quality database, and help  coordinate water policy. The Bay Protection Fee
schedule ranges  from $300 for III-c permittees  (who pose the least threat to water quality and
have the least complex permits) to $11,000 for I-a permittees. Dredging operations are charged
an annual fee of up to $15,000.
The Wisconsin effluent fee system is believed to have potential incentive effects. The fee rate per
pound of individual pollutants is inversely related to the permit limit in pounds for the pollutant.
Thus, the most harmful pollutants are taxed at the highest rate per pound. Pollutant loadings are
calculated  on the basis  of flow  and  concentration  information contained  in wastewater
monitoring reports. Polluters are thereby encouraged to reduce both the quantity and the toxicity
of pollutant releases.

4.2.4  Stormwater Runoff Fees
It is common practice for counties to impose fees on real  estate  developments based on surface
area  runoff (paved  areas  and areas under roof).  Fee  revenues are used for storm-water
management in stream valleys. These fees differ  from the utility stormwater fees described in
Section 4.2.1 in that they apply to runoff into  surface water.

4.3    Air Emission Fees

As is the case with water pollution, there are  no national air emissions fees. However, the Clean
Air Act Amendments of 1990  require that states impose fees for issuing emission permits. The
Amendments also impose fees  on VOC emissions that will come into force in 2005 and 2010 in
areas that fall far short of attaining national ambient  air quality standards for ozone. States have
been more active in the use of emission fees as an air quality management tool.

4.3.1  Permit Fees
The  1990 Clean Air Act Amendments  require that states impose permit fees to recover the
administrative costs of their EPA-approved operating permit programs. The Amendments set the
minimum presumptive level for such fees at $25 per ton of emissions of air toxics and criteria air
pollutants (excluding carbon monoxide).  They also specified that this amount should be adjusted
for inflation. Each state is required to set fees that completely cover operating permit program
costs. If the fees  are greater than or equal to $25  per ton, adjusted for inflation—at present, about
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The U. S. Experience with Economic Incentives for Protecting the Environment


$35 per ton—EPA assumes that the fees are adequately high. States with lower fees must present
detailed evidence that fee revenues are sufficient to cover their operating permit program costs.
Several state permit programs have been denied full EPA approval because they have submitted
insufficient information on  the  adequacy of  their  fees. These  states have received interim
approval, pending their submission of evidence  of fee adequacy.
Although states can meet the revenue-raising  requirement through flat fees or other types of fees,
most  have chosen incremental per-ton  fees.  Some states  base  their fees  on the pollutant's
potential harm to the  environment. New Mexico, for example, levies fees of $150 per ton for air
toxics but only $10 per ton  for criteria  pollutants. Fee structures  in Maine and California are
discussed here for illustrative purposes.

       4.3.1.1   Air Emission Permit Fees in  Maine
In November 1993, Maine raised its air  emission permit fees.  Charges were raised from $2 per
ton to $5 per ton for emissions up to  1,000 tons; from $4 per ton  to $10 per ton  for emissions
between 1,001 and 4,000 tons; and from $8 per ton to $15 per ton for emissions in excess of
4,000 tons. The  minimum charge rose from  $100  to $250, and the maximum charge rose from
$100,000 to $150,000. The  fees apply to emissions of sulfur oxides  (SOX), NOX, VOCs, and
particulate matter. Having since been adjusted for inflation, their fee levels (as of 1997) are
shown in Table 4-3. The fees applied to all permit holders.

                 Table 4-3. Air Emissions Permit Fees in Maine
Amount Emitted
Up to 1,000 tons
1,000-4,000 tons
More than 4,000 tons
Fee ($/ton)
5.28
10.57
15.85
                  Source: Limouze, Maine Air Quality Bureau.
Maine has also imposed an air  quality surcharge based on  the  toxicity  of emissions. The
magnitude of the surcharge is determined on  the  basis of several criteria. Approximately  85
facilities are subject to the tax, which is capped at  $50,000. Before the surcharge was adopted,
the Director of Maine's Air Quality Bureau said that the state would give polluters an incentive
to identify how they would reduce their emissions of the most toxic substances.37 The same Air
Quality Bureau official indicated that surcharge revenues have fallen and that the surcharge has
had a slight incentive effect. The  official also suggested that the impact on the environment is
difficult to isolate from other potential factors, such  as the Toxics Release Inventory. Permit fees
produce approximately $1.8 million  in  revenues each year, and toxicity  surcharges net $0.6
million in annual revenues. Revenues are used for  the air permit program and other air quality
activities.

       4.3.1.2   Emission Permit Fees for South  Coast Air Quality Management District
The South Coast Air Quality Management District  (SCAQMD), located in Southern California)
levies the highest fees per unit of air emissions in the United States. The fees shown in Tables 4-
4 and 4-5 are adjusted for inflation and budgetary  needs of the SCAQMD every May.
Facilities that temporarily exceed their allowable emissions  levels  must pay excess emissions
fees. For most pollutants, the excess emissions fees are about the same as the regular fees. For
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                                                        Pollution Charges, Fees, and Taxes
carbon monoxide,  however, they are approximately twice as high.  In addition,  SCAQMD
imposes fees for visible emissions and various administrative procedures.38

Table 4-4. Emission Fees in SCAQMD
FY 99-00, $ per ton
Annual Emissions
4-25 tons
25-75 tons
>75 tons
> 100 tons
Organic Gases
$292.80
475.40
711.60

Nitrogen Oxides
$171.30
272.10
Carbon Monoxide


409.80 |

$3.50
Sulfur Oxides
$203.10
328.30
492.90

Participate Matter
$223.90
362.80
543.20

Source: SCAQMD Rule 301.
Fees for some air toxics have escalated rapidly, far faster than the fees for criteria air pollutants.
Between  1996   and  2000,  emission  fees for  asbestos;  cadmium; hexavalent chromium;
chlorinated dioxins; 1,3 butadiene; and lead rose by 50% to more than 100%.

Table 4-5. Air Toxics and Ozone-Depleting Chemicals Emission Fees in
            SCAQMD
Pollutant
Asbestos, cadmium
Benzene, carbon tetrachloride, ethylene di-bromide, ethylene
dichloride, ethylene oxide
Methylene chloride
Hexavalent chromium
Chlorinated dioxins and dibenzofurans
Nickel
1,3-Butadiene, inorganic arsenic, beryllium, poly-nuclear
aromatic hydrocarbons (PAH)
Lead, vinyl chloride
1,4-Dioxane
Formaldehyde, perchloroethylene
Chlorofluorocarbons
1,1,1-trichloroethane
$ Per Pound
FY96-97
2.17
0.90
0.05
2.67
3.17
1.67
1.50
0.50
0.11
0.21
0.18
0.038
FY98-99 | FY99-00
3.00
1.00
0.05
4.00
3.40
1.13
0.06
4.53
5.00 | 5.66
2.00 I 2.26
3.00 3.40
1.00
0.21
1.13
0.23
0.21 | 0.23
0.18 I 0.20
0.04 | 0.04
Source: SCAQMD Rule 301
Given the presence of traditional forms of regulation and other factors that might influence air
pollutant emissions, the incentive effect of the SCAQMD emissions fees is difficult to determine.
In most cases, these fees are lower than the marginal costs for pollution abatement.  The main
purpose of these fees is to recover the administrative costs of SCAQMD's activities.

       4.3.1.3  California "Hot Spots" Fees
The California Air Toxics "Hot  Spots"  Information and Assessment Act (AB 2588) requires
facilities to report the type and quantity of certain  substances  they release into the air. The
California Air Resources Board (CARB) administers the program. The law also requires CARB
to develop and adopt fees to cover the administrative costs of the program that are incurred by
CARB and local air districts. Districts can either set their own fees or request that CARB set fees
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The U. S. Experience with Economic Incentives for Protecting the Environment


for them. Each district is responsible for billing and collecting the fees and remitting the district's
share of state costs to CARB. The information component of this law is discussed in Chapter 9.
The fees are discussed in this chapter.
CARS's  Hot Spots fee  structure, which is used in 12 of California's 34  air pollution control
districts,  is no longer based on tonnage of emissions. However, at least two of the 22 districts
that set their own fees base them  on the amounts and toxicity of pollutants.  One district bases its
fees  on amount but not  toxicity.  The toxicity-based fee structure of the Bay Area Air Quality
Management District (BAAQMD) is described here as an example.
BAAQMD bases fees on Unit Risk Values (URVs) for  carcinogen emissions and Acceptable
Exposure Levels (AELs) for other emissions. Fee amounts depend on the quantities of weighted
emissions. For carcinogens, weighted  emissions are determined by multiplying the amount of
each substance by 100,000 times its URV. For other toxics, weighted emissions are determined
by multiplying the amount of each substance by the reciprocal  of its AEL (in m3/micro-gram).
The  sum of the weighted emissions of all toxics is multiplied by a coefficient to calculate the
fees  charged to each source.  The coefficient varies from year  to year depending on the costs
incurred by CARB and BAAQMD to manage the Hot Spots program.
Facilities with fewer than  50 weighted  pounds pay nothing,  while facilities with weighted
emissions between 50 and 1,000 pounds pay a flat fee of $125. For gasoline dispensing facilities,
the fee is simply $5 for each dispensing nozzle.  For small businesses, which are defined as
having no more than 50  employees and $5 million in annual receipts, fees are capped at $5,000.
Government facilities are also subject to the fees. Although there is no maximum  fee for larger
businesses, no source has paid more than  $60,000 in annual fees. In 1992, about 1,200 facilities
paid  $1.16 million in fees.
A total of 81 toxics are subject to the fees. In most cases, emissions are not measured but rather
estimated on the basis of two factors: data on the use of toxics and emissions factors that depend
on the abatement equipment. Although fee amounts appear relatively small for larger businesses,
BAAQMD officials  believe that the  fees have contributed to  a decrease in toxic emissions.
Facilities have lowered emissions in various ways, including process changes and reductions in
the use of toxics. When toxicity-based fees were adopted  in 1992, for example,  hospitals and
metal plating  facilities  emitted  relatively large amounts of ethylene  oxide and hexavalent
chromium.  Since these substances have high URVs, emitting facilities faced  high  fees. Most of
these facilities  installed Best Available  Control  Technology  soon after the BAAQMD  fee
                    39
structure  was adopted.
However, it is difficult to isolate the effects of these fees from other factors that could influence
toxic emissions, including the information and reductions  planning components of the Hot Spots
program  and federal Toxic Release Inventory requirements. In addition, refineries have made
large investments to comply with  the reformulated fuel and fugitive emissions standards.

4.3.2  Ozone Non-attainment Area Fees
The  1990 Clean Air  Act Amendments impose fees on "excess" VOC emissions in ozone non-
attainment  areas designated as "Severe" or "Extreme."  The fees are  set  at $5,000 per  ton
(adjusted for inflation since 1990) for each ton emitted in excess of 80% of a baseline quantity.
The fees  come into effect on the applicable attainment date for the area: 2005 for areas with the
designation Severe and 2010 for areas designated as Extreme. (In 1990, California's South Coast
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                                                         Pollution Charges, Fees, and Taxes
Air Quality Management District was the only non-attainment area rated as Extreme. At present,
there are no areas that have that classification.)

4.4    Solid Waste Disposal Fees

This section briefly discusses variable rate programs (a relatively new trend in household waste
collection), landfill taxes,  and hazardous waste disposal taxes. The purpose  of such  disposal
taxes is to discourage waste generation and encourage recycling. Unfortunately, they also create
incentives to dispose of waste illegally or to transport waste to other locations where disposal is
cheaper.

4.4.1   Variable Pricing  Programs
Communities throughout the United States have traditionally  levied fixed  collection  fees  for
household waste, or they  have included collection and  disposal costs in property taxes.  Such
pricing  practices are inefficient in that the marginal price of solid waste disposal faced by  the
household is zero, whereas the marginal collection and disposal cost is positive.
However,  a growing number  of communities are now charging for solid waste collection based
on the volume generated by the household. Such variable rate (or "pay-as-you-throw") programs
have been implemented in  more than 4,100 communities in 42 states, reaching an estimated 10%
of the U.S. population. Four states have mandated the use of variable rate programs in  some or
all of their municipalities.  Washington's law applies mostly to private collectors that operate in
unincorporated areas of the state, but virtually all  municipalities in the  state use variable rates.
Iowa and Wisconsin require variable rates only in communities that fail to attain a 25% waste
recycling/diversion goal by certain  deadlines.  In Minnesota, variable rates  are  required in  all
communities.40 EPA is also encouraging variable rates,  and the Agency has held a series of
workshops to explain their advantages and disadvantages and to provide information on how to
implement them.
Variable rate programs can take several forms. Prepaid garbage bags or stickers that affix to bags
can be required for collection, or collection fees can be based on the number of cans, the size of
cans,  or both of these characteristics. A small number of communities have weight-based
systems. More common are mixed programs that combine a fixed rate—which in some programs
entitles  households to collect a  pre-specified amount  of waste—and incremental rates  for
amounts in excess of the maximum covered by the flat rate. Such mixed programs are growing in
popularity, perhaps because they  are relatively easy and inexpensive to implement, they provide
a stable source  of revenue  for collection services, they have  the potential to reduce illegal
dumping,  and they offer a pre-specified level  of service at a fixed cost to  many customers.41
However,  according to one source, collection systems that require periodic billing of customers
are likely to be more expensive to administer than bag or sticker systems.42  On the other hand,
one disadvantage of using  bags is that they can tear,  especially if handled improperly or opened
by animals. Table 4-6 describes variable rate structures in a number of U.S. communities studied
by Miranda and Aldy and Bauer and Miranda.
Waste collection systems can be open systems or exclusive franchises. In open systems, the city
may provide optional waste collection (e.g., Grand Rapids, Lansing), or it may leave collection
completely in the hands  of  private firms (e.g.,  Colorado Springs). In  exclusive franchises,
collection  can be done either by the city (e.g., Spokane, Tacoma) or by one or more contracted
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The U. S. Experience with Economic Incentives for Protecting the Environment
Table 4-6. Variable Rate Structures
Community
Glendale, CA
Pasadena, CA
San Jose, CA
Santa Monica, CA
Oakland, CA
Portland, OR
Tacoma, WA
Spokane, WA
Colorado Springs, CO
Downers Grove, IL
Hoffman Estates, IL
Woodstock, IL
Grand Rapids, Ml
Grand Rapids, Ml
Grand Rapids, Ml
Lansing, Ml
Lansing, Ml
Lansing, Ml
Fee Structure
65-gallon cart: $6.45/month, 20/gallon
100-gallon cart: 10.10/month, 20/gallon
60-gallon cart: $10.41/month, 40/gallon
100-gallon cart: 16.23/month, 40/gallon
2 60-gallon carts: 19.01/month, 40/gallon
60-gallon & 100-gallon carts: 22.40/month, 40/gallon
2 100-gallon carts: 28.62/month, 30/gallon
32-gallon cart: $13.95/month, 100/gallon
64-gallon cart: 24.95/month, 100/gallon
96-gallon cart: 37.50/month, 100/gallon
128-gallon cart: 55.80/month, 100/gallon
40-gallon cart: $14.85/month, 90/gallon
68-gallon cart: 17.76/month, 70/gallon
95-gallon cart: 21.07/month, 60/gallon
68-gallon & 95-gallon carts 37.28/month, 50/gallon
20-gallon can: $10.08/month, 130/gallon
1st 32-gallon can: 13.74/month, 110/gallon
Each extra 32-gallon can: 16.49/month, 130/g
20-gallon can: $14.60/month, 180/gallon
32-gallon can: 17.60/month, 140/gallon
35-gallon cart: 19.30/month, 140/gallon
60-gallon cart: 24.05/month, 100/gallon
90-gallon cart: 27.10/month, 80/gallon
60-gallon can: $17/month, 70/gallon
90-gallon can: 25.50/month, 70/gallon
20-gallon can: $8.56/month, 110/gallon
1st30-galloncan: 11.07/month, 90/gallon
Each extra 30-gallon can: 6.01/month, 50/gallon
1 34-gallon can + 1 30-gallon bag: $9.50/month, 40/g
2 cans and 2 bags: 1 1/month, 20/gallon
3 cans and 3 bags: 13/month, 20/gallon
30-gallon bag: $1.50, 50/gallon
30-gallon bag: $1. 45, 50/gallon
30-gallon bag: $1. 56, 50/gallon
30-gallon bag: $0.85, 30/gallon
30-gallon can: 44.20/year, 30/gallon
64-gallon cart: $15/month, 60/gallon
104-galloncart: 17/month, 40/gallon
90-gallon cart: $17.35/month, 50/gallon
30-gallon bag: $1.50, 50/gallon
63-gallon cart: $12/month, 50/gallon
104-galloncart: 15/month, 40/gallon
60-gallon cart: $1 1/month, 50/gallon
90-gallon cart + 3 30g bags: 13.40/month, 20/g
Sources: Miranda and Aldy. 1996; Bauer and Miranda. 1996.
42
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                                                         Pollution Charges, Fees, and Taxes
haulers (e.g., Oakland). In both open and franchise systems, communities can set rules regarding
collection fees. In St. Paul,  Minnesota, for example, the city operates no collection program but
requires that collectors charge variable rates, and Portland's open system has no city program but
sets the collection fees that private haulers charge their customers.
Many communities with variable rates  implement  public education,  curbside recycling, yard
waste,  white goods  (e.g.,  refrigerators), and  holiday  greenery collection programs as well.
Education has been found to be an important element in the success of variable rate  programs.
The  collection frequency,  fees,  materials collected, and  participation requirements for these
programs,  with  the  exception  of  public  education,  vary  across  communities.  These
complementary activities can have an important impact on the success of variable rate programs.
San  Jose, California, began its  variable rate  program in 1993. The city contracts its waste
collection and  curbside  recycling services to two different firms. One  company  serves the
approximately 80,000 single-family households in the northern half of the  city as well as all
multi-family housing. The other business serves about 105,000 single-family households in the
southern half of the  city. A combination cart/sticker system is used to price household waste
collection. Residents subscribe to specific cart sizes and pay the fees  shown in Table 4-6 for
weekly collection of the waste in these carts. When these households have too much garbage for
their cart sizes, they can put the excess garbage in 32-gallon plastic bags, provided the bags each
bear a sticker sold for  $3.50 at local libraries, supermarkets, and  convenience stores.  Multi-
family dwellings pay  flat  fees.  One potential  advantage of  the  stickers  is  that  they give
households the flexibility to exceed planned waste generation on occasion. San Jose also offers
free curbside collection of recyclables and yard waste and collects white goods for a separate fee
of $18 for up to three items. Figure 4-2 suggests that the variable rate program has significantly
reduced the  amount of waste sent to landfills and increased the amount of recycled waste. The
amount of yard waste set aside for
collection     and     subsequent Figure 4-2.  Solid Waste Flows in  San Jose
composting also increased.
The    variable    rate   systems
described thus far base prices on
waste  volumes.   Another,  less
common  price basis  is weight.
Communities      that      have
implemented weight-based pricing
include    Seattle,    Milwaukee,
Minneapolis,   Durham    (NC),
Columbia (SC), and Farmington
(MN). Such systems could  have  a
stronger   incentive   effect  by
charging for every additional unit
of weight and thereby eliminating
the incentive  given by volume-
based systems to compact trash  into containers. Seattle's weight-based  scheme lowered the
weight of garbage collected by 15%. One disadvantage of weight-based systems is that they tend
to be technologically much more complicated, requiring that collection trucks carry specialized
equipment and increasing the time haulers take to collect waste.

I/)
C OQO -
O ^uu
4-1
"5 -icn
c 1oU -
re
5 100 -
£
4-*
50 -
n .

















— .
n










T

1993 1994 1995
DLandfilling • Yard Waste Collected D Recycling
Source: Miranda and Aldy. 1996
2001
                                                     43

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The U. S. Experience with Economic Incentives for Protecting the Environment


Seattle, for example, found that collection times were extended by 10% under the city's weight-
based system. If the weight of garbage decreases enough, however, there is the potential to offset
the increased implementation costs.43
In most areas where variable rate programs have been introduced, the amounts of waste collected
have decreased significantly, a result of either increased recycling or decreased waste generation.

   •   A 1998 study of 114 variable rate cities and 845 traditional fixed rate communities
       estimated a 43.8% reduction in waste disposal after those cities and communities began
       to charge $1 for every 32-gallon bag.44

   •   A 1992 survey of 14 cities with variable rate programs found that the amount of waste
       destined for disposal decreased by an average of 44% during the first year following
       program initiation.45

   •   A study in Maine found that municipalities with variable rate systems disposed of less
       than half as much waste per capita as municipalities without such systems.46

   •   Surveys in Tompkins County, New York, and Dover, New Hampshire, found that
       variable rates led consumers to think of ways to reduce waste generation, including
       altering their purchasing habits.

   •   A 1996 study of four communities in California and five in the Midwest found that they
       achieved reductions in waste disposal  of 6% to 50% after introducing variable rate
       systems. The higher the unit prices, the greater the reductions. Moreover, reductions were
       greater in those communities with relatively small minimum container sizes. If the
       minimum container size is too large, consumers often have little incentive to alter their
       behavior.47

   •   As shown in Table 4-7, another study  found reductions in the tons of waste sent to
       landfill, reductions that ranged from 17% to 74% following the adoption of variable rates
       in 21 northern cities. The study reached two conclusions. First, the magnitude of the unit
       prices was positively correlated with the change in the amount of waste recycled. (That
       is, the higher the price per unit of waste, the more waste was recycled). Second, unit
       prices were negatively (not the right term) correlated with the change in the amount of
       waste landfilled. That is the higher the price per unit of waste, the less waste that was  sent
       to landfills and the more waste that was recycled.
       The recycling increases shown in Table 4-7 were achieved in geographic areas that did
       not simultaneously implement recycling programs. In places where the adoption of
       variable rate programs has coincided with new public recycling activities, however, it is
       difficult to determine how much of the decline in waste disposal is due to the variable
       rates and how much is due to the new  recycling alternatives. The Dover survey found that
       curbside recycling programs alone encouraged recycling but that variable rates provided
       additional incentive.48 Another study estimates that a variable rate program will increase
       the amount of waste that is recovered under existing recycling programs by 4% to 13%. 49

   •   Nestor and Podolsky  (1998) reported on the results of an experiment in the city of
       Marietta, Georgia. In January 1994, the City of Marietta simultaneously introduced a
       bag/sticker program and  a subscription can program in different parts of the city. After
       adjusting for seasonal effects, Nestor and Podolsky estimate that households participating
44                                                                                January

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                                                         Pollution Charges, Fees, and Taxes
       in the bag program reduced their garbage disposal by approximately 23% while
       households participating in the subscription can program decreased waste disposal by
       only about 8%. The explanation for this difference is that the bag/sticker program offers
       households more flexibility on a week-to-week basis regarding the amount of waste they
       are required to pay for. Households who are able to set out smaller-than-usual amounts of
       waste immediately benefit from it. The bag/sticker program gives households greater
       incentive to reduce waste because they are not committed to a specified number of
       containers each week.

              Table 4-7.  Responses to Variable Rate Pricing
Municipality
Antigo, Wl
Charlemont, MA
Downers Grove, IL
% Reduction in Tons of
Waste Landfilled
50
37
52
Grundy Center, IA | 32
Hancock, VT
Hartford, VT
Harvard, IL
High Bridge, NJ
Huntingburg, IN
Illion, NY
Ithaca, NY
Lisle, IL
Mt. Pleasant, IA
Mt. Pleasant, Ml
Perkasie, PA
Plains, PA
Quincy, IL
River Forest, IL
St. Charles, IL
Weathersfield, VT
Woodstock, IL
33
17
33
18
74
51
31
53
49
44
54
49
41
19
41
36
31
% Increase in Tons of Waste
Recycled
145
N/A
N/A
N/A
N/A
29
113
N/A
N/A
141
63
N/A
N/A
141
157
88
45
N/A
456
150
N/A
              Source: Miranda, as reprinted in Arner and Davis.
Despite the evidence cited in Figure 4-7, variable rate programs have some unresolved problems.
Data on decreases in  collection can be misleading if the programs result in significant illegal
disposal of waste or the diversion of waste to cheaper disposal services. Illegal dumping includes
direct discharge to the environment  as well as placing waste in someone  else's container or
donating irreparable items  to charitable organizations.  Direct discharge to  the environment is
likely to be of more concern than other types of illegal disposal. The Maine  study found that an
increase in backyard burning and a slight increase in roadside dumping and illegal disposal in
commercial  containers coincided  with variable rate  systems.  Of the  14  cities surveyed in
Skumatz (1993), "six  cities reported no problem with dumping, four reported minor problems,
and four reported  notable  problems." Among the  measures cited  to limit  illegal disposal are
creation of viable recycling alternatives, public education, locking  commercial dumpsters, high
dumping fines, and flat collection fees that entitle households to a minimum level of service.50
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The U. S. Experience with Economic Incentives for Protecting the Environment


Other problems need to be addressed in designing and managing variable rate programs. They
can be difficult to implement in multi-family housing such as apartments, and they can have a
regressive effect on large families. Variable rates are likely to be regressive because the amount
of waste produced per thousand dollars of income is likely to be higher for a poor household than
for  a more affluent household.  In  addition,  variable rate programs can lead to  significant
decreases in revenue for municipal waste collectors because households reduce the amount of
solid waste that they generate.
Variable rate programs may not be appropriate for all communities. Analysts assert that variable
rate pricing is unlikely to be successful in communities having the following characteristics: (1)
those with affordable and environmentally acceptable landfills; (2) those with few or no nearby
recycling facilities; (3) those with open spaces located nearby, which makes that land vulnerable
to illegal dumping; and (4) those with consumers who oppose paying variable rates.51 In some
areas, however, variable rate programs appear to be beneficial. According to a World Resources
Institute (WRI)  study, "Where  landfill costs are high,  disposal charges would generate net
economic savings of $0.17 for every dollar of revenue collected, even after the gross costs of
curbside recycling programs were paid."52

4.4.2  Landfill Taxes
According to the National Recycling Coalition, surcharges on waste delivered to landfills have
been imposed in over 20 states.53 If operators are capable of passing on such taxes to their
customers  in their disposal  fees, landfill taxes  could have effects similar  to variable rate
programs.
New Jersey levies three different landfill taxes: a Solid Waste Services Tax of $1.05 per ton, a
Landfill Closure  and Contingency Tax of $0.50 per ton, and a Solid Waste Recycling  Tax of
$1.50 per ton. For waste in liquid form, rates for the Solid Waste Services Tax and the Landfill
Closure and Contingency Tax are 0.002 cents per gallon, and rates for the Solid Waste Recycling
Tax are 0.00225 cents per gallon.
In Pennsylvania,  counties are required to create trust funds to finance the costs associated with
closing landfills and to finance these trust funds with disposal fees. The per ton disposal fee is
calculated by dividing the estimated cost  of closing the landfill by the estimated weight of the
garbage that will be sent to the landfill before it is closed.
Texas  levies a fee of $1.50 per ton on the disposal of all municipal solid waste.  In part, fee
revenues are used to fund the state's  efforts to control solid waste. They are also used to provide
grants  to local governments and other organizations for recovering resources,  minimizing the
amount of waste, and developing programs that  help enhance the efficiency of  solid waste
management facilities.54
It is unclear whether these landfill taxes have produced a significant incentive effect. Moreover,
as is  the case  with variable rate programs,  increasing  the  price  of waste  disposal  creates
incentives to use alternative disposal options.  The District of Columbia's experiences with its
nearby Lorton, Virginia, landfill is a case  in point. Of the $64.39 per ton tipping fee at Lorton,
$28.39 per ton was reserved for the District's residential recycling program. Private trash  haulers
have  reportedly  trucked  waste to  landfills  located  elsewhere  in Virginia  and southern
Pennsylvania, where tipping fees are lower.  The resulting loss in revenue from tipping fees led
the District to suspend its recycling program in 1995. It subsequently reestablished the program
46                                                                                 January

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                                                         Pollution Charges, Fees, and Taxes
but with reduced service. Because of the instability of these tipping fee revenues, the District
now relies on general revenues to fund its recycling program.

4.4.3  Hazardous Waste Taxes
A 1998  survey  identified 30 states  that impose taxes on the  generation or management of
hazardous wastes.55  Some  of  these states have  higher tax rates  for landfilling  than  for
incineration,  and several states impose no tax on incineration.  In some states,  taxes vary
according to the type of waste or whether the waste was generated outside the state, or both of
these  factors. In addition, on-site disposal of hazardous waste is exempt  from  taxes in some
states. Vermont and California each levied taxes of more than $100 per ton for land disposal of
hazardous waste, and six other states  levied taxes of more than $50 per ton. The mean tax level
for all states, including those with no tax, was $21 per ton.  To put these taxes into perspective, in
the late  1980s  a middle-of-the-range estimate of the costs associated with the disposal of
hazardous waste was $132 per ton.
California levies fees on both the generation and disposal of hazardous waste. As shown in Table
4-8,  California  imposes taxes  on  hazardous  waste disposal that range up  to  $220 per ton.
Generation fees  vary by quantity generated, with rates fixed within  a given  range  of tons  per
year. (See Table 4-9.)

     Table 4-8. Hazardous  Waste Landfill Fees in California
Waste Category
Non-RCRA cleanup wastes
Other non-RCRA wastes
Ores and minerals
Extremely hazardous waste
Restricted hazardous waste
Hazardous waste (RCRA)
Rate (S/ton)
$7.50
17.94
14.30
220.00
220.00
44.44
     Source: California Department of Toxic Substances Control.

     Table 4-9. California Hazardous Waste Generation Fees
Weight of Waste Generated (tons/year)
Less than 5
5 to 25
Fee ($)
$0
Middle Range of Rates
(S/ton)
Charged
$0
169 11.3
25 to 50 | 1,348
50 to 250
250 to 500
500 to 1,000
1,000 to 2,000
More than 2,000
3,371
16,855
33,710
50,565
67,240
35.9
22.5
44.9
44.9
33.7
<33.7
     Source: California Department of Toxic Substances Control.
According to the California Department of Toxic Substances Control, the two fees are intended
to raise revenue and to encourage waste minimization. The tonnage of hazardous waste sent to
landfills has declined in the last 10 years. It is difficult, however, to determine to what extent this
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The U. S. Experience with Economic Incentives for Protecting the Environment


decline is due to the  fees, as many other factors  could influence generation and  disposal
practices.
Hazardous waste  is also subject to numerous other administrative fees in California. Efforts are
currently being made to simplify the existing fee  structure, which is widely  viewed as too
complicated.56
The findings of several studies suggest that taxes on hazardous waste have had an impact on
disposal. Two engineering studies, one by the Congressional Budget Office (1985) and the other
by EPA (1984), concluded that such taxes significantly reduced the disposal  of hazardous waste
in landfills.  By 1987, 10 states had taxes exceeding the level at which EPA predicted a 60%
reduction in landfill  disposal. Another study examined empirical  evidence  on the effects of a
twofold rise  in hazardous  waste  taxes in New York in  1985. It found that the  quantity of
hazardous waste disposed of in the state decreased significantly. Because taxes on incineration
remained constant in this case, the amount of waste incinerated rose, but it  did not increase as
much as the  amount of waste sent to landfills  declined.57
Sigman (1996) studied the impact of landfill and incineration taxes on the generation of four
types  of chlorinated solvent wastes from metal cleaning. Using data from the 1987-1990 Toxics
Release Inventories, the study included a cross-section analysis of generation across states and
used a number of independent variables, including  disposal taxes in the state of generation and in
neighboring  states. It also studied the impact  of disposal taxes and other factors on the choice of
disposal method.  The study reached two conclusions. First, elasticities of waste generation with
respect to these taxes on disposal were in the range of -7  to  -22,  meaning that the quantity of
hazardous waste sent to landfills or incinerators was very sensitive to the tax. Second, the taxes
encouraged  generators  to  choose  incineration  or  other  treatment  options as  their waste
management method, instead of landfilling. However, the  estimated impact of these taxes was
minor because the fees were low in comparison to the total costs of waste management.
Although "[spates' experience suggests that taxes may provide an alternative to the standard-
based policies now used for most hazardous waste regulation," Sigman found, the design and
implementation of such taxes pose several potential problems,  including the determination of tax
levels. To maximize the efficiency of these taxes, they should reflect the social cost of hazardous
waste generation.  This cost, however, depends on  the type of waste, the method of disposal, the
geographic location, and various other factors that  are difficult to assess and incorporate into tax
structures. If, on  the other hand, taxes are too high,  they could encourage illegal dumping, of
which even  a small amount could cause enough environmental damage to offset the increased
efficiency achieved  by taxes.  "In the presence of illegal  dumping,"  the  study states,  "a
deposit/refund program may be substantially less costly than a waste-end tax."
Because current federal regulations impose high costs on generators of hazardous waste, there
may already exist sufficient incentives to reduce the generation of hazardous waste. If existing
regulatory incentives are sufficient, taxes could raise the costs  of waste disposal to a  level that is
higher than what is socially desirable.

4.5    Product Charges

Product charges  are imposed  on either a  product or some characteristic  of that  product.
Economic theory  suggests that products whose disposal causes environmental pollution should
48                                                                                January

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                                                         Pollution Charges, Fees, and Taxes
be taxed to reflect the added social costs they impose. To date, the theoretically ideal product
charge has not been imposed. Although some product charges may be large enough to have a
significant effect on behavior, most of them  are intended primarily to raise revenue. Product
charges typically take  the  form of advance  disposal fees  (ADFs) or  of taxes on  a product
designed to fund its proper disposal after use.
A traditional regulatory mechanism that competes with the product charge is termed  "extended
producer responsibility;" it relies on take-back requirements placed  on the manufacturers of
certain products.  Producers bear the responsibility  for ensuring the  proper disposal of post-
consumer waste. Although  some states have implemented extended producer responsibility for
selected  products, the  federal government has never endorsed such an approach.58 Several
European nations have also enacted rules regarding extended producer responsibility.

4.5.1  Federal  Product Charges
A number of  federal  product  charges have been  imposed,  including  charges  on  fuels,
transportation, transport equipment, and chemicals.  Most of these taxes  are intended to raise
revenue.   Consequently,  they have  minimal effect  on  incentives.  For  a list  of federal
environmental excise  taxes, see Barthold (1994).  The following subsections in this chapter
discuss   the  Superfund  taxes,   taxes  on   fuel-inefficient   automobiles,  and   taxes   on
chlorofluorocarbons (CFCs).

       4.5.1.1  Superfund Taxes
Until the end of 1995, the  federal government imposed taxes on oil, chemicals, and business
profits to fund  the cleanup of inactive hazardous  wastes  designated under Superfund. This
activity was financed by taxes on crude oil (9.7 cents per barrel), chemicals ($0.22-$4.87  per
ton), and gross business profits (0.12% of amounts over $2  million).59 Congress  did not extend
the tax after its scheduled expiration. The oil  and chemical  taxes could be regarded as product
charges or raw material input taxes. Their primary purpose, however, was to raise revenue, rather
than to prevent pollution.

       4.5.1.2  Taxes on Gas Guzzlers
Introduced in 1978, the  gas-guzzler tax is imposed  on the sale of new automobiles with a fuel
efficiency of less than 22.5 miles per gallon. Sports utility vehicles (SUVs), minivans, and trucks
are not subject to the tax. The magnitude of the tax ranges from $1,000 to $7,700 per automobile,
depending on fuel  efficiency. Revenues, which amounted to $144.2 million in 1992,  contribute
to the Highway  Trust Fund.60 Most gas-guzzler tax payments  have been made by  buyers of
foreign luxury cars.
Two measures that could have effects similar to gas-guzzler taxes are fines for the  failure to meet
corporate average fuel efficiency (CAFE) standards and taxes on luxury cars. CAFE fines, which
could be regarded as non-compliance fees, are based on the extent to which an auto manufacturer
violates CAFE standards. These fees could provide an incentive for manufacturers to invest in
the design of fuel-efficient cars.  Luxury taxes are set at 10% of the sales price of  a car in excess
of a base level, which was originally set at $30,000 but has  since increased.  Since many luxury
cars are relatively fuel-inefficient, luxury car taxes could encourage the use of more fuel-efficient
vehicles.
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The U. S. Experience with Economic Incentives for Protecting the Environment


      4.5.1.3  Ozone-Depleting Chemicals
In accordance with the 1987 Montreal Protocol on Substances that Deplete the Ozone Layer and
subsequent  amendments,  the production  of  ozone-depleting  chemicals  (ODCs) such  as
chlorofluorocarbons (CFCs) for most uses in the United States was phased  out by  January 1,
1996. To facilitate the phaseout, the United States imposed a tax on selected ODCs on January 1,
1990; the government expanded that tax to other ODCs the following year. The magnitude of the
tax was determined by multiplying a base rate per pound of ozone-depleting chemicals produced
or imported by an ozone depletion factor that varied according to the type of chemical. Initially
set at $1.37 per pound, the base tax amount increased to $3.35 in 1993, $4.35 per pound in 1994,
and $5.35 in  1995. Since 1996, the annual increase in the base tax amount has been $0.45 per
pound per year.  The ozone depletion factors, which are intended to indicate each  chemical's
damage to the ozone layer, were set by the Montreal Protocol.61 For example, methyl chloroform
had  a factor of 0.1, whereas Halon-1301 had a  factor of  10.0, which meant that  methyl
chloroform was taxed at $0.53 per pound  in 1995 while Halon-1301 was taxed  at $53.50 per
pound that year. The tax was imposed on producers and importers of these chemicals as  well as
on the importers of products that contained these chemicals or that used them in their production
processes.
Unlike most product charges, this tax is widely credited with a significant incentive impact. ODC
consumption  (expressed in CFC-11 equivalents using the  above-mentioned ozone depletion
factors) fell from 318,000 metric tons in 1989 to 200,000 metric tons in 1990, the year the tax
was introduced.62 A Congressional Research Service (CRS) study concluded, "the CFC  tax has
clearly accelerated the rate at which CFC uses are being substituted for and the rate at which
CFCs are being recovered for reuse." CRS adds that the tax was also intended to raise revenue
for the federal government and to capture a portion of the windfall revenues  experienced by
ODC producers as a result of the tightened supply of ODCs.63
According to the World Resources Institute (WRI), the tax raised $2.9 billion in its first five
years. WRI adds that the phaseout cost less than EPA's original  projection.64 In  1988, EPA
predicted that the average cost of reducing the use of CFCs by 50% would be $3.50 per kg. In
1992, EPA revised its cost estimate to only $2.45 per kilogram.
The tax is believed to have contributed significantly to the reduction in  ODC use. Several other
factors, however, also had an impact, including the establishment of an ODC trading  system
(described in Chapter 6); the well-publicized intentions of the federal  government to phaseout
ODC use; and EPA's work with the private sector on ODC recycling and the use of substitutes.
As a result of the multiplicity of these policy measures, it is difficult to  isolate the effects of the
CFC tax.

4.5.2 State Product Charges
States have imposed charges on a number of products, including beverage containers, fertilizers,
furniture, motor oil, pesticides, refrigerators, solvents, and tires.  Some  of these have taken the
form  of  advance  disposal  fees  (ADFs).  Hoerner  (1998) identified  approximately 400
environmental taxes that are imposed at the state level.  Some taxes, such as those on  the sale of
tires, are found in well over one-half of the states. Litter taxes, which are imposed on the sale of
products that commonly are found in litter, are found in  a handful of states. Many states  impose
severance taxes on the removal of minerals from the ground. This section highlights a few of the
charges that states impose on different products.
50                                                                              January

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                                                          Pollution Charges, Fees, and Taxes
       4.5.2.1   Tire Charges
Fees are imposed on automobile tires in at least 34 states. The fees generally range from $0.25 to
$2.00, but Texas has a fee of $3.50 on truck tires. Some of the fees are assessed as a percentage
of the price of the tires. Given the low magnitude of the charge levels relative to the price of tires
and the  lack of substitutes for tires, the incentive effect of state tire charges on the buyers of tires
is likely to be minimal; however, the system does encourage the proper disposal  of tires. Most
fees were instituted as part of a scrap tire program, which included restrictions or bans  on  the
disposal of used tires in landfills.65 States use their tire fee revenues to subsidize the development
of markets for end uses of used tires, such as rubberized surfaces, noise barriers,  blasting mats,
and rubberized  asphalt pavement. Fee revenue also may be used to pay for the cleanup  of  tire
disposal sites and for the enforcement of laws designed to prevent illegal disposal. The effect is
that tire buyers pay for the proper disposal of used tires through these tax/subsidy schemes.
As shown in Table 4-10, the federal government also imposes product charges on tires, charges
that range from $0.15 to $0.50 per pound. Revenues  from these charges are  allocated to the
Highway Trust Fund.66

Table 4-10.  Federal and State Tire Charges
                                      Fee Structure
Uses of Revenues
Federal Government
State Governments (34)
Tires 40-70 Ibs: $0.15/lb x weight exceeding 40 Ibs
Tires 70-90 Ibs: $4.50 + $0.30 x weight exceeding 70 Ibs
>90 Ibs: $10.50 + $0.50 x weight exceeding 90 Ibs
$0.25 to $2.00 for passenger car tires
Highway Trust Fund
Tire recycling, tire disposal site
cleanup, other similar activities
Source: Fullerton. 1995, p. A7; Scrap Tire News Legislative Report, pp. 18-19.

       4.5.2.2   Fertilizer Charges
At least 46 states impose charges on the sale of fertilizers. Nebraska's fee of $4 per ton is one of
the highest; most are below $1 per ton. Assuming fertilizer prices of $150-$200 per ton,  the
charges are too low to significantly influence the use of fertilizer. The most common use of these
charge revenues  is the inspection of fertilizers and fertilizer storage by state agencies.

       4.5.2.3   Rhode Island Hard-to-Dispose Material Tax
Rhode Island imposes charges on "hard-to-dispose material," such as lubricating oil, antifreeze,
organic solvents, and tires. The fees are 5 cents per quart of lubricating oil, 10 cents per gallon of
antifreeze, 0.25 cents per gallon of organic solvents,  and 50 cents per tire. Although the incentive
effects are assumed to be minimal, the charge incorporates at least some of the disposal costs of
these various materials into their prices. Charge revenues are  deposited in a "hard-to-dispose
material account" that funds educational and technical assistance programs, grants, research, and
collection centers for hard-to-dispose material.

       4.5.2.4   Florida Advance Disposal Fee (ADF)
In a two-year experiment with ADFs,  on October 1,  1993,  Florida instituted a fee of one cent on
a variety of containers. Exempted from the tax were containers made of plastic,  plastic-coated
paper, and  glass that had average recycling rates of at least 50%; glass containers having 35%
recycled content; and  plastic containers  having  25%  recycled content. Paper and plastic
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                 51

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The U. S. Experience with Economic Incentives for Protecting the Environment


packaging were also  subject to the ADF, with exemption possibilities similar to those for glass
and plastic containers.  Since  the Florida Department of Environmental Protection determined
that aluminum and steel cans had already fulfilled the 50% recycled content requirement,  they
were exempt from the tax.67 To further encourage recycling, the tax was doubled the second year
it was in effect.
Despite the low-fee  level, manufacturers  reportedly went to  considerable  trouble  to obtain
exemptions. Their efforts appear to have been  due more to the public relations value of being
exempted than to the  ADF itself.68
One interesting aspect  of this ADF is the wide range of options that it gave manufacturers to
obtain exemptions. These options included working with other firms in the same sector to raise
recycling rates, increasing the recycled content of packaging, averaging the amount of recycled
content over various containers, and recycling equivalent amounts of previously discarded waste
into other products. In  theory, the variety of options should have allowed each firm to select a
relatively cost-effective way to promote recycling. Most firms sought exemption based on use of
recycled content. However, at least two companies, Piper Plastics  and Anheuser-Busch, have
built, or plan to build, recycling facilities. Both companies cited the ADF as the decisive factor in
their decisions to build these facilities in Florida.69
One disadvantage of including various exemption  possibilities  in the ADF  was the  potential
administrative burden of assessing requests for exemptions. At least one industry group criticized
the ADF as deceptive,  burdensome, and administratively costly.70 The ADF expired in  October
1995.

       4.5.2.5  North  Carolina ADF
North Carolina imposes a fee  on "white goods," such as refrigerators and freezers. Beginning in
1995,  the ADF was $10 for products containing CFCs and $5 for those without CFCs. Effective
July 1998, the tax was reduced to a flat $3 per item and extended to July 2001.71
Although the ADF probably does not have a significant incentive effect, it generates revenues to
manage the disposal  of white goods. With the introduction of the ADF, county landfills were
required to accept old white goods for disposal, free of charge. Counties received 75% of the
ADF revenue on a per capita basis to fund the removal of CFCs and programs that recycle white
goods  and  metal products. Additional ADF revenues were  available for those counties whose
disposal costs exceeded their  per capita allocations of ADF funds from the state.  In July 2001,
local governments will be authorized to impose disposal fees for white goods.

       4.5.2.6  Texas Clean Fuel Incentive Surcharge
In 1989, Texas introduced a  20-cent-per MMBtu-surcharge on boiler fuel oil. The  surcharge
applies only to industrial and utility boilers that are capable of using natural gas, that are in use
between April 15 and  October  15  of each year, and that are located in ozone non-attainment
areas having populations of 350,000 or more. As part of a larger state effort to encourage the use
of natural gas, the surcharge  specifically addresses ozone  problems that occur in the  summer
months and that caused by NOx emissions.  Used oil and fuels derived from hazardous waste are
                                                                                      79
exempt from this fee.  Surcharge receipts are  deposited in the  State General Revenue Fund.
According to one official on the Texas Natural Resource Conservation Commission (TNRCC),
the surcharge has had little if any incentive effect because few facilities used fuel  oil before the
surcharge was introduced.
52                                                                               January

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                                                         Pollution Charges, Fees, and Taxes
4.6    Road User Fees

Tolls are the most common type of road user fee for financing road construction in the United
States. Because these fees  are  purely  revenue-raising mechanisms  that  are unrelated  to
environmental protection, they are not discussed in this report. However, another type of road
user fee, congesting pricing—the tolls that vary by time of day or how heavily the road is being
used—is intended to reflect some of the social costs of traffic congestion. One of these costs is
increased emissions per mile traveled. One study estimated that if the current level of vehicular
traffic in southern California flowed smoothly, emissions from motor vehicles would decrease by
approximately  13%.73  For this reason, congestion  pricing is of considerable  interest as an
environmental management tool. Moreover, economic analysis indicates that the economic gains
from congestion pricing can be large, much greater than any other  traffic management tool.74
Congestion pricing makes users aware of the impact their use of a highway has in terms of
increasing the travel time of others. By making users pay the full social cost of travel and not just
their private cost, highway use declines and traffic flows more smoothly.
In December 1995 in  southern California, a congestion-based 4-lane toll road  opened in the
median  of the existing eight-lane Riverside  Freeway (SR-91). The  road was built by  private
funds from the California Private Transportation Company (CPTC), and the same firm operates
the toll system. CPTC  is free to determine toll levels, but it is subject to a cap on the rate of
return on its investment. Five different toll levels range from $0.25 to  $2.50 per 10-mile trip,
depending on the time  of day. Toll prices  are announced in advance,  so motorists can plan their
trips accordingly.  Windshield-mounted transponders allow motorists to pay for toll-lane use
without stopping at toll booths. High-occupancy vehicles (HOV) having three occupants, public
transit vehicles,  zero-emission vehicles, and vehicles with a disabled-person license plate are
exempt from paying the tolls.
By March 1996, over 30,000 transponders were in use, a level the project had not expected to
reach until late June. In interviews with the Los Angeles Times, express lane users have reported
time savings of more than 30 minutes. CPTC adds that the toll lanes have not only reduced travel
times for their users but also diminished congestion on the adjacent freeway.75
As part of its Value Pricing Pilot Program, the Federal Highway Administration  is studying the
experiences  of SR-91  and is funding  several other projects.  Some of the  pilot projects are
highlighted below.76

    •  In March 1998,  San Diego began a pilot project that charged for the use of lanes in the I-
       15 freeway based on the time of day and the level of congestion. In the first four months
      of the project, almost 4,000 transponders had been distributed.

    •  Houston began a pilot  project in January 1998 that allowed a limited number of users of
      HOV-2 carpools into HOV-3 carpool lanes for a fee of $2 during peak travel periods.

    •  Beginning in August 1998, variable pricing is being used to manage traffic flows on two
      bridges in Ft. Myers, Florida. The program offers drivers a  50% reduction in the usual
      toll if they travel on either side of peak travel periods.
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The U. S. Experience with Economic Incentives for Protecting the Environment


4.7    Wetland Compensation Fees

Wetland compensation fee systems are programs in which a regulatory agency collects fees in
lieu of requiring a developer to compensate for wetland losses through their on-site mitigation or
through their acquiring of credits generated by a mitigation bank. (This system is discussed in
greater detail in Chapter 6.) The fees are used for mitigation projects undertaken by an agency or
non-profit organization. Wetland compensation fees offer the flexibility to mitigate wetland loss
in a cost-effective manner. Instead of doing mitigation at the project site, a developer pays a fee
to another organization to perform mitigation activities in more suitable locations.
Fee-based mitigation  mechanisms have been used in Arkansas, Florida, Illinois,  Louisiana,
Maryland, Mississippi, Texas, and Virginia.  The magnitude  of the fees is usually set to cover
costs such as mitigation, land acquisition, project planning, and site management.
Initiated in 1986, Florida's Mitigation Park Program is the oldest fee-based wetland mitigation
system in the United States. Fees paid by wetlands  developers in lieu of on-site  mitigation are
deposited in the Florida Game and Fresh Water Fish  Commission's Fish and Wildlife Habitat
Trust Fund.  These charges finance  the purchase  and  subsequent  management  of large,
biologically defensible Mitigation Parks. These parks, which range in size from 400  to 1,500
acres, are publicly  owned but  may  be managed by  either  government entities or non-profit
organizations.
To participate in the program, developers need approval from the regulatory agency with which
they are working.  Fees  depend  on  the amount of wetlands developed, the type of habitat
impacted, and the species present at the site of the development. The developer pays one fee to
finance land acquisition; a second fee (15% of the first fee) to fund site management; and a third
fee (7% of the sum of the first two charges) to their state's tax department. Interest accrued on
the second fee is used to fund site management. As of 1999, the Mitigation Park Program had
received more than $17 million in deposits and had purchased in excess of 7,000 acres.7
In Maryland, the mitigation  fees paid by developers into the Nontidal Wetlands  Compensation
Fund depend on the number of acres and type of wetlands impacted and the costs  of wetland
restoration and  construction. The mitigation ratio (the number of acres that must be enhanced,
restored, or created for every acre impacted) is 1:1, 2:1, or 3:1, depending on the type of wetland
impacted. The 3:1 ratio applies to wetlands of special concern to the state. Land acquisition costs
are assessed on the  basis of the prevailing market prices for agriculturally zoned or low-density
land that has little potential for development. Restoration and construction costs are assessed at
$10,000 per acre in low-cost counties and $50,000 per acre in high-cost counties. Counties with a
relatively large  amount of farmed hydric soils, which indicates the former presence of wetlands,
are placed in the low-cost category.  Losses  of less  than 5,000 square feet of wetlands do not
require mitigation.
In Louisiana, companies are  required to offset their damage to coastal wetlands by performing a
mitigation project on  their own property or by  contributing mitigation fees  to  the Louisiana
Wetlands Conservation and Restoration Fund. Mitigation fees range from $1,500 to $12,000 per
acre, depending on the environmental quality of the wetland that is lost to development.
The  costs, benefits,  and incentive  effects  of  wetlands  compensation fees have  not been
comprehensively studied, and it would be difficult to determine those effects given the varied
functions that wetlands  perform.  Some evidence suggests, however, that  such fees have been
54                                                                                January

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                                                        Pollution Charges, Fees, and Taxes
beneficial. Clustering individual mitigation activities into selected areas increases the viability of
the wetlands. Moreover, the fact that developers have participated in fee-based schemes suggests
that paying fees is more economical for them than conducting on-site mitigation activities on
their own.

4.8    Grazing Fees

Federal and state governments charge fees for animal grazing on public lands. Federal fees date
back to 1906 and are currently charged for grazing on about 167 million acres of Bureau of Land
Management (BLM) land and 94 million acres of Forest  Service  land. About 10% of the
livestock producers in the  16 Western states  participate in the program. Grazing  on BLM land
accounts  for approximately 2% of total beef-cattle feed  in the 48 contiguous  states. Fees are
charged based on a formula that was established by the 1978 Public  Rangelands Improvement
Act (PRIA).78 The PRIA formula is based on private grazing rates, beef cattle prices, and the cost
of livestock production. The fee is expressed in animal unit months (AUM), where one AUM is
the amount of forage required to sustain one cow and her calf, one horse, or five sheep or goats
for a month. The fee in 2000 is a minimum of $1.35 per AUM, the same minimum fee imposed
by President Reagan in 1986.79
The theory behind such fees is that animal owners should pay fair market value for the use of the
land and  that they  should bear the costs of the damage inflicted by their  animals on that land.
However, current fee levels are widely believed to be lower  than what would be charged if the
grazing rights were being sold by a private owner. That belief is supported by the fact  that
properties with attached federal grazing rates command higher market prices than properties
without such grazing rights. Moreover, the  fees may  not adequately compensate the  federal
government  for the environmental destruction  caused by the  movement of privately  owned
animals on public  lands.  To the extent that the fees are too low, they amount to a form of
subsidization.  Therefore,  they are  included in the  discussion  of  environmentally  harmful
subsidies in Chapter 7.

4.9    Minnesota Contamination Tax

The Minnesota Contaminated Property  Tax,  which entered  into effect in fiscal  year 1995, is
levied on the "contamination value"  of property, i.e., the difference in the  value of the property
before  and after contamination. Owners of contaminated  property who do not have  approved
cleanup plans  pay  this fee at the full property  tax rate. The contamination tax is halved for
owners who have  filed an approved cleanup plan. Owners who purchase contaminated land
without being notified by the  seller of the contamination pay 25% of the  full property tax  rate
until they file a cleanup plan,  after which the tax rate decreases to 12.5%. According to a local
                                                                 Qf\
tax official, the tax gives property owners "a strong impetus to clean up."
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The U. S. Experience with Economic Incentives for Protecting the Environment
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56                                                                                January

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                                                                  Deposit-Refund Systems
5.  Deposit-Refund Systems

5.1    Introduction

Deposit-refund  systems  (hereafter  referred  to  as  "deposit  systems")  are  a
combination of a product charge (the deposit) and a subsidy for recycling or proper
disposal  (the  refund).  Manufacturers or vendors  of products  that are subject  to
deposits incur additional costs in handling returned products, but these costs are often
partially  offset by the interest earned on deposits, unclaimed deposits, and sales  of
collected, used products.
One of the objectives of a  deposit system is to discourage illegal or improper
disposal. Waste products that are discarded improperly have higher social costs than
those disposed of properly, since such discards can become an  eyesore or even an
environmental or health threat. Improperly discarded waste is also quite expensive to
redirect to the legal waste stream. Deposit systems are commonly applied to beverage
containers, in part because these containers make up a large proportion of roadside
litter. Another important objective of a deposit system is to divert recyclable items
from the waste stream.
In addition to being used  for beverage containers, deposit systems  have  also been
used for other products such as pesticide containers, lead-acid  batteries,  and tires.
Some of these systems are voluntarily implemented by industry, whereas others are
implemented by state or local authorities. While federal legislation on deposits has
been considered, none of these proposals has been enacted.
Several studies have concluded that deposit systems are  more cost-effective than
other methods of reducing waste disposal, such as traditional forms of regulations,
recycling subsidies,  or advance disposal fees (ADF) alone. A recent study by Palmer
et al. (1995) concluded that a 10% reduction in waste disposal would cost $45 per ton
of waste reduced under a deposit system, compared to $85 per ton under advance
disposal  fees and $98 per ton under recycling  subsidies. However, the study noted
that the relatively high administrative costs of a deposit system could outweigh these
cost savings.
Administrative costs are an important consideration when determining whether  to
create deposit systems.  Ackerman et  al. (1995) estimate  that administrative costs
average about 2.30  per container—more than $300 per ton for steel containers and
$1,300 per ton for aluminum cans—in states with traditional legislation on beverage
container deposit systems. A  full  accounting  of the desirability  of deposit-refund
systems would compare administrative costs and the costs imposed on consumers
with the  benefits of reduced disposal costs, energy savings, reduced litter, and other
environmental benefits. Deposit-refund  systems  appear best  suited  for  products
whose disposal is difficult to monitor and potentially harmful to the  environment.
When the  used  product has economic  value, the private sector may initiate the
program.
2001
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The U. S. Experience with Economic Incentives for Protecting the Environment


Fullerton and Kinnaman (1995) conclude that fees for waste collection should be priced as if
disposal and recycling are the only two disposal options. If illicit burning or dumping is also an
option, the optimal policy is "a tax on output plus a rebate on proper disposal," in other words, a
deposit system. While variable  pricing programs for waste collection have the potential to give
waste generators  an incentive to improperly dispose of waste, deposit  schemes give them an
incentive to return waste for proper disposal or for recycling. For example, with beverage
containers, roadside litter is an important issue, so a deposit system is a good policy choice.
As noted in this chapter, studies have found that deposit systems result in higher recovery rates
of used  products  and less contamination of recyclables than  curbside  recycling programs.
However, deposit schemes are also believed to cost more to administer than curbside programs.

5.2    Beverage Containers

Beverage containers have been  subject to both voluntary and mandatory deposit  schemes. In the
past, the beverage industry made extensive use of voluntary schemes to recover refillable bottles.
However, this practice nearly disappeared following the introduction of cheaper "disposable"
containers.
As shown in Table 5-1, 10 states have passed "bottle bills" that  mandate beverage container
deposits  ranging  from  2.50 to 150 per container, the most common  amount being 50  per
container. Beer and soft drink containers are subject to deposits  in all 10  states; mineral water
containers in six states;  malt containers in four states; and wine coolers, liquor,  and carbonated
mineral water containers in three states. Michigan includes containers of canned cocktails, New
York includes containers of soda water, and Maine includes containers of juices and tea. In most
states,  deposit requirements apply to the full range of container  types, including glass, plastic,
aluminum,  and steel. The State of Delaware,  however,  has exempted aluminum  from its
requirement.
Most states require retailers to take back containers that are in  their product line, even if the
container was  purchased elsewhere. In Maine,  however,  retailers located within a certain
distance of a certified redemption center are not obligated to take back containers. In addition to
retail outlets, "redemption centers" accept containers in most  states. Any organization may
operate such centers, although certification of the center may be required. Some redemption
centers and retailers could earn profits from mandatory handling fees of 1.50 to 30 per container,
fees  that are paid by distributors. As shown  in Table 5-1, distributors usually keep unclaimed
deposits.
Not included in this table is a deposit system that has been in  effect  in Columbia, Missouri, since
1982. Under this system, consumers pay deposits of 50 on containers of beer, soft drinks, malt,
and carbonated mineral water.  Although retail stores are required to take back containers, no
handling fees are mandated. The overall rate of redemption is estimated to be 85% to 95%.
Although it is beyond the scope of this report to describe in detail  every deposit system that is
listed in Table 5-1, systems in Maine and California are discussed  below as illustrative examples.
58                                                                                January

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                                                                Deposit-Refund Systems
 Table 5-1. State Beverage Container Deposit-Refund Systems
State
California

Connecticut

Delaware

Iowa

Maine

Mass.



Michigan


New York



Oregon


Vermont

Since
1987

1980

1982

1979

1978

1983



1978


1983



1972


1973

Containers
Covered
Beer, soft drinks,
wine coolers,
mineral water
Beer, malt, soft
drinks, mineral
water
Non-aluminum
beer, malt, soft
drink, mineral
water <2qt
Beer, soft drinks,
wine, liquor

Beer, soft drinks,
wine, wine coolers,
liquor, juice, water,
tea

Beer, soft drinks,
carbonated water

Beer, soft drinks,

canned cocktails,
carbonated and
mineral water
Beer, soft drinks,
wine coolers,
carbonated
mineral water,
soda water
Beer, malt, soft
drinks, carbonated
mineral water

Soft drinks, beer,
malt, mineral
water, liquor
Deposit,
Refund
Amounts
<24 oz, 2.50
>24 oz, 50

Minimum 50

50

50

Beer, soft
drinks, juice:
50. Wine,
liquor: 150

50

Refillables:

50;
Nonrefillables
:100


50


Standard
refillables: 30;
Others: 50

Soft drinks,
beer: 50
Liquor: 150
% Returned
Aluminum 88%
Glass 76%
PET 50%
Overall 84%
Cans 88%
Bottles 94%
Plastic 70-90%
Insufficient data

Aluminum 95%
Glass 85%
Plastic 70-90%
Beer, soft drink
92%
Spirits 80%
Wine 80%
Juices, non-
carbonated 75%
Overall 85%



Overall 93%

Wine cooler 63%
Soft drink 72%
Beer 81%


Overall 85%


Overall 85%

Redemption
Sites
State-certified
centers
Retail stores
and redemption
centers
Retail stores
and redemption
centers

Retail stores
and redemption
centers

Retail stores
and redemption
centers

Retail stores
and redemption
centers


Retail stores

Retail stores
and redemption
centers


Retail stores

Pprtifiprl
redemption
ppntprc anrl
retail stores
Unclaimed
Deposits
Program
administration
grants
Kept by
distributor or
bottler
Kept by
distributor or
bottler

Kept by
distributor or
bottler

Kept by
distributor or
bottler

State

75%

environmental
programs, 25%
handling fees

Kept by
distributor or
bottler

Kept by
distributor or
bottler

Kept by
distributor or
bottler
Handling
Fees
Per container
processing
fee
Beer 1 501
Soft drinks 20

20% of
deposit

10

30

2.250



unclaimed
deposits


1.50



None


30

5.2.1  Maine Bottle Deposit System
                                                                                 81
Maine introduced a deposit system for beer and soft drink containers on January 1, 1978.  In
distributing beer and soft drinks to retailers, distributors (or manufacturers) levy a 50 deposit.
Retailers in turn include this amount in their sales prices. The customer can obtain a 50 refund by
returning the container to any retailer that sells the product or to a redemption center.
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The U. S. Experience with Economic Incentives for Protecting the Environment


Distributors (or manufacturers) return the 50 deposit to retailers for every returned container. In
addition, retailers  are  reimbursed a 30 handling  fee, which provides a strong incentive for
retailers to promote the return of containers. At times,  demand by retailers for used containers is
so high that customers can obtain refunds 10% to 20% higher than the deposit amount. In some
places, reverse vending machines also offer refunds for returned containers.
Distributors typically pick up used containers while distributing new products. Distributors (or
manufacturers) have at least three  sources of revenue  to offset the  costs of handling containers.
First, they can sell the  collected containers  to processors  and keep unclaimed refunds  and
handling fees. Second,  in the past distributors had to share one-half of their unclaimed refunds
with the  state government. Distributors then  complained about their costs. As a result of their
efforts, distributors were allowed to retain all unclaimed refunds,  effective January  1,  1996.82
Third, distributors earn revenue by  the interest earned  on deposits and handling fees before
redemption.
The  deposit system was expanded to include  liquor and wine containers on September 1, 1990,
and bottled water,  iced tea, and juice on December 31, 1990. This action resulted in  new (and
perhaps less cost-effective) types of deposit-refund arrangements.  Unlike  soft drinks  and beer,
several companies in  the same geographic area often distribute juice.  Consequently,  each one
often has difficulty determining which containers  it is responsible for collecting. As a result,
some distributors  may pay  more  in  refunds than they  receive in deposits, while for others,
deposits may exceed refunds. Because distributors fear that they will lose money in collecting
deposits and paying refunds, manufacturers have had to collect deposits themselves and contract
independent  collectors to redeem containers.  This method may be  less  cost-effective  than
collection  by distributors who  already travel to  collection sites when they distribute  new
products.
Two redemption problems have been identified. One,  the in-state distribution of containers can
take  place without  deposit fees being imposed. Second, the in-state redemption of containers that
were originally purchased outside the state also occurs. These errors have resulted in redemption
rates in excess of 100% for certain products. For example, Coca-Cola reported redemption rates
for Minute Maid Juices® and Hi-C® of 142% in 1993, 281% in 1994, and 126% in  1995. The
same type of bottle deposit fraud is estimated to cost the state of Michigan more than $16 million
per year.83 Nearly one-third of the cans returned for recycling in southeast Michigan were
purchased outside the state.
Retailers have complained that the deposit system  (especially the expanded  one) requires more
storage space and more time for recordkeeping, receiving bottles  and  sorting bottles. In addition,
traces  of beverages in containers have attracted  pests. The administrative burden  probably
became more severe following the expansion of the system because significant variations in the
types of juice containers make them more difficult to sort and store.
The deposit system in Maine is reported to have significantly reduced litter. A 1979 study by the
Maine Department of Transportation found that total  litter declined by  10% and that  container
                      QA                                                        	
litter declined by  56%.   Since completion of the study, the redemption  rate rose. Thus, it is
likely that  container litter has decreased further. In addition to reducing the incidence of litter,
the deposit system also gave incentives to scavenge bottle and can litter to obtain refunds. The
deposit also may have increased recycling capacity by creating  a reliable supply of recyclable
materials. Three container-processing facilities were  established in Maine as a result of the
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                                                                   Deposit-Refund Systems
deposit system. These facilities can, in turn, stimulate demand for recyclables that are collected
outside the deposit system.
Criner et al. (1991) estimate that the costs of Maine's deposit system exceed those of curbside
collection programs, but the  system also results in higher collection rates.  They surveyed
retailers,  redemption centers, distributors,  and manufacturers to develop cost estimates for the
deposit system. Using  a computerized waste management  model, Criner et al. estimated that
retailers incurred costs of  2.40 to 3.10 per  container under the original  deposit system and
virtually the same costs under the expanded system. The high end of this range applies to smaller
retailers.  Based on these estimates, the handling fee  of 30 per container appears to be set at a
level that covers retailers' costs. The handling fee was originally  one cent, but it  rose to  20 in
1980 and to 30 in 1990.
Criner et al. estimated the costs incurred by distributors at 5.70 per container for beer and soda
and 7.50  for juice products. (These estimates do not include the costs incurred by consumers in
returning  containers for refunds.) Collection costs,  storage facilities, and labor  can  be  more
expensive for containers of juice than for  other beverage containers. Two reasons for this
difference are suggested: (1) significant Variations in the types of juice containers make them
more  expensive than other  containers to sort and store; and (2) manufacturers hire companies
specifically to collect used juice containers, which raises costs.
Table 5-2 presents cost estimates for collecting recyclables under curbside programs and deposit
systems for a hypothetical Maine community  of 25,000 inhabitants. The estimates are based on
the assumption that curbside collection is present. They suggest that the costs  of deposit systems
are not only significantly higher than curbside programs but that they also raise the costs of
curbside collection when the two activities are implemented at the same time. This latter effect is
probably caused by the diversion of recyclable containers away from curbside programs, which
reduces the economies of scale that were present in these programs.

Table 5-2. Beverage Containers: Estimated  Tons Recycled and Costs of
            Collection in Maine
.Collection Method
Curbside Programs: tons recycled (cost per ton)
Deposit Schemes: tons recycled (cost per ton)
No Deposit System
Original Deposit
System
Expanded Deposit
System
2,538 ($41) | 1,917 ($80) | 1,378 ($100)
0
1,138(567)
2,037 (402)
Total: Tons Recycled (weighted average cost per ton) | 2,538(41) | 3,055(261) | 3,413(280)
Source: Criner etal. 1991, p. 50.
A significant  portion of the  costs of Maine's deposit  system appears to be  passed on to
consumers. Criner et al.  compared beverage prices in Maine with those of neighboring New
Hampshire, Rhode Island, and Massachusetts. Prices were very similar for juices, which were
not subject to deposits at the time, but they were higher in Maine for soda and beer. As noted in
Table 5-1, Massachusetts has a 5-cent deposit, as does Maine.  Criner et al. speculate that the
deposit system in Massachusetts has not resulted in beverage prices that are higher than those of
New Hampshire and Rhode Island. Two reasons may explain this theory. First,  distributors in
Massachusetts face more competition than they do  in Maine.  Second,  the state's  population
density limits the cost of handling and transporting used containers.
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The U. S. Experience with Economic Incentives for Protecting the Environment


Criner et al. also found that the prices of most juices sold at two Maine supermarkets increased
during the fall of 1990 to late February 1991. During the same period, the prices of orange juice
in large plastic containers (64-96  oz.)—which  was  subject  to  deposit  requirements—fell
significantly.  These findings suggest that expanding the  deposit system to include juice
containers an impact on the prices of these beverages. However, the price increases at the two
stores were not compared with price changes elsewhere.

5.2.2  California Beverage Container Recycling Program
The  1986 California Beverage Container Recycling and Litter Reduction Act (AB2020) led to
the creation of the Beverage  Container Recycling Program (BCRP) in 1987. The program was
originally intended to achieve an overall beverage container-recycling rate of 80%.
California's deposit system removes some  of the constraints on vendors associated with other
deposit systems. It introduces flexibility through simplification and leaves intact the incentive to
consumers  to return containers  for  proper  disposal or recycling.  California's system differs
significantly from that of other states  in two ways. First, retailers  in the state are not responsible,
for the most  part,  for collecting deposits  and offering refunds to consumers. Second, used
containers are not returned to their original distributors. Instead, manufacturers of most beverage
containers pay a fee of 20 per container to a state recycling fund. When containers are returned,
the fund pays 2.50 per container to the individual or organization that collected it. The beauty of
this system is that anyone can be a collector: businesses or consumers. For  containers  of more
than  24 ounces, the fee is 40,  and  the payment is 50.  The payment may be passed on to
consumers to entice them to return containers.
This system resembles an  advance disposal fee, with  fee revenues used to provide collection
incentives.  It is the result of compromise between various interests,  including grocers (who did
not want to  manage used containers  in  their stores) and environmentalists (who  wanted
incentives to stimulate recycling).
Retailers with annual revenues of less than $2 million are not required to accept used containers,
and larger  retailers can be exempted if there is a recycling center located within a half-mile
radius  of their store.  In areas where there are no  centers,  retailers usually hire a recycling
business to establish a collection site or to install a reverse vending machine.
The  state also assesses handling fees each year for  each type of container. Manufacturers are
required to either pay these fees or to guarantee a price for recyclable containers that is  equal to
the cost of collection. These requirements have increased the prices of recyclable containers in
the state to the point at which incentives are provided to import these containers from other
states.  The law bans redemption for such imports.
In 1994 and 1995 the BCRP received  about $333 million in revenues. However, this figure fell in
the next few years because reductions in processing fees were required by 1995 legislation and
container redemption  increased. Unclaimed deposits and fees finance grants for private, non-
profit programs and public-sector activities that help reduce litter and promote recycling.
Like all other states with deposit systems, California has specific labeling requirements for its
beverage containers. All containers must bear the label "CA Redemption Value" or "California
Redemption Value." To increase the public's  awareness of the  deposit system, the redemption
value must be posted separately on store shelves, in advertising, and on retailer invoices.
62                                                                                January

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                                                                  Deposit-Refund Systems
The BCRP required that a government structure be created to manage the program. Initially, the
program generated relatively low return rates. By the early 1990s, however, after the initial one-
cent  container  fee had  been more than  doubled,  the  program  had  achieved  return  rates
comparable to those of other states with deposit systems. As shown in  Table  5-1, the overall
recycling rate for beverage containers has risen to 84%.
Ackerman  et al. (1995) observe that California's redemption system results in lower costs per
redeemed container than  systems in which redemption is managed through vendors. Containers
are not sorted  by brand and returned  to their distributors as  in  other  states. As a result,
administrative costs are estimated at 0.20 per container in California and 2.30 in other states with
deposit-refund laws.

5.2.3  Summary of Beverage Deposit/Refund Systems
Although data are incomplete, anecdotal evidence suggests that beverage  container deposit laws
have  significantly reduced  litter in several  states,  as would be  expected. Maine  reported
decreases  in litter following the introduction of its deposit scheme.  Oregon reported a 75% to
85% decrease in roadside litter just two years after enacting deposit legislation.
Another probable impact  has been an increase in the percentage of containers recycled, although
this is difficult  to confirm due to a lack of historical data on recycling.  Wellman, Inc. (1994)
estimate that the percentage of PET containers recycled in 1993  was about 80% in states with
deposit systems (excluding California),  70% in  California, but only 53% nationally.  A  1990
GAO study found that almost two-thirds of the glass recycled in the United States, came  from
the deposit states, excluding California, even though these states made up only 18% of the U.S.
population. If California is included, the  10 states accounted for more than 80% of this country's
recycled glass.  All deposit states also  report return  rates on aluminum cans that exceed the
national average.
A related phenomenon is the relatively high market share for refillable containers in states with
deposit schemes. In the case of beer containers, for example, all nine deposit states (excluding
California) exceed  the national  average for market  share  of refillables. McCarthey (1993)
calculated that the unweighted average for these nine states was 15% in 1990, which was three
times the national average.
A comparison of deposit  systems and curbside  recycling programs by McCarthey (1993) found
that  deposits   generally  resulted   in  higher  percentages   of materials  returned and  less
contamination of collected materials. Among states with large curbside programs but no deposit
systems, the study found that none  had attained a recovery rate equal  to that of states  with
deposit schemes. Moreover, glass collected through curbside programs is much more likely to
break before it can be sorted by color. Such breakage makes it difficult to recycle not only glass
bottles but also other recyclables  that may be contaminated with  glass.  The largest user of
recycled polyethylene terephthalate reported that more than 90% of the PET it purchased came
from states with deposit schemes because of its concerns over contamination.
The  costs  of deposit systems  may be substantial for manufacturers,  distributors, vendors,
consumers, and regulatory  authorities. One study found California's system to be more  cost-
effective than those in which retailers accept redeemed containers. Deposit systems could also
divert revenues  from, and lower the cost effectiveness of, curbside recycling programs. However,
McCarthey (1993) found evidence  suggesting that "local governments would achieve a greater
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The U. S. Experience with Economic Incentives for Protecting the Environment


diversion of solid waste from disposal at a lower cost per ton if both a bottle bill and a curbside
collection program were in place." One difference between the two approaches is that the costs
of deposits are borne by manufacturers and distributors, who in turn pass  on some costs to
consumers, whereas the curbside programs are often funded by general revenues or waste tipping
fees. Lack of information on the costs and benefits of litter reduction and recycling and on the
costs  incurred by consumers in returning containers makes it difficult to thoroughly evaluate
beverage container deposit systems.

5.3    Lead-Acid Batteries

Lead-acid batteries are  subject to mandatory deposit systems in several states and voluntary
deposit systems in most other areas. The lead in used batteries has positive economic value for
battery makers. Deposit amounts are typically  $5 to $10 per battery. Consumers can obtain
refunds by returning a used battery and proof of the deposit to the same retailer, typically within
7 to 30 days after the purchase of a new battery.
Despite the presence of numerous voluntary schemes, 11 states have required deposit systems.
As shown in Table 5-3,  state laws have addressed  such questions  as the refund period and what
portion of unclaimed refunds should go to different parties.

Table 5-3. States with Mandatory Lead-Acid Battery Deposit Systems
State
Arizona
Arkansas
Connecticut
Idaho
Maine
Minnesota
New York
Rhode Island
South Carolina
Washington
Deposit/Refund ($)
Unclaimed Refunds
$5 j Retailer
10
Retailer
5 | Retailer
5
10
Retailer
Retailer
5 | Retailer
5
Retailer
5 | State: 80%, Retailer: 20%
5
Minimum of 5
Retailer
Retailer
Refund Period (days)
30
30
30
30
30
30
30
7
30
30
Source: Weinberg, Bergeson & Neuman. 1996.
As with beverage containers,  deposit systems for lead-acid batteries appear likely to have a
significant incentive effect because they offer motorists money in return for a used product. As
shown in  Figure 5-1, the percentage of battery  lead that has been recycled nationwide has
exceeded 90% since 1988. Lead prices appear to affect the recycling rate to a minor extent; the
dip in the recovery rate in 1992-1993 coincided  with a period of low prices for primary and
secondary lead. (Scrap lead prices can be found at several sites on the Internet.85)

5.4    Maine Pesticide Container Deposit System

The discovery of more than 400 illegal disposal sites in Maine led  state authorities to initiate a
deposit system for pesticide containers in 1985. The rule applies to all limited-use and restricted-
use pesticides sold in  glass,  metal, or  plastic containers, a category that consists mainly of
conventional  agricultural and  forestry  applications. Deposit amounts are $5 for containers with
less than a 30-gallon capacity and $10 for larger containers.
64
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                                                                   Deposit-Refund Systems
Fanners must rinse containers three times before returning them for refunds. Containers found to
have  significant traces  of pesticides  are not  accepted for  refunds. Collections  are  made at
designated points once a year according to publicized schedules. Pesticide dealers arrange to
have container-shredding equipment at the collection sites.  According to the Maine Board of
Pesticides Control, the deposit system has played a significant role in reducing the incidence of
improper container disposal.86
In 1985, the first year that the deposit system operated in Maine, Board of Pesticides Control
staff inspected all 7,055 containers that were turned in. Had these containers simply been drained
rather than properly rinsed, 429 pounds  of active ingredient would have been deposited into
landfills.  Since the  containers were triple-rinsed and therefore were 99.998% clean, only 0.05
                                                        Q"J
pounds of active ingredient was sent to  landfills that  year.   Published reports on the Maine
pesticide container  deposit system  do not discuss the consequences of transferring  pesticide
                                                         residues to wastewater  systems.
Figure 5-1.  Lead Recovery from Lead Acid        Jt  is   possible  that   pesticide
              Batteries                                  residues are  managed in a  more
                                                         environmentally  sound  manner
                                                         when    they    move   through
                                                         wastewater management systems
                                                         than   when  they  are  sent  to
                                                         landfills.
                                                         One  problem  with  the deposit
                                                         system is that it does not apply to
                                                         general-use pesticide containers,
                                                         which  are  far  more numerous
                                                         than containers  for restricted-use
                                                         and limited- use pesticides. One
                                                         reason why general-use  products
                                                         are not included in the system is
                                                         that   inspecting  them  would
                                                         require    significantly     more
resources than are available at present. For a similar reason, a few larger states have considered a
program similar to Maine's, but they  have concluded that they would not be able to inspect a
large number of containers.

5.5    Other Products

Since 1988, Rhode Island has required $5 deposits  on all types  of replacement vehicle  tires.
Customers can recover  their deposits by returning old tires within 10 to  14 days after they
purchase new tires.  Their refund payments are limited to one tire for every tire purchased, and
the refunds can be obtained only at the point-of-sale  of the new tire. In addition to the deposit,
Rhode Island—along with most other states—imposes product charges on tires to finance the
cleanup of piles of old tires.
Outside the United States, deposit systems have been applied to car hulks, light bulbs, lubricating
oil, and other products. An earlier EPA report by Anderson and Lohof (1997) describes several
of these systems.
inn
IUU
•n QR
a> OR.
0
JL QA
^i yt
0 no
d) c?Z
(£ on
«- au
•£ RR
c oo
o> op, <
o °3
*- ftd
 	 4









1987 1989 1991 1993 1995 1997
Year
Source: Smith, Bucklin and Associates.
2001
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The U. S. Experience with Economic Incentives for Protecting the Environment


5.6   Voluntary Deposit Systems

In addition to lead-acid batteries, a few other products are subject to deposit schemes that are
voluntarily operated by industry. Among such products are large paper drums, beer kegs,
propane gas containers, and, in some areas, beer bottles and pesticide containers.

5.7   Performance Bonds

Performance bonds are fees levied upon companies that extract certain natural resources, such as
timber, coal, oil, and gas. Amounts deposited with the performance bond can be refunded when
the payer fulfills certain obligations. In that sense, a performance bond acts like a deposit-refund
system.
An example of an environmental issue that  has been addressed with the  use of performance
bonds follows. The Surface Mining Control and Reclamation Act (SMCRA) of 1977 requires the
purchase of performance bonds  before surface  coal  mining and reclamation permits can  be
obtained.88 The amounts are determined by the regulatory authority, which can be either the state
authority or the U.S. Department of the Interior. The fee amount depends on the reclamation
requirements that are specified in the permit; the  anticipated difficulty of reclamation due to
factors such as  topography, geology, hydrology;  and the revegetation potential of the site.
SMCRA requires that the amount charged be sufficient to finance reclamation by the regulatory
authority in case the company forfeits its deposit. The minimum amount is $10,000 per permit
area. Deposit amounts are adjusted as mined areas  increase or decrease  and as estimates of
reclamation costs change.
Although  such performance bonds give companies an economic incentive to reclaim mining
sites,  they are  backed up by a  regulatory requirement that is specified  in a permit. The
reclamation requirement may have more of an incentive  effect than the deposit, since a firm's
ability to obtain leases  in the future is  dependent in  part  on satisfying today's regulatory
requirements.
Federal  and  state  governments  also use performance bonds  to  influence  environmental
management by the timber  industry and oil and gas operators.
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                                                                       Trading Programs
6. Trading Programs

Crocker  and Dales  generally are credited  with first proposing that marketable
emission permits be used as  an incentive mechanism for achieving environmental
goals.89 The  basic approach  outlined by Crocker and Dales and later refined  by
Dewees and Harrison is that the environmental authority can issue a fixed number of
marketable permits to release emissions.90 Through trading, low-cost sources will sell
some of their permits and abate more than they would under a traditional regulatory
approach, while high-cost sources will buy permits and abate less. The end result,
according to the academic design, is  the same  amount of pollution reduction that
would  be achieved through traditional regulatory approaches, but it is achieved at
lower cost.
EPA first applied the concept of marketable emission permits in the mid-1970s as a
means  for new sources  of emissions to locate in  non-attainment areas without
causing air quality  to worsen. New sources and existing sources that wanted to
expand their facilities were required to offset their emissions by acquiring emission
reduction credits from existing sources. This important but modest beginning was
based on an interpretation of the Clean Air Act, rather than on a  specific statutory
authority. EPA's Offset Policy was included in  the 1977 amendments  to the  Clean
Air Act statute. In 1980,  then-Administrator Hawkins signed a memo  that allowed
emission averaging between can-coating lines.91
On August 7, 1980, EPA promulgated New Source Review (NSR) and Prevention of
Significant Deterioration  (PSD) rules  that allowed netting, a means for sources to
avoid PSD and NSR requirements for emission increases due to facility  expansion, if
emissions were decreased contemporaneously elsewhere at the facility.92 Under the
PSD mandate, this rule included facilities within a plant as  a source of emissions as
well as an entire plant as a source of emissions, in what was termed a  "dual-source
definition." Chevron and others challenged this rule, claiming it made modernization
too difficult.  Eventually the U.S. Supreme Court agreed that states did not need to
include the dual-source definition in their non-attainment rules. This opened the door
to many of the emission trading programs that exist today.
The  1990  Clean  Air Act Amendments  authorized  a variety  of  emission trading
systems. While similar statutory authority to establish effluent permit trading systems
does not  exist, EPA believes that the Clean  Water Act  allows  effluent trading.
Programs of  this sort  have  been operational for  several  years  without legal
controversy. Pollution permit trading systems now come in a wide variety  of forms,
and they apply to a large  and growing number of sources of pollution that  affect the
quality of air, water, and land.
Insofar as trading between economic entities is concerned, two main forms of trading
systems are observed: (1) uncapped emission (or effluent)  reductions credit (ERC)
systems,  and  (2) capped allowance  systems  (also  referred to  as cap-and-trade
systems).  In  the case of uncapped systems, pollution limits are rate-based (e.g.,
grams  per mile for motor vehicles),  and sources earn credits by releasing less
pollution  than  their legal limit or  other defined baseline.  Under these systems,

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The U. S. Experience with Economic Incentives for Protecting the Environment


emissions can increase with economic growth. By contrast, with capped systems, total emissions
are limited by an overall ceiling that is designed to achieve health or environmental goals, and
allowances are allocated to sources in quantities consistent with  this  ceiling. The formula for
making such allocations will vary from one situation to the next.
A number of the programs described in this chapter involve the right to average emission
characteristics of a slate of similar products that  are manufactured by one economic  entity.
Emission  averaging is an  important  mechanism  for improving the cost effectiveness  of
environmental regulation. It can be characterized as intra-firm trading  across the  product lines
where it is allowed.
Trading  systems, properly designed  and  applied  in  appropriate  circumstances,  can  cut
compliance costs, encourage technological  development,  and create  incentives for achieving
environmental benefits beyond minimum requirements. For trading systems to function well, a
number of requirements must be satisfied. There should be several potential participants in trades
if a functioning market  is to be created. Exactly how  small a universe of potential participants
there  can  be and  still  have  a functioning market is  difficult to say, but simulation experiments
suggest that 8-10 participants is a reasonable estimate.93 If sources are dispersed geographically,
trading ratios other than one-to-one might have to be imposed to account for wind direction or
the distance between sources to ensure no degradation in environmental quality.
Some pollutants are seasonal in their impact,  implying that trades might be allowed  only during a
portion of the year. Trading might be limited because of a desire to  avoid  "hot  spots" where
pollution  concentrations increase. Trading  requires that pollution control agencies have  the
ability to  monitor emissions (or measure a surrogate to those emissions) reasonably well. The
need to ensure accountability of trades must not pose  unacceptably high transaction costs. The
commodity to be traded needs to be defined. In general, a well-defined commodity requires a
baseline from which to calculate the emission reduction  credits  (or allowances) that may be
traded. Establishing baselines is likely to require  good  historic data on  emissions, input use, etc.
In the case of allowance systems, the political will must  exist to achieve an  allocation  of
allowances among competing interests.
Cap-and-trade systems to date have allocated most  or all of the allowable emissions under the
cap to existing sources, providing allowance set-asides for new sources or using  auctions as a
safeguard to ensure access to allowances.  Initially, environmentalists opposed marketable permit
trading because the existence of trading was evidence that sources could make greater reductions
in pollution than were being achieved. In addition, there has been a lingering concern that trading
could result in localized "hot spots" that had undesirably high levels of pollution. With  the
success of the Regional Clean Air Incentives Market (RECLAIM) and the Acid Rain Program
described later in this chapter, marketable permit trading has become more accepted as a cost-
effective means of achieving many environmental goals.
On the other hand, attempts to establish new trading programs often encounter controversy. For
example, some citizen groups have opposed trading programs for ozone-forming volatile organic
compounds (VOCs). They based their opposition on two basic concerns: (1) the  possibility of
localized toxic pollution "hot spots," or (2) the ability  of the source (or EPA for that matter) to
reliably measure  emissions to  ensure that  participants would be held accountable. EPA,  in
consultation with environmental justice groups and  other stakeholders, is working on guidance
for addressing these environmental justice concerns with trading.
68                                                                                January

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                                                                       Trading Programs
The scope of trading systems is considerable. An emission trading proposal is a centerpiece of
the Kyoto Protocol for controlling  greenhouse gas emissions. Certain Colorado communities
have created programs to trade the right to own and operate a wood burning stove or fireplace.
For a number of years, there was an active program under which refiners could trade lead that
was used as an additive in gasoline. Heavy-duty truck manufacturers can meet engine emission
standards by averaging together the emissions performance of all the engines they produce.
Programs to trade effluents are operating in selected locations. These particular programs are
likely to be expanded significantly in coming years as a result of a new EPA initiative to improve
water quality in polluted rivers and  lakes. Developers whose activities would cause the loss of
wetlands can satisfy mitigation requirements in some areas by purchasing credits from a wetland
mitigation bank.
These and  other  trading systems for air, water, and land  are described in this chapter. The
discussion begins with a review  of trading  programs in air  emissions,  followed by sections  on
water effluent trading, land development, and, finally, international trading  programs in which
the United States is involved.
A few basic parameters may be used to characterize trading systems:
1. Scope. Is trading restricted to averaging within a single facility, allowed among facilities
   owned by the same firm, or allowed among firms or facilities under different ownership?
2. Cap. Is there a  limit on total emissions or on effluents?
3. Commodity Being Traded. How will the commodity be defined: As allowances for future
   pollution, as credits for quantifiable reductions in pollution, as emission characteristics of
   products, as rights to own and operate products themselves, or as some other definition?
4. Distribution ofTradable Permits.  Are the tradable certificates auctioned to the highest bidder,
   or are they grandfathered to existing sources?
5. Trading Ratio.  Is the required trading ratio 1:1 or some greater ratio? Does the trading ratio
   depend on the respective location  of the sources, season of the year, or other factors?
6. Banking. Can tradable certificates be banked or otherwise reserved for future use?
7. Monitoring. How is credit generation and trading monitored?
8. Environmental Benefit. Is a "set-aside" for the benefit of the environment built into the trading
   system? For example, each trade could be debited by 10% to yield an environmental benefit.

6.1    Trading in Clean Air Act  Programs: An Overview

Since 1990, EPA has significantly  expanded the use of trading in Clean  Air  Act  programs.
Today, emissions trading is a standard tool of EPA's air quality program. Although not a
panacea for every situation, trading is being  used by EPA and states to help solve a variety of air
pollution problems. A broad overview of these programs follows. (Some of these programs are
discussed in detail later in this chapter.)
Acid Rain: Perhaps the best-known example of trading is the Acid Rain Program's system of
marketable pollution allowances for  sulfur dioxide emissions for electric utilities. Enacted as part
of the Clean  Air Act  Amendments of 1990, this cap-and-trade program has  been highly
successful at achieving cost-effective emissions reductions. The first  phase  of the  program,
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The U. S. Experience with Economic Incentives for Protecting the Environment


which took  effect in  1995, reduced  annual  emissions  by  4  million  tons.  Since then,
measurements have shown that rainfall  in  the eastern United States is as  much  as 25%  less
acidic, some  ecosystems in New England are showing signs  of recovery, and ambient sulfate
concentrations have  been reduced, thus benefiting public health.  The  second phase of the
program, beginning in 2000, will more than double the annual  emissions reductions achieved by
the first  phase over  time. The annual cost of the program,  once it is fully implemented, is
expected now to be approximately $2 billion, which is about one-half the  cost that EPA  had
originally estimated.
Smog and Other Common Pollutants: EPA is working with states to promote trading and other
market-based approaches to help achieve national air  quality  standards for  smog,  particulates,
and  other common pollutants that are regulated through national air  quality standards. In
addition, EPA has  provided trading opportunities in virtually all federal rules that  are aimed at
cutting emissions from motor  vehicles and fuels. These federal measures are  essential to helping
states meet federal  air quality goals.
Under the Clean Air Act, states have  primary responsibility  for  devising pollution control
strategies for local areas, so  states can meet national air  quality standards.  EPA has issued
guidance to assist states in designing trading and other economic incentive programs, including
economic incentives rules and guidance  in  1994 (which, at  present, are being revised); general
guidance on State Implementation Plans (SIPs) in 1992; and the 1986 emissions trading policy
statement. EPA  also has assisted states in setting up  trading programs, such as California's
RECLAIM cap-and-trade program for  sulfur  dioxide and  nitrogen  oxides and the Ozone
Transport Commission's (OTC) program for controlling nitrogen oxide  emissions among states
in the Northeast.  Through  a unique  partnership,  EPA  and the OTC  states  are jointly
implementing this NOX budget system for the Northeast, which  draws on the experience of the
acid rain program.
In 1998, EPA issued a rule that established NOX budgets for many states (the "NOX SIP  call") to
combat the problem  of transported ozone pollution in the  eastern United States on a broader
scale. To encourage  an efficient market-based approach to reducing NOX on a regional basis,
EPA simultaneously provided states with  a model cap-and-trade rule  for utilities and large
industrial sources.  The experiences of the acid rain program and the OTC effort show  that this
approach holds the potential to achieve regional  NOX reductions  in an efficient and highly cost-
effective manner.
In the 1990 Clean  Air Act Amendments, Congress called for  EPA to help states meet  their air
quality goals  by issuing federal standards to cut emissions from  cars, trucks, buses, many types
of non-road engines, and fuels. These rules cut toxic air pollution as well as reduced the amount
of air pollutants, which were regulated through air quality standards.
EPA has provided  trading opportunities  in virtually all  of these  new standards, building on the
early success of trading in the phased reduction of lead in leaded gasoline during the 1980s.
These standards include rules for cleaner burning reformulated  gasoline, which now accounts for
approximately 30% of the nation's gasoline, and the national low-emission vehicle standards for
cars and light-duty trucks that will be met nationwide by  2001.  Opportunities for averaging,
trading, and banking  also are provided by new  national emissions standards for heavy-duty
trucks and buses,  locomotives,  heavy-duty off-road  engines such as  bulldozers, and small
gasoline engines (e.g., those used in lawn and garden equipment).
70                                                                               January

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                                                                       Trading Programs
Another recent example is the landmark Tier II/gasoline  sulfur rule  that President  Clinton
announced in December 1999. This rule would provide compliance flexibility to both vehicle
manufacturers and fuel refiners by allowing them to use averaging, banking, and trading, to In
the case of automakers, EPA  created different "bins" of emissions levels, rather than require a
single NOX emissions standard for each vehicle model. EPA required automakers to achieve a
fleet average emissions rate of 0.07 grams of NOX per mile (gpm). Automakers  whose fleet
average is below 0.07 gpm could generate credits that they could either use in a later model year
or sell to another auto manufacturer. This rule does allow the  production of certain higher
polluting vehicles that  consumers desire.  However,  it also provides a strong incentive for  the
industry to develop technology well beyond the 0.07 gpm standard,  since any higher polluting
vehicle will have to be offset by a lower polluting one.
Industrial Air Toxics:  The  1990  Clean Air Act  Amendments  called on EPA  to establish
national emissions standards to control major industrial sources of toxic air pollution. EPA  has
used emissions averaging as  one of several ways to provide compliance flexibility in these
industry-by-industry  standards. For  example, emissions averaging is permitted  by national air
toxics emissions standards  for petroleum refining, synthetic organic chemical  manufacturing,
polymers  and resins manufacturing, aluminum production, wood  furniture  manufacturing,
printing and publishing, and a number of other sectors. To avoid shifting risks from one area to
another,  toxics  averaging  is allowed  only  within  individual   facilities.  With  appropriate
safeguards, EPA also has used other methods, including multiple compliance options, to help
provide flexibility in complying with air toxics rules.
Ozone Layer Depletion: In gradually phasing  out the production of chemicals that harm  the
stratospheric  ozone  layer,  EPA  is giving producers and  importers the  flexibility  to trade
allowances. Under the Montreal Protocol, the United States and other developed countries agreed
to stop  producing and importing CFCs  (chlorofluorocarbons) and other chemicals that  are
destructive to the ozone layer.  By 1996, production of the most harmful  ozone-depleting
chemicals, including  CFCs, virtually ceased in the United States and other developed countries.
Additional chemicals are to be phased out in the future. Provided the United States and the world
community maintain their commitment to planned  protection efforts, the stratospheric ozone
layer is projected to recover by the middle of the 21st century.
The phase-out of these chemicals is being achieved  by using trading rules developed by EPA,
rules that have served as a model for programs in other countries. In part because of the flexible
market-based approach, the phase-out of CFCs was much less expensive than predicted. In 1988,
EPA estimated that a 50% reduction of CFCs by 1998 would cost $3.55 per kilogram. In 1993,
the cost for a 100% phase-out by 1996 was reduced to $2.45 per kilogram.

6.2    Foundations of Air  Emissions Trading

The first trading of permitted rights to release any type of pollutant in the United States began in
the 1970s as a mechanism to allow economic  development in areas that failed to meet ambient
air quality standards. EPA gradually broadened the  offset policy to include emission bubbles,
banking, and netting. These programs are described in the following paragraphs.  While many of
the achievements are modest,  EPA's early efforts in emissions trading are important because
they provided a foundation and  valuable practical  experience for the development of more
effective and cost-effective trading programs such as the Acid Rain Program.
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The U. S. Experience with Economic Incentives for Protecting the Environment


6.2.1  Offset Program
In the mid-1970s, the EPA proposed the "offset" policy that permitted growth in non-attainment
areas,  provided that new  sources  install air  pollution control equipment which met Lowest
Achievable Emission Rate (LAER)  standards.  These sources also  had to offset any  excess
emissions by acquiring greater emission reductions from other sources in the area. Through this
process, growth could be accommodated while  maintaining progress toward attaining national
ambient air quality standards.
Of more than 10,000 offset trades (a few of which are described later in this section), over 90%
have  been  in  California.  Nationwide, about  10% of offset  trades are between firms;  the
remainder are  between sources owned by the same firm. Most offset credits  are created as  a
result of all or part of a facility being closed.
The offset policy, which was  included in the 1977 amendments to the Clean Air Act, spawned
three related programs: bubbles, banking, and netting. The common element in these programs is
the Emission Reduction Credit (ERC), which is generated when sources reduce actual emissions
below their permitted emissions and apply to  the state for certification of the reduction. To be
certified as an  ERC, the state  must  determine that the reduction meets the following criteria: (1)
that the reduction is surplus in the sense of not being required by current regulations in the State
Implementation Plan (SIP); (2) that it is enforceable; (3) that it is permanent; and (4) that it is
quantifiable. ERCs are  normally denominated  in terms of the  quantity  of pollutant in tons
released over 1 year. By far the most common method of generating ERCs is closing the source
or reducing its  production.  However, ERCs  also  can be earned  by modifying  production
processes and installing pollution control equipment. Trades  of ERCs most often  involve
stationary sources, although trades involving mobile sources are permitted.  States have approved
a variety of activities that sources may  use to generate  offset credits. The South Coast  Air
Quality Management District  (SCAQMD) in California, for example, accepts the scrapping of
older vehicles  and lawn mowers as a means of generating credits. It then applies a formula to
determine the magnitude of air pollution credits for each old car that is scrapped.94
The offset, banking, and netting programs and bubble policy were subject to numerous revisions
before being incorporated into EPA's Final Emission Trading Policy Statement, which was
issued in 1986.95 The Policy Statement addresses trading of ERCs for criteria pollutants such as
sulfur  dioxide, nitrogen oxides, particulate matter, carbon monoxide, and  volatile  organic
compounds (VOCs) that contribute to the formation of ground-level ozone. The final policy
statement responded to public comments that pollutant trading could cause  environmental
damage unless accompanied by safeguards, such as trading ratios  greater than l:land the use of
air quality modeling in some cases).

6.2.2  Bubble Policy
The  bubble policy, established in  1979, allows sources  to meet emission limits by treating
multiple emission points within a facility as if they face a single  aggregate emission limit. The
term bubble was used to connote an imaginary bubble over a source such as a refinery or a steel
mill that had several emission points, each with its own emission limit. Within the "bubble,"  a
source could propose to meet all of its emission control requirements for a criteria pollutant with
a mix of controls that is different from those mandated by regulations—as long as total emissions
within the bubble met the limit for all sources within the bubble. A bubble can include more than
72                                                                               January

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                                                                       Trading Programs
one facility owned by one firm, or it can include facilities owned by different firms. However, all
of the emission points must be within the same attainment or non-attainment area.
Bubbles must be approved as a revision  to an applicable  State Implementation Plan (SIP), a
factor that has discouraged their use. Prior  to the 1986 final policy, EPA approved or proposed to
approve approximately 50 source-specific bubbles. EPA approved 34 additional bubbles under
EPA-authorized generic bubble rules. The EPA-approved, pre-1986 bubbles were estimated to
save $300 million over conventional control approaches. State-approved, pre-1986 bubbles saved
an estimated $135 million.96 No estimates  are reported for the number of, or savings from, post-
1986 bubbles. By design, bubbles are neutral in terms of environmental impact.

6.2.3  Banking
EPA's initial offset policy did not allow the banking of emission reduction credits for future use
or sale. EPA contended that banking would be inconsistent with the basic policy of the Clean Air
Act. But without a  provision for storing  or banking ERCs, the policy encouraged sources to
continue operating dirty facilities until they needed credits for internal use. New and expanding
firms without  internal sources of ERCs had to  engage in lengthy searches for other firms that
were willing to create and supply credits.
The offset policy in the 1977 amendments to  the Clean Air Act included  provisions for  the
banking of emission reduction credits for future use or sale.  Although the EPA approved several
banks, there was limited use of the provision, most likely because of the uncertain nature of  the
banked ERC. In 1980, EPA determined that an ERC is not an absolute property right and that
communities must have the option of modifying the use of ERCs, including the debiting of part
or all of the banked ERCs.97 A 1994 report identified 24 emission banks: some limited ERCs to a
                       qo
life of as little  as 5 years.  Since that date, the number of banks has remained stable. Most of  the
banks provided a registry to  help buyers of ERCs find potential sellers.  Some states debit a
percentage of each ERC deposit for use by the state to attract new industry or to meet anticipated
SIP requirements.

6.2.4  Netting
Netting, the final component of EPA's 1986 emission trading policy statement, dates from 1980.
Netting allows sources undergoing  modification to avoid  new source  review if  they  can
demonstrate that plant-wide emissions do  not increase significantly.  Netting is the most widely
used of these early emission trading programs. Hahn and Hester (1989) estimate that between
5,000 and 12,000 sources have used netting.
In each application, netting is  designed to  have no significant impacts on environmental quality.
However,  with a large number of netting transactions, a modest adverse impact might ensue. The
total savings  in control costs from netting are difficult to  estimate because the number of
transactions is not known precisely, and  the cost savings from individual transactions can  be
highly variable.
Cost savings can arise in three ways. First,  netting may allow a firm to avoid being classified as a
major source, under which it would be subject to more stringent  emission limits.  Reductions in
control costs in such a case would depend upon the control costs and emission limits that  the
firm must  satisfy after netting. One  source estimated that netting typically results in savings
between $100,000 and $1  million per application (indicating aggregate savings of $500 million
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The U. S. Experience with Economic Incentives for Protecting the Environment


to as much as $12 billion).99 Second, the aggregate cost savings from avoiding the cost of going
through the major source permitting process could range from $25 million to $300 million.
Third,  additional savings could arise  from avoiding construction delays that are caused by the
permitting process.
On April 3, 1996, EPA's Office of Air and Radiation announced a series of proposed revisions to
new source regulations. These revisions were  expected  to reduce  the number of permitting
actions that new sources and  sources undergoing  changes  must take by more than one-half.
Because the proposal shares many of the features of netting, it is described here. The proposed
regulations would allow sources to use plant-wide limits.  They would also provide exemptions
for pollution prevention activities and  so-called "clean" emission sources in a facility.
Under  the proposal, sources making  changes could avoid new source review  requirements by
establishing a plant-wide cap on emissions. (In general, this cap would be the source's maximum
potential emissions.) Process changes could be made as long as the changes did not result in an
increase in emissions beyond the cap.

6.2.5  Evaluation of Early Emission Trading Activities
With data from offset transactions in the Los Angeles area, Foster and Hahn (1995) provide the
most comprehensive evaluation of the original emissions trading program. The South Coast Air
Quality Management District (SCAQMD) provided data on trading activity, some of which are
reproduced in Table 6-1. The large increase in offset transactions in 1991 and 1992 reflects
activity at two  special funds created  by the SCAQMD in 1991: the Community Bank, which
serves  small sources producing less than 2 tons per year; and the Priority Reserve, which secures
credits for essential public services.

Table 6-1. Emission Trading Activity in the Los Angeles Area
YEAR
pre-1977
1977
1978
1979
1980
1981
1982
1983
OFFSETS








1984 |
1985
1986
1987
1988
1989
1990
1991
7
27
24
55
30
53
2,208
1992 | 3,678
NETTING
5
TOTAL
5
30 | 30
34
34
72 | 72
129
238
129
238
210 | 210
258 I 258
256 | 256
235
432
242
459
329 | 353
358
352
394
155
77
413
382
447
2,363
3,755
Note: Trading activity is based on the number of trades reported to SCAQMD.
Source: Foster and Hahn (1995).
74
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                                                                       Trading Programs
During the period 1985-1992, over 10,000 tons of pollutants were traded in the offset program,
with total  expenditure on ERCs estimated to be on the order of $2 billion. (This figure indicates
an average price for traded pollutants of about $200 per ton.) Nearly three-quarters of the trades
involved  reactive  organic  gases (SCAQMD  terminology for a subset of  volatile  organic
compounds), but there also were trades in CO, NOX, PM, and 862.
AER*X, a broker in the Los Angeles offset market, supplied data for prices for over 40 of the
trades from 1985 to 1992. The minimum price per ton in trades of reactive organic gases (ROG)
fluctuated in the $40-per-ton range over this period, while the minimum value for NOX trades
was about $120 per ton. High prices for ROG increased steadily over the period, from $135 per
ton to $711 per ton; and high NOX prices increased from about  $320 per ton to $655 per ton over
the same period.
For a variety of reasons, one would not expect all tons of ROG or NOX to be valued identically.
First, the markets are imperfect,  and  information on historic trades is not widely disseminated.
Second, credits that have been banked involve additional costs to the selling party. Third, offset
ratios vary with  the distance and location of parties to the transaction. The low end of prices
could be  determined largely by transaction costs to the  seller (thought to  be a minimum of
$10,000 per transaction). In a few cases, transaction costs apparently exceeded  the market value
of the credits that were exchanged. Although the highest and average prices increased over the
period, most of the change in 1991 can be attributed to a change in SCAQMD  rules in the prior
year. None of the observed prices remotely approach  the typical incremental  control costs for
ROG and  NOX in the Los Angeles area over that period: on the order of $5,000  per ton for ROG
and $8,000 per ton for NOX.
ERC emission trading has not lived up to  expectations; trades have been fewer  and offset prices
lower than many had expected. Several factors seem to have limited the appeal  of the emissions
trading  policy.  In order to assure  that  air quality  did  not  deteriorate, state  environmental
administrators often required expensive air quality modeling prior to accepting proposed trades
between geographically  separated parties.  Deposits to emission banks typically  were "taxed" by
the air quality management authority to meet state SIP requirements or to generate a surplus that
the area could offer to attract new firms.  Offset ratios greater than  unity further depressed the
value of ERCs.  In many  areas, it appears that  ERCs had an economic value less than the
transaction costs of completing a sale to another party.
In other respects, the emission trading program revealed  the  myriad possibilities for emission
trading and many of the  features that would be necessary to make trading viable. It served as the
foundation for the  enormously successful lead credit trading program and for many of the
emission trading features of the 1990  Clean Air Act Amendments. States also have learned from
the experience.
A number of states have redesigned their  offset programs as trading programs without emission
caps.  (Examples  include  Delaware,  Massachusetts,  Michigan,  New  Jersey, Texas,   and
Wisconsin.)  The Los Angeles area  has developed a much more significant  trading initiative
known as  "RECLAIM," with an emissions cap and phased reductions in the allowable emissions
of SO2 and NOX. (The RECLAIM initiative is described  in more detail later  in this chapter.)
Illinois recently developed a similar program with an emissions cap.
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The U. S. Experience with Economic Incentives for Protecting the Environment


6.3    Acid Rain Allowance Trading100

An early solution to mitigate local  air pollution that was caused by sulfur dioxide (862) and
nitrogen oxide (NOX) emissions from power plants was to build tall stacks to disperse pollutants
away  from populated  areas.  This strategy  led to  large  increases  in  regional  pollution
concentrations and concerns about potential ecological damage. Coal-burning electric generating
units built after 1970 were limited to 1.2 pounds of SC>2 per million Btu (British Thermal Units).
By 1977, new plants were forced to  meet a percent-reduction requirement in addition to the 1.2-
pound limit. However, older coal-burning units continued to emit pollutants at much higher
rates—up to 7 pounds of 862 per million Btus—and to operate far beyond their original design
lives because of the high cost of building new units.
By the 1980s,  studies began to demonstrate probable  harm  to lakes and forests,  agricultural
crops, materials, and visibility from the long-range transport of sulfates and nitrates formed from
SC>2 and nitrogen oxide emissions. Studies  also revealed that the acidification of soils and waters
could release heavy metals and aluminum that were previously bound in soils. Further, increased
atmospheric levels of sulfate and nitrate pose  a risk to human health.
In Title IV of the Clean Air Act Amendments of 1990, Congress created the Acid Rain Program
to address  both wet and  dry acidic deposition by cutting national 862  emissions from power
plants by approximately 50%. Costs of compliance were estimated in the range of $5 billion per
year. At that time, quantifiable economic benefits were believed to be lower—in the range of $1
billion per year.101 Actual costs have been  far less and associated benefits have been far greater,
as further explained in this last paragraph of this subsection.
Title IV also sets allowable limits on NOX emissions from utility boilers by  placing limits on
emission rates. An owner of two or more power plants may comply with the NOX requirement by
averaging emissions across all its power plants, a rudimentary form of emissions trading.
The Acid Rain Program  set a cap of 8.95  million tons of 862 per year, to be achieved in two
phases. During Phase I, which ran from 1995 through 1999, the 110 highest emitting coal-fired
power plants (with a total of 263 coal-burning units) were required to reduce emissions to satisfy
a tonnage cap.  These so-called "Table 1"  units were targeted for the first phase because their
emissions exceeded  2.5  pounds  of 862  per million Btu,  and their capacity exceeded  100
megawatts. Between 125  and  182 additional units each year joined Phase I as substitution or
compensating units. Although not required to participate until Phase II, these units elected to
participate early to help fulfill the compliance obligations of a Table 1 unit. Furthermore, several
units not required to participate in the Acid Rain Program opted to join the program during these
years.  In the second phase, which  began  in 2000,  all power plants producing more than 25
megawatts  and all  new facilities must meet a lower emission cap.  Phase  II reductions will total
an additional 5 million tons and will  reach the overall 8.95 million-ton cap.
A major innovation of the program is the acceptance  of  emissions trading as a means of
achieving compliance. Prior to the drafting of Title IV of the Clean Air Act, a number of studies
had identified potential cost savings of as much as $1 billion  per year through emissions trading
due to significant differences among utility sources in the marginal cost of abatement.102 Actual
experiences with emission trading have exceeded expectations. A recent study estimates that
emissions trading  reduces the cost of complying with Title IV by  50%,  or  $2.5  billion
annually.103
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                                                                       Trading Programs
6.3.1  Allowances
Emission caps are enforced through a system of tradable emission allowances. Title IV specifies
fixed numbers of allowances, each of which represents a limited authorization to emit one ton of
SC>2, to be given each year to each of the affected units. Political  considerations dictated that
allowances be given rather than auctioned. 862 allowances issued in any particular year do not
expire, meaning allowances issued in 1 year may be "banked" for use in subsequent years. The
banking provision has been widely utilized in the Acid Rain Program. Emissions each year have
been well below allocated levels, resulting in an increasing amount of banked allowances that
can be used for compliance in later years. For example, 1999 emissions were almost 30% below
the level allowed. Sources benefit from the flexibility that allows them to conserve allowances
for use in later years.
The basic formula for computing Phase I allowances is 2.5  pounds of SC>2  per million Btu,
multiplied by each unit's average 1985-1987 Btu consumption. For Phase II, 1.2 pounds of 862
per million Btu are multiplied by each unit's 1985-1987 Btu consumption. There are a number
of departures from the basic formula, particularly in Phase II.  Sources that fail to hold sufficient
allowances to cover their emissions following a compliance period  are subject to a penalty for
each ton of excess emissions. Initially set at $2,000 per ton, the penalty  is indexed for inflation
and  is  currently more than  $2,600 per ton. The Acid Rain Program has reported  100%
compliance for its first 5 years, primarily because noncompliance carries such a high price.
As in Table 6-2, Table 1 units received 6.9 million allowances in 1999. Several other provisions
of Title IV also create allowances, and the number of allowances created under these other
provisions can vary from year to year. These other provisions varied from year to year during

Table 6-2. Origin of 1999 Allowable Emissions
TYPE OF ALLOWANCE
Initial allocation
Phase 1 extension
Substitution allocation
Auctions
Compensation allocation
Opt-in allowances
Small diesel allowances
Total (1997)
NUMBER OF
ALLOWANCES
5,550,820
171,710
909,455
150,000
85,138
97,392
25,617
6,990,132
EXPLANATION OF ALLOCATION
Granted to units based on baseline Btu output and emission rates, as
specified in the Clean Air Act Amendments of 1990
Given to Phase I units that reduce emissions by 90% or reassign
obligations to units that reduce emissions by 90% (i.e., scrubbers)
These are the initial allocations of Phase II units that enter Phase I as
substitution units
Provided in the Clean Air Act Amendments in a Special Allowance
Reserve when initial allocations were made
These are the initial allocations of Phase II units that enter Phase I as
compensating units
Provided to units that enter the program voluntarily
Allocated to small diesel refineries that produced desulfurized diesel
fuel in the previous year

Source: Exhibit 2 at http://www.epa.gov/airmarkets/cmprpt/arp99/index.htmlfeo2compliance
Phase  I.  Owners  of "extension"  units that propose  to reduce  emissions  with  flue  gas
desulfurization  (FGD)/scrubbing  receive  allowances,  as do  owners  of "substitution"  and
"compensation" units. The substitution provision allows owners  of units  to substitute cheaper
reductions from  other units for the reductions required of Table 1  units. The compensation
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The U. S. Experience with Economic Incentives for Protecting the Environment


provision lets a utility reduce electricity generation of a Table 1 unit below its baseline level,
provided the source of  any compensating generation is designated.  If the compensating unit
emits 862, EPA provides an allocation of allowances to that unit, so the compensating unit in
essence becomes part of Table 1. Phase I initially included 263  units. An additional 125-182
combustion units joined  Phase I as compensation or substitution units (the totals varied by year).
Several opt-in sources joined as well, raising the total of Phase I units to between 398 and 445
units.
Beginning  January 1, 1995, EPA could allocate up to 300,000 bonus allowances from  its
Conservation and Renewable Energy Reserve to utilities that undertake energy efficiency and
renewable energy measures. The full accounting of provisions for allocating 1999 allowances are
identified in Table 6-2 to illustrate the many sources of allowances.
In order to maintain the emissions cap, new sources receive no allowances. Instead, they must
buy them from existing allowance holders or in EPA auctions. New sources are also required to
satisfy New Source Performance Standards.
In March 1995, EPA expanded the Acid Rain Program to  include industrial facilities that burn
fossil fuels.104 The rule establishes  an "opt-in" program that allows industrial sources and other
sources to  participate in the existing SC>2 program, which previously  included only utilities.
Industrial sources that participate in the program will have  an allocation of allowances that they
can use for compliance or for selling or trading  to other sources. These provisions allowing
industrial sources  to opt-in  have been little used, partially due  to high transaction costs and
lower-than-expected allowance prices.105 Ten units  had joined the program as opt-in units  by
1999.

6.3.2  Monitoring and Compliance
Utilities whose units are included in Phase I and Phase  II must install continuous emission
monitoring  (CEM) systems to verify  compliance  with emission limits,  and they must file
quarterly reports of their hourly emissions data with EPA. Initially, sources mailed these data to
EPA  on computer disks, but  most sources now transmit the information over the Internet.
Continuous emission monitoring systems—the accepted industry standard for measuring SC>2,
NOX,  and CO2—provide an accurate accounting of emissions, assuring those buying and selling
allowances that the commodity they  are trading is real and assuring  EPA that emission limits
have been met.
CEMs for coal-fired electric power plants have an initial capital cost of just over $700,000, and
annual operating costs of just  under  $50,000. On an annualized basis that spreads the capital
costs  over  a capital recovery period, the cost of operating a CEM is approximately $125,000
each year. This amount is equivalent to about $0.16 per kilowatt of installed capacity.106
The  cost of monitoring with  CEMS represents  approximately  7%  of the observed cost  of
compliance. More than 2,100 units are now required to have CEMS for Phase II of the program.
This  requirement  helps  ensure low transaction  costs  and confidence  that  each  allowance
represents  one ton of  SO2 emissions,  regardless  of where  or when  it is generated.  That
confidence is an  important underpinning of trading.
At the end  of each quarter, EPA receives more than 1,700 reports containing  hourly emissions
data and heat input for  affected units. More than 90% of this data is received electronically.
78                                                                                January

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                                                                        Trading Programs
Using these data and the allowance record for each unit, EPA tracks compliance. CEMS provide
some of the most accurate and complete data ever collected by EPA. In 1999, 862 monitors on
sources in  the Acid  Rain Program achieved a median relative accuracy  of 3% and  a median
availability of 99.5%.
Under the authority of Title IV, EPA developed an allowance tracking system that serves as the
official  record of ownership  and transfers.  The system currently requires a paper form with the
signature of the seller, but it will allow transactions to be completed on the Internet by the  end of
this year. With just two staff members, EPA processes most allowance transactions within one
day of receipt.

6.3.3  Allowance Auction
In addition to private transactions in allowances, Title IV directed EPA to offer allowances at an
annual auction, beginning in 1993. This auction offers the equivalent of roughly 2.8% of total
allowances. Private parties may also offer allowances at the auction. Each offer includes the
quantity for sale and a minimum acceptable price. The auctions helped to provide a price signal
to the allowance market in the  early stages of the program  and currently  provide an additional
source of allowances for utilities. The auctions have only involved allowances that can be used in
the current year and  6 and  7 years into the future. From  now on, each auction  will involve
current-year and 7-year allowances.
Before discussing the specifics of the auction, it is  worth noting that it has largely served its
purpose now that (1) the market under the  Acid Rain Program is flourishing and (2) the auction
activity is  dwarfed by  the  allowance exchanges occurring every day all over  the country.
Economists have criticized the mechanics of the auction, suggesting that it may also contribute to
lower prices than otherwise would  occur.107 The Act requires a  discriminating price auction,
which ranks bids from highest to lowest.  EPA  has interpreted this statement as requiring that
each seller receive the bid price of a specific buyer. The auction first awards allowances offered
by the seller with the lowest asking price to the bidder with the highest bid price. Incrementally,
the allocation mechanism moves up the supply list and moves down the bid list until no bidder is
willing to offer what the remaining sellers  are asking. The idea of having a discriminating price
auction came from staff members of the U.S. House of Representatives,  who  were convinced
                                              1 OR
that such an auction maximized revenue to  sellers.
This unusual  auction  mechanism may cause sellers to misrepresent and under-reveal  their true
costs of emission control.109  By lowering the reservation price,  a seller increases the probability
of sale and the expected price, if buyers are offering different prices. Therefore, sellers would set
lower reservation prices in such a discriminating price auction than in a single-price auction.
Joskow (1998) concludes that  EPA auctions became a sideshow to the much larger  private
market, after just the first two auctions. (These two auctions provided useful indications early in
the process that  allowance prices would be lower than first anticipated.)-The evidence from a
detailed analysis of the auction records is that private sellers in the EPA auction have tended to
set prices  above market-clearing levels rather than too low, as initially hypothesized by  Cason
and others.

6.3.4  Transaction Costs
Many observers of the Acid Rain Program  have noted the low transaction costs of the allowance
market. The allowance market operates on a very  narrow bid—to-ask spread. Recently, this
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The U. S. Experience with Economic Incentives for Protecting the Environment


spread has been less than $2 per ton, or about 1% of allowance prices. Most allowance transfers
are processed within 24 hours of receipt, as program requirements eliminate the need for review
of submissions beyond electronic verification that the allowances being transferred are indeed in
the seller's account. In addition, program design eliminates the need for source-specific emission
limits or reviews of compliance strategies, causing the costs of oversight to drop dramatically.
During the  5  years  following the Clean Air  Act Amendments, EPA spent $44  million to
implement the Acid Rain Program and allocated an additional $18.9 million to state and local
governments to implement the program. These costs may be compared with the $1.09 billion that
EPA spent to implement the  Clean  Air Act in the same period and the $833 million EPA
distributed to state and local governments for this purpose.
                      no
6.3.5  Results
From 1995  through 1999, the  Acid Rain  Program  has exceeded  expectations,  with firms
exceeding the reduction target at less than one-half the forecast cost. These results follow from
the very flexible structure of the program, one key component of which was  the  trading
provision.111
While there was considerable trading activity from the start, little of that activity initially was
between economically  distinct entities. (See Figure 6-1.) In searching for explanations for the
relatively  low level of trading
between  economically  distinct  Fi§ure 6~l-  Internal and External Trading
entities  (labeled  "external"  in
Figure 6-1), analysts have cited
relatively high transaction costs
at first, the behavior of public
utility     commissions,    and
legislation  in some states that
promoted  the  use  of locally
produced coal.
Emissions  data  compiled  by
EPA   show   at   least  9,300
transfers involving 81.5 million
allowances through the end  of
1999.  About   62%  of  the
allowances or 50.4 million tons
were     transferred     within
organizations, and  38% or 31
million  tons  were  transferred
between organizations. Another
40    million   tons    reflect
movements  of allowances from EPA  to the market  through  auctions, Phase I extension
allowances, substitution allowances, and  other mechanisms. SC>2  emissions control  is ahead of
schedule. The excess emissions reductions—unused allowances—in Phase I are being banked by
utilities for use during Phase II, when the performance standard tightens significantly.
           1994    1995    1996    1997    1998   1999
                      I INTERNAL  DEXTERNAL
Source: Exhibit 6 at
  http://www.epa.gov/airmarkets/cmprpt/arp99/index.htmlttso2compliance
80
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                                                                        Trading Programs
The  price  of allowances has  been far below initial forecasts, an  issue  that has  attracted
considerable  attention. Prior to passage of the Clean Air Act Amendments of 1990, industry
estimates of abatement costs were $1,000 per ton, and EPA forecast allowance prices were in the
$750-per-ton  range. As an  ultimate  backstop for compliance, Congress authorized direct
allowance sales by EPA at a price of $1,500 per ton. The direct sale provisions were eliminated
several years  ago when it became clear that allowance prices were far lower than anticipated, and
the direct sale option would not be utilized.
Some early allowance transactions occurred at prices as high as $300 per ton in 1992. By 1993,
the price had fallen to a range of $150 per ton to $200 per ton.  Allowance prices—from  EPA
auctions, transactions through the  Emissions Exchange, and through brokers—gradually fell to a
low of $66 per ton through mid-1995 and,  in general, remained below $120 per  ton through
1997. (See Figure 6-2.) In 1998, allowance prices began to increase  and exceeded $200 per ton
by early 1999, peaking at $217 per  ton
in March. Prices then declined to  about Figure 6-2.  Acid Rain Allowance Prices
$130 ton by March 2000.112
^iniocDCDr^r^oooococo
G)
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The U. S. Experience with Economic Incentives for Protecting the Environment


credits performance standards and flexible program design, not emissions trading directly, for
much of the cost savings.
Phase II of the Acid Rain Program is likely to see much greater reliance on allowance trading.
Phase II will involve 700 additional sources, many of which are likely to select scrubbing as their
method of compliance. More scrubbing should result in greater variation in the marginal costs of
control  across sources. Consequently, there should be greater incentives to trade allowances to
achieve compliance in Phase II.
A 1995 EPA assessment of the Acid Rain Program put the costs at $1.2 billion annually in Phase
I and $2.2  billion  annually in Phase  II.113 The  same EPA report estimated the mean value of
annual health  benefits at $10.6 billion in Phase I and  $40 billion in Phase  II.  These health
benefits are limited to benefits from reduced sulfates; total health benefits would be even higher.
Interestingly,  health benefits were not a major concern in the legislative decision to control acid
rain, yet they now appear to be the dominant benefit component, dwarfing earlier estimates of
environmental effects. Recall that early  estimates of the costs of controlling acid rain put the
costs at $4.5 billion to $6 billion annually with a traditional regulatory approach and benefits at
$1 billion to $2 billion. An independent  assessment reached a similar conclusion: Benefits will
be much greater than costs.114 More recent studies have estimated Phase II costs at $1.0 billion
(Carlson et al., 2000) and $1.4 billion (Ellerman, 2000, p.  282).
To  estimate the savings attributable to  tradable allowances, Carlson et  al. (2000) estimated
marginal abatement cost functions for thermal power plants that were affected by Title IV.  For
plants that use low-sulfur coal as a means of compliance, they found that the main sources of
cost reductions  are technological  improvements and  the  fall in low-sulfur  coal prices,  not
allowance trading.  Over the long run, the authors estimate that allowance trading could result in
savings of $700 million to  $800 million per year, relative  to an "enlightened" regulatory
approach with a uniform emission standard.

6.4    NOX Regional Ozone Programs

The  federal SO2 control program shows that acid rain poses a number of difficult problems for
policy makers, regulators, environmentalists, and industry. Experiences with the 862 program
were instrumental in designing and implementing the recent NOX control program.
Along with 862, NOX contributes to the  acid rain problem  nationwide. NOX also contributes to
ground-level ozone and fine particulate problems in the East and in certain densely populated
areas elsewhere. With respect to acid rain, both SO2 and NOX have cumulative and long-range
impacts on the environment. With respect to ground-level ozone and fine particulate matter, the
primary concern is ambient concentrations over short periods of time during the summer months.
NOX trading is designed to account for these complex time  and space dimensions in the need to
control  NOX.  Electric  power generation peaks in summer months in the Northeast to meet air
conditioning demands. Periods of peak power production are periods of peak NOX emissions and
tend to  be periods of time when ambient ground-level ozone concentrations are most likely to
exceed federal standards.
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6.4.1  OTC NOX Budget Program
In the 1990 Clean Air Act Amendments, Congress established the Ozone Transport Commission
(OTC), a working group consisting of 12 Northeast states and the District of Columbia. OTC's
mandate was to develop plans to meet national ambient air quality goals for ozone in the Eastern
United States.  With the  help of EPA, the OTC developed a NOX Budget Program to address
regional  ozone  problems.  Critical  program  elements,  such  as  monitoring and  reporting
provisions, compliance determination, and penalties, were required to be uniform across states. A
1994 memorandum of understanding with EPA was signed by all of the OTC states, except
Virginia.  It put in place  a NOX cap-and-trade system within the OTC states.  The intent of the
agreement is to institute a cooperative effort to solve a common problem.
The  agreement caps NOX  emissions  at 219,000 tons during the  May through  September
compliance period for the years 1999-2000 and at 143,000 tons starting in 2003. Both amounts
are less than one-half the 1990 baseline of 490,000 tons. The cap affects 465 sources of NOX in
the  participating  OTC   states,  including utilities, industrial  plants,  and independent  power
producers.
The OTC NOX trading program is implemented by states, as are many programs under Title I of
the Clean Air Act. States are free to establish rules of their own choosing, including allocation
provisions. (See  Table 6-3.) The OTC made efforts  to ensure that the rules were compatible
across  states to facilitate regional emissions trading.  Some provisions, such as initial emission
allocation  formulas, differ  across  participating states.  The  program establishes  that  one
allowance is good for one ton of NOX emissions  emitted during the compliance months. EPA
administers the Allowance Tracking  System and the Emissions Tracking System, but the states
maintain all responsibility for compliance and enforcement.

  Table 6-3.  OTC's NOX Budget Program Allocations and  Emissions (1999)
STATE
Connecticut
Delaware
Massachusetts
New Hampshire
New Jersey
!New York
Pennsylvania
J Rhode Island
TOTAL
BASELINE EMISSIONS
(in tons)
11,130
13,510
41,331
14,589
46,963
85,632
203,181
1,099
417,435
1999 ALLOCATIONS115
(in tons)
6,312
6,142
19,680
6,788
21,292
54,276
103,668
580
218,738
1999 EMISSIONS
(in tons)
5,830
6,160
17,293
3,463
15,390
47,267
79,166
274
174,843
  Source: 1999 OTC NOx Budget Program Compliance Report.
Unlimited banking of allowances is allowed, but sources are restricted in how they may use them
for compliance. The constraints on banking address seasonal and spatial concerns regarding
ozone formation. Eight states participated in the 1999 OTC NOX Budget Program: Connecticut,
Delaware, Massachusetts, New Hampshire, New Jersey, New York, Pennsylvania, and Rhode
Island. A total of 912 affected combustion units underwent reconciliation for 1999 to determine
whether they  held sufficient allowances to cover their emissions. The affected sources released
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emissions at a level  nearly 20% below their allocations for 1999, banking the remainder for
future use when emission limits will be stricter.116
The market is showing signs of maturing. Trades for future year allowances have higher prices,
which  reflect the anticipated difficulty  of meeting a shrinking cap on emissions.  Similar price
spreads also exist in the 862 allowance market.

6.4.2  NOX Budget Trading Program
EPA promulgated the call for State Implementation Plans (SIPs) on NOX, (the NOX SIP  call)
pursuant to the requirements of Section 110 of the Clean Air Act (CAA). Section 110 requires a
SIP to contain adequate provisions that prohibit any source or type of source or other types of
emissions within a state  from emitting any  air pollutants in amounts that  will  contribute
significantly to non-attainment in, or interfere with maintenance  of attainment of a standard by,
any other State with respect to any National Ambient Air Quality Standard (NAAQS). Section
110 authorizes EPA to find that a SIP is substantially inadequate to meet any CAA requirement
when appropriate, and, based on such finding, to then require the state to submit a SIP revision
within a specified time to correct such inadequacies.
The final rule required 22 states and the District of Columbia to submit State  Implementation
Plans that address the regional  transport of ground-level ozone.  The rule  will  reduce  total
summertime emissions of nitrogen oxides by about 28% (1.2 million tons) in the affected states
and the District of Columbia. The final rule includes a model NOX Budget Trading Program that
will allow states to achieve over 90% of the required  emissions reductions from large electric
generating sources and large industrial boilers in a highly cost-effective way.
The NOX SIP call was challenged by representatives of both industry and affected states. In  May
1999, the U.S. Court of Appeals  for  the District of  Columbia Circuit  stayed the  submittal
deadline  of the NOX SIP call indefinitely. In November 1999, oral arguments were heard  and, in
March 2000, the  Appeals Court ruled in favor of EPA on  all  major issues, remanding to  EPA
only a few minor issues.
As a result of its ruling, three states were no longer required to comply with the NOX SIP call
(Wisconsin, Georgia, and Missouri), and EPA was required to take further notice and comment
on a portion of its electric generation unit (EGU) definition.  Sources in several states will  be
subject to this action: Alabama, Connecticut, District of Columbia,  Delaware, Illinois, Indiana,
Kentucky, Massachusetts, Maryland, Michigan, North Carolina,  New Jersey, New York, Ohio,
Pennsylvania, Rhode Island, South Carolina, Tennessee, Virginia, and West Virginia. In  June
2000, the Appeals Court lifted the stay and ruled that affected states must submit SIPs to EPA by
the end of October 2000. In August 2000, the court made another ruling. This ruling moved the
compliance date  to submit SIPs to May 31, 2004, from its  original date of May 1, 2003. As of
September 2000, EPA had not yet decided whether to appeal this ruling.
The petitioners have asked the Supreme Court to review the  Appeals Court's  decision. As of
August 2000, the  Supreme  Court had not decided to hear the case.
Section 126 of the Clean Air Act allows states that are  adversely affected by interstate transport
of pollution to petition EPA to set pollution limits on specific sources of pollution in other states.
In a December 17, 1999 rule, EPA granted petitions filed by Connecticut, Massachusetts,  New
York, and Pennsylvania that sought to reduce ozone in these states  through the control of NOX
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                                                                      Trading Programs
emissions from other states.117 These states had petitioned that they could not attain the federal 1-
hour ozone standard because of the interstate transport of ozone and its precursors.
Under its Section 126 authority, EPA published  a final rule that affects 392 electric utilities and
industrial boilers with rated output greater than 25 megawatts or a maximum heat input capacity
greater than 250 MMBtu/hr. The Federal NOX Budget Trading Program establishes emission
limits for affected sources in the form of tradable NOX allowances. One allowance authorizes the
emission of one ton of NOX.  Sources in the program are located  in Delaware, the District of
Columbia, Indiana,  Kentucky, Maryland, Michigan, North  Carolina, New Jersey, New York,
Ohio, Pennsylvania, Virginia, and West Virginia. Collectively, they must reduce NOX emissions
by nearly 530,000 tons per year by 2007 from levels had been allowed that year.
Both the NOX SIP call and the Section 126 action require sources  to reduce emissions of NOX.
However, the SIP call allows states the flexibility to choose how reductions will be made; under
the 126 action, EPA  directly regulates sources.  Furthermore, the SIP  call covers a larger
geographic area. EPA is continuing to work with the states to determine how to integrate these
two programs.

6.5    Chlorofluorocarbon (CFC) Production Allowance Trading

The  Montreal  Protocol  on Substances  that  Deplete  the  Ozone  Layer called  for  a  cap on
Chlorofluorocarbon (CFC) and halon  consumption at 1986 levels, with  reductions in the cap
scheduled for 1993 and 1998. At a second meeting  in 1990, the parties to the Montreal Protocol
agreed to a full phaseout of the already-regulated  CFCs and halons, as well as a phaseout of
"other CFCs," by 2000.118
The  Montreal Protocol  defined  consumption  as production plus imports, minus exports.
Consequently, in implementing the agreement,  EPA distributed allowances to companies that
produced or imported CFCs and halons. Based  on  1986 market shares,  EPA  distributed
allowances to 5 CFC producers, 3 halon producers, 14 CFC importers, and 6 halon importers.
The  marketable permit system for producers and  importers resulted in a number of savings
relative to a program that directly controlled end uses. EPA needed just 4 staffers to oversee the
program, rather than the 33 staffers and  $23 million in administrative costs it  anticipated would
be required to regulate end uses. Industry estimated that a traditional regulatory approach to end
uses would  cost more  than $300 million  for recordkeeping  and  reporting,  versus only  $2.4
million for the allowance trading approach.
Title  VI of the Clean  Air Act  Amendments of 1990 modified the trading system to allow
producers and importers  to trade allowances within groups of regulated chemicals that were
segregated  by their ozone-depleting potential.  As  an example, EPA  assigned producers and
importers allowances for five types of CFCs (CFC-11, CFC-12, CFC-113, CFC-114, and CFC-
115). Producers and importers could trade allowances within this group. For example, 14 million
kilograms of CFC-11 and CFC-113 were traded for CFC-12 in 1992 as air conditioner makers
and foam producers reduced their use of these substances. At the  same time,  CFC-12 users
maintained their demand. By 1994, the quantity of CFC-11  and CFC-113  swapped for CFC-12
grew to 26 million kilograms.  EPA rules implementing  Title VI  specify that, each time a
production allowance is traded, 1% of the allocation is "retired" to assure further improvement in
the environment.
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Congress  coupled the  marketable allowance  trading  system  with excise taxes  on  CFC
production, which are discussed in Chapter 4, Pollution Charges, Fees, and Taxes. The rationale
for the excise taxes was that the restrictions on the quantity of CFCs and halons could be sold
would lead to rapidly escalating prices. The excise taxes were designed to capture "windfall
profits." In contrast, the allowance trading system was designed to assure that the production and
import of the CFCs was cost-effective. The excise tax has the effect of making CFCs much more
expensive in the United States than they are in developing countries where production is still
allowed. Smuggling of these chemicals has become a serious problem.

6.6    Lead Credit Trading

As early as the 1920s, tetra-ethyl lead was added to gasoline by refiners to increase octane levels
and reduce premature combustion in engines, which allowed more powerful engines to be built.
Lead additives in gasoline were the least expensive of several ways of raising octane levels. The
additives also prevented premature recession of soft-valve seats, a  feature  of most automobile
engines that were manufactured prior to 1975 (but not after).
By the 1970s, virtually all gasoline contained lead at an average of almost 2.4 grams per gallon.
EPA acted to curtail lead use in gasoline for two reasons. One,  by 1975 new production vehicles
were equipped with exhaust system catalysts, so these vehicles could meet the tailpipe emission
standards  for hydrocarbons, carbon monoxide,  and nitrogen oxides that were mandated by the
1970  Clean  Air Act. Unleaded fuel was required for vehicles manufactured after model year
1975, since exhaust system  catalysts would be fouled and not function properly if vehicles  were
run on leaded gasoline. As catalyst-equipped  vehicles began to dominate the  fleet, sales  of
unleaded gasoline reached about 80% of all gasoline sales by the mid-1980s.
Two,  concerns about the role of airborne lead in adult hypertension and cognitive development
in children motivated EPA to limit the overall use of lead  in gasoline. EPA required that the
average lead content  of all gasoline sold be reduced from 1.7  grams per gallon after January 1,
1975, to  0.5  grams per gallon by January 1,  1979. Initially, these limits were applicable  as
quarterly averages for the production of individual refineries, implicitly allowing trading across
batches of gasoline at individual refineries. Later, EPA broadened definition of averaging to
allow refiners who owned  more than one refinery to average or "trade" among refineries to
satisfy their lead limits each quarter.
During the late 1970s, the demand for unleaded gasoline grew steadily as more catalyst-equipped
vehicles were sold. By the  early 1980s, the market share of leaded gasoline had shrunk to the
point that EPA's limits on the average lead content of all gasoline ceased to have an impact on
the lead content in leaded gasoline. Meanwhile, evidence on the magnitude and  severity of the
health effects attributable to lead mounted.
EPA acted to curtail  sharply the remaining use of lead in gasoline, initially  setting a limit of an
average level of 1.1  gm/gal beginning on November 1, 1982.  EPA lowered the  average to 0.5
gm/gal by July 1,  1985, and then to 0.1 gm/gal by January 1, 1986. To facilitate the phasedown,
EPA allowed two forms of trading: inter-refinery averaging during each quarter and banking for
future use or sale.
Inter-refinery averaging, which  operated  from November 1, 1982, to December 31,  1985,
allowed refineries to "constructively  allocate" lead. To take an example,  suppose  refiner A
produced 200 million gallons of gasoline in the first quarter of 1983 with an average lead content


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                                                                        Trading Programs
of 1.4 gm/gal.  Refiner A could buy  60 million grams of lead credits from Refiner B, who
produced an equal quantity of gasoline with lead content of 0.8 gm/gal. In 1985, EPA permitted
refiners to bank credits for use until the end of 1987, which in effect extended the life of lead
credits to that date.
Lead  credits were created by refiners, importers, and ethanol  blenders (who reduced  the lead
content of gasoline by adding ethanol). For example, when the average lead content was limited
to 1.0 gm/gal, a refiner producing 1 million gallons  of gasoline with an average lead content 0.5
gm/gal would earn 500,000 lead credits. EPA enforcement relied on reporting requirements and
the random testing of gasoline samples. Reporting  rules were simple. Each refiner or importer
was obligated to provide the names of entities with whom it traded, the volumes for each trade,
and the physical  transfer of lead additives.  The data allowed EPA to compare reported lead
additive purchases and sales for each transaction to assure compliance. Discrepancies in reported
figures  could trigger investigations and enforcement actions. Well over 99% of all transactions
were  reported accurately;  however, several  dozen fraudulent  transactions occurred.119 In one
quarter alone, the now-defunct Good Hope refinery in Louisiana accounted for over one-half of
all reported lead credits sold during one quarter. Subsequent investigation uncovered the fraud.
Judged by market activity, lead credit trading was quite  successful. Lead credit trading as a
percentage of lead use rose above 40% by 1987. Some 20% of refineries participated in trading
early in the program; by the end of the program, 60% participated.120 Early in the program, 60%
of refineries participated in banking, rising to 90% by the end. Trading allowed the EPA to phase
out the use of  lead in gasoline much more  rapidly than otherwise would have been feasible.
Given that refiners faced very different opportunities for reducing the lead content of gasoline, a
rapid  phase-down without trading would have rewarded refiners collectively, since the market
price of gasoline would have been determined by the high-cost producers.
During the period of time when lead credits were traded, the price increased from about 3/4
cent/gm to 4 cents/gm.121 Nearly one-half of all lead traded was between refineries owned by the
          1 99
same  firm.   With external transactions, refiners  revealed a  preference to deal with  normal
trading partners,  even though they  could  obtain  a better  price elsewhere.  This preference
indicates that trading did not produce the least cost outcomes, even though there was an active
market in lead credits. In part, this result occurred because internal trades have lower transaction
and information costs than inter-refinery trades. However, it also reflects strong preferences in
the industry to avoid revealing potentially valuable information to competitors.
EPA estimated  that the banking provisions alone would involve 9.1 billion grams of lead credits
and save refiners  $226 million. Subsequently, the amount of lead banked was placed at just over
10 billion grams. Lead credit trading may be viewed in retrospect as a considerable success. The
use of lead in leaded gasoline was sharply reduced over a short period of time, without spikes in
the price of gasoline that otherwise might have occurred. The market in lead credits was quite
active, although, as  noted in the previous paragraph, refiners did not maximize their gains from
trade. In addition, some small refiners and ethanol blenders nonetheless sold many more credits
than they had earned, despite seemingly foolproof procedures for catching fraudulent trades.

6.7    Gasoline Constituents

Title II of the Clean Air Act Amendments of  1990 imposes substantially tightened mobile source
emission standards by requiring automobile manufacturers to reduce tailpipe emissions and by
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The U. S. Experience with Economic Incentives for Protecting the Environment


requiring refiners to develop reformulated fuels. The Amendments require reductions in tailpipe
emissions of 35% for hydrocarbons and 60% for NOX, starting with 40% of the vehicles sold in
1994  and increasing to  all vehicles  sold  in  1996.  Light-duty  trucks are subject to similar
requirements. EPA  is required to impose further reductions of 50% below these  standards by
2003 if it finds such reductions are necessary, technologically feasible, and cost-effective. EPA
recently issued Tier 2 gasoline sulfur standards that implement this further reduction.
Title II requires that states having CO non-attainment areas with design values of 9.5 parts per
million (ppm) or higher must implement a  program to supply oxygenated fuels to motorists in
winter months. (The term  "design values" is  defined as  the second highest ambient reading
measured over the  most recent two  years.) Gasoline sold in  the  41  cities affected by this
requirement must have  an oxygen content of 2.7% starting  in 1992. To meet the percent oxygen
requirement, states are "strongly encouraged" to create a program for marketable oxygen credits
to provide flexibility to gasoline suppliers.
In October 1992, EPA issued guidance for trading programs in oxygenates under the wintertime
oxygenated gasoline program; however, participation is optional for the affected  states.123 In
areas where trading is permitted, credits in oxygenates can be exchanged between parties that the
state has designated as responsible for satisfying fuel  requirements, also known as the Control
Area Responsible Party  or CAR. Normally the CAR is  the  party who owns gasoline at a
terminal. The CAR receives data on the volume and oxygen content of all gasoline shipped to the
terminal  and assures that the average oxygen content is  2.7%  by weight. Where trading is
allowed, the CAR would be free to sell excess oxygenate credits to other CARs or buy oxygenate
credits from a CAR to meet the 2.7% requirement. While trading in  oxygenates theoretically
offers a cost-effective means of meeting wintertime oxygenate requirements, in fact, the trading
programs have been moribund. Only the  Pennsylvania part of the Philadelphia  ozone non-
attainment area (which also includes parts of New Jersey) adopted trading rules. Within that area,
no trades have been reported. Other areas  have declined  to allow trading, citing the costs of
monitoring such a program as prohibitive.
Title II also requires that the 9 worst ozone non-attainment areas offer reformulated gasoline
during the summer months. It also specifies several  performance characteristics for reformulated
gasoline as well as certain fuel properties, including a minimum oxygen content of 2% by weight
beginning in 1995. Under so-called "opt in"  provisions, an additional 31 areas applied to EPA, so
they could participate in the reformulated gasoline program.
Title II requires that EPA establish trading  systems for three constituents of reformulated fuels:
oxygen,  aromatics,  and benzene. Under a trading system, refiners could meet  reformulated
content requirements by producing gasoline that met the specifications or by trading credits in
these constituents with other refiners, so collectively the standards were satisfied. EPA's rules
for reformulated gasoline set up an averaging-and-trading  system as well as an  averaging-and-
trading system for meeting EPA's performance standards for VOCs and toxic air chemicals.
There  has been considerable trading and  averaging of  reformulated  gasoline requirements,
mainly from the Midwest to the East Coast. That trading  has led to some regional failures to
meet oxygenate retail averages,  and it has resulted in a tightening  of the oxygenate  standards for
reformulated gasoline.
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                                                                       Trading Programs
6.8    Tier 2 Emission Standards

On February 10,  2000,  EPA promulgated new standards for tailpipe emissions of NOX from
passenger cars and light-duty trucks and for the  sulfur content  of gasoline.124 The  tailpipe
emission action was taken under EPA's authority to  set tailpipe  emission standards for new
vehicles  (Section 202 of the Clean Air Act). The fuel  standard action was based on EPA's
determination that motor  vehicle fuels contribute to air pollution and  adversely affect the
performance of emission control systems (an authority under Section 211 (c)(l) of the Clean Air
Act).
Manufacturers will be able to average their Tier 2 vehicles to comply with the corporate average
NOX tailpipe standard of 0.07 grams per mile  (gpm), which is more than a 75% reduction from
the current 0.30 gpm. standard.125 When a manufacturer's corporate average NOX emissions fall
below  the standard,  it will earn credits that  may be banked for later  use or sold to  another
manufacturer. These credits will be very similar to those currently in  place for non-methane
organic gas (NMOG) emissions under California and the federal National Low Emission Vehicle
(NLEV) regulations. The NOX credits will have unlimited life. Manufacturers would be permitted
to run  a credit deficit for 1  year and carry forward that deficit. If the manufacturer has  a credit
deficit in the second year, the manufacturer would be subject to an enforcement action.
Refiners  and gasoline importers must satisfy a corporate average gasoline standard of 120 ppm
and a cap of 300 ppm sulfur beginning in 2004. In 2005, this corporate average standard drops to
90 ppm sulfur, with the  cap remaining at 300  ppm.  The format of the program changes  in 2006
from a corporate  average to a per-refmery  requirement.  At that time, the cap will be  80  ppm
sulfur, and most refiners will have to produce gasoline that averages no more than 30 ppm sulfur.
Refiners  who produce gasoline with a corporate average sulfur content lower than the standard
will be allowed to bank  credits for future use or for sale to other refiners that are unable to meet
the standard. Credits produced under the  phase-in years have a  limited life.  Those  credits
produced beginning in 2006  have an unlimited life.  The program runs until  2010. However,
refiners will be able to carry forward a deficit for 1 additional year, providing that the average is
below  80 ppm sulfur.
The standards concern hydrocarbon  emissions, which was termed "NMOG" in the rulemaking.
Manufacturers would have to satisfy a corporate average standard, but they could meet this
standard  through  the trading of credits earned by manufacturers that exceeded the corporate
average standard.  Banking also would be allowed. Banked credits, however, would be subject to
discounting over time.

6.9    Heavy-Duty Truck Engine Emission Averaging

Title II of the Clean Air Act Amendments of 1990 authorizes EPA to set standards for particulate
matter, NOX, and  other emissions from heavy-duty truck engines. The standards must represent
the maximum degree of reductions achievable, taking cost and other factors into consideration.
EPA has interpreted this provision to authorize the use of averaging, banking, and trading as part
of the process of realizing the maximum degree of reductions achievable.
Under this program,  there has been  a great deal of averaging and banking but only one trade
between firms, a 1996 exchange of rights to 5  tons of parti culate matter from Navistar to Detroit
Diesel. The averaging of emissions facilitates compliance, since not every class of engines has to
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The U. S. Experience with Economic Incentives for Protecting the Environment


meet the 75% reduction standard. How much engine manufacturers actually save is unknown.
However, a recent paper examined a similar type of engine performance averaging program that
was proposed in California  for light-duty trucks. It concluded that the cost savings of the
program were likely to be modest.12

6.10  Corporate Average Fuel  Economy (CAFE) Standards

The Energy Policy and Conservation Act of 1975 established corporate average  fuel economy
(CAFE) standards for all manufacturers that sell vehicles in the United  States. The standards
were first imposed in 1978 and are  now 27.5 miles per gallon (mpg) for production passenger
cars and  20.7 mpg for production light-duty vehicles. (Light-duty vehicles include sport utility
vehicles, minivans, and pickup trucks with gross vehicle weight ratings less than 8500  pounds.)
Corporate average fuel economy and compliance with the CAFE standard is determined as the
harmonic mean  of the fuel  economy of  automobiles  produced by  each manufacturer.127
Harmonic average  fuel economy is more difficult to achieve than is simple averaging. For
example, to achieve a CAFE standard of 27.5 mpg, two 35-mpg vehicles must be  sold for every
20-mpg vehicle sold. The penalty for failing to meet the CAFE standard is $5.50 per automobile
for every 0.1-mpg shortfall. Carry back and carry forward provisions akin to banking do exist,
and they allow shortfalls in one year to be met with credits from another year.
CAFE standards have been  the primary  national policy instrument for improving personal
vehicle fuel economy and for reducing gasoline and oil consumption in the transportation sector.
From  the late 1970s through  the mid-1980s, CAFE standards—working in concert with higher
gasoline prices through most of that period—nearly doubled the average  fuel economy  of new
personal vehicles. Throughout the 1990s, with oil and gasoline prices recording historic lows  on
an inflation-adjusted basis, CAFE standards provided a floor for automotive fuel economy. Fuel
economy was higher than it would have been absent the standards. Therefore, compliance with
these standards reduced gasoline consumption.
Since  fuel  economy  is  inversely  proportional to  carbon dioxide  emissions,  the  primary
greenhouse gas from motor vehicles, CAFE has yielded reductions in carbon dioxide emissions
and overall greenhouse gas emissions. (Fuel economy is largely unrelated to emissions of criteria
pollutants such as particulate matter, CO, and NOX).  In this regard, CAFE can be viewed as  an
intra-firm trading system to meet a de facto standard to  reduce the carbon  dioxide emissions
from personal vehicles.
As a  policy  instrument,  CAFE has  both  advantages  and disadvantages. Some of CAFE's
advantages follow.

   •  CAFE is in place, it has proven to be a workable program, and lessons have been learned
      about how it could be improved.

   •  CAFE has yielded significant reductions in gasoline consumption and carbon dioxide
      emissions, which would not have been the case without these standards.

   •  The general public strongly supports CAFE relative to other alternatives to increase fuel
      economy and reduce carbon dioxide emissions, such as higher gasoline taxes.

   •  CAFE includes many market elements, such as
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                                                                       Trading Programs
   •   sales-weighted averaging (as opposed to a floor that every vehicle must meet),

   •   a 7-year rolling average for compliance (and credits can be carried back or forward for 3
       years), and

   •   the option of paying monetary fines in lieu of meeting the standard, a choice that is left to
       the discretion of the manufacturer. (Several non-U.S. firms pay these fines. All U.S.
       automakers have chosen to meet CAFE standards in the past.)
Like any policy instrument, CAFE also has disadvantages. Some of them follow.

   •   CAFE is inconsistent with low fuel prices. That is, when gasoline prices are relatively
       low, there is less demand for high-fuel economy cars, and manufacturers must sell higher
                                           1 9R
       fuel economy than the market demands.

   •   CAFE does nothing to reduce vehicle miles traveled (VMT).  (Some analysts argue that
       CAFE increases VMT and emissions by lowering the cost of driving, i.e., raising the fuel
       economy of vehicles means, in theory, that less gasoline is needed to travel a certain
       number of miles. Other analysts assert that these effects are negligible.)

   •   CAFE does have a cost, either in terms of the higher prices of vehicles or the tradeoffs
       that must be made with other vehicle attributes such as utility, weight, or acceleration.

   •   CAFE is strongly opposed by automakers, whose objections include higher vehicle cost
       and the potential reduction in  safety for passengers in these lighter weight vehicles.
Alternatives to  CAFE standards would  include higher gasoline taxes and  "feebates," which
would assess fees to the sale of vehicles with low-fuel economy and rebates for the purchase of
high-fuel  economy  vehicles.  Like CAFE, each  of  these  options  has  advantages  and
disadvantages. The relative merits of these  options relative  to CAFE are debated, as is the
magnitude required for such policies to provide the same benefits as  CAFE.

6.11   Hazardous Air Pollutant (HAP)  Early Reduction

In December 1992, EPA issued final rules for the early reduction of hazardous air pollutants.129
If a  facility qualifies for  inclusion  in the program by reducing  hazardous air pollutants by
90%—95% in the  case of hazardous particulate  emissions—prior to EPA proposing maximum
available control technology (MACT) regulations on the source category, the facility may defer
compliance with the new MACT for as long as 6 years. Because participation in the program is
voluntary, a source must anticipate cost savings, or it would not have an incentive to participate.
Once a  source is accepted into the program,  it becomes legally obligated to  meet the 90% (or
95%) reduction in emissions. Trading exists intertemporally across time in that sources exchange
their early reductions  for their later  reductions. (The example in the next paragraph illustrates
how this program works.)
EPA has shown that such  a program can benefit the environment.  Assume a source emits 100
tons per year. Under the early reduction program, it would emit 10 tons per year. Further assume
that MACT would  have the source reduce emissions to 2  tons per year in year 5 and thereafter.
The source has reduced emissions by 360 tons in years 1 through—4 in exchange for 48 tons of
emissions in years  5 throughlO. Total emissions are reduced by 312  tons. Table 6-4 illustrates
the time profile  of emissions.
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By mid-1993, over 60 chemical plants had asked to participate in the program, so they could
avoid the synthetic organic chemical MACT standard for 6 years. Other types of facilities also
had applied to join the program.130

Table 6-4. Benefits of Achieving Early Emission Reductions
YEAR
1
2
3
4
5
6
7
8
9
10
TOTAL
MACT EMISSIONS (in tons)
100
100
100
100
2
2
2
2
2
2
412
EARLY REDUCTION EMISSIONS (in tons)
10
10
10
10
10
10
10
10
10
10
100
Source: 57 FR 61970

6.11.1 The Petroleum Industry NESHAP
EPA's National Emission Standard for Hazardous Air Pollutants (NESHAP) rule, promulgated
on August 18, 1995, establishes Maximum Available Control Technology (MACT) requirements
for process vents, storage vessels, wastewater streams, and equipment leaks at refineries.  The
rule specifically includes marine tank vessel-loading activities and gasoline loading racks.
The rule excludes distillation units at pipeline pumping stations and certain process vents  that
EPA determined would be subject to future NESHAP rules: catalyst regeneration on cracking
units, vents on sulfur recovery units, and vents on catalytic reforming units.
On September  19,  1995, EPA issued a final NESHAP rule for marine vessel tank-loading
operations. The rule affects new and existing marine bulk loading and unloading facilities  that
emit 10 tons  or more of a single hazardous  air pollutant (HAP) or 25 tons of any aggregate
HAPs. Affected facilities  must install a  vapor collection  system to  collect  volatile organic
compounds (VOCs) that are displaced from marine tank vessels  during loading. The vapor
recovery system must achieve a 95% reduction in emissions, 98% if combustion is used.
Both of these NESHAP rules permit the use of emissions averaging among marine tank vessel-
loading operations, bulk gasoline  terminal or pipeline breakout station storage vessels and bulk
gasoline  loading racks,  and  petroleum refineries.  Emissions averaging gives the owner the
opportunity to find the most cost-effective control strategies for a particular situation. The owner
may over-control at some emission points and under-control at others to achieve the overall level
of emissions control that is required.

6.11.2 Hazardous Organic Chemical NESHAP
The Hazardous Organic Chemical NESHAP (or "HON") affects more than 400 facilities of the
Synthetic Organic Chemical Manufacturing Industry (SOCMI). The final rule requires sources to
limit emissions of organic hazardous air pollutants (HAPs) and to apply "reference control" or
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                                                                       Trading Programs
equivalent maximum available control technology (MACT). In recognition of the high costs of
some MACT controls in this industry, the rule allows emissions averaging. Under this alternative
method of compliance, sources engaging in pollution prevention measures that  over-control at
some points earn emissions credits that can  be used to offset the debits they accrue when
measures under-control at other points.

6.12   Regional Clean Air Incentives Market (RECLAIM)

Some of the highest ozone levels in the nation are recorded in the Los Angeles area. The South
Coast Air Quality Management District (SCAQMD  or District) also fails to meet the particulate
matter and CO NAAQS, although not by such a large margin. Historically, the  SCAQMD has
relied on source-specific  emissions  regulations to  limit the emissions of ground-level  ozone
precursors (as well as other pollutants).
Substantial progress has been made over the past three decades in improving the air quality in the
Los Angeles Basin. However, it was apparent to SCAQMD officials that further progress toward
attaining federal  standards would be prohibitively expensive if they used traditional regulatory
methods. By 1990, the marginal costs of NOX control in the District had reached $10,000 per ton
to $25,000 per ton at electric power plants, versus $500 per ton to $2000 per ton elsewhere in the
United States. Proposed SOX controls on catalytic cracking units at refineries would have  cost
$32,000 per ton, versus the national costs of less than $500 per ton for  other  methods of
controlling SC>2 emissions. (See Section 6.3, Acid Rain Allowance Trading.  Consequently, the
District began to investigate the feasibility of creating a marketable permit in reactive organic
gases (ROG) and NOX as well as SOX—the latter for its role in the formation of small particulate
matter—as a means of accomplishing air quality goals at lower cost.
The District  initially proposed a marketable permits program termed "RECLAIM" (for Regional
Clean Air Incentives  Market). The program  would include  about 2,000  sources of reactive
organic gases (sources that represent about 85% of permitted  stationary source emissions);  700
NOX sources (sources that represent 95% of permitted NOX emissions); and about 50 sources of
SOX  (sources that represent about two-thirds  of permitted  stationary  source  emissions). Each
market would start with an allocation of emissions to sources equal to the 1994 emissions target
in the District's Air Quality Management Plan (AQMP). Each marketable permit program would
be designed to reduce emissions annually  by the  amounts necessary to  achieve  the AQMP
targets: Meeting  air quality standards for SOX and NOX emissions by 2003 and meeting the goals
for reducing ROG emissions by 2010.
For the NOX and SOX programs, emissions originated at combustion sources with well-defined
exit points to the environment. Emission monitoring would be based on stack gas measurement
using continuous emission monitors  (CEM).  For  ROG, the market was  based largely on
evaporative emissions, which are inherently more difficult to measure. Prospective ROG trading
also was complicated by the fact that ROG are not homogeneous; some react much more readily
to form ozone than others do. Furthermore, some ROG are classified as toxic pollutants  and
regulated separately. After about  1 year of analysis and discussion, RECLAIM officials decided
to defer including ROG in its program and to concentrate on the program's design for NOX and
SOX.
A basic issue for both programs was which facilities would be included. Despite the prospect for
lower control costs that would accompany participation in  a marketable  permit program, a
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number of sources argued for exemptions. These sources were concerned about the future price
and availability of marketable permits. District officials eventually exempted sewage treatment
plants, landfills, and three small municipally owned power plants.
Baseline emission allocations proved contentious. According to the basic design features for
RECLAIM, emission allocations would be based on the 1994 emission target for each source.
This target was computed  in the AQMP by taking reported  1987 emissions and  deducting
projected reductions that were mandated by  air quality regulations. Due to a recession in the
early  1990s, emissions in  1991, 1992, and 1993 were lower for many sources than what the
AQMP required.  Many interest groups, including the  affected sources, argued  that baseline
allocations should be based  on the AQMP.  Environmental groups argued that  actual  1993
emissions should serve as the baseline for emission allocations, not the AQMP. The compromise
that was struck defines the emission cap for each source as the highest year of reported emissions
between 1989 and 1991, less any reductions required  by regulations  that were  implemented
through 1993.
Monitoring and reporting issues also proved controversial, with lengthy  debates over  how
emissions would be measured and how often reports would be filed. Industry sought to file one
report  per year, while public health agencies and environmentalists wanted  daily or  weekly
reporting. The EPA sought assurance that the hourly NOX standard would not be violated.
In an attempt to allay industry concerns that frequent monitoring would be  too expensive, the
AQMD developed  a  central computer that  would accept  data  directly  from  the facilities
participating in RECLAIM. Sources installed continuous emission monitors, or CEMS, which
cost $100,000 to $150,000 each, on every boiler emitting 10 tons annually or more.  These CEMs
recorded pollutant readings minute by minute and sent the readings to a remote  terminal that
averaged the readings  over  15-minute periods. The remote terminal then forwarded the number
to the AQMD central computer. An artificial intelligence system analyzed the data and verified
compliance by  each boiler. When the system detected a potential  problem, inspectors were
dispatched to investigate further.
The District projected that the one-time costs of installing monitoring equipment  would be
approximately $13 million, with negligible annual operating costs. The District projected that
annual  savings  in compliance costs relative  to traditional forms of regulation would be an
average of $58 million annually for each of the  next  10 years. These calculations effectively
muted the industry's complaints  about the costs of monitoring equipment.
The actual trading works  as  follows. Each  source  has a declining allocation of RECLAIM
Trading Credits (RTC)  for each year from  1994 to 2003.  After 2003, the balance remains
constant. The RTC are denominated in pounds: one RTC equals one pound of emissions. Sources
are free to trade RTC for the current year or for future years; however, all RTC are good only for
the year for which they are issued.  Trades in RTC  are limited by geographical factors;  for a
potential buyer, the number of credits required to offset a pound of emissions varies with the
location of the seller. The District maintains records of all  transactions in RTC and shares that
information with market participants.
Under RECLAIM rules, the District may impose penalties for net emissions (including trades) in
excess of the permitted amounts.  One such penalty would reduce next year's emission allocation
by the amount that emissions  exceeded the allowable limit. Other possible actions include civil
penalties and the loss of the facility's operating permit.
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                                                                       Trading Programs
In 1994, the NOX and SOX markets began with 370 sources and 40 sources, respectively. Both
markets represented approximately 70% of stationary  source emissions. Analysis shows that the
program should reduce NOX emissions by an average of 8.3% per year, which amounts to a
cumulative reduction of 80 tons per day by 2003. It should also reduce SOX emissions by 6.8%
per year, which amounts to  a  cumulative reduction of 15  tons per day by 2003. The District
projects that RECLAIM will lower compliance costs by $57.9 million a year when compared to a
traditional regulatory approach: $80.8 million versus $138.7 million.
As a means of jump-starting the market, the SCAQMD held an auction of RTC on July 29, 1994.
Utilities, which had by then installed new emission control equipment and did not need their full
allocation, were large sellers of NOX credits. A total of 114,676 NOX credits and 9,400 SOX
credits changed hands at the auction. Prices for RTC  were  low for near years and much higher
for more distant years. In all cases, though, the cost for a ton of credits was far lower than the
marginal control costs incurred from recently enacted  or proposed regulations. The per-ton price
ranged from less than $20 to $2000, depending upon the credit's year of validity, prices that are
very much in line with the 1994 auction. (See Table 6-5 for the prices of these credits.)

Table 6-5. Reclaim Trading Credit Prices
VINTAGE*
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2010
N0x($perton)**
1994
2
334
574


1,480
1,580
1,700
1,830
2,090

1997



227






1,880
S0x($perton)**
1994

1,500
1,900








1997



64





2,393
2,385
Notes: * The term "Vintage" refers to the year in which the credit could be used. ** These figures are based on prices at a July
      1994 auction and 1997 market prices.
Source: BNA Daily Environment Report, Aug. 10,1994; SCAQMD 1998.
In June  1995, the  SCAQMD proposed adding VOC emissions to RECLAIM; the initiative
included almost 1,000 facilities in 14 industrial categories that generated 4 tons or more of VOC
annually. In contrast to the NOX and SC>2 programs that were scheduled to last  for 7 years, the
VOC program would last 14 years. Officials estimated that the program would reduce emissions
from these sources from 53 tons a day, the projected level for 1996, to 15 tons a day by 2010.
The proposal to include the trading of VOCs within RECLAIM met with fierce opposition from
environmentalists.  They charged that the 1989 baseline selected for emissions by SCAQMD
could result  in a  huge increase in emissions over 1993 levels when the program is fully
implemented. Regulators  sought the 1989 baseline to avoid locking industry into emission levels
that were associated with the recessionary  conditions that occurred in 1991, 1992,  and 1993.
Industry representatives note that the AQMP has  a schedule for orderly reductions over time
toward the  2010 goals. In their view, emissions increases that occur from  1993  to 1996 as the
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The U. S. Experience with Economic Incentives for Protecting the Environment


economy pulls out of a recession are not relevant so long as emissions remain below the target
levels in the AQMP.
Unable to resolve the baseline issue, the 12-member governing board of SCAQMD set aside the
proposed rule to include trading of VOCs within RECLAIM in January 1996. The board then
directed its staff to develop  a program to trade VOC emissions separately.  Due to  strong
opposition  in  some quarters  and to difficulties in accurately measuring these emissions,  a
subsequent VOC initiative ultimately was shelved.
RECLAIM has won praise for its progress to date. A state-mandated performance review found
that the District has a state-of-the-art air quality program that is performing  efficiently  and
effectively. According to the report, RECLAIM demonstration projects have helped stimulate
technological development. Furthermore, its outreach and compliance programs  have helped
save or create more than 10,000 jobs, while, at the same time, these programs have improved air
quality.
Trading in the program has been active, expanding from $2.1 million worth of credits in 1994 to
$21 million worth of credits in 1997.131 The largest buyers of credits have been large refineries
and utilities, while the sellers were smaller refiners, glass container manufacturers and facilities
that ceased operations. Of the sources that went out of business or left the area, only a handful
cited environmental regulations as a factor in their decision.
RECLAIM credit prices have remained far below the prices that were projected at the time of
program adoption. The average price in 1997 for NOX credits of the same vintage was just $227
per ton, while  2010 vintage credits were $1,880 per ton. Average 1997 prices for SOX credits
were as low as $64 for  1997 vintage credits and as much as  $2,393 per ton for 2003 vintage
credits. According to Cantor Fitzgerald, a broker in emission reduction credits, the average price
for SOX RTC in early 2000 was about $1500 per ton for 2000 vintage credits and $2,300 per ton
for 2005 to 2010 vintage credits.132

6.13   Other State Programs

In addition to  RECLAIM, emission-trading programs are in various stages of development in
several  states.  This section  reviews  activities  in  Illinois,   Michigan,  New  Jersey,  Texas,
Pennsylvania,  Colorado, and Washington.  The  state programs are an  outgrowth of EPA's
proposed 1995 Open Market Trading Rule.133 While the 1995 proposal was never finalized,  it
was incorporated into Draft Economic  Incentive Program (EIP) Guidelines in September 1999.
The Open Market Trading Rule and the subsequent EIP Guidelines provided guidance for states
that wish to institute emissions trading as part of their State Implementation  Plans (SIP). As is
the case with all draft guidance documents, the guidelines are subject to change. The advantage
of EPA's generic emission trading  rules over offsets, bubbles,  netting, and  banking is that
individual trades do not require a SIP revision or EPA review. By following the generic rules, the
transaction costs of emission trading can be reduced substantially.

6.13.1 Illinois Emission Reduction Market System
The Illinois Emission Reduction Market System (ERMS) allows the trading of VOC emission
credits between firms in the Chicago non-attainment area. Like RECLAIM and the Acid Rain
Program, the Illinois ERMS is an allowance program designed with an overall emissions cap and
phased reductions to meet air quality goals. By 2007,  when the market is scheduled to end, the
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                                                                      Trading Programs
Chicago area must be in attainment for the national ambient air quality standard for ozone. Air
quality modeling  revealed that controlling emissions  of volatile organic matter would be  far
more effective in reducing ozone than controlling NOX emissions.
The ERMS is applicable to sources in the Chicago ozone non-attainment area that emit more
than 10 tons per year of volatile organic matter (VOM) during the ozone season and that  are
subject to the Clean Air Act Permit Program. Sources receive an allocation of allotment trading
units (ATU), each of which represents the right to release 200 pounds of VOM during the May
1-to-September 30 allotment period. Sources may receive a program exemption if they accept a
15-ton per  season cap on emissions or if they agree to limit emissions to 82% of baseline
emissions. Sources in the program  receive an allocation that is  12% lower than their baseline
emissions, defined as the two highest emission years during the 1994-1996 period.

6.13.2 Michigan Emissions Trading Program
The Michigan Air Emission Trading Program began in 1996.134 It provides for the banking and
trading of emission  reduction  credits (ERCs) in NOX, VOCs,  and all  criteria pollutants except
ozone. ERCs, which are  denominated in tons per year, may be generated in the following ways:
(1) through a facility shutdown;  (2) through a permanent reduction in operations that results in
reduced emissions; (3) through the use of new technologies, equipment, or inputs that result in
reduced emissions; and (4) through the installation of pollution control equipment that decreases
actual emissions. Various methods may be used to measure emissions: CEM; stack gas sampling;
measuring surrogates (e.g., some VOC, but not all VOC); inputs; process conditions;  etc. In
general, credits obtained through a  facility shutdown cannot be traded within a non-attainment
area to satisfy a source's  obligations.

6.13.3 New Jersey Emission Trading Program
The New Jersey Emission Trading Program is similar to Michigan's program, except that it
applies only to  NOX and VOC.135  The New Jersey  Department of Environmental Protection
maintains a registry of discrete emission reduction (DER) credits that are transferred. Average
prices for 2000 are reported in  Table 6-6.

 Table 6-6. Open Market Emissions Trading Registry Report (2000)
POLLUTANT
NOx
NOx
VOC
VOC
OZONE SEASON
No
Yes
No
Yes
YEAR-TO-DATE
AVERAGE PRICE PER DER
$43.91
48.40
127.50
127.50
  Source: http://www.omet.com/scripts/omet/OMET_Report_Month_Selector.idc

6.13.4 Texas Emissions Trading Program
The Texas Natural Resource Conservation Commission (TNRCC) Emission Credit Banking and
Trading Program provides a market-based framework for trading emission reductions of volatile
organic compounds (VOC), nitrogen oxides (NOX),  and certain other criteria pollutants from
stationary, area, and mobile sources. The program was designed to provide additional flexibility
for complying with the Texas Clean Air Act while creating a net reduction in total air emissions


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with each transaction. At present, the TNRCC is developing a NOX cap-and-trade for certain
ozone non-attainment areas.

6.13.5 Pennsylvania Emission Trading Program
The Pennsylvania program is similar to the Michigan program, with some exceptions. ERCs may
be generated only for VOCs and NOX. ERCs can be transferred  from dirtier areas—the five
Philadelphia counties—to  cleaner areas, but not  from the cleaner areas to the dirtier ones.136
ERCs may be transferred within the five-county  Philadelphia area with some limitations. The
Pennsylvania Department of Environmental Protection (DEP) maintains a registry of ERCs that
are available for trade or future use.  Buyers and sellers of ERCs are encouraged to contact DEP
for assistance.

6.13.6 Wood Stove and Fireplace Permit Trading (Colorado)
During the 1970s and  1980s, a number of mountain  communities in Colorado  experienced
unacceptably high levels of paniculate pollution during winter months due to the use of wood-
burning stoves and fireplaces. The growing popularity of skiing and other winter activities has
exacerbated the problem in some of these areas.
Telluride tried to  combat the problem through traditional forms of regulation. In 1977, the city
passed an ordinance limiting new residential construction to one stove or fireplace per unit. This
rule might have slowed the  deterioration  in air quality. However,  new construction continued,
which virtually guaranteed that air quality would continue to worsen, which it did into the 1980s.
In 1987, the city adopted a program that was part traditional  and part modeled on air pollution
offsets that would guarantee improvements in air quality. Owners  of existing wood stoves and
fireplaces were grandfathered with operating permits, but they were required to meet stringent
performance standards within 3 years: 6 grams of particulate matter and 200 grams of CO per
hour. During the first 2  years of the program, those individuals who converted their fireplaces
and wood stoves to natural gas could earn a rebate of $750, which would partially defray their
costs. For new construction, no new permits would be issued  for wood-burning stoves or
fireplaces. To install such an appliance in a newly constructed building, the owner must produce
permits to operate two fireplaces  or  stoves. These permits could only be acquired from existing
permit owners.
In a matter of months, a lively market in second-hand permits developed, with potential buyers
and sellers making contact through  classified advertisements. By  the mid-1990s, permit prices
were in the $2,000 range.  In the years after Telluride adopted the program, it has reported no
violations of the ambient air quality standard for parti culate matter.
Other  communities  in Colorado  soon  implemented  similar  programs,  which  combined
performance-based standards that encouraged the  retirement of older inefficient  fireplaces and
wood stoves.  All these programs focused on reducing the burning of wood, but some offered no
rebates for converting these fireplaces and stoves to natural gas. From the available evidence, the
programs appear to have been a success, achieving air quality goals quickly and at a relatively
modest cost. A project for future  research would compare and contrast the approaches taken by
different communities in limiting the use of heavily polluting wood stoves and fireplaces, as well
as assess the effectiveness of the programs.
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                                                                       Trading Programs
6.13.7 Grass-Burning Permit Trading (Washington)
The City of Spokane, Washington, is nestled in the Spokane River Basin about 400 feet below
the surrounding Columbia River Plateau. The basin forms a natural trap for air pollution during
temperature inversions. The area exceeds the  federal 24-hour standard for  particulate matter
several times each year, due to a combination of unpaved roads, wind-blown dust, grass burning,
and wood-burning stoves.
Spokane is a major growing region for turf grass seed, with between 15,000 and 30,000 acres
planted for seed production each year. After harvest each year, the fields are burned in August or
September to control weeds and pests and to  stimulate the grass to produce seed  rather than
concentrate its energy on vegetative growth. In 1990, air pollution authorities in Spokane County
implemented an innovative program to reduce grass burning as a source of particulate matter.137
Grass burning had been subject to permitting for years. The program superimposes a countywide
cap of 35,000 acres that may be burned each year onto the existing permit process. Growers are
allocated permits to burn grass based on burning permits they held during the base period, 1985
to 1989. The overall cap does not appear to be binding; it exceeds the actual  acreage burned in
every year since 1971. However, some grass growers found themselves  short  of desired permits
because they had planted other crops during the base period or because they had rented their land
to tenants (who held the permits) during the base period.
The  program  allows transfers  of  grass-burning permits in three situations: permanent land
transfers;  temporary land  transfers by lease; and transfer through an auction held  by the Air
Pollution  District. When  permits  are transferred through  the auction, 10% of the burnable
acreage is deducted from the buyer's account, resulting in a small decrease over time in the total
number of burnable acres. The auction mechanism is  patterned after the acid rain allowance
auction. Parties submit sealed bids and offers prior to the auction.  The party with the highest bid
is matched with the party  with the  lowest offer, with the actual transaction occurring at a price
midway between the bid  and offer.  If the entire quantity  offered was not purchased by that
bidder, the bidder with the  next lower price is then matched with the remaining offer. The
process continues until all potential transactions are completed.

6.14   Effluent Trading

Despite many academic studies showing the potential benefit of effluent trading and considerable
effort by EPA and the states to  implement the concept, effluent trading  has yet to live up to its
full promise. While conceptually very similar to emission trading (which deals with emissions to
the air),  effluent  discharge and its regulation  also differ significantly from emission  trading
because effluent trading deals with emissions to the water.
Water pollution is  caused  by  both  point and non-point  sources. Point  sources discharge
pollutants into surface waters through a conveyance such as a pipe or ditch.  Primary point
sources include publicly owned treatment works (POTWs) and industries. Non-point sources add
pollutants from diffuse locations such as surface  agricultural runoff or unchannelized urban
runoff. The most important non-point source of water pollution is agriculture. The  differences
between emission trading and effluent trading have made it difficult to design practical programs
that can capture the potential benefits of effluent trading. New efforts by EPA to implement its
Total Maximum Daily Load (TMDL) program in areas with impaired water quality are expected
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to vastly increase the use of effluent trading. For current EPA efforts to promote effluent trading,
see http ://www. epa. gov/owow/watershed/trading. htm.

6.14.1 Effluent Bubble
In concept, a water effluent bubble  operates identically to the air emission bubble described in
Section 6.2.2, Bubble Policy.  A facility with  multiple  discharge  points is wrapped in an
imaginary bubble, with a facility-wide discharge limit rather than separate limits at the individual
points of discharge. In contrast to the 100-some bubbles approved under the air emission trading
program, only a handful of facilities  within the iron and steel industry have received the authority
to bubble effluents. The historical development of  that program is described in the following
paragraphs.
Asked by EPA to evaluate the potential for  water  effluent bubbling, a contractor ventured in
1981  that bubbling would not produce cost savings for most industrial facilities.138 The reasons
include the  fact that  most industrial facilities already have centralized  wastewater treatment
plants with a  single point of discharge, trades between outfalls may be circumscribed due to
water quality  concerns,  and some  facilities  already operated under permits that allowed all
technologically feasible tradeoffs to be made.
Despite the acknowledged limitations, a subsequent study identified four plants in the  iron and
steel industry that would, potentially, benefit from water bubbling as  they went from BPT (best
practicable  control  technology  currently  available)  to  BAT  (best  available  technology
economically  achievable).139 The projected  savings were less  than $1 million annually.  A
retrospective study estimated the savings  from effluent bubbles in the iron  and steel  industry
were  far larger: in excess of $122 million, as shown in Table 6-7.

Table 6-7. Estimated Cost Savings from Iron and Steel Intraplant Trades
FACILITY
A
B
C
D
E
F
G
H
1
J
TOTALS
OUTFALLS
IN TRADE
5
2
2
3
4
2
2
2
3
3

TRADING PERIOD
FOR ANALYSIS
1987-1993
1983-1986
1985-1993
1984-1993
1986-1993
1983-1988
1984-1993
1984-1989
1983-1985
1984-mid- 1980s

PRESENT VALUE OF
REDUCED CAPITAL
COSTS (in millions of
1993 dollars)
$3.9
No Data
2.4
2.1
No Data
10.3
5.5
8.9
57.7
No Data
$90.8
PRESENT VALUE OF
REDUCED OPERATING &
MAINTENANCE COSTS
(in millions of 1993 dollars)
$2.4
No Data
2.5
1.2
No Data
3.9
3.1
6.8
12.1
No Data
$32.0
PRESENT VALUE OF
ALL REDUCED COSTS
(in millions of
1993 dollars
$6.3
No Data
4.9
3.3
No Data
14.2
8.6
15.7
69.8
No Data
$122.8
Source: Kashmanian et al. 1995.
EPA's implementation of the effluent bubble for the iron and steel industry was dictated by a
1983 settlement agreement among EPA, the Natural Resources Defense Council (NRDC), and
the American Iron and Steel Institute. The agreement supports the use of bubbling under the
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Clean Water Act, but it imposes constraints on the approach. Bubbling of effluents from iron and
steel plants is acceptable, provided that net reductions are achieved  in each pollutant that is
bubbled. Relative to the BAT limits that are in effect, bubbling must involve a reduction of at
least 15% of the amount of both suspended solids and oil and grease and 10% of the amount of
other pollutants. The NRDC reserved the right to challenge bubbles that might be proposed for
other industries.
Complying with the  steel effluent bubble has produced considerable  cost  savings for  the
industry. According to a former EPA employee  who is now  a consultant to  the industry,
however, the bubble has not resulted in any pollution  control innovations.140 EPA will soon
propose  revisions  to the iron  and  steel regulations  that would make  the  effluent bubble
unnecessary.

6.14.2 Effluent Trading: Point-to-Point
Effluent trading dates to  the early  1980s. At that time, the State of Wisconsin created a state-
wide program to give  sources  such as wastewater treatment plants and  pulp  and paper mills
added flexibility to meet the state's water quality standards through the trading of effluent rights.
The first application of this authority was on the heavily industrialized lower Fox River.
The Fox River program applies to the last 35miles of the river, allowing trading between point
sources with  permits to  discharge wastes  that increase  biochemical  oxygen demand (BOD).
Sources that control more waste than their discharge  permit requires can sell those incremental
rights to sources that control less waste than is required. Strict  conditions are imposed on would-
be buyers of rights: Trading of rights is allowed only  if the buyer is a new facility, is increasing
production, or is unable  to  meet  required discharge limits  despite  optimal operation of its
treatment facilities. Traded rights must have a life of at least 1 year, but they may not run past the
expiration date of the seller's  discharge permit, which is, at most,  a 5-year period. Since effluent
discharge limits may change with each permit renewal, there can be no guarantee that rights that
were traded-in during one permit period would be available during subsequent  permit periods.
Analysis predicted that the potential gains from effluent trading among sources on the lower Fox
River was significant: $7 million annually or roughly one-half of anticipated compliance costs
for BOD regulations.141
Later, the state initiated BOD trading programs on 500 miles  of the Wisconsin River. For
administrative reasons, the Fox River was divided into three segments and the Wisconsin River
into five segments. The Fox River program included 21 parties: five mills and two towns in each
of the three administrative segments.  Twenty-six parties are  included in the Wisconsin River
program. To date, trading under these programs has been disappointing, involving a single trade
on the Fox River between a  municipal wastewater plant and a paper mill. One reason for the
limited  activity is that  dischargers  developed a  variety  of compliance alternatives  not
contemplated  when  the  regulations were  drafted. Second,  there were  questions about  the
vulnerability of the program to legal challenge, and these questions remain since the Clean Water
Act does not explicitly authorize trading. Furthermore, there  is a requirement that all facilities
meet minimum technology-based effluent limits. Finally, as noted in a previous paragraph, the
state imposed severe restrictions on the ability of sources to trade.
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6.14.3 Effluent Trading: Point-to-Non-point Sources
A number  of programs allow the trading of nutrient discharges between point and  non-point
sources. Three such programs are described here; others are included in Table 6-8.

       6.14.3.1 Dillon Reservoir
Dillon Reservoir, which supplies Denver with more than one-half of its water supply, is situated
in the midst of a popular recreational area. Four municipal wastewater treatment plants discharge
into the reservoir: the Frisco Sanitation District, Copper Mountain, the Breckenridge Sanitation
District, and the Snake River treatment plant of the Keystone area.
Due to concerns that future population growth in the region could lead to eutrophic conditions in
Dillon Reservoir, as well as the discovery that Copper  Mountain was  exceeding its  discharge
limits, EPA launched a study of the Dillon Reservoir in 1982 under its Clean Lakes program.
The study  indicated that phosphorus discharges would  have to be reduced  to maintain water
quality  and accommodate future growth.  Point source controls alone  were unlikely to be
sufficient; runoff from lawns and streets and seepage from septic tanks also would have to be
reduced.
A coalition of government and private interests  developed a plan to reduce phosphorus releases
to the reservoir. The plan established a cap on total phosphorus loadings, allocated loadings to
the four wastewater treatment plants,  and provided  for the first-ever trading of phosphorus
loadings with non-point sources.
The plan relies on  1982 phosphorus discharges as the  baseline;  that year represented a  near
worst-case  scenario due to high rainfall and water levels that led to high non-point loadings.
Discharges from new non-point sources are restricted through regulations that require developers
to show a  50% reduction of phosphorus  from  pre-1984 norms. New non-point sources must
offset all of their discharges by using a trading ratio of 1:1 with existing non-point sources. For
point  sources, the plan established a trading ratio of 2:1, whereby point sources that are above
their allocation  must obtain credits from point or non-point sources for twice the amount of the
excess from sources that are below their  allocation. The system would be monitored through
existing NPDES (National Pollution Discharge Elimination System) permits for point sources.
Trading has been very slow. Not only has the region experienced a  recession for a number of
years  that limited population growth, but the wastewater treatment plants have found cheaper
means of  controlling  phosphorus than were previously envisioned.  In the future, though,
opportunities for further  control at the wastewater treatment plants  are thought to be limited.
Population  growth is once again evident, leading to the conclusion that more trading activity is
likely.

       6.14.3.2 Cherry Creek Reservoir
Like the Dillon Reservoir, Cherry Creek  Reservoir also is  a source of water for the Denver
region and  an important  recreation area. The 800-acre reservoir attracts more than 1.5 million
visitors annually.  To protect recreational and  water supply uses,  the  Cherry  Creek Basin
Authority developed a total  phosphorus standard to  limit algae  concentrations and  assigned
wasteload allocations to the 12 wastewater treatment facilities in the watershed (a total maximum
daily  load  for the reservoir). Source trading between point sources and non-point sources is
authorized  as an option for addressing the  fact that 80% of the phosphorus load originates with
non-point sources. To date, there has been no compelling need to trade at Cherry Creek since
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phosphorus effluent at municipal wastewater treatment facilities remain below the limits set by
the Colorado Water Quality Commission. The Cherry Creek Basin Authority has designed a
number of non-point pollution control projects that will generate phosphorus reduction  credits.
When  regional economic growth compels wastewater treatment facilities to  achieve  greater
phosphorus reductions, the credits will be available.

       6.14.3.3 Tar Pamlico Basin
The North Carolina Environmental Management Commission designated the Tar-Pamlico Basin
as nutrient-sensitive waters in 1989, in response to findings that algae blooms and low-dissolved
oxygen threatened fisheries in the estuary. Upon designating an area as nutrient-sensitive, North
Carolina law requires that the Division of Environmental Management (DEM) must identify the
nutrient sources, set nutrient limitation objectives, and develop a nutrient control plan.
DEM prepared analysis showing that most  of the nutrient loadings (nitrogen as the limiting
factor but also phosphorus) came from non-point sources, principally agricultural runoff. Other
identified  sources included municipal wastewater treatment plants and industrial  and  mining
operations. DEM  proposed a solution to control both nitrogen and phosphorus discharge from
wastewater treatment plants: nitrogen at 4 mg/1 in the summer and 8  mg/1 in the winter and
phosphorus at 2 mg/1 year-round.
Concerned about the potential costs of this regulation, municipal wastewater dischargers worked
with state agencies and the North Carolina Environmental Defense Fund to design an alternative
approach. Ultimately accepted by the DEM, the plan requires the parties to the accord to develop
a model of the estuary, identify engineering  control  options, and implement a trading program
for nutrient reductions. The trading program  allows each of the 12  point source dischargers the
opportunity to offset any discharges above their permitted limits. They may trade with feedlot
operators on a 2:1  basis  or with  cropland  managers on a 3:1  basis. To date, point source
dischargers have  found ways  to meet new  and stricter discharge limits without resorting to
trading. In the future, trading  may become more  attractive as  a compliance option. Hoag and
Hughes-Popp (1997) provide a useful  discussion of the program.

       6.14.3.4 Other Effluent Trading Initiatives
EPA and the states  are actively involved in a number of other effluent trading projects. These
projects are summarized in Table 6-8 and in  more detail in  a recent EPA report entitled "A
Summary  of U.S. Effluent Trading and  Offset Projects."142 Many of these projects also are
discussed on the Nutrientnet web site: http://www.nutrientnet.org.

6.14.4 Future Prospects for Effluent Trading
The Federal Water Pollution Control Act (FWPCA) of 1972 developed the basic framework for
federal water pollution control. After amendments in  1977, the FWPCA has been known as the
Clean Water Act (CWA). The FWPCA  controls water pollution  by regulating discharges of
pollutants from point sources—such as  industrial  facilities, sewage treatment  plants,  and
concentrated  animal feeding  operations—with a system of national  effluent  standards  and
permits for  each class  of point source  discharge  (the  NPDES   system).  EPA sets effluent
discharge standards based on the cost of control and the availability of control technology. By
using this basic approach, many of the nation's streams and rivers are demonstrably cleaner than
they were in 1972.
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Table 6-8. Effluent Trading Projects
PROJECT
Grassland Area
Tradable Loads
San Francisco Bay
Mercury Offset
Bear Creek Trading
Program
Boulder Creek
Trading Program
Chatfield Reservoir
Trading Program
Cherry Creek Basin
Trading Program
Dillon Reservoir
Trading Program
Long Island Sound
Trading Program
Blue Plains WWTP
Credit Creation
Tampa Bay
Cooperative
Nitrogen
Management
Cargill and
Ajinomoto Plants
Permit Flexibility
Lower Boise River
Effluent Trading
Demonstration
Project
Specialty Minerals
Inc.
Town of Acton
POTW
Wayland Business
Center Treatment
Plant Permit
Maryland Nutrient
Trading Policy
Kalamazoo River
Water Quality
Trading
Demonstration
Michigan Water
Quality Trade Rule
Development
WATER BODY
San Joaquin
River
San Francisco
Bay
Bear Creek
Reservoir
Boulder Creek
Chatfield
Reservoir
Cherry Creek
Reservoir
Dillon Reservoir
Long Island
Sound
Chesapeake Bay
Tampa Bay
Des Moines
Boise River
Hoosic River
Assabet River
Sudbury River
Chesapeake
Bay, other MD
waters
Kalamazoo
River, Lake
Allegan
Ml Waters
STATE
CA
CA
CO
CO
CO
CO
CO
CT
DC
FL
IA
ID
MA
MA
MA
MD
Ml
Ml
ACTIVITY
DESCRIPTION
Watershed
trading program
Regional offset
program
Watershed
trading program
Watershed
trading program
Watershed
trading program
Watershed
trading program
Watershed
trading program
Large watershed
trading program
Single trade
Regional
cooperation
NPDES permit
flexibility
Watershed
trading program
Offset for one
discharger
Offset for one
discharger
Offset for one
discharger
Statewide trading
program
Watershed pilot
program
Statewide trading
program
STAGE
Implementation
Under
development
Approved
Implementation
Approved
Implementation
Implementation
Under
development
Under
development
Implementation
Implementation
Under
development
Implementation
Under
development
Implementation
Under
development
Implementation
Nearing
completion
TRADES/
OFFSETS
APPROVED?
Y
N
N
Y
N
Y
Y
N
N
Y
Y
N
N
N
Y
N
Y
N
SAVINGS
ESTIMATE
AVAILABLE?
N
N
N
Y
N
N
N
Y
N
N
N
Y
Some
Some
Y
N
N
Y
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                                                                                    Trading Programs
PROJECT
Minnesota River
Nutrient Trading
Study
Rahr Malting Plant
Southern Minnesota
Beet Sugar Plant
Chesapeake Bay
Nutrient Trading
Neuse River Nutrient
Strategy
Tar Pamlico Nutrient
Program
Passaic Valley
Sewerage Com.
Effluent Trading
Truckee River Water
Rights and Offset
Program
New York
Watershed
Phosphorus Offset
Pilot Programs
Claremont County
Project
Delaware River
Basin Trading
Simulation
Henry Co. Public
Service Auth. and
City of Martinsville
Virginia Water
Quality Improvement
Act and Tributary
Strategy
Wisconsin Effluent
Trading Rule
Development
Fox-Wolf Basin
Watershed Pilot
Red Cedar River
Pilot Trading
Program
Rock River Basin
Pilot Trading
Program
WATER BODY
Minnesota River
Minnesota River
Minnesota River
Chesapeake Bay
Neuse River
Estuary
Pamlico River
Estuary
Hudson River
Truckee River
Hudson River
Little Miami
River, Harsha
Reservoir
Delaware River
Smith River
Chesapeake
Bay, other VA
waters
Wl waters
Green Bay
Tainter Lake
Rock River Basin
STATE
MN
MN
MN
multi
NC
NC
NJ
NV
NY
OH
PA
VA
VA
Wl
Wl
Wl
Wl
ACTIVITY
DESCRIPTION
Watershed
trading study
Offset for one
discharger
Offset for one
discharger
Large watershed
trading program
Watershed
trading program
Watershed
trading program
Pretreatment
program
Offset for one
discharger
Offset pilot
programs
Potential regional
trading project
Watershed pilot
program
Single trade
Statewide trading
program
Statewide trading
program
Watershed pilot
program
Watershed pilot
program
Watershed pilot
program
STAGE
Completed
Implementation
Implementation
Under
development
Approved
Implementation
Implementation
Implementation
Implementation
Under
development
Early
discussion
Implementation
Approved
Pilots active
Approved
Approved
Under
development
TRADES/
OFFSETS
APPROVED?
N/A
Y
Y
N
N
Y
Y
Y
Y
N
N
Y
N
N
N
N
N
SAVINGS
ESTIMATE
AVAILABLE?
Y
N
N
N
Y
Y
N
N
N
N
N
N
N
N
Y
Y
N
Source: EPA. Reinvention Activity Fact Sheets. Effluent Trading in Watersheds
2001
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The U. S. Experience with Economic Incentives for Protecting the Environment


According to data submitted by states in 1998, about 40% of the nation's streams and rivers do
not meet the water quality goals set forth by states, Indian tribes, and territories.143 For these
water bodies, a little-known provision in Section  303 of the Clean Water Act will soon be used to
achieve further improvements in water quality. Recently, EPA published final rules, which have
not yet taken effect, concerning the Total Maximum Daily Load (TMDL) Program.
A TMDL is  a calculation of the maximum quantity of pollution that a water body can accept and
still meet designated water quality standards. The TMDL is then allocated to point and non-point
sources. Effluent trading  will be encouraged as  a  means  of  lowering  compliance costs  for
affected sources.

Of concern  is the CWA requirement that existing, expanding, and new facilities—including
publicly owned treatment works, industrial dischargers,  stormwater programs, and coastal zone
measures—meet all  applicable technology-based requirements.  This  requirement  appears  to
represent a severe obstacle to trading.
The potential cost savings from effluent trading  are impressive. Analysis by EPA suggests that
trading among indirect dischargers could produce compliance cost savings of $658  million to
$7.5 billion.  Trading just among point sources could achieve cost savings of $8.4 million to $1.9
billion, while trading among point and non-point sources could yield compliance cost savings of
$611 million to $5.6 billion.144

6.15   Wetland Mitigation Banking

Wetlands (also sometimes termed  "swamps," "bogs,"  or "floodplain") were long considered
unproductive wastelands. Over time, hundreds of thousands of acres of wetlands were drained by
farmers, filled by developers, and otherwise converted to "productive" uses.  From the 1780 to
1980, the contiguous 48 states lost over one-half  of their original wetland acreage. 145
In recent years, scientists pointed  out  the ecological  importance of wetlands. Government
policies at the federal, state, and local level have since come to emphasize wetland preservation,
not development. Developers whose proposed actions would destroy wetlands are increasingly
being forced to minimize damage to wetlands and to offset what damage occurs through wetland
protection or enhancement offsite. Sometimes, the offset takes the form of compensation. That
approach is  described more fully in Chapter 4, Pollution Charges, Fees, and Taxes. This section
describes  wetland mitigation banking,  a procedure for  offsetting  the  adverse impacts  of
development on wetlands.
Wetland mitigation banks  are created through a  memorandum of understanding (MOU) among
federal and state officials and a bank administrator. In most cases, the MOU would describe the
responsibilities of each party, the physical boundaries of the bank, how mitigation credits will be
calculated, and who is responsible for long-term management of the  bank. Credits,  which  are
usually  denominated  in terms of acres of habitat values, may  only be  used to mitigate
development within the same watershed. State  regulations  would cover issues such as where
mitigation credits can be used (e.g.,  statewide or within a watershed) and the compensation ratios
that would be required for various types of development.  Existing banks vary from a few acres to
over 7,000 acres.
Among established wetland mitigation banks, most MOUs allow the bank operator to sell credits
only after the bank has actually accomplished wetland enhancement or preservation. A few states
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allow the bank operator to sell credits concurrently as preservation or enhancement actions are
undertaken.
The land for a mitigation bank could have any number of origins. Some of the more common
sources of mitigation  bank lands include existing  natural  wetland areas,  enhanced natural
wetland areas, pits created by the removal of landfill material,  and lands that previously had been
drained for agricultural use. State highway departments established  approximately one-half of
existing wetland  mitigation  banks to  provide a  means  for mitigating losses due to highway
construction. Conservation organizations and for-profit entities have set up mitigation banks that
offer mitigation credits for sale.
Mitigation banking offers several advantages over more traditional on-site mitigation activities.

    •   Environmental values are better protected in large-scale developments.

    •   Economies of scale in wetland preservation and enhancement can be realized.

    •   The cost of wetland mitigation actions can be made known to developers very early in the
       development process.

    •   Mitigation banking offers greater assurance of long-term management of the protected
       area.
About 100 wetland mitigation banks in at least 34 states are currently in operation, and more are
in advanced stages of planning. Wetland mitigation banking was featured in the 1996 Farm Bill
as part of the Wetlands Reserve Program. Wetland mitigation banking has been endorsed by
EPA, the Army  Corps of Engineers (which oversees most development in wetlands  under
Section 404 of the Clean Water Act), and by the authors of leading legislative initiatives to
reauthorize the Clean Water Act. All of these facts suggest that wetland mitigation banking will
grow in importance as a means of protecting and enhancing the nation's wetlands.

6.16   Greenhouse Gas  Emissions

The Kyoto  Protocol  to the United Nations Framework  Convention  on  Climate  Change
(UNFCCC)  establishes quantified emission limitations  and  reduction targets for greenhouse
gases (GHG) that are to be achieved by the end of the first commitment period (2008-2012). On
average, these commitments call for a 5.2% reduction from  1990 emission levels. (However,
these commitments vary from one Party to the Convention to another.) To date, the Protocol has
been signed by 38 industrialized countries and the European Community—the so-called Annex I
Parties—but it has not been ratified by a sufficient number of Parties to come into effect.
Among other things, the Protocol includes basic provisions for the monitoring,  reporting, and
verification  of greenhouse  gas  emissions (Articles 5, 7, and 8),  and it outlines the need for
effective procedures and mechanisms to address non-compliance (Article 18). Most remarkably,
the Kyoto Protocol allows for the use of economic-incentive mechanisms, the so-called "flexible
mechanisms," that  enable  the  emission  reduction  targets  to  be  met at  least  cost.  These
mechanisms, described in the following paragraphs, consist of Joint Implementation (Art. 6); the
Clean Development Mechanism (Art. 12);  and International Emissions Trading (Art. 17). They
also include the use of Article 4 (the "bubble") by a group of Parties to fulfill their commitments
jointly. At present, many of the rules and guidelines related to these provisions are in the process
of being negotiated. How the issues  are resolved will  have an effect on the number of countries
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The U. S. Experience with Economic Incentives for Protecting the Environment


that will ratify the Kyoto Protocol and the cost of achieving these emission reduction targets. In
November 2000, delegates met in The Hague, The Netherlands but were unable to resolve many
of the issues concerning GHG trading. They have scheduled a resumed session for May 2001 in
Bonn.146

Joint Implementation (JI): JI allows Annex I Parties to transfer and acquire "Emission Reduction
Units" that are generated from project-level activities that reduce emissions by sources or that
enhance removals by sinks in other  Annex I countries. That is, a country or designated legal
entity within a country can invest in a greenhouse gas (GHG) reduction project in another Annex
I country and receive credits for the emissions reductions that the project  generates. Project
participants  must show that  the emissions reductions  or removals are real, measurable, and
additional to what would have occurred in the absence of the project activity.
Clean Development Mechanism (CDM): The  CDM enables  Annex I Parties  or legal entities
within these countries to invest in GHG emission reduction or removal projects in non-Annex I
countries (i.e., developing countries), in  exchange for "certified emissions reduction" units. The
CDM  would  promote  sustainable development  in  developing countries and help Annex I
countries meet their GHG targets. Similar to JI, project participants must show that the emissions
reductions or  removals are  real, long-term, measurable,  and additional to  what would have
occurred in the absence of the project activity.
International Emissions Trading (IET): Under Article 17, Annex I Parties are able to participate
in international emissions trading to meet their GHG targets. That is, countries with high costs of
emissions abatement can provide funding for additional reductions in other Annex I countries
that have low  costs  of emissions abatement, in exchange for the acquisition of assigned amount
units. This ruling, in effect, enables Annex  I Parties to reach their emission reduction targets at
minimum cost.
The Article 4 Joint Fulfillment: Article 4 would allow a  group of Parties in Annex I to choose to
satisfy their emission reduction commitments jointly and to reallocate the commitments among
the Parties within the group. The provision  was designed to allow the European Union (EU) to
change the distribution of reduction and limitation commitments set out in Annex B of the Kyoto
Protocol for its members, with the absolute  EU target remaining unchanged. The provision also
enables other groups of Annex I Parties to enter into such an agreement, if they choose.
Activities Implemented Jointly (AIJ):  At the  first conference of the Parties to the UN Framework
Convention  on Climate Change, which was held at the 1990 Rio Earth  Summit, the Parties
agreed  to a pilot  program  called  "Activities  Implemented Jointly." Under this  program,
government entities in  one  country  could  jointly undertake projects with similar entities in
another country.
The United States Initiative  on  Joint Implementation (USUI)  was the first national program to
adopt a formal set of criteria and an evaluation process  for activities that could be implemented
jointly  (ALT).  An  Evaluation  Panel with  representatives  from  U.S.  government agencies
determined the acceptability  of proposed projects.  The first  United  States AIJ projects were
accepted in January 1995, and others followed soon thereafter. Central America hosted most of
the early U.S.  projects, but Russia and other nations also hosted AIJ projects. Projects involved
energy  end  uses; energy production;  biomass, geothermal,  hydroelectric,  and wind  energy
technologies; and forestry management.  Through the end of  July 1998, the USUI panel had
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approved 32 projects out of 110 that had been submitted.  (See Table 6-9.) The other projects
were withdrawn or rejected.

Table 6-9. Accepted USIJI Projects
(As of October 25, 2000)
PROJECT NAME
CAPEX, SA Electric Generation Project
Landfill Gas Management in Greater Buenos Aires
Rio Bermejo Carbon Sequestration Project
Bel/Maya Biomass Power Generation Project
Rio Bravo Conservation and Forest Management
Noel Kempff M. Climate Action Project
Rural Solar Electrification Project
The Taquesi River Hydroelectric Power Project
SIF Carbon Sequestration Project
The Rio Condor Carbon Sequestration Project
Wind Energy Project
La Sierra Electricity Efficiency in Colombia
Aeroenergia S.A. Wind Facility
Consolidation of National Parks & Biological Reserves as Carbon Deposit
Dona Julia Hydroelectric Project
ECOLOAND: Piedras Blancas National Park
Esquinas National Park
Klinki Forestry Project
Plantas Eolicas S.R.L. Wind Facility
Territorial and Financial Consolidation of Costa Rican National Parks and Biological
Reserves
Tierras Morenas Windfarm Project
City of Cecin: Fuel Switching, District Heating System
Bilsa Biological Reserve
Cemento de El Salvador, S.A. de C.V.
Matanzas Hydroelectric Project
Rio Hondo II Hydroelectric Project
Santa Teresa Hydroelectric Project
Bio-Gen Biomass Power Generation Project, Phase 1
Bio-Gen Biomass Power Generation Project, Phase II
Solar-Based Rural Electrification
The Bagepalli Project: Community-Based Fruit Tree Orchards for C02 Sequestration
Reduced Impact Logging for Carbon Sequestration in East Kalimantan
Energy Centers for Mali
Solar Electric Generation for the Island of Rodrigues
APS/CRD Renewable Energy Mini-Grid Project
Community Silviculture in the Siera Norte of Oaxaca
Project Salicornia: Halophyte Cultivation in Sonora
Scolel Te: Carbon Sequestration and Sustainable Forest Management in Chiapas
El Hoyo-Monte Galan Geothermal Project
COUNTRY
PROJECT TYPE
Argentina | Energy production
Argentina
Energy production
Argentina j GHG sink
Belize
Belize
Bolivia
Bolivia
Energy production
GHG sink
GHG sink
Energy production
Bolivia | Energy production
Chile
GHG sink
Chile | GHG sink
Chile
Colombia
Energy production
Energy end use
Costa Rica | Energy production
Costa Rica
GHG sink
Costa Rica | Energy production
Costa Rica
Costa Rica
GHG sink
GHG sink
Costa Rica j GHG sink
Costa Rica
Energy production
Costa Rica GHG sink
Costa Rica \ Energy production
Czech Rep. j Energy end use
Ecuador
El Salvador
GHG sink
Energy end use
Guatemala J Energy production
Guatemala
Energy production
Guatemala | Energy production
Honduras
Honduras
Energy production
Energy production
Honduras J Energy production
India
GHG sink
Indonesia | GHG sink
Mali
Mauritius
Energy production
Energy production
Mexico | Energy production
Mexico
GHG sink
Mexico | GHG sink
Mexico
Nicaragua
GHG sink
Energy production
 Continued on the next page
2001
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The U. S. Experience with Economic Incentives for Protecting the Environment
PROJECT NAME
Commercial Reforestation in the Chiriqui Province
The Central Selva Climate Action Project
Energy Efficient Street Lighting Project in the Philippines
District Heating Renovation in Lytkarino
Improving District Heating Efficiency in Metallurguichesky District of Cheliabinsk
Reforestation in Vologda
RUSAFOR-Saratov Afforestation Project
RUSAGAS: Fugitive Gas Capture Project
Zelenagrad District Heating System Improvements
Guguletu Eco-Homes Project
SELCO— Sri Lanka Rural Solar Electrification Project
Energy Center for Uganda
Solar Light for the Churches of Africa
COUNTRY
Panama
PROJECT TYPE
GHG sink
Peru | GHG sink
Philippines
Energy end use
Russian Fed. | Energy end use
Russian Fed.
Russian Fed.
Energy end use
GHG sink
Russian Fed. j GHG sink
Russian Fed.
Energy end use
Russian Fed. | Energy end use
South Africa
Sri Lanka
Energy end use
Energy production
Uganda | Energy end use
Uganda
Energy end use
 Source: USIJI Secretariat, 2000.
Financing remains a major obstacle; just 13 of the 32 projects that were approved through July
1998 had obtained funding by sponsors. Participants in these projects assert that they faced large
transaction costs in dealing with host governments and experienced significant delays in getting
project  approvals  from the  USIJI Evaluation Board and  from host governments.  Sponsors
identified  development of new contacts in the  host country,  early entry into a potentially
profitable  business, the possibility of influencing  future AU criteria, and favorable publicity as
motivating factors.
The record of the early AIJ  projects offers important lessons regarding the CDM and how it
should be structured. After-the-fact assessments of a large number of U.S. AIJ  projects reveal
difficulties in determining whether project activities truly are additional to activities that would
have  been  undertaken without the   AIJ  program. Furthermore,  monitoring  progress  and
measuring the success of JI activities in reducing GHG emissions have proven to  be a challenge,
particularly for projects designed to create or enhance carbon sinks. Since pre-Kyoto AIJ was
largely an experimental activity, the consequences  of a shortfall were not large. If credits had
been sold or traded to other parties, the  consequences would have been more serious.
Implementation of the Kyoto Protocol will have  major financial implications. EPA-sponsored
studies by Koomey et al.  (1998) and Laitner et al. (1999) suggest that market-based policies,
including  expanding EPA's  own  voluntary programs, could reduce domestic  energy-related
carbon emissions by as much as 300 million metric tons at a net positive benefit to the economy
by 2010. Estimates of the potential savings from  the use of trading to satisfy  U.S. obligations,
versus traditional alternatives, are as high as $100 billion per year. 4? Clearly,  details regarding
how the program will  be  designed and implemented are likely to have considerable financial
implications.
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                                                            Subsidies for Pollution Control
7. Subsidies for Pollution Control

7.1    Introduction

For the purposes of this report, subsidies of interest involve financial support by the
government of activities believed to be  environmentally friendly. The types  of
subsidies described in this report include grants, low-interest loans, favorable tax
treatment, and procurement mandates for products believed to have environmental
advantages.  Research and  development,  information  dissemination,  and  other
services provided by  the government that are below their true cost could also  be
considered  subsidies.  However, such services are too varied and numerous to  be
included in this report.
Subsidies are often funded by the fees charged on environmentally harmful products
or activities. Advance disposal fees, for example, provide revenues to subsidize the
proper disposal of products after  their use. Although it  could be argued that such
disposal activities  are not truly subsidized by the government if they are funded
entirely by the fees  on the product that are paid by industry  or consumers, this
chapter includes such mechanisms for the purposes of discussion.
Given  the variety of subsidies used in environmental  management  at all levels of
government, this chapter does not attempt to cover the topic in a comprehensive way.
Its purpose is, instead, to provide an overview, with illustrative examples of the types
of subsidies  and how they  have been  used to  address  specific  environmental
problems.
The  following areas are  considered: pollution prevention and control, cleanup  of
contaminated industrial sites, farming and land preservation, consumer product waste
management, citizen monitoring of environmental regulations, alternative fuels and
low-emitting  vehicles, and municipal wastewater treatment. The chapter concludes
with a discussion  of subsidies that have  had the unintended  effect of  promoting
environmentally harmful activities.
Table 7-1  summarizes various subsidy instruments, most of which are discussed in
this  chapter.  Column 2 shows who pays for the various subsidies. The issue  of
whether the costs of subsidies are passed on to other businesses or consumers in
some way  is  not  addressed.  Information on  funding sources  other than general
revenues is also included in parentheses,  where  available. Column 3 lists  the
recipients of these subsidies. Whether these parties pass on the benefits of subsidies
to their customers or others is also  not assessed.

7.2    Pollution Prevention and Control

This section  discusses the use of tax  benefits  and  loans  to promote pollution
prevention  and control. It also discusses  an EPA program under which fines for
environmental violations are reduced in  exchange for pollution  prevention and
control activities.

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The U. S. Experience with Economic Incentives for Protecting the Environment
Table 7-1. The Use of Subsidies in Environmental Management
SUBSIDY INSTRUMENT WHO PAYS? RECIPIENTS
Grants
Brownfields development grants EPA, states Communities, property owners
Cost sharing for land conservation Federal government
Conservation easements
Environmental violation reporting rewards
Waste management and recycling grants
Unit-based waste collection or reuse
payments
Unit-based payments for the use of
alternative fuel vehicles (AFVs)
Municipal sewage treatment plant
construction grants (replaced by loans)
Loans
Pollution control loans
Brownfields development loans
Recycling business loans
Municipal sewage treatment plant
construction loans (replaced previous grant
program)
Tax Benefits
Pollution control property
Louisiana environmental score-card
deduction
Brownfields development
Land use credits
Recycling benefits
Credits for ethanol and compressed natural
gas
Credits for alternative fuel vehicles and
equipment
Renewable electricity generation credits
Electric vehicle credits
Interest exemption of pollution control
investment debt
Procurement Mandates
Public procurement of recycled products
Public procurement of alternative fuel
vehicles
Recycled content requirements
Mandates for the use of alternative fuel
vehicles
Federal, state, and local governments
(Land transfer taxes)
States of New Jersey, California
Federal, state, and local governments
(advance disposal fees (ADFs), waste
taxes)
State governments (ADFs, waste taxes)
Federal government
Federal and state governments

State governments
State governments (waste taxes)
State governments (ADFs, waste taxes)
Federal and state governments

State governments
State of Louisiana
State governments
State governments
State governments
Federal and state governments
Federal and state governments
Federal government
Federal government
Federal government

Federal, state, and local governments
Federal, state, and local governments
Private organizations
Private organizations
Property owners
Property owners
Individuals and organizations
Public and private organizations
Businesses
Public bus systems and small
businesses
Communities

Small businesses
Property owners
Businesses
Communities

Private organizations
Businesses
Property owners
Property owners
Businesses
Alternative fuel vehicle
manufacturers
Alternative fuel vehicle
purchasers
Businesses
Businesses or organizations
Businesses or organizations

Recycled products
manufacturers
Alternative fuel vehicle
manufacturers
Recycled products
manufacturers
Alternative fuel vehicle
manufacturers

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                                                             Subsidies for Pollution Control
SUBSIDY INSTRUMENT
Miscellaneous
Reduced fines in return for supplemental
environmental projects
Accelerated review of applications for new
pesticides
Relaxed regulatory requirements (e.g.,
ethanol Ried Vapor Pressure (RVP) waiver)
Research & development; public education
(technical assistance to participants in
voluntary programs)
WHO PAYS?

Federal and state governments
Federal government
Federal, state, and local governments
Federal, state, and local governments
RECIPIENTS

Businesses
Pesticide manufacturers
Various organizations
Various organizations
7.2.1  Tax Benefits
Numerous  states offer favorable tax treatment for the construction and installation of pollution
control  equipment.  In  most  states that have such tax  incentives,  the  equipment must have
pollution control as  its primary purpose. In some states, equipment with other purposes receives
tax benefits on a prorated basis. Some states also require  environmental  regulators to certify
equipment that is eligible for tax breaks.
The benefits usually apply to property or sales/use taxes but can apply to income tax in a smaller
number of  states. Air and water pollution equipment is commonly given tax benefits. However,
New York  offers a property tax exemption for industrial waste treatment facilities, and Ohio
offers benefits for noise  abatement equipment.  Tax exemptions for production machinery and
products used directly in manufacturing also apply to  pollution control  equipment in many
cases.148
In Texas, for  example, a constitutional amendment approved by voters in 1993 provided for
exemptions of certain pollution  control property from  property taxes. The purpose of the
amendment was to ensure that investments made to comply with environmental mandates did not
raise the property  tax payments of businesses. The  exemptions  applied only  to  "devices,
equipment, methods, or  land used to prevent, monitor, control, or reduce air,  water, or  land
pollution"  purchased  in  1994  to "meet or exceed  state,  federal,  or local  laws, rules,  and
regulations." The vast majority of exemption requests were made for  equipment that was used to
comply with Clean  Air Act requirements. The total value of the property for which businesses
applied for exemptions was  $1.2 billion. A state official  estimated that the applications would
lead to a loss of $26.6 million in tax revenue.149
One problem with such tax benefits is that they  can erode state or local tax bases. In Texas, for
example, the $26.6-million revenue shortfall is expected to affect mainly school  districts, but
also cities and  counties. One  tax district appraiser predicted that homeowners would make up the
shortfall.
150
The incentive effect of such preferential tax treatment is difficult to assess, in part because of the
simultaneous presence of other policies that affect behavior. If the benefits are offered merely to
subsidize  compliance with regulations,  the  regulations themselves probably have  a  stronger
incentive  effect than the benefits.  However, the favorable tax  treatment could provide an
incentive to exceed requirements.
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The U. S. Experience with Economic Incentives for Protecting the Environment
7.2.2  Louisiana Environmental Scorecard
Louisiana's  environmental  scorecard program, which was  in  effect from  October 1990  to
January 1992, linked tax exemptions for  companies to their environmental performance. The
state's Departments of Economic Development and Environmental Quality built the scoring
system into an existing 10-Year Industrial Property Tax Exemption Program (IPTEP). In contrast
to the previous practice of awarding 100%  exemptions for 20  years from local property taxes for
new equipment and other capital expenditures, the  scoring system determined that companies
would receive  a  base exemption  of  50% and then rated their  environmental  behavior  to
determine how much of the remaining 50% they could obtain.
Companies earned points based  on their environmental violation record and the amount  of
emissions they generated per employee. Table 7-2  shows how these  factors influenced point
totals. Points for  environmental violation records were calculated by adjusting the values  in
Column 2 of Table 7-2 for the age of the violation, i.e., how many years ago the  violation
occurred. Next, the number of years was multiplied by coefficients ranging from 1 for violations
in the past year to 0 for violations 6 years or older. The results were then subtracted  from 25.
Points for emissions per employee were calculated  by dividing total payroll by $25,000; then
points were awarded as shown in Column 4. After the Department of Environmental Quality had
assigned a preliminary score to an exemption request, a company that received fewer  than 100
points could raise its score  by developing an emissions  reduction plan. Other criteria, such  as
recycling activities and creating jobs for high unemployment areas, could also increase point
totals.

Table 7-2. Points Under Louisiana  Scorecard System
VIOLATION FINE
$0-$3,000
$3,001-$10,000
$10,001-$25,000
Over $25,000
Criminal or felony violations
POINTS AWARDED
(25 minus the value in this column,
adjusted for the age of the violation)
1
5
10
15
20
POUNDS OF EMISSIONS
PER EMPLOYEE
0-500
501-1,000
1,001-2,500
2,501-5,000
5,001-10,000
POINTS
AWARDED
25
20
15
10
5
Source: Environmental Law Institute. 1993a, p. 119.
Data suggest that this program  had  a significant incentive effect. Final  scores during the  15-
month program averaged 94.9, which was significantly higher than preliminary scores. Twelve
companies  submitted  emission  reduction  plans  for  bonus points  worth $7,030,249  in  tax
exemptions. This amount is slightly greater than the $5.2 million of exemptions recovered by the
state through the scorecard system.  Since the system was built into an existing exemption,
administrative costs were reasonably low. It also gave  the state the opportunity to  use  the
exemption "carrot" to promote not only economic but also  environmental health.
Industry, however, opposed the program, perhaps in part because it attached conditions to what
had previously been an unconditional tax exemption  (the IPTEP). It was industry's opposition
that led the Governor of Louisiana to terminate the program in 1992.
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                                                           Subsidies for Pollution Control
7.2.3  Supplemental Environmental Projects
Supplemental  environmental  projects (SEPs)  are  "settlements  negotiated by  EPA  and an
environmental law violator in which the company  agrees to do an alternative environmental
project in return for an agency agreement to lower the proposed penalty." Although such projects
have existed since the early 1980s, their numbers have increased in the 1990s and they are  now
included in as many as l-in-10 enforcement actions. More than 200 were approved in 1992. In
the first six months of 1992, one EPA official estimated that EPA negotiated  164 SEPs worth
approximately $23 million. In 1995, EPA negotiated 348 SEPs valued at $104 million.
Most SEPs  have been pollution  prevention activities that involve violations  in  the Toxic
Substances Control Act (TCSA) or in the Emergency Planning and Community Right-To-Know
Act (EPCRA). However,  SEPs have also been negotiated for violations of other laws.  In New
England, for example, a sand blasting and paint company had its EPCRA fines reduced from
$50,000 to $14,000 by agreeing to hire an environmental auditor and launch a five-year pollution
reduction  program. In Nebraska,  a $5,000  fine  for supplying restricted-use pesticide to an
uncertified user in violation of the Federal Insecticide, Fungicide,  and Rodenticide Act  was
reduced to $2,000  when  the  violating company agreed to install concrete containment dikes
around its pesticide storage tanks and a shower/eye wash. The measures under the  SEP were
estimated to cost this company $7,496.
In a RCRA case involving the improper characterization of waste streams, leakage of  hazardous
wastes from a sewer, and operation of an unpermitted incinerator, Eastman Kodak had its penalty
reduced by approximately $3 million in return for investing $12 million in six SEPs. These SEPs
were expected to reduce hazardous wastes at its Kodak Park facility by 2.3 million pounds by the
year 2001. In a Clean Water Act (CWA) case, the City and County of Honolulu agreed to spend
$30 million on SEPs  to treat and reuse wastewater and sludge. The Kodak  and Honolulu SEPs
are described in an EPA report.151 Fines have also been reduced in  cases in which businesses
complied with existing environmental laws soon after being charged with a violation.
The advantage of SEPs for EPA is  twofold:  First, fines that would be paid to the Treasury are
instead used  for environmental protection activities; and  second, the cost of these activities
usually exceeds the negotiated reduction in the fine. Estimates place the cost of the SEP at  one-
half to one-sixth of the reduction in the fine. At the state level, on the  other hand, SEPs have
proven much less popular, in part because many states rely on the revenues from these  fines to
fund environmental activities.
Despite the high SEP-to-fine reduction ratio, SEPs can offer violators a number of potential
advantages that are associated with improved  environmental performance, including positive
publicity,  reductions  in waste  management costs, and  early preparedness  for increasingly
stringent regulations. Another advantage is that, unlike fines, SEPs involve business expenditures
that lower taxes. Since all  SEPs represent voluntary agreements made by violators, the  SEP
mechanism appears to have a significant incentive effect.

7.2.4  Loans and Tax Exempt Bonds
The federal government exempts from taxation the interest on debt that is issued by state or local
governments to finance pollution control or waste disposal facilities. This exemption cost the
government an estimated $625 million in 1995.152
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The U. S. Experience with Economic Incentives for Protecting the Environment


Although it is beyond the scope of this report to describe all state financing programs, several
mechanisms used in California are discussed here. The California Pollution Control Financing
Authority (CPCFA) issues tax-exempt bonds to provide low-interest loans of $1 million to $20
million to small businesses for pollution control  and solid waste recovery  projects. Loans in
excess of $20 million are provided under a similar program for larger businesses. Repayment
periods are usually longer than those of conventional bank loans. Proceeds from bonds issued by
CPCFA on behalf of businesses are deposited into a fund held by the bond trustee. The borrower
uses these funds for the project, making periodic repayments according to the terms of the loan
agreement.
For example, about $1 million in tax-exempt bonds were  issued to  finance a dry ash waste
recovery investment at an  electricity generating facility  at  the Eel River  Sawmills.  The
equipment purchased through this financing arrangement reprocesses ash waste through the
electrical generating facility. This reprocessing reduces the amount of ash waste sent to landfills
by 60%, from 24 tons per day to 10 tons per day.
In addition to these tax-exempt  bond programs,  CPCFA offered  loans for pollution control
investments under the California Loans for Environmental Assistance Now (CLEAN) program.
Under this program, CPCFA issued bonds and lent proceeds at interest rates that were roughly
2% higher than bond rates. CPCFA hoped to repackage and sell these loans to raise more capital
but was unable to do so. In three years, 38 loans ranging from $30,000 to $500,000 were issued,
totaling approximately $3 million. Since CLEAN's subsidized interest rates attracted a number
of businesses that could have obtained loans from commercial banks, it ended up financing many
pollution control  investments  that would have  been made without the  CLEAN program.
Moreover, CPCFA's loan  disbursing process  was  slow,  its  loan marketing poor, and its
administrative costs high. The program cost about $1.40 for every $1 lent.153
To address these problems, CLEAN was replaced by the California Capital Access Program
(CalCAP), under which CPCFA sets up loan portfolio "insurance" to encourage banks to lend to
small  businesses. CPCFA matches the  sum of premiums that are  paid by the borrower and the
lender and then  puts that money into a loss reserve account for the lender. In case of default, the
CPCFA account covers losses. The maximum  individual loan is  $2.5 million. As a result of
improved marketing and loan disbursing procedures and the leveraging of reserve funds under
CalCAP, $160 million has been lent in two years,  as  compared with only $3 million in 3 years
under CLEAN.  Under CalCAP,  every dollar  contributed by CPCFA has resulted in $23 in
lending.

7.3   Brownfields Programs

Various measures  have been taken to subsidize  the  development of brownfields,  which are
contaminated industrial sites that pose  a relatively low risk  to the environment as compared to
the most heavily polluted Superfund sites. The number of brownfields programs has grown at the
federal and  state level because  they  deal  successfully with an  unintended  consequence of
hazardous waste   cleanup  laws,  that  is,  laws  that discourage developers from reusing
contaminated property. Brownfields programs have included a  variety of  incentives, including
grants, loans, and tax benefits. Liability incentives are another important aspect of brownfields
programs; they are discussed in Chapter 8.
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                                                            Subsidies for Pollution Control
7.3.1  EPA Pilot Grant Projects
Under the Brownfields Initiative, EPA has funded several types of pilot projects to states, tribes,
and local governments to encourage the assessment, cleanup, and reuse of brownfields. EPA has
awarded 362  grants  of as  much as  $200,000  each  to assist  communities  in  assessing
contamination at brownfields; 104 grants of up to $500,000 to establish revolving loan funds for
cleanup; and 37 grants of as much as $200,000 each to train local workers to assess and clean up
brownfields. Through the Brownfields Initiative, communities  report assessing almost 2,000
properties,  leveraging more than  $2.3 billion in economic development funds and generating
more than 7,000  jobs.  For more information  on the  Brownfields Initiative,  see EPA's
brownfields Internet site at www.epa.gov/brownfields.

7.3.2  Tax Incentives and Loans
New Jersey offers both tax benefits and loans to encourage brownfields development.  Under the
Environmental Opportunity Zone Act, which became effective in January 1996, developers of
contaminated sites could receive a 10-year property tax exemption if they  remediate  the site in
accordance with state  standards and return it to commercial or industrial use. In 1998,  the period
of tax exemption was extended to 15 years. Loans for cleanups are funded by a dedicated 5%
portion of the state's Hazardous Discharge Site Remediation Fund.
To qualify for tax benefits  and loans, the contaminated land must be on the state's list of
hazardous discharge  sites, be vacant or underused, and need  cleanup  because of an actual or
potential pollution discharge. The sites must also be located in environmental opportunity zones
designated  by  state municipalities. The  property tax exemption gradually decreases from 100%
in the first year of development to 0% in the tenth year.154
Pennsylvania's Land Recycling and Environmental Remediation Standards Act  established an
Industrial Sites Cleanup Fund of up to $15 million to provide low-interest loans to help property
owners clean up pollution that they did not cause.155 Grants are available to finance activities by
local  governments and economic development agencies. These funds can cover up to  75% of
cleanup costs. The Industrial Sites Environmental Assessment Act allows the U.S. Department of
Commerce to  make  grants to municipalities  and other local authorities, nonprofit  economic
development agencies, and similar organizations to fund environmental assessments of industrial
sites in distressed communities. Up to $2 million is provided annually for such funding.156 A key
feature of the  program is its reliance on risk assessments to dictate  remediation strategies at
individual sites.
A January  2000 legislative report assessed the  program's effectiveness.157 After  approximately
$20 million in expenditures, more than  650 sites have been cleaned up and over 300  additional
sites are in the process of being  cleaned.  The program has received  an award from the Ford
Foundation as one of the 10 most innovative programs in government.
In 1995, Delaware added credits for brownfields development to its Blue Collar Jobs Tax Credit
        1 co
program.   Minnesota and Ohio offer loans to  fund cleanups, and  Ohio also provides tax
incentives.  Arizona and Tennessee pay  for the cleanup of wastes that cannot be identified as to
source or for which sources are no longer financially able to shoulder the cleanup cost burden.159
The Brownfields Tax Incentive was passed as part of the U.S. Taxpayer Relief Act of 1997.  This
federal tax  incentive encourages the cleanup and redevelopment of brownfields by allowing the
cleanup costs in certain areas to be fully deductible in the year expended, rather than capitalized
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The U. S. Experience with Economic Incentives for Protecting the Environment
over time. The U.S. Treasury Department estimates that the $1.5-billion incentive will leverage
as much as $6 billion in private investment and return  as many as  14,000 brownfields to
productive use.

7.4    Farming and Land Preservation

Subsidies used in farming and land preservation include grants, loans, and tax benefits that are
offered in exchange for improved conservation practices. Multi-year contracts pay landowners to
either take  land out of cultivation or to manage it in a certain way. In addition,  benefits that
support farm programs have, since 1985, been linked to environmental performance in a program
called "Conservation Compliance."  Table  7-3  shows the  federal  subsidy  programs  and the
respective funding  levels implemented expressly for conservation purposes.  The  conservation
provisions achieved through cross-compliance are also described.

Table 7-3. Funding  for Conservation Subsidy Programs of the U.S.
            Department of Agriculture (FY 1998) in millions of dollars
PROGRAM
Conservation
Reserve
Agricultural
Conservation
Conservation
Operations
Wetlands Reserve
Resource
Conservation
Water Bank
Wildlife Habitat
Incentives
Forestry Incentives
Colorado River
Salinity
Great Plains
Conservation
Resource
Conservation
Rural Clean Water
Watershed and Flood
Conservation
Operations
State and Private
Forestry
Other
TOTAL
AGENCY
WITHIN
USDA
FSA
FSA
NRCS
NRCS
NRCS
NRCS
NRCS
CONSERVATION
2,096
44
644
38
33
8
8
NRCS | 6
NRCS
NRCS
NRCS
4
4
1
NRCS |
NRCS
NRCS
FS


59
USDA | 2,462

5,407
WATER
RESOURCES











279
57
11


347
RECREATIONAL
RESOURCES











1



125
126
POLLUTION
CONTROL















20
20
TOTAL NATURAL
RESOURCES AND
ENVIRONMENT
2,096
44
644
38
33
8
8
6
4
4
1
280
57
11
59
2,607
5,900
 Source: USDA. 2000. FSA is the Farm Service Agency,
       Forest Service.
NRCS is the Natural Resources Conservation Service, and FS is the
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                                                            Subsidies for Pollution Control
This section concludes with a discussion of selected state subsidy schemes, including programs
that allow the purchase of development rights to prevent the conversion of agricultural lands to
alternative uses.

7.4.1  Conservation Reserve Program
The  Conservation Reserve Program (CRP) was established by the U.S. Food Security Act of
1985 (also known as the "1985 Farm Bill") and modified by the 1990 and 1996 Farm Bills. The
CRP seeks to protect soil and water resources and wildlife habitat  by  taking  land out of
cultivation. Participating farmers receive annual payments of as much as $50,000 per person to
put land in the Conservation Reserve for 10 to 15  years.  Applications to participate in this
program must include  conservation plans, which usually require the planting of grass cover). The
federal government pays not only annual rents, so the land is not cultivated, but also one-half the
cost of the required conservation measures.
Since landowners have offered more acres than the CRP can afford, they bid for enrollment.  For
the first nine opportunities to enroll  through August 1989, bids had  to be at or below  the
"maximum acceptable rental  rate" for a given area.  However, this approach did  not actively
target  environmentally sensitive  cropland. Consequently,  farmers gradually increased their
awareness of maximum rates  and  set their bids accordingly, often resulting in rental payments
that were in excess of market value.160
The 1990 and 1990 Farm Bills shifted the emphasis of the CRP to protecting lands that were not
only highly erodible but also important to water quality and wildlife habitat. The bidding system,
as a  result, has been changed several  times, beginning with the 10th  signup in May 1991.  An
Environmental Benefits Index (EBI) is used to evaluate bids at or below the market rental rate
for comparable land. The EBI includes numerous factors relating to soil erosion, water quality,
and the value  of the  land for wildlife habitat. Lands located in  special Conservation Priority
Areas are given additional preference, particularly if structural or land management practices
proposed for the lands maximize environmental benefits  per dollar expended.  The EBI is
compared with the bid amount to determine whether the parcel should be  enrolled in  the CRP.
Since August 1992,  some 36.4 million acres, the maximum acreage allowed under the program,
had been placed in the CRP. This figure is nearly 10% of the  total U.S. cropland, an estimated
395 million acres. (See Table 7-4.) The first nine enrollments consisted mostly of land located in
the Great Plains and Mountains states. Changing the program's emphasis to water quality and
wildlife goals has led to increased concentrations of land in the Midwest and Great Lakes regions
being enrolled in the program.
In 1990, when 33.9  million acres were enrolled, USDA estimated the net social benefits of CRP
at $4.2 billion-$9.0 billion over the life of the program. Table 7-5 shows the estimated dollar
value of different types of social costs and benefits.
Statistics on the first nine enrollments indicate annual  reductions in soil erosion of 700,000 tons,
an average of 19 tons  per acre. This figure  represents  a 22% reduction in cropland erosion since
the program was established.
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The U. S. Experience with Economic Incentives for Protecting the Environment
Table 7-4. Conservation Reserve Acreage and Rental Payments
REGION
Appalachia
Corn Belt
Delta
Great Lakes
Mountain
Northeast
Northern Plains
Pacific
Southeast
Southern Plains
TOTAL
NUMBER OF ACRES
1,158,124
5,603,333
1,248,403
3,008,337
6,687,264
226,411
9,664,110
1,791,182
1,692,580
5,342,989
36,422,733
ANNUAL RENTAL PAYMENTS
(in millions of dollars)
$62.5
416.1
55.3
176.5
265.3
13.4
444.5
88.8
72.3
214.7
$1,809.4
RENTAL PAYMENTS
PER ACRE ($)
$53.97
74.26
44.31
58.68
39.67
59.29
46.00
42.71
42.71
40.18
$49.70 on average
Source: GAO. 1995b, p. 13.
The  CRP could be more cost-effective by  concentrating enrollment  on land that  is more
environmentally  sensitive, some critics  claim. By concentrating  on enrolling buffer zones
alongside streams, rivers and lakes instead of entire fields, a GAO study claimed, only about 6
million acres would need to be enrolled in order to protect surface water, groundwater, air, and
soil.  However,  protecting  wildlife  habitat would  require significantly more acreage.161  The
                                                      162
                                                                                163
buffers along streams can reduce sediment loadings by 50%   and nitrate concentrations   and
                      164
herbicide concentrations  by 90%.

      Table 7-5. Estimated Social Benefits and Costs of CRP
SOCIAL BENEFITS
Increases in net farm income
Value of future timber
Preservation of soil productivity
Improved surface water quality
Lower damages caused by windblown dust
Wildlife enhancements
TOTAL BENEFITS
SOCIAL COSTS
Higher food costs for consumers
Existence of vegetative cover on CRP land
USDA technical assistance
TOTAL COSTS
NET BENEFIT
RANGE OF VALUES (Sbillion)
$2.1-6.3
3.3
0.6-1.7
1.3-4.2
0.3-0.9
1.9-3.1
$9.5-19.5

$2.9-7.8
2.4
0.1
$5.4-10.3
$4.1-9.2
      Source: USDA.1994a, pp. 180-1.
The  1996 Farm Bill and  subsequent rules developed by USDA addressed this criticism in
reauthorizing the CRP through 2002. While maintaining the maximum number of acres to be
enrolled at 36.4 million, the new bill also allows contract holders to terminate contracts entered
into prior to 1995, provided the contract has been in effect for at least 5 years and the land in
question  is  not  of high environmental value.  The USDA Secretary was given the authority to
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                                                           Subsidies for Pollution Control
agree to future early terminations. The possibility that such terminations may be invoked will
give USDA  the  opportunity to refocus enrollment in the  program  on land that is  more
environmentally sensitive.
Substantial bonus payments—including a 20% rental bonus, a $100 per acre up-front payment,
and other  incentives—now encourage the enrollment of these stream buffers as well as certain
other practices that are of high priority. More than a million acres of these buffer areas have been
enrolled since farmers were offered the new incentives for buffer zones.

7.4.2  Conservation Reserve Enhancement Program
Part of the 1996 Farm Bill, the Conservation Reserve Enhancement Program is an enhancement
of the Conservation Reserve Program that creates  federal-state partnerships for  conserving
environmentally sensitive farmland. This  program uses financial incentives to encourage farmers
and ranchers to participate in removing lands from agricultural production for periods of 10 to 15
years. The status of this program in each state is shown in Table 7-6.
Payments  in the Conservation Reserve Program average about $50 per acre per year. The amount
that farmers will be paid to participate in CREP is quite variable because it is tied closely to the
rental rates of local land. The formula for calculating the amount to be paid to farmers includes
base rental rates, the cost of installing conservation practices, annual maintenance costs, and any
special incentives.

Table 7-6. Status of Conservation  Reserve Enhancement Programs

STATE




IL


MD




MN





NY



STATUS




Agreement
signed
March 30,
1998.

Agreement
signed
October
20, 1997.

Agreement
signed
February
19, 1998.


Agreement
signed
August 26,
1998.


ACRES




100,000


100,000




100,000





5,000


TOTAL COST
1 \S I rtl— \S\S*J I
(in millions of

dollars)


$250


195




223





10



INCENTIVES


30% for buffers,
wetland
restoration,
wildlife food
plots, & shallow
water areas; 20%
all other practices
70% for riparian
buffers;
50% for filter
strips and HEL


20% for all
practices




150%



EASEMENT
TERM



100,000
acres,
15yr. or
permanent


25,000 acres,
permanent


100,000
acres,
>20 yr. To
perpetuity



N/A



TARGET
AREA



Middle
Illinois River


Chesapeake
Bay



Minnesota
River


New York
City
watershed/
Catskill/
Delaware
system

ENVIRONMENTAL OBJECTIVE


Reduction of sedimentation and
soil erosion —
85,000 acres riparian buffers,
wetland restoration, emphasis on
native species;
15,000 acres Highly Erodible
Land (HEL).
Reduction of nutrient loading -
70,000 acres riparian buffers;
20,000 acres HEL;
10,000 acres wetland restoration
Water quality benefits from
sediment and nutrient reduction
and mitigation of flood damage.
Native grasses and hardwoods,
wetland restoration, and filter
strips.
Risk reduction of nutrient,
pathogen, and sediment inputs to
streams/reservoirs that supply
drinking water to NYC -
riparian buffers, filter strips, and
erosion control on HEL
Continued on the next page.
2001
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The U. S. Experience with Economic Incentives for Protecting the Environment
STATE





OR






WA

NC



DE


WYID
V V 1 , 1 LJ
Wl KY
V V 1 , l\ 1
MO.ND
STATUS




Agreement
signed
Ortnhpr
WOLUUd
17 1QQ8
i / , i \j\j\j.



Agreement
signed
October
19, 1998.
Agreement
signed
March 1,
1999
Agreement
signed
June 2,
1999

Proposals
received

ACRES





100,000






100,000












TOTAL COST
(in millions of
dollars)




250






250












INCENTIVES

25% for
filterstrips;
35% for riparian
buffers;
50% for wetland
restoration;
Cumulative

impact bonus
equal to four
times base rental
rate
50%, plus an
additional 10% if
designated under
State growth
management law












EASEMENT
TERM





N/A






N/A












TARGET
AREA



Streams
providing
habitat for
endangered
salmon and

trout
statewide


Salmon
spawning
streams
statewide












ENVIRONMENTAL OBJECTIVE




Restoration of salmon habitat
through enhancement of riparian
areas and wetland restoration.





Restore habitat for native
anadromous fish species using
riparian buffer conservation
practice.












Source: USDA/FAS. CRP State CREP Information.

Maryland recently sweetened its CREP program by adding a one-time signing bonus of $250 per
acre in an attempt to increase enrollments to the program's goal of 100,000 acres. Under the
Maryland program,  participating farmers  would  plant trees and grasses  along Maryland
waterways to act as natural filters that absorb nutrients and chemicals before they entered the
waters. When the Maryland program was launched in 1997, it was the first in the nation. In three
years of operation,  the program had enrolled only  20,000  acres, largely  because farmers
considered the rules complex and the reimbursement rate too low.
165
7.4.3  Wetlands Reserve Program
Under the Wetlands Reserve Program (WRP), which was created by the 1990 Food, Agriculture,
Conservation and Trade Act (a.k.a. the 1990 Farm Bill), farmed wetlands and agricultural land
converted from wetlands as well as buffer zones and some riparian areas are eligible for 30-year
easements or  permanent easements.  Participants in this program are required  to implement
conservation plans approved by the Natural Resources Conservation Service and the Fish and
Wildlife Service. Agricultural activities on enrolled  land  must be compatible with wetlands
protection. Participants receive a lump sum for permanent easements or 10 equal payments for
30-year easements. Payment amounts are limited to the loss of market value of the land as a
result of the easement. In addition to paying for the easements, the government shares in the cost
of approved conservation measures.
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                                                           Subsidies for Pollution Control
As shown in Table 7-7, the number of acres for which bids were made was roughly five times
the acreage enrolled in WRP during its first enrollment. In 1994, WRP was expanded to several
other states.

Table 7-7. Wetland Reserve Program's First Enrollment (1992)
STATE
California
Iowa
Louisiana
Minnesota
Mississippi
Missouri
New York
North Carolina
Wisconsin
TOTAL
BID OFFERS
(in 1,000 acres)
34.3
27.9
69.9
13.1
65.0
14.6
0.5
15.3
8.5
249.1
ENROLLED LAND
(in 1,000 acres)
6.0
TOTAL COST
(in thousands of
dollars)
10,768
5.1 | 5,951
14.1
0.7
9,882
764
14.9 | 10,764
2.7
2,753
0.1 | 212
4.7
1.6
49.9
3,675
1,287
46,056
COST PER ACRE ($)
1,787
1,168
702
1,082
723
1,032
2,934
780
782
923
Source: USDA. 1994a, p. 194.
The  1996 Federal Agriculture  Improvement  and Reform  Act (a.k.a.  the 1996 Farm Bill)
reauthorized WRP through 2002 while  capping total enrollment at 975,000 acres. Beginning
October 1996, land enrolled in this program was to be divided in the following way: one-third
(33%) will be given permanent easements; one-third, 30-year easements or less; and one-third,
wetland restoration agreements with cost sharing.  Seventy-five thousand acres  of land in less-
than-permanent easements must be placed in the program before additional permanent easements
are placed. The Act provides cost-sharing assistance to landowners of 75%-100% for permanent
easements and 50%-75% for 30-year easements and restoration cost-share agreements.

7.4.4  Compliance Provisions
Under  the 1985  Farm Bill, farmers must  adhere to two compliance provisions before they
become eligible for farm support programs such as price support  loans and technical assistance.
First, they must implement approved conservation plans on highly erodible land  (HEL).  Second,
they must refrain from draining wetlands. Considering the large amounts of financial support at
stake—some $24 billion in support payments in 1999—compliance provisions have had  a strong
incentive effect.

7.4.5  Highly Erodible Land  Conservation and Sodbuster Provisions
To ensure farmers' eligibility for receiving support under the highly erodible land conservation
compliance provision, farmers are required to develop  and implement  approved conservation
plans for designated "highly erodible" land that was farmed between 1981 and  1985. The plans
typically entail adjustments in farming practices and rotations and could  include measures such
as the maintenance of crop residues on fields in winter, contour plowing, minimum tillage, and
shelterbelts.  The  sodbuster provision is similar to the highly erodible  land  conservation
compliance provision, except in two respects. One,  it applies to highly erodible land that was not
farmed between 1981 and 1985. Two, it is  more stringent in that it requires the  adoption of a
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The U. S. Experience with Economic Incentives for Protecting the Environment


conservation system that reduces erosion to a level above which long-term soil productivity may
be depleted.166
This cross-compliance rule appears to have a strong incentive effect. Implementation costs for
the conservation compliance  provisions are estimated at $7-$ 17 per acre  depending on the
region, whereas a loss in farm support benefits would cost farmers between $37 and $62 per
acre.167
As shown in Table 7-8, the estimated net benefit of the conservation compliance provision varies
substantially across regions. The air quality benefits listed in the table are limited to household
wind damage. Although  the estimates show costs exceeding benefits in the Northern Plains, the
benefits might exceed costs if air quality benefits were more broadly defined.

Table 7-8. Economic Benefits and Costs of Conservation Compliance
.REGION
Northeast
Lake States
Corn Belt
Northern Plains
Appalachia
Southeast
Delta
Southern Plains
Mountain
Pacific
Entire
United States
PER-ACRE BENEFIT (in $) FROM:
Water
Quality
35.63
21.99
15.61
3.47
23.58
25.63
35.50
5.26
5.10
31.83
13.81
Air Quality
0
0
0
3.00
0
0
0
4.63
4.01
1.09
1.93
Productivity
0.16
0.12
0.25
0.19
0.24
0.12
0.12
0.33
0.15
0.14
0.21
PER-ACRE COST (in $) TO:
Producers
3.57
0.32
8.90
3.35
3.51
8.18
1.97
2.34
0.20
2.23
3.78
Federal
Government
3.43
3.43
3.43
3.43
3.43
3.43
3.43
3.43
3.43
3.43
3.43
NET
ECONOMIC
BENEFITS
(in$)
28.80
18.37
3.53
-0.11
16.89
14.15
30.22
4.45
5.63
27.40
8.74
.BENEFIT/
COST
RATIO
5.12
5.90
1.29
0.96
3.43
2.22
6.60
1.77
2.55
5.85
2.21
Source: USDA. 1994a. p. 186.

7.4.6  Swampbuster Program

Under the Swampbuster Program, program benefits are denied to farmers who plant crops on
wetlands that were converted after 1985 or who drain or otherwise convert designated wetlands.
Conversion is allowed if its impact on the hydrological and biological value of the  wetland is
limited or if the farmer restores wetlands of equivalent value.

The 1996 Farm Bill made several changes to provisions in the Swampbuster Program.  According
to USDA, these  modifications "will give farmers more flexibility in  complying with wetland
                                                           1 f\%. 	
conservation requirements while  protecting  natural resources."   The bill expands  wetland
mitigation areas and options, allowing mitigation through restoration, enhancement, or creation,
provided that wetland functions and values are maintained. In addition, the bill also stipulates
that conversion activities authorized by a Clean Water Act permit will be accepted for Farm Bill
purposes if the conversions are adequately mitigated. The bill also establishes a pilot program for
mitigation banking. (See Chapter 6 for information on mitigation banking.)
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                                                            Subsidies for Pollution Control
7.4.7  Subsidies Created Under the 1996 Farm Bill
In addition to modifying several existing programs in ways that USDA believes will simplify
them and enhance their efficiency and flexibility, the 1996 Farm Bill created a number of new
programs. The  largest of these programs in terms  of funding is the Environmental Quality
Incentives Program. Others include the Farmland Protection Program, the Conservation Farm
Option, and the  Wildlife Habitat Incentives Program.
As shown in Table 7-3, Conservation Subsidy Programs of the U.S. Department of Agriculture
(FY  1998), USDA has implemented a large number of conservation programs. A 1995 GAO
study stressed the need  to  consolidate these programs, stating that "they frequently promote
identical  resource  conservation  purposes, use  similar financial incentives,  serve the same
population, and  finance the application of the same set of technical practices." The study asserted
that program  overlap made  it more difficult for farmers to identify and apply for financial and
technical assistance and increased the administrative burden on USDA.169
Environmental Quality Incentive Program (EQIP): This program replaced several programs,
all of which were phased out  in  1996: the Agricultural  Conservation Program,  the Colorado
River Basin Salinity Control Program, the Water Quality Incentives  Program, and the Great
Plains  Conservation Program.  EQIP  assists farmers  and  livestock  producers  with making
environmental  and  conservation improvements.  Participating landowners  agree to establish
conservation plans and implement them for periods of 5 to 10 years. In doing so, they receive
cost-share or incentive  payments for  as much as 75%  of their costs for  adopting these
conservation practices. Payments are limited to $10,000 per person per year or a total of $50,000
for any multi-year agreement.
The legislation  and  rules developed by USDA requires the  Department to select projects that
maximize the environmental benefits per dollar spent under EQIP.  Priority areas must be
targeted. Plans must be developed that identify both the main problems being addressed and the
practices  capable  of solving  these  problems  with available  resources. These provisions
effectively make watershed  planning a major activity  for the Natural Resource  Conservation
Service.
EQIP has placed added emphasis on livestock as a pollution problem. One-half of the program's
funding is reserved for livestock-related conservation  problems, and  one-half  for  other
conservation problems. The program was funded  at $130 million in FY 1996 and $200 million
annually  from 1997 to 2002, although Congress  subsequently reduced funding levels to $170
million a year. Most farmers attempting to enter the EQIP program  are turned away due to the
targeting process described in the previous paragraph and current budgetary limitations.
Farmland Protection Program: Under this $35  million program, USDA will work with state
and local  governments to purchase conservation easements on  170,000 to 340,000 acres  of
farmland of special interest.  To be included in this program, land must be subject to a pending
offer from a state  or  local government  for the purpose  of protecting  topsoil by limiting
nonagricultural  uses.
Conservation Farm Option: Under this pilot program for producers of cotton, rice, feed grains,
and wheat, producers may  consolidate  payments  from three programs— CRP, WRP, and
EQIP—into one annual payment.  They can do so only in exchange for entering into 10-year
contracts and implementing conservation plans that address water, soil and related resources as
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The U. S. Experience with Economic Incentives for Protecting the Environment


well as wildlife habitat.  The incentive effect of being able to consolidate program payments is
unknown. A total of $197.5 million will be provided for this program through 2002.
Wildlife Habitat Incentives Program: This program is intended to offer cost-sharing assistance
to landowners to encourage them  to plan  and adopt approved management  practices  that
ameliorate wildlife habitat. Total funding from FY 1996 to FY 2002 is $50 million.

7.4.8  Impacts of Conservation  Programs
Table 7-9 presents some of the effects of USD A conservation programs. Activities of the Water
Quality Program consist mostly of educational and technical assistance,  but they also include
some financial assistance. Monetary values of some of these impacts have been estimated. For
example, the benefits of reducing salt loads under the Colorado River Salinity Control  Program
have been estimated at $61 per ton a year.170

Table 7-9. Impacts of Conservation Programs
PROG RAM AND IMPACTS

Conservation Reserve Program
Conservation Compliance Provisions
Agricultural Conservation Program
Conservation Technical Assistance and Great
Plains Conservation Program
Annual Acreage Reduction Program

Water Quality Program: Reduction in Nitrogen
Application
Water Quality Program: Reduction in
Phosphorus Application

Water Quality Program: Reduction in
Pesticide Load

Colorado River Salinity Control Program:
Reduction in Salt Load
IMPACTS
1988
1989
1990
1991
1992
1993
1994
1995
Reductions of Erosion (in 1,000,000 tons)
514
0
40
463
107
596
0
34
353
62
644
0
33
353
55
654 | 672
NA
34
282
60
236
30
298
39
692
458
29
321
46
692
465
9
325
29
692
527
18
284
40
Reductions (in 1,000,000 pounds)
NA
NA
NA
NA
NA
NA
10.7
6.1
53.3
70.5
NA
NA
NA
NA
NA
NA
Reductions of Active Ingredients (in 1,000 pounds)
NA
NA
NA
239
528
NA
NA
NA
Reductions (in 1,000 Tons)
62
75
92
105
127
163
191
212
Source: USDA, ERS: Agricultural Resources and Environmental Indicators, Ch. 6.1

7.4.9  State Initiatives

In addition to the federal programs described in this chapter, various types of subsidies have been
used to promote land preservation on the state level. A 1994 USDA report found that, as of 1990,
25 states had cost-sharing programs, 6 offered tax credits, and 5 offered low-interest loans to
encourage the preservation of land.171

In Lake Okeechobee,  Florida, phosphorus contained in the waste of dairy cattle has posed a
threat to water quality. The "Dairy Rule" that entered into effect in June 1987 required Florida
dairy farmers to use specific techniques to prevent discharges from barn wash water. The Florida
State Legislature provided the Florida  Department of Agriculture  and  Consumer  Services
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January

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                                                            Subsidies for Pollution Control
(DACS) with cost-share funds to facilitate the implementation of this policy. Of the 49 dairy
operations in the state that were affected by the Dairy Rule,  18 chose to participate in a buyout
program under which they received $602 for every cow they permanently removed from the
basin. The buyout program took 14,039 cows out of the basin.
A survey of wildlife management programs in the 20-state region of the Northeast found that 5
states had cost-sharing programs, 5 offered equipment loans, 4 offered property tax incentives, 1
offered state income tax benefits, and  8 had tie-ins with  federal  programs.  In Indiana, the
Wildlife Habitat Cost-Share Project pays up to 90% of the cost  of establishing permanent
wildlife habitat, windbreaks, brush piles, vegetation  management,  and  wetland improvement.
Property tax assessments  are  lowered  for landowners  who adopt  measures that enhance or
preserve existing wildlife habitat.172
Minnesota has a property tax exemption for undisturbed wetlands and ungrazed prairie.173  The
state also has a Pheasant Habitat Improvement Program under which landowners can receiving
cost-sharing assistance of up to 75% of their costs as well as technical assistance in return for
improvements such as food plots, nesting cover, and woody cover.174 In Texas,  the Galveston
Bay Comprehensive Conservation and Management Plan approved  by the EPA in April 1995
called for economic incentives,  such as tax breaks, for private landowners. The tax incentives are
intended to encourage owners to preserve wetlands.175
In November 1995, voters in Texas approved a constitutional  amendment to allow open-space
land that is used for wildlife management  to  be taxed in the  same manner as open-space
agricultural land. Consequently, taxes will be based on the land's productive capacity rather than
its  higher  market value.  The  Sierra Club  lauded  the  measure, which  it said  "will allow
landowners to take lands out of traditional agricultural production without penalizing them for
protecting their property for wildlife."176

7.4.10 Purchase of Development Rights Programs
A number  of states (11 as of April  1996) and several  counties and local governments have
purchase of development rights (PDR) programs in place under which landowners are paid not to
convert farmland to commercial or residential uses. (Such rights are also known as "conservation
easements.") As shown in Table 7-10, such programs are especially common in the Northeast
and have covered more than 400,000 acres  at  a  cost of almost $730 million. In addition to
objectives  of food  security  and  agricultural  production,  PDR  programs  have  several
environmental objectives, including  the maintenance  of habitat and resting places for wildlife
and the aesthetic value of open  space. Among the advantages of PDRs are their voluntary nature,
which helps avoid the legal conflicts that can arise from zoning laws, and the low cost of this
form of land protection for state and local governments as compared to outright land purchase.
The funding mechanisms  for  PDR  programs vary  from state to  state and include general
revenues, land transfer taxes, property taxes,  and bonds. Criteria used to select the land parcels
that are to be purchased include cost, threat of conversion, and location. Many programs prefer to
purchase development rights on parcels that are near each other.
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The U. S. Experience with Economic Incentives for Protecting the Environment
Table 7-10. Purchase of Development Rights Programs in States
STATE
California*
Connecticut
Colorado*
Delaware
YEAR
STARTED
1980
1978
1986
1995
Maine | 1990
Maryland
Massachusetts
Michigan
New Hampshire
New Jersey
New York*
North Carolina*
Pennsylvania
Rhode Island
Vermont
Washington*
TOTAL
1977
1977
1993
1979
1981
1976
1987
1989
1982
1987
1979

NO. OF FARMS
IN PROGRAM
72
164
NO. OF
ACRES
AFFECTED
47,992
25,042
6 | 1,904
31
8,561
1 | 307
809
398
117,319
35,907
2 | 79
57
9,148
189 | 27,924
154
21
6,941
1,255
596 | 74,500
30
2,428
140 | 45,511
187

12,600
417,418
STATE FUNDS SPENT
(in thousands of dollars)
$46,515
73,430
3,254
12,000
380
125,099
86,109
709
no data
88,463
46,000
1,785
148,000
14,000
26,304
58,000
730,048
STATE FUNDS
AVAILABLE
(in thousands of dollars)
$23,100
8,800
2,800
0
0
8,100
6,000
10,000
0
107,000
4,950
0
31,000
0
2,000
1,500
205,250
*Denotes county or other local programs
Source: American Farmland Trust.

7.5    Consumer Product Waste Management

Managing the waste  from consumer products is  one area in which  traditional regulatory
measures may be less likely than incentives to protect the environment. It is  difficult, if not
impossible, to monitor the behavior of millions of consumers. For example, bans on the disposal
of used motor oil or containers in landfills are hard to enforce. Consumers are more likely  to
respond positively to factors such as more convenient collection service—which subsidies make
possible—or refunds.
Various types of subsidies, including grants, loans, payments, and tax incentives, have been used
extensively in consumer product waste management. Also included in the following discussion
are preferential procurement and recycled content policies, both of which encourage recycling by
stimulating demand for recycled  products. Most of these measures have been implemented  at
state and local levels. Table 7-11 identifies the various  state subsidies  that help manage the
disposal of one consumer product, used tires.

7.5.1  Advance Disposal Fees
As noted in Chapter 4, advance disposal fees (ADFs) on  consumer products generate revenues
that subsidize the otherwise unprofitable activity of disposing of specific products after they have
been used. In Rhode Island, for example, fees on "hard-to-dispose material," such as motor oil,
tires, antifreeze, and solvents, are used to fund centers that collect these products after their use
as well as research and public education on the disposal and reuse of these products.
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                                                             Subsidies for Pollution Control
          Table 7-11. State Subsidies for Used Tire Management
TYPE OF SUBSIDY
Tax benefits
Payments based on the number of tires recycled
Public procurement
Grants and loans
NUMBER OF STATES
13
7
28
34
          Source: Scrap Tire News, January 1996, p. 18.
In Virginia, an ADF of $0.50  per  tire  that has been in effect since January 1990 generates
revenues for the state's Waste Tire Trust Fund. The fund finances  several efforts: cleanup of
used tire disposal sites,  activities in several regions that manage the current flow of used tires,
and subsidies  of $22.50 per  ton for the conversion  of waste tires  to other end uses such as
blasting mats, fuel  and rubberized  surfaces. By 2000,  the  program had  processed about 27
million tires at a cost of $11.6 million.177 Similar programs are in effect in several other states.

7.5.2  Deposit Handling Fees
In most states that have mandatory bottle deposits, distributors are required  to pay handling  fees
to retail outlets and other used bottle collection centers.  In California and Maine, for example,
handling fees are 3 cents per bottle.  Such handling fees have encouraged the collection of used
bottles to such a degree that many redemption centers have been  created voluntarily by the
private  sector to earn  profits.  Chapter 5  has  further  details  on  deposit-refund  systems in
California, Maine, and other parts of the United States.

7.5.3  Recycling Loans and Grants
                                                                               1 "7&
At least 24  states have grant or loan programs  that  promote the recycling industry.   Under
Washington State's  Model Litter Control and Recycling Act, grants  are awarded to individuals
who develop recycling programs. Under a state Litter Control and Recycling Act, Rhode Island
provides grants to communities and organizations for creating litter and recycling initiatives.179
As shown in Table  7-12, Wisconsin offers both loans  and  grants to promote recycling.  The
largest program provides grants to municipalities  and counties  to fund  various recycling
activities.  Recycling rebates  can be of  two types. One, they can be general  rebates  that are
offered for as  long as five years in  order to offset the increased cost of making  or processing
recyclable materials that are generated in the state. Two,  they can be property rebates that cover
5%-25%  of the cost of qualified property. In 1993-94, 17 qualified  property rebates worth
$1,136,805 and 10 general rebates worth  $4,599,334 were awarded.
Under the Waste Tire Reimbursement Grant Program,  Wisconsin businesses receive payments of
$20 per ton for using waste tires in any of the following ways: in energy recovery, including the
production of combustible byproducts; as  road base  in highway  improvement projects; in
recycling to make a new product; and in other uses that are approved by the state's Department
of Natural Resources (DNR). Other uses must be approved in advance by DNR. Businesses
receive payments that are based on documented tire use over the course of a given calendar year.
Wisconsin's expenditures under this  program for 1990-94 totaled approximately $5.5 million.180
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The U. S. Experience with Economic Incentives for Protecting the Environment


Table 7-12. Financial Assistance Programs in Wisconsin that Promote
             Recycling (1994-95)
STATE PROGRAMS
Municipal and County Recycling Grants
REBATES
(in thousands of dollars)
$29,200
Waste Reduction and Recycling Demonstration Grants | 1,750
Recycling Loans
Minority Business Recycling Grants and Loans
Recycling Rebates
Recycling Market Development Board Assistance
2,519
400
5,100
2,892
Waste Tire Reimbursement Grants | 750
Waste Tire Management or Recovery Grants
TOTAL
250
$42,861
Source: Bonderud and Shanovich, p. 11.
As shown in Table 7-13, at least 16 states had loan funds in 1995 for businesses that recycle used
products. In Iowa, for example, loans have included $485,000 for a project that converts waste
gypsum into new wallboard; $145,000 for efforts to convert used electrical wire into padding for
use in the dairy cattle industry; and $245,000 for a project to make rubber mats from used tires.

Table 7-13.  State Loan Funds for Recycling Enterprises
STATE
California
Colorado
Florida
Illinois
Indiana
Iowa
Kentucky
Louisiana
Maine
Michigan
Minnesota
Mississippi
New Jersey
New York
Pennsylvania
Vermont
Wisconsin
MAXIMUM LOAN
AMOUNT (in $)
$1 million
INTEREST RATE
5.8%
150,000 initially | Prime Rate
Unknown
750,000
< Prime Rate
5%
500,000 j 
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                                                             Subsidies for Pollution Control
areas encompassing several counties. Loans are repayable within 10 years with a 5.8% interest
rate and can be used to cover as much as 50% of the cost of a project, up to $1 million.  In the
three years leading up to March 1996, 67 loans totaling $28 million were approved, of which 42
totaling over $16 million have closed. The California Environmental  Protection Agency has
stated that these 42 loans have diverted nearly 1.4 million tons of waste from landfills annually.
Recent loans include $1 million to finance the production of custom packaging out of shipping
boxes and $475,000 to finance equipment  for  producing  fire logs out of paraffin-saturated
cardboard from grocery stores and sawdust from a local sawmill.181
Louisiana's used tire subsidy program combines a loan program with rebate payments that are
based on the number of tires recycled.  Loans of up to $600,000 are  available for efforts to
process waste tires. Each loan is limited to 25% of the value of the processing facility. The loan
is repayable to the state, with interest, at a rate of $0.15 per tire processed. The state also offers
rebates of $0.85 per tire processed.

7.5.4  Tax Incentives
Twenty-eight states have offered tax incentives for businesses that recycle used products. Idaho,
for example,  enacted a tax credit in 1994 for the purchase of equipment needed to manufacture
                    1 R9
post-consumer paper.   "An Act Concerning Solid Waste Management" in Kansas allows "up to
$100,000  of income tax deductions determined at  a  rate of 20%  of purchase price of new
equipment that uses recycled materials to produce products or energy and expands the taxpayer's
ability to use recycled goods."183

7.5.5  Preferential Procurement of Recycled Products
One  type of policy measure that could be considered  a subsidy is the preferential procurement of
recycled products. By stimulating demand for recycled products, such policies are intended to
promote recycling. This section of the chapter considers only government procurement practices
as opposed to private-sector procurement practices. Mandates governing the private-sector use of
recycled materials are discussed in the next section, Section 7.5.6, Recycled Content Policies.
Preferential procurement can take one of at least two forms: one, price preferences and two, set-
asides and goals. In this context,  price preferences refer to the public sector's willingness to pay
a higher price for recycled products. Set-asides and goals refer to the rules or targets established
by the public sector regarding the total percentage of products they purchase that must contain
recycled materials.
Paper is the product most commonly  subject to procurement policies on recycled goods. A 1993
survey conducted by the Northeast Maryland Waste  Disposal Authority found that all 50 states
and the District of Columbia  (DC) favored  recycled products,  compared to only 13 states in
1986.
In the 38 states (including DC) that had price preference policies,  15 states were willing to pay
5% more  for products that had recycled content than for comparable products that did not
contain  recycled materials, and 20  states  had preferences  that  were 10%. Oregon had  a
preference of 12%, and two other states had preferences between 5% and 10%. In 21 of these
states, the preferences applied not only to paper but  also to other recyclable products. Vermont
used life-cycle costing in deciding what to purchase,  buying recycled products "where the added
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The U. S. Experience with Economic Incentives for Protecting the Environment


cost  of using waste materials rather than virgin materials is less than the cost avoided by not
having (that waste) in the waste stream."
The  same survey found that 30 states had set-asides or goals, mostly for paper. Iowa, Montana,
and Nebraska had the most stringent set-asides. By January 1, 2000, 90% of the printing and
writing paper purchased by Iowa's public sector had to have recycled content,  and two years
later all the tissue paper products it purchased had to have recycled content. Montana had a set-
aside of 95% by  1996. Nebraska bought only recycled paper and was  considering  similar
purchasing policies for plastic bags, motor oil, and carpets.  North Carolina required the use of
recycled paper for all state government reports, memoranda, and other documents, unless written
authorization was obtained from the head of the agency.
The  1993 survey also  identified 186 local governments that favored recycled products, with
some cities adopting price preferences as high as 20% and some having set-asides. The City of
Newark,  New Jersey, required its agencies to use recycled  products if available, regardless of
price.
In Florida, for  example,  prison industries reprocess tires for sale  to state, county, and  local
governments, and state grants to counties are used to purchase products made from  waste tires.
The  Florida State Department of Transportation uses 10,000 tons of crumb rubber (made from
two  million waste tires)  annually  in rubber-modified asphalt for roads. As a result of these
initiatives and other market development activities,  the percentage of tires dumped in Florida
landfills has decreased since 1989.

7.5.6  Recycled Content Policies
Recycled  content  policies as  defined  here  refer  only  to requirements that private-sector
organizations use a percentage  of recycled products.  Recycled  content  rules  applied to
government purchases, such as the aforementioned  executive order on paper purchases,  have
been placed under the  heading  of public procurement policies.  Consequently, they have been
discussed in the previous section, Section 7.5.5, Preferential Procurement of Recycled Products.
Although there is a large element  of traditional regulation in policies that require a minimum
recycled content for certain products or containers, such policies  also create incentive effects by
stimulating demand for recycled products. If manufacturers are forced to use a certain amount of
recycled  product, they  or their suppliers are  more likely to offer consumers better access to
recycling services.
At least 13 states have passed laws mandating the use of recycled content in newspapers, and 15
states  have  created voluntary  agreements  for the  same. (The  voluntary  agreement  in
Massachusetts is described in Chapter 10.) A typical example is  the 1990 Wisconsin Recycling
Law, which requires newspapers to use recycled content in newsprint.  The minimum content
requirements increased from  10% in  1992 to 45%  in 2000. Publishers failing to  meet these
requirements are subject to fees that are based on the extent of non-compliance. In this respect,
the law could be considered to act as a product charge on non-recycled newsprint. However, the
Wisconsin Department of Natural Resources  sometimes exempts publishers from these fees if
they can show that they could  not obtain recycled newsprint at a reasonable cost.
In 1992 and  1993, more than 90% of the  78  newspaper publishers in Wisconsin exceeded the
state's minimum content requirement of 10%.  Only one failed to meet the requirement. In 1994,
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                                                            Subsidies for Pollution Control
however, when the minimum content standard was increased to 25%, 14 of the publishers in the
state failed to meet the standard. Five of them paid the fee and the others were exempted.

7.6    New Jersey's Information Awards Program

Under this program, which became effective in 1990, New Jersey citizens who report illegal
dumping to environmental  authorities receive  10% of any civil penalty or  $250,  whichever
amount is  larger.  Information leading to criminal convictions is rewarded by 50% of the
collected penalty. The identity of those seeking rewards is protected.
Four other New Jersey statutes also contain provisions for monetary awards  that are given to
individuals who report violations.
1. The Major Hazardous Waste Facilities Siting Act awards 50% of any criminal penalty
  collected for the illegal treatment, storage, or disposal of hazardous waste.
2. The Regional Low Level Radioactive Waste Disposal Facility Siting Commission awards 50%
  of any penalty collected for the illegal treatment, storage, or disposal of low-level radioactive
  waste.
3. The Comprehensive Regulated Medical Waste Management Act awards 10% of any civil or
  criminal penalty collected for violations or $250, whichever amount is larger.
4. The Ocean Dumping Enforcement Act awards 10% of any criminal penalty collected for
  violations.
This scheme differs from  most subsidies and  other incentive mechanisms featured in this report.
These  programs seek to  affect the behavior of citizens and businesses  by making monetary
awards to those individuals or organizations that notify authorities of acts of noncompliance, thus
allowing those who report violations to benefit from the successful  efforts of law enforcement.
As  of May 1996,  three penalties had been  collected as a  result  of information provided by
citizens. One payment of  $50,000 and two payments of $250 were awarded in these three cases.
(The  payments  equaled  10% of the penalties collected  in  each case.)  Other rewards are
pending.184
A similar source of monetary support for environmental organizations is the fees awarded to
attorneys who have won  citizen suits  against environmental violators. As noted in  Chapter 8,
these fees  appear  to create stronger incentives for private parties to initiate  lawsuits under
California's Proposition 65 than the so-called "bounty hunter provision." Under the  bounty
hunter provision, the person who brought the lawsuit can receive 25% of any  fines collected.
It is possible for citizens or organizations to obtain rewards for reporting potential environmental
violations or initiating lawsuits under  other state and federal laws. However, it is beyond the
scope of this report to determine their extent or their effects on environmental behavior.

7.7    Alternative Fuels  and Low-Emitting Vehicles

Various levels of  government subsidize  alternative fuels  (AF) and  alternative fuel vehicles
(AFV) through measures such as  tax incentives, rebates,  and preferential procurement.  The
annual costs of federal programs alone have been estimated at more than $1 billion. Some of
these subsidies result in environmental improvements, but,  as  noted in the following  section,
alternative fuels are also subsidized  for other reasons.
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7.7.1  Federal Subsidies
As  shown in Table 7-14, the largest subsidy in the area of cleaner fuels is the exemption of
ethanol blends from $0.054 of the $0.184-per-gallon gasoline tax. Since ethanol blends of 10%
receive this deduction, the exemption for ethanol is the equivalent of $0.54 per gallon.
The category of "other direct subsidies" shown in Table 7-14 includes preferential taxation of
compressed  natural gas (CNG) and  payments  to  subsidize purchases of AFVs and  AFV
infrastructure. The CNG tax deduction is equivalent to $0.128 per gallon. Although this subsidy
is small compared to ethanol tax deductions, it is expected to increase in importance by the year
2000 as the number of CNG vehicles increases. The federal government also subsidizes the
purchase of alternative fuel mass transit buses and school buses, state AFV planning,  and the
purchase of alternative fuel vehicles by small businesses.

Table 7-14. Alternative Fuel and Vehicle Subisdies
TYPE OF SUBSIDY
1994
(in millions of dollars)
Research & Development j $348
Ethanol credit
Other direct subsidies
Preferential procurement
573
53
6
Tax credits for AFVs and equipment | 20
Reid vapor pressure waiver for ethanol blends
TOTAL
95
$1,095
2000 (PROJECTED)
(in millions of 1994 dollars)
$350
914
76
614
100
120
2,174
Source: Anderson. 1994, pp. 18-21.
At present, tax credits for AFVs and refueling stations amount to roughly $20 million each year.
However, they  are predicted  to rise to $100 million annually by the year 2000.  The federal
government also subsidizes a number of research and development activities.
The  RVP (Reid vapor pressure)  waiver  entitles ethanol blends to an extra pound of vapor
pressure beyond the limits imposed on  conventional gasoline. (Adding ethanol to gasoline raises
vapor pressure about 1 Ib. in a 10% ethanol blend.) This waiver is worth approximately $0.09 per
gallon of ethanol,  based on the additional costs incurred by refiners to produce an ethanol blend
stock with lower vapor pressure.
Table 7-14 also shows that another type of subsidy,  preferential procurement, is expected to rise
significantly in value by  the  year 2000. This trend is due to the fact that many procurement
requirements are only now entering into effect, and they are scheduled to become more stringent
over time. Table 7-15 shows  these requirements, many of which will eventually be applied to
privately owned fleets of vehicles.
The federal government also provides income tax deductions of $2,000 to $50,000 to businesses,
organizations,  and citizens  who purchase clean-fuel  vehicles. Electric vehicle  purchases are
eligible for income tax  credits of 10%, or up to  $4,000. The cost  to the government in 1995 of
the electric vehicle credits has been estimated at $65 million. 185
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January

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                                                            Subsidies for Pollution Control
Table 7-15. Federal Procurement Requirements for Alternative Fuel Vehicles
             by Model Year
(percent of all vehicle purchases, except as noted)
MODEL YEAR
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006 and beyond
FEDERAL AGENCIES
5,000 vehicles
7,500 vehicles
10,000 vehicles
25%
33%
50%
75%
75%
75%
75%
75%
75%
75%
75%
STATE AGENCIES

SUPPLIERS OF
ALTERNATIVE FUELS

|


10% | 30%
15%
25%
50%
70%
50% | 90%
75%
90%
75% | 90%
75%
75%
75%
75%
90%
90%
90%
90%
OWNERS OF
PRIVATE FLEETS









20%
40%
60%
70%
75% | 90% | 70%
Source: Anderson. 1994, p. 10.

7.7.2  State Subsidies
In addition  to  the  federal  purchasing  requirements  for  AFVs that are imposed  on  state
governments—shown in Table 7-15—several  states, including New  York and Massachusetts,
have their own vehicle purchasing requirements. Furthermore, most states  offer tax benefits or
grants for AF or the purchase of AFVs.186
In Connecticut,  for example, vehicles powered by natural gas, propane, or electricity; vehicle
conversion equipment; and equipment for AF refueling stations are exempt from the state's 6%
sales and use taxes.  In  addition, businesses are entitled to 50% tax credits for the investments
they make in vehicle conversions and refueling stations. Companies that derive at least 75% of
their income from alternative energy sources are exempt from income tax, and natural gas  sales
are exempt from gross earnings taxes of 4%-5%.
The California Air Resources Board (CARB) requires that vehicle sales by the seven  largest
vehicle manufacturers in the state include at least 5% alternative fuel vehicles in 2001  and  10%
in 2003. The direct incremental and infrastructure costs of this mandate have been projected at
$19.5 billion through 2010. This figure accounts for almost 80% of the expected costs  of all the
                                                             1 R7
state's activities to promote the purchase and use of alternative fuel.
A number of cities use AFVs in their mass transit systems. In Los Angeles,  for example, the
Board of Directors of the Metropolitan Transit Area has adopted a policy that requires all buses
purchased by the transit agency in the future to be AFVs.
Table 7-16 focuses on the Ozone Transport Region (OTR), which consists of 12 Mid-Atlantic
and Northeastern states as well as the District of Columbia. The table  shows that state  subsidies
for AF and AFVs are expected to rise significantly over the next 15 years.
2001
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The U. S. Experience with Economic Incentives for Protecting the Environment
Table 7-16. Alternative Fuel and Vehicle Subsidies in the Ozone Transport
             Region
TYPE OF SUBSIDY
(excluding federal mandates)
AFV procurement requirements
State and local tax incentives
Other state and local incentives
TOTAL
1995
(in millions of dollars)
$0
4.3-4.8
2.9-10.5
$7.2-15.3
2000
(in millions of dollars)
$153.3-930.5
(44.8)-12.0
2005
(in millions of dollars)
$719.0-5,875.5
Unknown
0.0-4.0 | Unknown
$108.5-946.5
$719.0-5,875.5
Source: Perkins. September 1995, p. 9.
Some of the subsidies actually involve net costs. State and local tax incentives could range from
a net cost of $44.8 million in 2000 to a positive subsidy of $12.0 million. The incentive effect of
some of the AF and AFV subsidies is  likely to be significant. Preferential tax treatment  has
played a large role in the rise in ethanol production in recent years. A 1995 GAO report found
                                                                                1 RR 	
that without the partial excise tax exemption for ethanol,  its use would fall by 50%-90%.   The
purchase of AFVs has also stimulated demand for methanol and CNG.
The environmental impact of such incentive effects is unclear. Some alternative fuels are cleaner
than gasoline. Alternative fuels are promoted for several reasons: to improve the environment, to
help increase U.S. energy security, and (in the case of ethanol) to provide a market for part of the
country's large agricultural surpluses.

7.7.3  Car Buyback Schemes
In a number of states, programs have been implemented that offer cash payments to motorists if
they turn in old, high-emitting automobiles.  In the RECLAIM program described in Chapter 6,
the South Coast Air Quality Management District (SCAQMD) allows emission  reduction credits
to be generated if citizens scrap  old vehicles and lawnmowers, both of which are blamed for
significant quantities of air pollution.
In 1990, Unocal Corporation in Los Angeles purchased  and scrapped 8,376 vehicles that were
manufactured before 1971 for $700 per vehicle.  SCAQMD estimated the per-ton cost of the
combined reductions in oxides of nitrogen (NOX) and reactive organic gas (ROG) emissions at
$4,900 through the scrapping of pre-1972 vehicles. This figure is much less than the $10,000 to
$20,000 per-ton cost for traditional  control methods. The SCAQMD concluded that its vehicle-
scrapping program was relatively cost-effective.
189
7.8    Renewable Energy and Conservation

Renewable energy and conservation are  subsidized by  tax benefits. Renewable  electricity
generation earns income tax credits of 1.5 cents per kWh, adjusted for inflation. For 1995, the
credit was 1.6 cents per kWh. It applies to closed-loop biomass and wind energy sources. The
estimated cost of these credits to the government was approximately $970 million in 1995.
Conservation subsidies paid by utilities are also partly or fully excluded from income tax.  Since
1992, subsidies to residential  consumers have been fully deductible, and 65% of subsidies to
non-residential  consumers have been deductible. The  annual cost to the  government of this
exclusion has been estimated at approximately $100 million.
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                                                            Subsidies for Pollution Control
In cooperation with the U.S. Department of Energy, the U.S. Department of Housing and Urban
Development created the Energy Efficient Mortgages (EEM) Program to help homebuyers and
homeowners finance new homes or the  cost of adding energy-efficiency features to an existing
home as part of their Federal Housing  Administration-insured home purchase.190 EEM makes
mortgage credit available to borrowers who otherwise would not qualify for conventional loans
or for affordable loan terms and to residents of disadvantaged neighborhoods. In FY 1996, 3,500
loans were approved under this program. In FY 1997, 4,700 additional loans were approved.
7.9    Municipal Sewage Treatment Plant Construction

The federal government has subsidized the construction of municipal sewage treatment plants
since the 1956 Water Pollution Control Act Amendments. The subsidies took the form of cost-
sharing grants in which the federal government's contribution was limited to 55% in 1956, raised
to 75% by the Federal Water Pollution Control Act of 1972, then decreased back to 55% by the
1981 Municipal Wastewater Treatment Construction Grant Amendments.
During the 1970s and 1980s, the Construction Grants Program provided more than $60 billion
for the construction of public wastewater treatment projects: sewage treatment plants, pumping
stations, and collection and intercept sewers; rehabilitation of sewer systems; and the control of
combined sewer overflows.191
The 1987 Water Quality Act (commonly referred to as the "Clean Water Act") established 1990
as the last year for appropriating construction grant funds. With the phaseout of the Construction
Grants Program and the initiation of the  State Revolving Fund  (SRF), Congress significantly
reduced the amounts of funding available. They  also provided for a transition from grants to
loans.192
The grants undoubtedly encouraged construction activities that increased public access to sewage
treatment. However, these grants have been criticized for giving municipalities "only weak
incentives to hold the line  on capital costs by seeking cost-effective design and technologies or
by matching more carefully the designed capacity of the plant to projected need." This effect was
compounded by state grants that covered part of the non-federal share, which effectively lowered
communities' share of construction costs to 10%-25%.193
Under  the  Clean  Water  Act,  grants  were  phased  out by 1991  and  replaced  by federal
contributions to state-managed revolving loan funds in what is known as the Clean Water State
Revolving Fund (SRF) program.194 SRFs in all 50 states and in Puerto Rico are capitalized by
federal  government  grants.  States  are
                                        Figure 7-1. Cumulative SRF Investments
                                                     (in billions of dollars, 1988-1999)
required to provide 20% matching funds
for all federal grants, effectively making
the state share 16.6% and the federal share
83.3%. By 1998, the SRF program  was
capitalized   at   approximately    $30
billion.195  (See  Figure  7-1.) When loans
are paid back,  additional funds become
available  for new  lending.  FY 2000
appropriations for the  SRF amount to
$1.325 billion.
                                           $11.6
                                                              $15.4
                                                 $3.2
                                                                     • Federal grants
                                                                     D State share
                                                                     D Leveraged funds
                                        Source: EPA. 1999a.
2001
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The U. S. Experience with Economic Incentives for Protecting the Environment


States  are responsible for fund management. Interest rates vary from 0% to a market rate, the
average being about  3%. Repayment periods are as long as 20  years, with reimbursement
beginning one year after project start-up.
Data collected by the State of Ohio indicate that as of June 30, 1995, states collectively had lent
$14.6 billion, or 77%, of the $18.9 billion available to them. The percentages of funds that were
loaned varied significantly from state to state, with 8 states having loaned more than 90% of their
funds;  11 states, less than 60%; and 3 states, less than 40%.
A GAO (1996c) study found that various obstacles had limited states' lending, including the lack
of states' experience in managing revolving loan funds. In addition, the requirement that loans be
repaid  has discouraged  applications from  some small communities with a limited number of
ratepayers to support project costs. In at least two states, the possibility of obtaining grants from
other federal programs appears to have discouraged loan applications for SRF.
Eight federal agencies manage 17 different programs that may be  used by rural areas for the
construction, expansion, or repair of water and wastewater facilities. Some states report that
larger  communities with solid credit ratings may be able to borrow money at more favorable
conditions from private-sector sources than from the SRF program.
Unlike the Construction Grant Program  it replaced, the  SRF program funds  a number  of
initiatives other than municipal wastewater treatment, including projects that address stormwater;
combined (sanitary and  storm) sewer overflows; and agricultural runoff. Over 150 loans  worth
more than $1 billion have financed investments to control combined sewer overflow. In addition,
approximately 100 loans  worth  about  $100 million  have  financed measures to control
agricultural and urban runoff.
Although it is beyond the scope of this report to provide an evaluation of the grant and SRF
programs, the population served by modern sewage treatment has doubled over the past 30  years.
EPA has stated that "the SRF is probably  the most efficient program of its kind  in the federal
government."196
In addition to the  SRF program, a  number of other initiatives support the construction of sewage
treatment works and related activities. A sampling of these initiatives follows.

   •   EPA's Public-Private Partnerships (P3) initiative tries to identify opportunities for
       municipalities to  cooperate with the private sector to finance public wastewater treatment
       operations.

   •   The Hardship Grants Program for Rural Communities helps small, disadvantaged rural
       communities deal with their wastewater treatment needs. EPA provides funding for  either
       the planning, design, and construction of wastewater treatment facilities or technical
       assistance  on the  operation and maintenance of such facilities. To qualify for this
       program, communities must meet the following criteria, among others:
       1.  It must be located in a rural  area.
       2.  It must have a population of fewer than 3,000.
       3.  It must have no centralized wastewater treatment facilities.
       4.  It must have a per capita income that is 80% or less than the national average.
       5.  It must have an unemployment rate that is at least 1% above the national average.


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                                                            Subsidies for Pollution Control
    •   Section 106 Water Pollution Control Program Grants help establish and implement
       ongoing water pollution control programs, including permitting, pollution control
       activities, surveillance, monitoring, enforcement, advice and assistance to local agencies,
       and the provision of training and public information. These grants provide federal
       assistance to states, territories, the District of Columbia, Native American Indian Tribes,
       and interstate agencies. Increasingly, Section 106 grants are focusing on basin-wide
       approaches to water quality management.

    •   Section 104(b)(3) Water Quality Cooperative Agreements are grants that promote the
       coordination of environmentally beneficial activities, including stormwater control,
       sludge management, and pretreatment. These grants provide federal assistance to state
       agencies that seek to control water pollution; interstate agencies; and other nonprofit
       institutions, organizations, and individuals.

7.10   Accelerated Review of  New Pesticide Formulations

When  a pesticide  manufacturer makes  application  to EPA to register a  new pesticide, that
pesticide may move closer to the front of the queue if the new pesticide can  be demonstrated to
substantially  reduce risk to human health and the environment relative to the pesticide that is
currently available. EPA articulated this policy in  the  1994 Annual Report of the Office of
Pesticide Programs191 OPP  further clarified the policy on reduced risk in the staff paper that is
part of the  OPP public participation process. In  that document, OPP described how registration
actions are  ranked in the queue.198  Accelerated review for lower risk formulations is an important
benefit to the manufacturer of the new product for two reasons. First, pesticide registration can
take a number of years.  Second,  the patent protection  clock generally is running during the
period when the registration application is being evaluated by EPA. This open  policy has
incentives that are clear and recognized by all parties.  It has been successful in communicating
the benefits of generating new research on safer pesticides to pesticide registrants.

7.11   Subsidies That  May Harm the Environment

Some  subsidies  are  widely  believed  to  have  the  unintended  effect  of encouraging
environmentally harmful  activities.  In  many  cases,  such  subsidies  were not designed  as
environmental policy instruments, but they have had adverse environmental consequences. This
section briefly discusses a few examples of such  subsidies.

7.11.1 Subsidies for Timber, Minerals, and Water Extraction
It has been  widely asserted that timber, minerals, water, and public grazing land have been priced
below  their true social cost and, in many cases,  even below their private cost.  For all of these
resources, user fees such as  those described in Chapter 4 have been assessed. However,  to the
extent  that  these fees are  lower than the private  cost of the resources or services on which they
are charged,  such resources and  services  are  actually  being  subsidized to the detriment of
environmental protection.
As mentioned in Chapter 4, for example, livestock grazing fees on federal lands that are imposed
according to a formula established by the 1978 Public Rangelands Improvement Act (PRIA) are
widely believed to be below market value. Fees  have been between $1.35 and $1.98 per animal
unit month (AUM) since 1986. However,  the  Bureau of Land  Management (BLM)  and the
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Forest Service estimated that fair market values in 1992 were  $4.75  per AUM for sheep.
Furthermore, they estimated that these market values varied across regions and ranged  from
$4.68 to $10.26 per AUM for cattle and horses. The costs of the grazing programs were $2.40 to
$3.24 per AUM for the Forest Service and $2.18 to $3.21 per AUM for BLM.
The low end of the cost range applies only if the funding directly linked to the livestock grazing
program  is considered, while the high end considers all range management funding. Moreover,
state  and private  fees are  significantly higher  than  PRIA  fees. Data from the  National
Agricultural Statistics Service indicate that, in 1993,  private fees in 17 Western states averaged
$9.80 and state government fees averaged $4.58. The PRIA fee that year was $1.86.
Table  7-17  shows  that estimated  irrigation water subsidies  provided  by the U.S. Bureau of
Reclamation in selected areas ranged  from 57%  to 97%  of the Bureau's full  cost for water
delivery. Excessive irrigation has  been associated with a number of environmental problems,
including water shortages and the contamination of water with natural pollutants and agricultural
inputs.

Table 7-17.  Water Subsidies of the U.S.  Bureau of Reclamation
IRRIGATION DISTRICT
Oroville-Tonasket
Black Canyon #2
East Columbia Basin
Cachuma Project
Truckee-Carson
Glen
San Luis Unit
Coachella Valley
Wellton-Mohawk
Imperial Valley
Moon Lake
Grand Valley
Elephant Butte
Lugert-Altus
Malta
Lower Yellowstone #1
Farwell
Goshen
IRRIGABLE ACRES I SUBSIDY PER ACRE
| (in dollars)
9,500
53,200
$417
762
134,500 | 1,619
38,700 I 1,378
73,000 | 931
152,300
571,900
101
1,422
78,500 | 1,000
65,800
519,500
75,300
23,300
102,100
47,100
1,787
149
58
1,623
363
675
42,400 | 812
34,500
50,100
507
1,446
SUBSIDY AS %
OF FULL COST
82
89
97
81
83
91
85
70
89
74
57
85
64
90
92
73
93
52,500 | 416 | 74
Source: U.S. Department of Interior, Acreage Limitation, Interim Report, Government Printing Office, Washington, DC, March
    1980, pp. 38-41, as cited in Kanazawa(1994), p. 114.
Historically,  the  mining  industries—which  include  the  oil and gas industries—and timber
industries have benefited  from preferential taxation of their income. The effect of subsidizing
mineral and  timber production through the  tax  code is to favor virgin material  use over
secondary (recycled)  materials.  Two types of adverse environmental  effects may result from
such subsidies: (1) the destruction of natural areas as minerals and timber are harvested; and (2)
the excessive disposal of materials that otherwise might be recycled.
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                                                             Subsidies for Pollution Control
Percentage  depletion  allowances  for petroleum  and  other minerals,  for example,  allow
companies to write off arbitrary percentage reductions in mineral deposits that result from their
operations as  expenses.  The value of these allowances  for the oil and gas  industries  was
estimated at more than $2 billion annually from 1980 to 1982. Its value has  since decreased to
insignificant levels. One reason for the decrease is that only independent oil and gas companies
(which account  for about 30%  of total  U.S. oil  and gas consumption)  are now  entitled to
allowances.  Moreover, only 25%-40% of these independent companies  pay the standard tax
(rather than the alternative  minimum tax) required  to maintain their eligibility  for percent
depletion allowance  claims, Many of these companies are  excluded from claiming percent
depletion by other criteria under the tax code.
Percentage depletion allowances for other minerals were worth over  $500 million annually for
much of the early 1980s. These  allowances, however, fell  in value after the 1986 Tax Reform
Act. Oil, gas, and other mineral  extraction companies also have the advantage of being able to
expense (rather than capitalize) exploration and development costs.
In the past, timber companies  were allowed to consider certain income from timber as capital
gains, which are subject to lower tax rates. This practice, worth about  $800 million a year in the
first half of the 1980s, was eliminated by the 1986 Tax Reform Act. However, the elimination of
this practice  led timber companies to increase  their use of other  previously  underused tax
advantages:  (1)  provisions  that allowed  timber  management  and  reforestation costs  to be
expensed rather than  capitalized; and   (2) tax  credits  and  accelerated amortization  for
reforestation  activities. The federal  government's  construction  of roads to  facilitate the
harvesting of timber is another form of subsidy for this industry.

7.11.2 Agriculture
The effect of the price support program for sugar on the Florida Everglades is frequently cited as
an example of an environmentally harmful subsidy.  The federal government subsidizes the sugar
industry by guaranteeing a floor price of $0.18 per pound, which is  almost twice the price on
world markets. This U.S. policy  is  further supported by tariffs of $0.16 per pound on imported
sugar that is in excess of quota levels. In 1992, this support program resulted in $161.5 million in
benefits for sugarcane farmers and $107.7 million for processors.
The increases the amount of water  diverted to sugarcane fields as well as the amount of runoff.
The diversion and the runoff, which is contaminated with pesticides and fertilizers that sugarcane
growers apply to maximize production, damage the ecosystem of the Everglades. Agricultural
subsidies  appear to  be having  similar  adverse  effects elsewhere  in the  United States. A
Competitive Enterprise Institute  study found that the  use of pesticides and fertilizers in several
Midwestern states was higher on  subsidized fields than elsewhere. The study concluded that "the
complete elimination of subsidies could result in a 35% reduction in chemical use per acre and a
29% reduction in fertilizer use per acre."
USDA's  peanut subsidy  program  has  also  been accused   of  promoting  environmental
degradation. It requires farmers to grow peanuts  on the  same  land so  they can retain their
production quotas. Thus, critics charge, the program results in the increased use of pesticides in
order to counteract the negative effects of the lack of crop rotation.199
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7.11.3 Mortgage Interest Tax Deduction
Although most interest deductions from personal  income tax were eliminated by the 1986 Tax
Reform Act, the deduction of mortgage  interest remained in place. This deduction in effect
subsidizes the construction and purchase  of large homes. To the extent that larger homes use
more  building materials, take up more space, and require more energy, the deduction has a
negative impact on the environment.
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8.  Liability Approaches

The purpose of liability mechanisms in environmental management is twofold: first,
to give polluters an economic incentive to make more careful decisions; and second,
to  compensate  the  victims  of pollution.  The  incentive  effect is  clear,  since
environmental values in  effect become part of the overall cost of doing business.
Avoiding harm to the environment is a good practice for companies when it reduces
the  overall cost of doing business.
Liability for harm to the environment acts as a financial incentive, much like a fee on
emissions, with at least  two  important exceptions. One, liability for harm creates
much greater uncertainty as to the magnitude of the payment that will be due for a
given release of pollutants. Two,  liability for harm can generate relatively large costs
in terms of assessing environmental  damage and  the amounts due. These concerns
aside, liability is an important incentive mechanism, one that is seeing increasing use
in environmental policy.

8.1     Introduction

Two federal  environmental statutes,  the Comprehensive Environmental Response,
Compensation,  and Liability Act  (CERCLA) and the Oil Pollution Act of 1990
(OPA),  provide liability  for the cleanup of releases  of hazardous substances  and
petroleum, respectively, that pose a threat to human health and the environment. The
statutes also provide for compensation for the lost use of polluted natural resources
and for the restoration of the environment.
Several of the federal environmental  statutes provide for civil  and criminal liability
for  failure to comply with environmental  regulations. The incentive effect of civil
and criminal  liability is to encourage individuals to comply with what are largely
traditional forms of regulation. Such  an incentive is qualitatively different from the
subject matter contained  in this report: incentives that put a price on pollution that
harms health, the environment, or natural resources.
No  study has attempted  to address whether the  existing  combination of liability,
penalties, and  enforcement produce the  correct incentive  effect,  which would
encourage an optimal level of investment in pollution control. Excessive investment
in pollution control is possible if entities seek to avoid penalties that are too harsh. It
is also possible that firms will expend too little effort at pollution control if penalties
are  low and enforcement  is lax. One recent study found that some  types of chemical
spills are more numerous in states that have imposed strict liability,  an unexpected
finding  that  calls into question many of the assumptions that policy makers have
made regarding the effects of  liability mechanisms as  a  tool  of  environmental
management.200
In addition to  liability for cleanup,  and  civil  and criminal  liability for violating
environmental  laws,  individuals may use  tort law  to  seek compensation from
polluters for harm to their property or person. The difficulty of proving harm caused
by pollution, particularly chronic  health effects, creates a severe barrier to such cases.

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Consequently, tort law has serious deficiencies as a mechanism to make polluters pay for the
harms they  cause.  In fact, it was largely the failure of tort law to address many types of
environmental harm that led to the passage of the principal environmental  statutes.

8.2    Liability for Cleanup Costs

The Comprehensive Environmental Response, Compensation,  and Liability Act (CERCLA) of
1980  responded to an issue without precedent: the legacy of sites contaminated with hazardous
wastes. Love Canal in New York was the most celebrated case, although others such as Times
Beach, Missouri, also attracted national media attention. CERCLA established a trust fund (the
Superfund) that was financed primarily by three mechanisms: (1) a tax on corporate income; (2)
a tax  on  crude oil  and certain chemicals; and (3) general appropriations. (The taxing authority
expired in the 1990s, leaving the Superfund reliant on annual Congressional appropriations, cost
recoveries, and interest  on  the  existing fund.) EPA uses the fund  to  pay for  cleanup and
restoration activities at  sites  where no solvent responsible party can be identified or  at  sites
where an immediate response is deemed necessary.
Section 107(a) of CERCLA provides for liability for anyone who caused,  or threatened to cause,
a release of a hazardous substance or for anyone who has  threatened to cause a release that
creates a need for cleanup actions. The courts have interpreted this section of the law as requiring
strict, joint and several  liability for parties  that have been  deemed  responsible for disposing
of—or generators that arranged for the disposal of—hazardous wastes that pose risks to human
health and the environment. The term "joint and several liability" means  that if the government
can identify just one party out of many that contributed wastes to a site, then that one party can
be held responsible, potentially, for all cleanup costs. In turn, any potentially responsible parties
that have been identified by the government may seek to involve other  potentially responsible
parties. The term "strict liability" is a standard that holds parties responsible, regardless of the
circumstances of their action, e.g., without regard to whether the party acted negligently.
The most important feature of CERCLA centers  on the cleanup of hazardous waste sites that
pose a threat to human  health and the environment. CERCLA is unique among  the principal
environmental statutes in that it looks backward, seeking to remedy problems stemming from
past actions, rather than forward by trying to prevent  damage  from current or future activities.
Cleanup costs paid by the private sector under CERCLA could amount to several tens of billions
of dollars. The incentive effects of being held  responsible for cleanup must lie outside of the
actual costs of cleanup, since the actions that precipitated the need for cleanup are historical, not
contemporaneous. But the mere  prospect of CERCLA cleanup liability is affecting current and
future decisions regarding the disposal of hazardous waste.201 Large firms are managing most of
their hazardous wastes on-site so as not to commingle their wastes with others  and face the
possibility of strict, joint and several cleanup liabilities for wastes from other generators. At
present, minimizing wastes and preventing pollution are definitely more attractive  strategies for
businesses than risking liability under CERCLA.
The Resource Conservation and Recovery Act (RCRA) creates  cradle-to-grave responsibility for
managing hazardous wastes. Generators, transporters, and disposal facilities face strict, joint and
several liability for the ultimate disposition of hazardous waste into a federally permitted facility.
Each shipment of hazardous waste must be accompanied by a manifest to facilitate  enforcement.
The system creates powerful incentives for each actor in the hazardous waste management chain
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to know the other parties and to be satisfied that they are acting responsibly. With this approach,
Congress effectively multiplied the enforcement capabilities of EPA.

8.3    Liability for Damage to Natural Resources

Until  1990, damage to natural resources resulting from  oil spills was  within the scope  of
CERCLA. Where responsible parties can be identified, CERCLA provides for compensation to
the  public by the responsible party  for the loss of services from natural  resources.  These so-
called  "interim lost  uses"  persist after a release  of pollution until restoration is  complete.
Residual damages may exist if restoration is not complete.202 CERCLA designates federal and
state authorities as trustees for natural resources.
Trustees, in conjunction with the U.S. Justice Department, pursue damage assessments of natural
resources. At the  federal level, the U.S. Department of the Interior is the trustee for freshwater
anadromous fish,  migratory birds and waterfowl, and endangered species. The National Oceanic
and Atmospheric Administration (NOAA) is  trustee for the coastal and marine environment,
including commercial and recreational fisheries, marine mammals, and anadromous fish in salt
water.203
The Oil Pollution Act of 1990 (OPA),  was enacted following the 1989 Exxon Valdez spill in
Prince William Sound, Alaska. This  Act created an  independent statute separate from CERCLA
for  addressing damages resulting from oil spills. In  Section 1006(e)(l), OPA directed NOAA, a
part of the U.S.  Department of Commerce,  to  promulgate regulations  for assessing natural
resource damages. On January 5,  1996, NOAA issued final regulations on natural resource
damage assessment (NRDA) that was conducted under OPA. Later in 1996, the U.S. Department
of the Interior issued regulations governing NRDA under CERCLA.  These regulations were
patterned closely after NOAA's approach.204
The OPA and NOAA regulations have two goals. First, they seek to restore the natural resources
and services to their baseline condition.  Second, they seek to compensate the victims of pollution
for  the interim lost use of natural resources and services through restoration, rehabilitation,  or
replacement, and through the acquisition of comparable resources, comparable services, or both.
Damage assessments conducted by  trustees  in  conformance with the NOAA  regulations are
accorded the status of a rebuttable presumption. This term, "rebuttable presumption," means that
the  parties responsible for the damage bear the burden of showing that damage claims presented
by trustees are inappropriate.
The two components of a natural resource damage assessment ensure that the public is made
whole  following  an  oil spill:  The  resource and its services are restored, and the public is
compensated  for  any lost use of the resource  and resource services. OPA gives potentially
responsible parties a financial incentive not to spill  oil. Enforcement of the Act ensures that the
responsible parties  will  pay  the  amounts  necessary to  restore  the natural resource and
compensate the public for lost use.
By  1996, under provisions  of CERCLA, OPA, and the Clean Water Act,  federal agencies had
settled more than 100 natural resource damage cases. Awards  for total damages reached well
over $700 million. By that date, state agencies acting as trustees  also had settled several cases on
their own, with their awards totaling  at least another  $20 million.
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In comparison, cleanup settlements by that date under CERCLA  alone totaled  at least  $10
billion, approximately 10 times the magnitude of the natural resource damage settlements. If no
settlement agreement can be reached with the responsible party, OPA authorizes the trustee to
file a civil action for the damages in federal district court or to seek funds from the Oil Spill
                                                 90S
Liability Trust Fund administered by the Coast Guard.    The fund was financed by a fee of  five
cents per barrel on imported and domestic petroleum. Collection of the fee ceased at the end of
1994 as the trust fund had reached its funding limit. Because it is far easier to file a claim against
the fund than to identify and pursue those responsible for "mystery"  spills, this mechanism may
reduce incentives for states to pursue those parties that are responsible for large numbers of small
spills.
A number of large NRDA cases are still pending, at least three of which could amount to at least
$500 million in awards. In addition, several important cases involving the federal government as
a responsible party are outstanding. Table 8-1 summarizes the largest cases reported as settled
(or partially settled) by 1996. The list excludes both the Exxon Valdez and the Shell Oil spill at
Martinez, California. NOAA does not list the $620 million (present  value) award in the Exxon
Valdez  case because  it was  settled before the NOAA Damage Assessment  Center  was
established. The Martinez case is not listed because it was brought by the State of California, not
by the U.S.  government.

Table 8-1. Largest Natural Resource Damage Settlements Brought by the U.S.
            Government
CASE NAME
Southern California
City of Seattle
AVX
Southern Pacific
Simpson/Port of Tacoma
Exxon Bayway
Blackbird Mine
Apex Houston
Tenyo Maru
Eagle Pitcher Industries
Nautilus
Sharon Steel Corp.
Schlumberger
New York Trap Rock Co.
Presidente Rivera
Greenhill
Elepis
Charles George Trucking Co.
LOCATION OF DAMAGE
Palos Verdes Shelf, CA
Elliott Bay, WA
New Bedford, MA
Cantara Loop Derailment, CA
Commencement Bay, WA
Arthur Kill, NY
Salmon, ID
San Francisco, CA
Olympic Peninsula, WA
Tri-State Site: MO, KS, OK
Kill Van Kull, NY/NJ
Midvale Tailing Site, UT
Crab Orchard Wildlife Refuge, IL
Portland Cement Site, UT
Delaware River, PA
Timbalier Bay, LA
Florida Keys National Marine Sanctuary, FL
Charles George Reclamation Trust Landfill, IL
AMOUNT OF AWARD (in dollars)
$54,200,000
24,250,000
21,127,000
14,000,000
13,035,000
11,113,000
7,200,000
5,416,000
5,160,000
4,734,000
3,300,000
2,600,000
2,500,000
2,207,510
2,141,000
1,878,000
1,660,000
1,378,350
Sources: Guerrero. 1995; NOAA. 1996.
It is clear that liability for natural resources is having an effect on corporate behavior. Shortly
after the Exxon Valdez incident and about the same time as the passage of OPA, the petroleum
industry announced the  creation of the $600 million, industry-funded Marine Spill Response
Corporation,  an organization  that would develop response capabilities specifically for large
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spills. Another sign of change is the care taken when tankers transit congested waterways and
load or offload petroleum. In the Arthur Kill and Kill Van Kull waterways of New York and
New Jersey, tug escorts  now accompany tankers,  and offloading tankers are  surrounded by
booms.
One largely unresolved issue concerns oil spills and releases that are too small to justify a natural
resource damage assessment under either CERCLA or OPA. For example, the Coast Guard has
record of between 5,000 and 10,000 oil spills occurring per year, but fewer than 20 are followed
by an assessment of natural resource damage.  While the expected damage from many of the
smaller spills may not justify the costs of a traditional damage assessment,  some natural resource
damage may nonetheless  exist. Not charging for natural resource damage gives  incorrect  price
signals to potential polluters, since pollution is free rather than costing the responsible source an
amount equal to the damage that is caused.
The petroleum industry has argued that the magnitude of the fines assessed in all assessments,
including those for small spills, should closely match the actual damage to the environment. The
reason they take this position probably has more to  do with  their attempts to avoid damage
assessments that are calculated according to a formula than with their quarrel over the incentive
effect of such a formula. The correct economic incentive for a given spill is provided to potential
polluters if the calculated value of the assessment equals the average harm done by such a spill.
Alaska, Washington, Florida, and Texas  have enacted compensation formulas  or tables that
assess charges based  on the volume spilled, the nature of the receiving waters, and other factors.
In 1995, NOAA proposed a similar approach for small spills. NOAA later withdrew the initiative
for further study when it was pointed out that  the proposed method resulted in  unrealistically
large assessments in some cases.

8.4    Civil and Criminal Liability

Congress first decreed pollution of the environment to be a federal crime in the Refuse Act of
1899. This Act made it a misdemeanor to "throw, discharge, or deposit" refuse of any kind  other
than runoff from streets and discharge from sewers into navigable waters of the  United States.
Violators convicted of violating the Act could be punished by fines not less than $500 and not
more than $2,500,  or by imprisonment for not  less than  30 days nor more than  one year. The
court had the discretion to reward persons who provided information leading to the conviction of
responsible parties with one-half of the fine.
More recently, the 1970 Amendments to the Clean Air Act punished violations of the Act as a
misdemeanor. The 1970 Amendments to  the Federal Water Pollution Control Act established
misdemeanor penalties for "negligent or willful" release of pollutants  into navigable waters
without a permit or in violation of a permit. The Resource Conservation and Recovery Act of
1976, as  amended by the  Solid Waste Disposal Act  Amendments  of  1980, provides felony
penalties for treatment, storage, or disposal of hazardous waste without a permit.
Continuing through the 1980s, Congress further refined the scope of environmental crimes, as
well as the maximum fines and terms of imprisonment, in the Hazardous and Solid Waste
Amendments of 1984, the  Superfund Amendments and Reauthorization  Act of  1986, and the
Water Quality Act of 1990. In the  Clean Air Act Amendments of 1990, Congress included
felony provisions in the Act for the first time.
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By 1995, the Justice Department had indictments against 443 corporations and 1,068 individuals,
and it had recovered $297 million in criminal  penalties. Sentences for individuals totaled 561
person-years of prison for those convicted.
State and local prosecutors also can pursue environmental  crimes. In fact, they are required to
demonstrate such a capacity in order to obtain EPA authorization to locally administer programs
of the Clean Air Act,  the Clean Water Act, and the Resource Conservation and Recovery Act.
While  most states are not actively  pursuing  environmental crimes, there are a number of
important exceptions. New  Jersey, Ohio,  Pennsylvania,  and  California are active in their
prosecution of environmental  crimes. Los Angeles maintains its own team of investigators and
prosecutes these cases.
An important sanction in addition to fines and prison sentences is the mandatory "blacklisting"
of contractors under the Clean Air Act and the Clean Water  Act. Both  statutes prohibit  the
federal government from entering into new contracts with, or issuing grants to, any organization
convicted of environmental crimes under these laws. Federal agencies and all states also have the
authority to temporarily disqualify contractors from new work, pending  receipt of further
information, when a contractor violates a permit and  is suspected of harming the environment.
Consequently, environmental  violations  can adversely  affect a firm or individual even if no
criminal conviction is imposed.
The remainder of this section describes the principal civil and criminal penalties available under
the nation's environmental laws.

8.4.1   Resource Conservation and Recovery Act (RCRA)
The purpose of RCRA is to establish a legal framework for a national system that oversees  the
management  of hazardous  waste.  Congress included  within the RCRA statute  several
enforcement authorities and penalty provisions. EPA relies on four types of compliance orders as
its primary enforcement tools.
1.  EPA may issue an order requiring compliance within a set time frame (usually 30 days) to
   facilities in violation of a regulatory requirement of Subtitle C. Such EPA orders include
   penalties for any noncompliance period.
2. EPA may require monitoring, testing, analysis, and reporting for facilities that present a
   substantial threat to human health or the environment.
3.  EPA may issue corrective action orders requiring corrective action of other measures to
   interim status facilities (those without full RCRA permits) to protect human health and the
   environment.
4.  EPA may sue any person who contributes or contributed to solid waste management practices
   that pose an imminent and substantial threat to human health or the environment.
Beyond forcing compliance with RCRA and making owners of facilities take actions to protect
public health and the environment, compliance orders may also assess a civil penalty for past and
current violations. Civil penalties can be as large as $25,000 per day for each RCRA violation.
Criminal  penalties of up to $50,000 per day of violation or imprisonment for as long as 5 years
may be meted out to any responsible person who knowingly

   •   transports hazardous waste to a facility not permitted under RCRA;
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   •   treats, stores, or disposes of hazardous waste without a permit;

   •   makes a false statement or representation in an application, label, manifest, record, or
       other document used for compliance with RCRA;

   •   generates, treats, or disposes of hazardous waste and intentionally destroys records or
       other documents required for compliance with RCRA;

   •   transports hazardous waste without a manifest; or

   •   exports hazardous waste without the consent of,  or in violation of, procedures of the
       receiving county.

8.4.2  Comprehensive Environmental Response, Compensation, and Liability
       Act (CERCLA)
Any person in charge  of a vessel or a facility who knows of a release of hazardous substances
from a vessel (other than a federally permitted  release) must notify the National Response
Center. Anyone who fails to provide notification "immediately,"  or who knowingly  supplies
false or misleading information, may be imprisoned for  not more than 3 years (5 years in the case
of a subsequent conviction) and fined in accordance with Title 18 of the Act. In addition, the
Emergency Planning and Community Right-to-Know Act (EPCRA)  requires that the person
notify state and local emergency response officials.

8.4.3  Clean Water Act (CWA)
EPA can begin civil actions against violators of CWA permits and seek appropriate relief, which
includes the  use  of permanent  or temporary injunctions.  EPA  can seek  criminal  penalties
including fines, imprisonment, or both, as shown in Table 8-2. After a person's first conviction,
the fines and prison terms for subsequent convictions can be doubled.

 Table 8-2.  Criminal Penalties for Violations of the Clean Water Act
SEVERITY OF VIOLATION
Parties who negligently violate permit conditions
and limitations
Parties who knowingly violate permit conditions
and limitations
Parties who violate permit conditions and
limitations and knowingly place another person in
danger of death or serious bodily injury
Organizations that violate permit conditions and
limitations and knowingly endanger human health
FINE
Not less than $2,500 per day of violation
nor more than $25,000 per day of violation
Not less than $5,000 per day of violation
nor more than $50,000 per day of violation
Not more than $250,000
Not more than $1,000,000
IMPRISONMENT
Not more than 1 year
Not more than 3 years
Not more than 15 years
Not applicable
  Source: Clean Water Act
The CWA also provides for civil penalties for offenses other than permit violations, offenses that
include making false statements on records, reports, and other documents filed under the CWA
and wrongfully introducing pollutants into public sewage treatment facilities.
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8.4.4  Clean Air Act (CAA)
The Administrator of EPA can seek a permanent or temporary injunction and civil penalties of
not more than $25,000 per day for permit violations by major stationary sources (in general,
those emitting more than 100 tons per year of a regulated  pollutant). Criminal penalties that
include both fines  and imprisonment for up to 2 years may be sought for any  person  who
knowingly violates  permit terms and conditions through such actions as making material false
statements or omitting material information. Convicted second-time violators can have their fines
and sentences doubled.
Parties who negligently place another human in imminent  danger  of death or serious  bodily
injury are liable, upon conviction, for fines and prison sentences of up to 1 year.  Parties  who
knowingly endanger human health may, upon conviction, receive fines, prison sentences of up to
15 years, or both. Finally, organizations can be liable for fines of up to $1,000,000 for knowingly
committing permit violations and similarly endangering human health.

8.5    Tort Liability

Litigation concerning claims  of personal injury from chronic exposures to toxic agents in the
environment is a relatively recent phenomenon. It is, for the most part, the domain of asbestos
workers. Workplace-related injury claims are not within the scope of this paper. However, a few
cases involve alleged exposure to toxic substances in ambient air and water supplies.
The  law under which  these tort actions are brought has undergone considerable  evolution in
recent years. These  modifications are due to several factors, which include the following:  (1) the
need to accommodate improved scientific information on the effects of human exposure to toxic
agents; (2) the recognition of the potentially long latency periods between exposure  and onset of
a disease; and (3)  a growing desire by the courts to hold  defendants to a standard of strict
liability. Despite the evolution of tort law in favor of plaintiffs, relatively few cases that claim
harm from pollution in the environment have been filed. Of these cases, very few that involve the
effects of pollution on human health have been decided in favor of plaintiffs.
The  statute of limitations is an important barrier to litigation in a few states. However, most
states have struck down this once-important obstacle by allowing plaintiffs to file a case from 1
to 3  years after the discovery of an  injury, rather than  starting the  clock  at the date of initial
exposure.
In many situations of environmental  harm, plaintiffs  find it difficult to identify  the party
responsible for the harm. Identifying the source of contamination  in well water  would be a
challenge for most  households. Even if the contamination could be traced to a waste disposal
facility, it might be very hard to identify whose wastes caused the  contamination.  For toxic
pollutants in the air, identifying the parties responsible for such releases is even more difficult.
Demonstrating causation represents a major challenge because most diseases that have been
linked to toxic substance exposure can be caused by multiple factors. In general,  tort law requires
plaintiffs to  demonstrate  that the harm they experienced was "more likely than not" caused by
the defendant. Courts usually interpret this phrase to mean that the probability that the defendant
caused the harm was at least 50%. Imagine a situation in which a polluter increased the  risk of
cancer by 20% in a nearby residential area. Rather than 100 people  dying of cancer each year,
120 die. None of the  120 cases would receive  compensation under  the "more likely than  not"
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                                                                       Liability Approaches
criterion. Two other issues should be noted: (1) that statistical data regarding causation are not
likely to be accepted by courts, no matter what the standard of proof; and (2) that epidemiology
is limited in its ability to detect elevated incidence of a disease, the smallest detectable rate of
excess incidence being on the order of 30%.
In sum, the legal norms under which tort actions for harms caused by exposure to pollution are
such that few cases can satisfy the burdens of identifying the responsible  party and proving
causation.
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                                                                   Information Disclosure
9.  Information  Disclosure

For the purposes of this chapter, information approaches to environmental protection
may be defined as policy instruments that influence  the behavior of firms and
individuals through the dissemination of information on inputs, production processes,
and the environmental consequences of final products. Some information approaches
rely purely on voluntary reporting, while others have mandatory reporting.
The environmental information embodied in these approaches has economic value to
consumers,  individuals,  scientists,  academics,  and  state and local  government
officials even in the absence of any changes in emissions by firms. For example,
information  on the use of hazardous materials may reduce the uncertainty faced by
local  officials in planning for emergency preparedness. Regulators can use  the
information  to  monitor  the  progress  of  voluntary  efforts  to control pollution.
Consumers may gain utility from assurances that products are manufactured in ways
approved by the federal government. Individuals can make more informed decisions
about where to live and work. And scientists and academics gain new sources of data
that can be used in research on health, business management, and the environment.
Information  disclosure rules may have  ancillary economic effects that stem from the
incentives they create for change in producer or consumer behavior. For example,
information  disclosure   approaches  are  an  increasingly  popular  method   of
encouraging companies to voluntarily  prevent pollution. In contrast to  end-of-pipe
traditional approaches or technological  mandates, pollution  prevention can be
achieved through a much wider array of actions: changes in input use, technologies,
processes, management,  and other parameters. Because the full range of these
parameters  and  possibilities  cannot  be  well-known to  regulatory  agencies,
governments try to stimulate firms to engage in pollution prevention by mobilizing
workers, financial markets, and the community through the provision of information.
When a rule is promulgated, ancillary changes are hard to specify. The economic
analyses of information  rules often ignore these changes and consider the benefits
and costs of environmental information  as a good itself, one with  independent
production and  consumption  considerations. This chapter complements the  partial
equilibrium  analysis of  information  embodied  in many economic analyses by
considering  the incentives  created by  disclosure  and the subsequent  use of that
information.
This chapter reviews many of the United States' unique experiences with information
disclosure methods.  Available evidence, some  of it conjectural in nature, suggests
that at least two factors are important in  evaluating the incentive  structure  of
information  disclosure rules. First, the  information should be accurate and credible.
Perhaps the  best information would be based  on measured data and standardized
criteria and provided or  verified by an independent source, but few programs meet
these  ideals. Second, the information must  be made available to the right people, at
the right time, and in a format accessible to participants in an economic  transaction.
Unfortunately, not all information policies take note of these considerations.
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The U. S. Experience with Economic Incentives for Protecting the Environment


9.1    Background

The earliest attempts  at pollution control used approaches such as emissions standards, mandated
reductions  in  emissions, or requirements that  sources  adopt  particular control measures  or
technologies.  After  the  most  obvious  and  easily remedied  pollution problems  had been
addressed, it became  evident that the traditional regulatory approaches to pollution control would
be excessively costly, incapable of achieving all environmental objectives, or both.
A second approach to pollution control responded to these limitations of traditional regulatory
approaches by harnessing the forces of the market. These mechanisms included tradable permits,
emission fees, deposit-refund systems, subsidies, and performance bonds. In most cases, they
have complemented traditional regulatory remedies, but in some instances they are developed as
stand-alone measures.
Although market-based approaches have  helped improve the cost effectiveness of environmental
regulation,  the problems of pollution regulation have  not been fully solved. Environmental
regulators are  burdened by the vast number of harmful substances that need to be controlled if
environmental goals  are to be  achieved.  Furthermore, they find that market-based mechanisms
have limits in  terms of the sheer numbers of substances that can be controlled and the modes of
behavior that can be encouraged.
In response to these  difficulties, pollution control policy evolved to  provide information as a
mechanism for making employees,  shareholders, and customers of businesses active participants
in the regulatory process. Information disclosure strategies are timely  for at least three reasons.
First, environmental regulators need more regulatory tools (as noted in the previous paragraph).
Second, the means by which information is collected, processed, and disseminated are rapidly
falling in cost. Third, with rising incomes  and better education, the demand for environmental
information by workers, shareholders, and consumers is increasing.
In  the  product   market,  consumers  may   react to  environmental   labels  by  buying
"environmentally-friendly"  products, even when  they  cost  more. Some  export markets  for
products may  be effectively closed to firms until they achieve ISO (International Organization
for Standardization) certification. Purchasers of intermediate products increasingly are concerned
about a host of issues regarding their manufacture, such the raw materials used (e.g., virgin
timber,  recycled materials) and the environmental performance  of the supplier. In the labor
market, firms  with better environmental records may be viewed as more  attractive places to
work, making  it possible for them to hire more talented  or productive employees. In the capital
market, shareholders and lending institutions increasingly are concerned about the prospect of
future environmental liability for pollution harms caused by a firm.  Hence, firms with better
environmental records may be rewarded with better access to,  and a lower cost of, capital.
Information approaches have been used in environmental  protection on both the state and federal
levels.  This chapter begins with a discussion of the National Environmental  Policy Act,  the first
disclosure-type program. Following is  a review  of the Federal Emergency Planning  and
Community Right-to-Know Act (EPCRA) and  two similar  state programs. The chapter then
discusses California's Proposition 65 and  reporting requirements for the release of air toxics,
reporting requirements for environmental impact assessments, product labeling, environmental
performance awards,  the Securities  and Exchange Commission's (SEC) environmental reporting
requirements, and disclosure requirements for radon and lead paint. Other voluntary programs in
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                                                                  Information Disclosure
which industry is encouraged to reduce pollution below  permitted amounts  are described in
Chapter 10.

9.2    National Environmental Policy Act (NEPA)

The 1969 National Environmental Policy Act of 1969 (NEPA) is the basic environmental law of
                90^ 	
the United States.   The Act requires that environmental impact statements (EIS) be prepared
for federal activities that significantly affect the  environment. An EIS provides for a full, fair,
public discussion  of environmental impacts and  an examination of reasonable alternatives that
will  minimize adverse  impacts.  Implementing regulations  issued  by  the  Council  on
Environmental Quality (CEQ)  establish procedures to ensure that high-quality environmental
information is available to public officials and citizens before decisions are made and actions are
taken.207 In numerous instances, the mere fact that potential adverse environmental impacts were
anticipated and would have to  be disclosed motivated project designers to alter their plans to
reduce impacts.

9.3    Emergency Planning and Community Right-to-Know Act (EPCRA)

Enacted in 1986  as  Title III  of the Superfund Amendments and  Reauthorization Act,  the
Emergency Planning  and Community Right-To-Know  Act (EPCRA) requires  emergency
planning and disclosure of information on the  releases and transfers of hazardous chemicals to
disposal facilities. Section 313 of EPCRA requires certain businesses to report each year on the
amounts of toxic chemicals  that their facilities release into the  environment and transfer to
treatment,  storage, and disposal facilities.  As a result of the 1990 Pollution Prevention Act,
reporting requirements were expanded beginning in  1991  to  include  source  reduction and
recycling information. Data for a given year must be  submitted by July 1 of the following year.
EPA then compiles the information and makes it available to the public as the Toxics Release
Inventory (TRI).
Through 1998,  TRI reporting was required of all manufacturing facilities that met the three
following criteria: (l)they had  at least  10 employees;(2) they operated  in Standard Industrial
Classification (SIC) codes 20 through 39; and (3) they manufactured, processed, or otherwise
used one or more of the chemicals listed in the TRI in quantities that exceeded certain threshold
amounts. Threshold amounts  are 25,000 pounds per year for manufacturing and processing, and
10,000 pounds per year for other uses of any listed chemical during the calendar year. In 1998,
seven additional industries were added. (See text box entitled "Industrial Sectors Subject to TRI
Reporting in 1998.") Federal  facilities were required to submit their first  TRI reports by July 1,
1995, for the 1994 calendar year. Data for 1998 were available in May 2000.208
Individuals and organizations can petition EPA to add or remove chemicals from the list. The
number of listed chemicals was  originally set at 320, but it has since increased. (A few chemicals
have also been deleted from the list.) A significant expansion took place in 1994. That year, EPA
added 286 new chemicals and chemical categories to the list,  bringing the number to 654. These
additions were in effect for the 1995 calendar year. In October 1999, EPA lowered the reporting
thresholds for many persistent bioaccumulative toxic chemicals, and added several other such
chemicals to the list.
Facilities that have a total annual reportable amount209 of 500 pounds or less of a TRI chemical
and that manufacture, process, or use 1 million  pounds or less of a TRI chemical can now submit
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The U. S. Experience with Economic Incentives for Protecting the Environment
a shorter, annual  certification  statement  in  lieu of the longer Form R.  These  streamlined
requirements became effective for the  1995 calendar year.  The  rule  attempts  to  strike  a
reasonable balance between maintaining the community's right-to-know  about toxic chemical
releases  and the economic costs to EPA and  industry of collecting the information.  EPA
estimated that simplifying the reporting process for some facilities would result in annual cost
savings  of  about $18.4  million for  industry  and $700,000 for  federal,  state,  and  local
governments.210
EPA makes TRI information available to industry, environmental groups, and the general public,
so they can  know about the toxic releases and other waste management activities of facilities.
This information is available via  several media, including  printed reports,  CD-ROM, and the
Internet. The emergency-planning component of EPCRA calls for the creation of state and local
emergency response bodies that will develop emergency response plans.
This part of EPCRA also requires facilities to perform the following three tasks.
1.  Facilities must inform these emergency-response bodies that certain hazardous substances are
   located on their premises.
2.  They must give immediate notice of accidental releases to emergency response bodies.
3.  They must develop response plans that can be implemented in the  event of the accidental
   releases of hazardous substances.
Information provided by facilities is available to the public.
Governments use TRI data to establish baselines, measure progress, set priorities, and identify
targets  of special concern. The  general  public uses  TRI information  to identify potential
problems in their local environment and to take part in national and local  debates concerning
regulations that could affect their health and welfare. Corporations and investors use TRI data to
gauge the performance of a corporation and individual facilities relative to their peers.

9.3.1  Trends in Toxics Release Inventory  (TRI) Data
As shown in Figure 9-1, reported TRI releases have decreased 45.3%  in the 10 years since 1988.
Although the data suggest significant reductions in toxic releases, there are several reasons why
these reported decreases may not be equal to  actual decreases  in releases. EPA points out that
TRI increases and decreases can be "real
changes"  or "paper changes." The latter  Figure 9-1. Reported TRI Releases
result from errors, changes in facilities'
estimation  or   calculation  techniques,
changes   in   reporting  guidance  and
facilities' interpretation of that guidance,
and  facilities'  use  of exemptions.  In
general,  companies determine their TRI
release  amounts  through  an estimation
process rather than through monitoring.
EPA guidance has not been issued for all
aspects of TRI reporting, and companies
can  sometimes  lower reported releases
by using different estimation techniques.



.0 J
•5 2-5~
in 9 -
c Z
£ 1.5 -
m 1 "
.0 "
^



















1988









1995 1996 1997 1998
Year
                                       Source: www.epa.gov/tri/tri98
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                                                                    Information Disclosure
EPA indicates that estimation errors are more likely to occur for releases such as fugitive air
emissions and  complex wastewater  effluent, releases for  which  little monitoring  data  are
available. However, EPA audits have  found companies' estimation techniques to be reasonably
accurate. For example, EPA's review  of  TRI data quality  for  1996 surveyed 60 industrial
facilities: 27 in the primary metal industry, 14 in the electrical equipment industry, and 19 in the
transportation  equipment  industry.  The survey found that  facilities were able to  calculate
thresholds for reporting correctly  95% of the time.  For chemicals that exceeded the threshold,
these facilities correctly identified the threshold 88% of the time. Reports by facilities concerning
their releases  agreed closely  with  an  auditor's  assessment in  the transportation equipment
industry. However, these reports differed  significantly in the primary  metals and electrical
equipment industries. The differences were attributed to confusion over the definitions of the
terms "recycling" and "reuse."211
Another potential problem is that most chemicals have not been subject to TRI requirements. A
1994 GAO study stated that over 70,000 chemicals are  used commercially in the United States,
of which only 320  had been included in the TRI.  "Consequently," the study  added,  "the
companies may  maintain  or even increase their usage of toxic  chemicals while concurrently
reducing the chemicals that are reported to  EPA."212 The  original list focused  on the most
important toxics, and, as noted in a previous paragraph, EPA included another 286 chemicals in
TRI requirements effective 1995. However,  some highly toxic chemicals still have not been
added to the list because they are generated in amounts that  are too small to meet criteria for
inclusion.
At present, facilities with fewer than 10 full-time equivalents employees  in listed SIC codes are
excluded from TRI reporting. Furthermore, all sources of releases outside that code range are
also excluded. It is not known what percentage of releases is currently exempt from reporting.
Releases are not weighted according to the  type of disposal method, the  magnitude of potential
population exposure to these toxic substances  or the potential effects of these releases on human
health and the environment. Moreover, the TRI data do not include information on  the quantity
of toxic chemicals in  products leaving the facility.  Such products themselves can eventually be
released into the environment.
Although a reduction in releases is, for the most part,  desirable, another important question is
how the reduction is  achieved. Methods include  controlled  disposal, recycling, conversion to
energy,  and  source reduction.  The  1990 Pollution Prevention Act set source reduction as the
preferred method of reducing releases, but  transfer  data show no  clear trend toward using this
method. Since recycling and conversion to energy were not reported as transfers until 1991 (as
required under the 1990 Pollution Prevention  Act), 1988 total transfers are difficult to compare
with total transfers in the subsequent period.
The assessment of achievements in  source reduction is  complicated by the lack of TRI data on
the  quantities  of waste decreased by source reduction measures. Only  the practices  used to
reduce waste— not their results—are included in the TRI. Changes in waste generation that are
reported in the TRI could be due to factors  other than source reduction, including estimation
errors or changes in the production levels of specific products.
The trend of decreases in releases and transfers is more pronounced under the voluntary 33/50
program. (This program is discussed further in Chapter 10.) Total releases and transfers under
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The U. S. Experience with Economic Incentives for Protecting the Environment


this voluntary program have decreased every year from 1988 to 1994, with a total reduction of
51% during that period.

9.3.2  Incentive Effect of the Toxics Release Inventory
The incentive effect of the TRI program on polluters cannot be assessed solely on the basis of
reported decreases in releases. A number of factors,  including traditional regulations and other
economic incentive mechanisms  discussed  in this  report, have  affected releases. Pollution
prevention is also influenced by a number of factors unrelated to the TRI program.
                	                                                                    r\ -I o
Nonetheless, the TRI program is widely believed to have  a significant impact on polluters.
EPA has called it "one of the most powerful tools in this country for environmental protection"
and "one  of the  most successful policy instruments  ever created  for improving environmental
performance."214 Vice  President  Gore called  the  annual  TRI  publication "the single most
effective common-sense tool" to promote environmental protection.215
Shortly after the first  TRI  data  were released  in  1989,  citizens groups placed a full-page
advertisement in the New  York Times that listed "the corporate top ten"  land, water,  and air
polluters.  Several of these  polluters subsequently promised EPA that they  would improve their
environmental performance,  effectively beginning  the 33/50  voluntary releases  reduction
program. 216 Monsanto, for example, promised 90% reductions of  1987 air emission releases by
1992. AT&T said it would halt all TRI air emissions  by 2000. Dow announced  it  planned to
reduce overall emissions by 50% by 1995, and Dupont promised to cut air emissions by 60% by
1993 and cancer-causing components by 90% by the year 2000. In Minnesota, public outcry over
revelations that an  electronic  circuits manufacturer was emitting methylene  chloride  led the
facility to promise 90% reductions in emissions by 1993. After 1987 TRI data found an IBM
facility in California to be the state's largest emitter of chlorofluorocarbons (CFCs), a public
interest group organized a campaign. IBM subsequently promised to end the use of CFCs at the
plant by 1993.21? TRI data also appear to influence investors.  Some of the investor interest may
be attributed not so much to socially responsible investing but rather to the belief that companies
with relatively high emissions might face mounting environmental costs in the future.
Hamilton  (1995) found that the 1988 TRI performance  of companies (as reported in June 1989)
was of interest to journalists and investors.  The higher  a firm's TRI pollution figures, the study
found, the more likely journalists were to write about the firm's toxic releases, especially those
firms  that were less associated with pollution.  Companies that reported  TRI  releases  under-
performed the stock market for five days after the data were released. The more chemicals for
which a company submitted data, the greater was the extent of under-performance  by the
company. The under-performance was  less significant, however, for companies  previously
associated with pollution.
The Investor Responsibility Research Center has analyzed TRI  data to  provide clients with
environmental profiles of companies.  The Clean Yield Investment  Portfolio Management Group
compares companies' TRI data with industry-wide averages  of releases per unit of sales. Fortune
magazine has used TRI data in its "green index" of American manufacturers, assigning scores of
0 to 10 in 20 performance categories, including toxic emissions per unit of sales.
The regulated community uses TRI  data  as well.  Wolf (1986)  examined  the effects  of the
program on regulatory agencies, legislatures, public interest groups, and affected firms. He found
that major corporations issue  environmental progress reports to counter the publicity generated
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                                                                   Information Disclosure
by their TRI reports. Often the progress reports specify baselines and milestones, so others can
evaluate their progress.  Pine  (1997)  suggested that TRI data are helping companies develop
waste reduction strategies. Konar and Cohen (1997) studied the response of firms to large drops
in their stock prices  following  the  release  of TRI  data.  The  authors concluded  that firms
experiencing large, adverse impacts on the price of their stock reduced their TRI emissions more
in subsequent reporting periods than the average firm in their industry. This action suggests that
TRI reports do affect corporate  behavior. EPA's economic analysis of the  proposed rule to
modify reporting requirements on persistent bioaccumulative toxic chemicals contains additional
                                       	           918
information on the beneficial effects of the TRI program.
Although EPCRA's emergency-planning  element has received less attention as an incentive
mechanism than the TRI, EPCRA also could have a significant effect on polluters' behavior.
Firms might reduce the amounts  of hazardous substances on their premises if they are forced to
disclose these amounts to local emergency response bodies and (indirectly) to the public. They
might also  manage hazardous substances more  safely if they are required to plan for, and give
immediate notice of, accidental releases.

9.4    State Chemical Reporting Programs

At least two states have toxic release reporting programs similar to the federal TRI program, but
they have different reporting  requirements. The requirements may cover additional  chemicals,
industries, or reporting elements; use of toxic  substances and pollution prevention  plans.  The
General Accounting Office (GAO) (Q: add  to acronyms list) (1997b) conducted a survey of
efforts to  pass  similar laws in other states, finding that initiatives had failed in  California,
Colorado, Florida, Hawaii, Maryland,  and Michigan.
Programs in Massachusetts and New Jersey, for example, differ from their federal counterpart in
that they require  companies to use materials balance accounting to plan pollution  prevention
actions, to  report their goals  and progress  on pollution prevention, and to examine whether
material inputs  to production  are accounted  for fully by the total  of all outputs and pollution
releases.
One advantage of requirements such as those in Massachusetts and New Jersey is that they offer
more information on toxics use and wastes that could be of interest to companies, regulators, and
the general public than do the TRI requirements. One disadvantage of these requirements appears
to be the potential administrative burden  they impose on polluters and regulators.  If the state
attempts to lessen its program  costs by taxing the polluters, it adds to the polluters' burden. EPA
has studied these  programs in the context of its Phase III expansion, so the Agency can better
understand how the federal EPCRA might be improved.

9.4.1  Massachusetts Toxics Use Reduction  Act  (TURA)
Enacted in 1989,  the Massachusetts TURA requires the  users  of large quantities  of toxic
materials, including those in several SIC codes not covered by the federal EPCRA, to (1) submit
an annual Toxic  Use Report to the  State Department  of Environmental Protection, and (2)
develop plans for using toxic  chemicals and  reducing waste. Facilities that are subject to these
two requirements must report annually on their inputs and outputs of materials and on  their waste
generation and management methods.
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Additional data must be reported every two years on actual and projected changes in chemical
use and  wastes compared to both planned and base-year amounts. Summaries of the chemical
use and waste reduction plans also must be submitted biennially, but the detailed plans remain at
the facilities to ensure confidentiality. These plans must be endorsed by state-certified Toxics
Use Reduction Planners.
TURA also created two agencies to provide technical assistance to users of toxic substances and
to conduct training and research on TURA and on techniques that  reduce the use  of toxic
substances. The operations of these agencies and  other program costs are covered by toxics use
fees that are based on the number of employees at a facility and the number of chemicals it uses.
These fees are limited to $31,450  per facility annually. They are  not closely linked  to the
quantities or toxicities  of the chemicals used. These fees generate roughly $5 million a year in
revenues.
                                       TURAFORMULA

  For every production unit, facilities must also report on their use of chemicals and on use reduction techniques (within SIC range codes
  to protect confidential business information). Facilities must also indicate a Byproduct Reduction Index (BRI) and an Emission
  Reduction Index (ERI). ("Byproduct" can be considered "waste" in this context, although a byproduct may be reusable.) These two
  indices are determined in the following manner:

  BRI = (A-B) x 100 and ERI = (C-D) x 100, where

  A = Byproduct quantity in base year divided by the number of units of product produced in base year.
  B = Byproduct quantity in reporting year divided by the number of units of product produced in reporting year.
  C = Emissions quantity in base year divided by the number of units of product produced in base year.
  D = Emissions quantity in reporting year divided by the number of units of product produced in reporting year.

  Source: httD://www.turi.ora/turadata/WhatlsTURA/
TURA also contains provisions for citizen involvement. Citizens may assist in monitoring the
use of toxic substances, and they can access the TURA information on toxics use that is reported
to Massachusetts' Department of Environmental Protection. The Department is required to act on
petitions to inspect a facility's plans and data if the petitions are filed by 10 or more residents
living within 10 miles of the facility.
The information collected through TURA has also proven helpful to the subject facilities. By
making facilities aware of the quantities  of toxics used  during production,  released to the
environment,  and transformed into products, the reporting requirements allow them to identify
improvements in their efficiency and cost-cutting opportunities relative to chemical use.
TURA set a waste reduction  goal  of 50%  over 10 years,  using 1987  as a baseline.  Reporting
began in  1991 for 1990 data.  Between 1990 and 1997, toxics material use fell  by 201 million
pounds, toxic byproducts fell  by 43.8 million pounds,  and  the  on-site release of toxic materials
fell by 16.2 million pounds. In 1999, the TURA program received an award for "Innovations in
American Government."219

9.4.2  New Jersey Reporting Requirements
New Jersey's Worker and Community Right-to-Know Act was enacted  in 1984, before the
federal EPCRA.  Since 1987, the state has collected data on inputs and outputs of materials and
                                                                  790
on the amounts of waste reduced through source reduction activities.
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The  1991  New Jersey Pollution  Prevention  Act required facilities to undertake  pollution
prevention planning. Like the Massachusetts law discussed in previous paragraphs, New Jersey
set a goal of 50% reduction in waste output by 1997, with 1987 as a baseline. Plan Summaries
must be submitted to the state's Department of Environmental Protection every 5 years.
Like Massachusetts, New Jersey requires the use of performance indices. Instead of focusing on
waste generation and emissions, however, New Jersey has indices  for waste generation and use
of toxics. New Jersey requires that facilities making TRI reports provide additional information
beyond the federal requirements. The additional information includes the  quantities of each
chemical brought on-site, produced on-site, used in the manufacturing process, and sent off-site
in products or  as  waste. Such data,  along  with  the federally  required data on releases  and
transfers allows regulators to construct a materials balance for each chemical.
The New Jersey Department of Environmental Protection has conducted surveys showing that its
reporting requirements  have been beneficial to companies because the data helps them assess
their options to minimize waste. Department officials also claim that the data allow companies to
better  manage  their activities, including  the implementation of  the  facility-wide permitting
scheme described in Chapter 6.

9.5    Drinking Water Consumer Confidence Report

In an August 19, 1998, notice in the Federal Register,  EPA required the  suppliers of drinking
water to provide households with information on the quality of their drinking water, beginning in
1999.221 The reports must contain the following information:

   •   the lake, river, aquifer, or other source of the water;

   •   a brief summary of the susceptibility of the local drinking water source to contamination;

   •   how citizens can obtain a copy of the complete water system assessment from the
       supplier;

   •   the level (or range of levels) of any contaminants as well as EPA's health-based standards
       for the contaminants;

   •   the likely source of any contaminants;

   •   the potential health effects of any contaminants;

   •   the water system's compliance with other drinking water-related rules;

   •   an educational statement for vulnerable populations about  how to avoid
       Cryptosporidium;

   •   educational information on nitrate, arsenic, or lead in areas where they are detected in
       quantities e that are more than 50% higher than EPA's standard; and

   •   the telephone numbers for additional sources of information.
EPA encourages water  supply systems to post water-quality information online, and the Agency
maintains links to this information on the Internet.222
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9.6    EPA Reporting of Environmental Information

Several recent initiatives by EPA focus on two activities: (1) the aggregation or processing of
environmental data that are submitted under existing programs; and (2) the reporting of this data
in a form that is designed to be more useful to consumers, homeowners, and firms. This section
describes three such initiatives.

9.6.1  Automobile Pollution Rankings
In 2000, the EPA launched  a web site that uses  emission certification data submitted  by
manufacturers to rank automobiles and light-duty trucks on the basis of their tailpipe emissions
of hydrocarbons and NOX.223 Rather  than report actual emission certification data, the site ranks
emissions on a scale from  1 (worst)  to 10 (best). The information can be used by consumers to
make more  informed choices. It also may indirectly  pressure manufacturers to improve the
emissions performance of their vehicles.

9.6.2  Envirofacts
EPA's  Envirofacts database  provides users  with  a  single point of access to select EPA
environmental data sets, as well as a mapping function that finds the geographic location for data
         99A _
of interest.   Envirofacts allows the  user to retrieve environmental information on air emissions
from sources and information on

   •   individual chemicals,

   •   facilities,

   •   hazardous waste generators and transporters,

   •   risk management plans for facilities,

   •   EPA's Superfund sites,

   •   toxic releases,

   •   water discharge permits,

   •   suppliers of drinking water, and

   •   microbes and disinfectants in  drinking water.

9.6.3  Sector Facility Indexing (SFI)
Sector facility indexing is  a pilot effort by EPA to integrate environmental data in each of five
industrial sectors: petroleum refining, iron and steel, primary non-ferrous metals, pulp and paper,
and automobile manufacture.225 SFI combines data from TRI and EPA's national enforcement
databases and provides information on releases, the number of inspections, compliance history,
and enforcement actions. Users can review data on releases from, and the compliance history of,
individual facilities and then compare these data with other facilities in the same industry. EPA
recently announced that the program  would be expanded to include certain federal facilities.226
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9.7    Proposition 65

California's Safe  Drinking Water and  Toxic Enforcement Act,  commonly  referred to as
"Proposition 65,"  was adopted by voter referendum in  1986.  It requires  polluters  to  issue
warnings if they expose people to significant levels of carcinogens or reproductive toxicants that
are included in a list maintained by the Office of Health Hazard Assessment. 22? As of August
2000, the list  contained 461  carcinogens, 241 reproductive toxicants, 35  female reproductive
toxicants, and 46 male reproductive toxicants.228
If a substance is listed as  a  carcinogen,  businesses may not discharge  it into  drinking water
unless the  quantities discharged pose "no significant risk."  State regulation sets the levels of
"significant risk" for most of the most toxic and high volume chemicals on  the list, but they can
be superseded  by more stringent exposure levels that are mandated by other environmental  laws.
The defendant bears the burden of proof that the exposure is below the level  of significant risk.
Drinking water utilities,  government agencies, and  organizations  employing  fewer  than 10
people are exempt from the  rule.
Citizens have the right to initiate lawsuits under Proposition 65 if authorities do not respond to
their requests to pursue potential violators. Under the "bounty hunter provision," the person who
brought the suit can receive 25% of any fines collected. Fines can be as high as $2,500 a day.
Data  obtained from the  State Attorney  General's office  indicate that  several environmental
groups—including the  Environmental Defense Fund  and As You  Sow—and individuals  have
been compensated for initiating lawsuits under Proposition 65.229
In some  cases, businesses in  California have avoided issuing clear warnings. They have  been
sued for  providing warnings deemed too  vague or inconspicuous. For example,  the food,  drug,
and cosmetics industries  established a toll-free product  information number in  lieu of placing
hazard labels on their products. In another case, warnings for air emissions of ethylene oxide
were published as advertisements in the classified  section of a local newspaper. In both of  these
cases, the warnings were found by the courts to be insufficient.230
Process modifications,  chemical substitution, and  the use of pollution control devices  have all
been  attributed to  Proposition 65. Some products have been reformulated  to  avoid negative
labeling.  For example, solvents were removed from correction fluids and lead from foil and  other
products. The  lead content  of tableware was also  reduced. However, products such as tobacco
and alcohol have to bear warning labels. Businesses appear much more likely to take measures to
avoid  issuing  warnings  for  products that  consumers  in general believe  are safe,  such as
tableware,  and for products  that have unlabeled substitutes than they  are  for products that
consumers  know can be dangerous, such as spray paint.
At least one study found that consumers were indifferent to some warnings because they had
become  so prevalent. "Overuse  of labeling  may   therefore  result  in  a  reduction  of
effectiveness."231 Another study suggested that firms might collude to label  in excess,  thereby
minimizing the impact of these warning labels.232
Proposition 65 gives polluters incentives not only to identify ways of reducing or eliminating
toxic discharges but also to study the effects of toxics to determine  safe exposure levels.
Anecdotal evidence suggests that businesses devoted significant resources to  assessing the risks
of exposure to toxics  after this law had been passed.233  Business groups  had asserted that
compliance with the law would be very costly. However, they failed to provide evidence that
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The U. S. Experience with Economic Incentives for Protecting the Environment


significant costs actually were incurred when they were given the opportunity to do so by the
State of California during a retrospective analysis of the law.

9.8    Hot Spots Act

Adopted in 1987, California's Air Toxics Hot Spots Information and Assessment Act (AB 2588)
requires stationary sources to report releases of certain substances into the air. According to the
California Air Resources Board (CARB), the goals of the Hot Spots Act are "to collect emission
data, to identify facilities having localized impacts, to ascertain health risks, and to notify nearby
residents of significant risks."2 4 The Act uses at least two  potential incentive mechanisms to
reduce toxic air  emissions: public notification  requirements  and unit-based  fees. The latter
mechanism,  which is also intended to cover all of the administrative costs  associated with the
Act,  is discussed in Chapter  4. The former mechanism, public notification  requirements, is
discussed here.
Facilities are required to submit an air toxics emission inventory plan and a subsequent inventory
to their respective air pollution control district. Certain high-priority facilities must also submit a
health  risk assessment. If air quality managers in the district determine that a facility's emissions
pose a potentially significant health risk, the facility operator must notify all persons who have
been exposed.
The Hot Spots Act originally relied on the information requirement and fees to  discourage risky
toxic emissions. In 1992, however, it was amended  to require facilities to reduce emissions
below  the significant risk level within 5 years or a period not to exceed 10 years, as determined
by the district. This amendment introduced a considerable element  of traditional regulatory
policy  to what previously had been an incentive-based instrument. However, emissions data and
health  risk assessments remain accessible to the public, and they could give  polluters incentives
to reduce their emissions more substantially and quickly than they would if this data were not in
the public domain.
According to CARB, the Hot Spots inventory requirements have increased facilities' awareness
of their toxic emissions, leading to reductions in emissions. Surveys have revealed voluntary
reductions of over 1.9 million pounds per year of air toxics from 21 facilities. Potentially reduced
costs,  concern for worker health, improved community relations, and anticipation of future
regulations are some of the motives for these reductions.

9.9    Labeling Schemes

Labeling products according to their effects on the environment is another type of information
approach to  environmental management. Consumers can use the information provided by such
labels in making purchasing decisions. If consumers, investors, and others prefer companies and
products they believe are environmentally friendly, businesses have an incentive to improve their
environmental performance to receive a favorable label or to avoid a negative one.
Table  9-1 shows the classification scheme  for environmental labeling programs that were
proposed by a 1994 EPA study.235 Programs can be either voluntary or mandatory. Moreover, the
information  provided  by  labeling may be characterized in general as negative,  positive,  or
neutral.
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                                                                  Information Disclosure
Table 9-1. Classification of Environmental Labeling Schemes
I PROGRAM TYPE
| Seal of Approval
| Single attribute
| Report card
| Information disclosure
| Hazard warnings
POSITIVE
X
X



NEUTRAL


X
X

NEGATIVE




X
VOLUNTARY
X
X
X


MANDATORY



X
X
Source: EPA(1994a), p. 9.
Seals of approval are given to products that have been deemed less harmful to the environment,
and single attribute programs certify that a product has a certain positive environmental attribute.
Report cards  and information disclosure schemes inform customers of the various impacts of
products on the environment. Hazard labels warn customers of the harmful effects of a particular
product.
Experience with labeling schemes indicates that they are more  likely to influence behavior if
they are accompanied by promotional activities that target retailers  and consumers. In many
cases, the label itself is only one element of a larger effort to promote the use of environmentally
friendly products. As a result, it is often difficult to isolate the incentive effect of a label from
that of related promotional activities.236
Although  the  United States  does  not have a  national, government-initiated  environmental
labeling program like many other industrialized countries, it does have a few labeling programs
that  have  been created by the public- and private-sectors.  The  Consumer Labeling Initiative
(CLI), a pilot program  of the U.S.  EPA, began in March 1996. Its goal is to  foster pollution
prevention, inform  consumer choice, and encourage the safe use of household and consumer
        /^T-y
products.   In the  pilot phases, the CLI is  exploring issues such as how consumers react to
different types of labels and the best ways to present information.  This program could evolve
into a national labeling program.

9.9.1 OSHA Warning Labels
The   Occupational  Safety   and  Health   Administration  (OSHA)   promulgated  hazard
communication standards (29 CFR 1910.1200) in 1983 to assure that the  hazards of chemicals in
the workplace are evaluated and that hazard data subsequently are transmitted to employees and
employers.238 These standards require Material Safety Data Sheets (MSDS), container labeling,
and  employee training,  as  appropriate.   Under  a  Presidential  Directive,  the  Hazard
Communication Workgroup began an evaluation of the program in 1995  and presented its report
in September 1996.239 The workgroup report determined that the standard was good and should
not be reopened for comment. The workgroup also noted that MSDS tended to be overly lengthy
and could be simplified to better communicate necessary information to workers and employers.

9.9.2 FTC Guidelines for Environmental Marketing Claims
The  Federal Trade Commission's (FTC) Guidelines for Environmental Marketing Claims or
"Green Guides" were issued in 1992 and,  at the time of this writing,  were under review for
possible revisions.  These guidelines do not  constitute a labeling system as such, but they are
designed to have an effect on labeling. They are intended to prevent false or misleading use of
advertising claims  such  as  "environmentally  friendly,"  "degradable,"  and  "recyclable."
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The U. S. Experience with Economic Incentives for Protecting the Environment


Confusion over the meaning of such terms has affected not only consumers but also companies,
who were concerned about lawsuits over their environmental claims.
The guidelines outline four general principles for environmental claims:  (1) qualifications and
disclosures should be  sufficiently clear and conspicuous to prevent deception; (2) claims should
make clear whether they apply  to the product,  packaging,  or just  a component of either the
product  or  packaging;  (3)  claims  should  not overstate  environmental  benefits;  and  (4)
comparative claims should be presented in such a way that the basis for comparison is clear. The
guidelines also address claims about environmental friendliness, degradability,  compostability,
recyclability, recycled content, source reduction, refillability, and ozone friendliness.240

9.9.3  Green Seal and Other Seals of Approval
Founded in  1989,  Green Seal is  the  nonprofit organization that  awards the  Green  Seal  of
Approval to products that it finds less harmful to the environment.241 The  organization develops
a set of standards for each product category  it studies. Categories are chosen according to the
significance of their  associated  environmental impact and  their range of products. Products
within a category are then studied to determine their impacts on the environment in their various
stages  of production, use, and disposal. After public review and comment, Green  Seal adopts a
standard.
Standard criteria vary across categories but may include the reduction of  toxic chemical
pollution, improved energy efficiency, the protection of water resources, the minimization of
impacts  on  fish  and  wildlife and their habitats,  the  efficient use of natural resources,  the
protection of the ozone layer, and the prevention of global warming. Products are  not subjected
to a complete life-cycle analysis. Instead, products are judged according to those aspects of their
life cycle that have the most significant environmental impact.  Standards are reviewed at least
once every 3 years.
Manufacturers pay product  evaluation fees to apply for the Green  Seal mark,  and accepted
products are  also  subject to  annual monitoring  fees. The fees vary  according to the  product
category and size and  the number of manufacturing facilities. The Green Seal mark for approved
products appears with an explanation of the basis for certification.
The  organization  has published environmental  standards or criteria for about 35 types  of
products. Its list of certified products contains central air conditioning systems (1  brand);
architectural  coatings (2  brands); cleaning products (1 brand); compact fluorescent lamps (5
brands);  recycled  paper  (5  brands);  recycled newsprint (1  brand);  re-refined engine oil  (3
brands); reusable utility bags (3 models); showerheads (four models); toilets (2 brands); watering
hoses (several models); one  manufacturer's line  of windows and doors; and one brand each of
unbleached coffee filters, baking cups, and parchment. Readers interested in the specifications
for these and other products may visit the Green Seal web page: www.greenseal.org/stanlist.htm.
Besides labeling, Green Seal helps market environmentally friendly products  in several ways. A
list of certified products is included in a catalog with product information  and the addresses and
the  telephone numbers of product vendors. Documents entitled Choose Green  Reports  are
available on topics such as "Environmentally Preferable Printing" and energy-efficient lighting,
computers,  and other office equipment. Organizations that agree to purchase environmentally
friendly  products,  reduce  waste,  and increase  recycling  are  eligible  for the  Green  Seal
Environmental Partners mark. This mark can be placed on reports, letterhead, and store signs.
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                                                                   Information Disclosure
In a Green Seal survey, 4 out of 5 consumers said that they would be more likely to purchase a
Green  Seal-certified product  than other products of equal quality  and price.24  However, the
incentive effects of Green Seal's activities do not appear to have been studied in any detail.
Some retailers have adopted labeling schemes for products they find environmentally friendly. In
1989, for  example,  Wal-Mart created a program under which shelves were labeled to indicate
that certain products were environmentally friendly. Wal-Mart ended this program in 1992. Store
officials had difficulty in determining the criteria for  environmental friendliness and in assessing
manufacturers' environmental claims.
Wal-Mart's experience illustrates one of the main problems encountered by environmental  seal-
of-approval schemes: the lack of agreed-upon criteria for assessing environmental friendliness.
While  seals of approval may be relatively easy for consumers to understand, they risk not only
lacking agreed-upon standards but also oversimplifying complex environmental  issues. Menell
(1995) cites a number of cases in which the assessments of environmental friendliness that are
necessary  for labeling are difficult.  For example,  a study  of the  environmental impacts of
disposable cups found that wax-coated paperboard  was preferable to  polystyrene in terms of
reduced volumes of solid waste generation,  but inferior in the areas of energy consumption, air
emissions, water pollution, and weight of solid waste generation. Disposable  diapers generate
more  solid waste than cloth diapers, but they also use less water and result in less water
pollution.  Another  study cited  by Menell  found that the environmental impacts of washing
machines depend less on the model of the machine than on how it is used.

9.9.4  Single-Attribute Labels
The problems of lack of criteria and oversimplification are likely to be less serious for labeling
programs that are based on a single product attribute.  EPA's office equipment label, Energy Star,
is reserved for  computers, printers, photocopiers, and typewriters that  are relatively energy-
efficient. This label  is part of a voluntary initiative designed to promote the purchase and use of
energy-efficient office equipment. (This program is described in Chapter 10.)
The Flipper  Seal  of Approval  was created in  1992 and licensed  by Earthtrust, a  non-profit
organization  based  in Hawaii. It is awarded to companies that  harvest tuna in  a manner that
minimizes the number of dolphins killed. The seal has been awarded to tuna companies in the
United States and abroad.
From 1986 to 1991, the Bonneville Power Administration,  which  supplies electric  power in
Oregon and Washington, managed a Blue Ribbon Award Campaign that promoted the  use of
energy-efficient refrigerators and freezers. Under this program, refrigerators and  freezers in the
top 15% of their size and function category were awarded blue magnetic ribbons.243 A retailer's
survey conducted early  in the program estimated that about 22% of its customers had  been
"influenced" in their purchasing decisions by the presence or absence of these ribbons.244
Scientific  Certification Systems (SCS), a for-profit  business, has two single-attribute seal-of-
approval programs.  The first program, the SCS Forest Conservation Program, uses a 100-point
index to evaluate the management of forest tracts by timber operations. A separate score is given
for each of the following categories:  the sustainability of timber resources, forest ecosystem
maintenance, and the socio-economic benefits to the surrounding community. Scores over 60 are
required in each category before timber companies can be awarded the "Well-Managed Forest"
label. Operations  scoring  in the top 10% are further labeled as "State-of-the-Art."245  In the
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The U. S. Experience with Economic Incentives for Protecting the Environment


second program, SCS can use chain-of-custody certification to verify that wood products sold to
consumers come from well-managed forests. About 10 forestry operations in South, Central, and
North America have been scored by SCS.
SCS has also certified more than  500  environmental  claims  by manufacturers concerning
recycled content, recycling rates, energy efficiency, water efficiency, biodegradability, and the
lack of smog-producing ingredients.  Some claims concern  materials, whereas others concern
final products and  packages. Certified products are allowed to bear an authorized certification
emblem.
According to SCS, anecdotal evidence indicates that its labels  are valued by businesses and
individuals, with consumers willing to pay a premium for products identified as environmentally
friendly. Glidden Company, for  example, found that a label  designating  its  paints as free of
volatile organic compounds (VOCs) is valued by institutional customers such as hospitals.

9.9.5  Report Cards  and Information Disclosure
SCS also issues environmental "report cards" that rate products according to various criteria.
(The company refers to these report cards as "eco-profiles.") These profiles are based on a
cradle-to-grave  assessment of the environmental burdens  associated  with the raw  material
extraction, manufacture, transportation, use, and disposal of  a  product.  These environmental
burdens include resource depletion, energy use, air and water  emissions, and  solid wastes. Bar
graphs for each of approximately 20 types of environmental impacts are included on the label.
Eco-profiles have been done for Holiday Fair (handbags, accessories, and travel ware); North
American Plastics  (plastic bags); Plasti-kote (paints); Wellman, Inc. (polyester fiber); and Zeta
Consumer Products (plastic bags). Some companies request  eco-profiles for internal use rather
than for marketing  purposes.
The advantage of such  an eco-profile is that it provides more  information than simple seals of
approval. Among the disadvantages are that the information on the card can be  difficult to obtain
and understand and that the report card may be misinterpreted by consumers as a product
endorsement. Since the SCS  report cards are voluntary and appear only on a limited number of
products, they have led  many consumers to believe that the card itself implies the environmental
superiority of a product.246

9.9.6  Energy Efficiency Labeling
Two energy-efficiency  disclosure programs are managed by the federal government. The first
such program is EPA's  Fuel Economy Information Program.  It requires new cars to have labels
in their windows that list their mileage-per-gallon for city and highway driving, the estimated
annual fuel cost associated with  their operation, and the fuel economy of comparable models.
This program was  voluntary at its inception in 1974 but was made mandatory by the Energy
Policy and Conservation Act (EPCA) as of March 1976. Car dealers were also required to have
the Gas Mileage Guide  of car fuel efficiency available to customers.
A 1976 study found that more than one-half of new car buyers had seen the fuel economy label
and that those aware of the label bought cars with higher fuel efficiency than other car buyers
did. The program  was  credited with reducing fuel  consumption for 1976 model cars by 893
million gallons.  However, the influence of the labeling  program  decreased as  a result of
reductions in gasoline prices after the mid-1970s. Moreover, 64% of buyers did not believe the
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                                                                   Information Disclosure
mileage estimates.  Consumers believed that fuel efficiency was not assessed in realistic driving
conditions  and that mileage was therefore overstated. A 1981 DOE survey found  that this
skepticism was the main reason why more consumers did not rely on the fuel economy label. In
1985, EPA  changed the procedure by which fuel  efficiency  was assessed to  make it more
        247
realistic.
The second energy efficiency disclosure program managed by the federal government is that for
Energy Guide labels on household appliances. In 1975, EPCA required that these Energy Guide
labels be placed on  refrigerators, freezers,  water  heaters,  washing machines, dishwashers,
furnaces, air conditioners, and heat pumps. The content of the labels varies, depending  on the
type of appliance. At that time, however, all the labels included information on the manufacturer,
appliance model number, and capacity as well as an energy-efficiency rating (EER) or estimated
annual  operating cost,  the  EER or annual  operating cost of the most and  least  efficient
comparable  appliances, and  a table showing the annual estimated costs of various  patterns of
usage for different energy prices. The 1992 Energy Policy Act expanded these requirements to
include the labeling of fluorescent lamps, showerheads, faucets, water closets, and urinals.
The  Federal Trade  Commission  changed  the labels in 1994,  so refrigerators,  freezers,
dishwashers, clothes washers,  and water heaters  now  include the number of kilowatt  hours
(kWh) of energy used by the labeled appliance and a list of the most energy-efficient and least
energy-efficient comparable appliances. Climate control appliances are labeled not according to
kWh of energy use but rather to fuel efficiency indices such as EER, seasonal EER,  annual fuel
utilization efficiency,  or heating seasonal performance  factor. The energy cost table has been
replaced by a single estimate of energy costs for products with  kWh energy-use ratings and for
room  air conditioners. Other products must have operating cost information available either on
fact sheets or in industry product directories. In a press release on the new labeling requirements,
FTC stated that they would  "make the labels easier to read and more useful to consumers in
                                                 OzLS
comparing the energy efficiencies of the appliances."
An in-store survey of appliance buyers conducted for  DOE showed that  90%  of  buyers had
noticed  the  Energy Guide label  and that three-fourths described  it as "somewhat" or "very"
helpful  in comparison shopping. The same  survey  revealed that  consumers found the labels
confusing and believed that labels should emphasize one or two pieces of information, such as
            94Q
energy costs.   Studies have shown that the labels raise consumers' energy awareness without
necessarily  influencing   their  purchases.  The energy efficiency  of  appliances  has  risen
significantly since the adoption of EPCA, but this increase appears  to be due more to traditional
regulatory requirements than to the Energy Guide.250
FTC  has also  adopted  labeling  requirements  for  the resistance-to-heat flow  in insulation
materials, the emissions  characteristics of alternative fuel vehicles,  and the minimum content of
alternative fuels.
The National Fenestration Rating  Council (NFRC), which is  an  industry initiative, rates  the
energy  efficiency  of  windows.  More  than  120 manufacturers have submitted over 25,000
window  products for  NFRC ratings. According to  NFRC, building  energy codes  and utility
programs rely increasingly on these ratings. In addition, manufacturers try to improve energy
efficiency to avoid being listed in the NFRC directory as a company with poor ratings. 251
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The U. S. Experience with Economic Incentives for Protecting the Environment


9.9.7  Hazard Labels
Hazard labels inform consumers of the environmental risks associated with particular products.
Proposition 65, which was discussed in  Section 9.7 of this  chapter,  requires manufacturers to
disclose information on the environmental hazards that could be caused by their products. This
mandate  frequently results  in product  labeling,  and products have been altered to avoid a
negative label. However, Proposition 65 warnings frequently take forms other than labels.
Ozone-depleting substances are subject to warning labels under the Clean Air Act. The incentive
effect of this label might have been diminished by announcements that such substances would be
phased out earlier than originally expected.
A variety of toxics, including polychlorinated biphenyls (PCBs) and asbestos, have been required
to bear warning labels under authority granted to EPA by the Toxic Substances  Control Act.
Pesticides are subject to detailed labeling requirements under the Federal Insecticide, Fungicide,
and Rodenticide Act.
Since 1991, retailers in Vermont have been required to identify household products that contain
hazardous constituents with warning labels. These labels must be placed either on the shelves
stocked with these products or near the subject products. The  goal of this law is to discourage
consumers from  purchasing  such products.  Among  the types  of products  subject to the
requirement are cleaning agents,  auto and machine maintenance products,  hobby and  repair
products, shoe polish, aerosols, and butane lighters. The state's label bears the text: "REDUCE
TOXICS USE. These products  contain HAZARDOUS  INGREDIENTS."  Green exemption
labels can be attached to shelves displaying products that have been included in the warning
program but contain none of the 24 ingredients listed in the Vermont Community Right-to-Know
list of hazardous  chemicals. Vermont  has a parallel warning  program for  pesticides  and
commercial fertilizers.

9.10   Environmental Performance Awards

EPA and  numerous state and local  governments periodically  issue awards  for environmental
behavior they deem to be exemplary. To the extent that such awards generate positive  publicity,
they could encourage environmentally friendly behavior.
In California,  for example, 305  businesses won awards  under the Waste Reduction Awards
Program  (WRAP)  in  1995. The  Target  department store chain won awards at 2 distribution
centers and 90 stores for recycling and their efforts to minimize waste, activities  that have
resulted in a 75% reduction  in garbage.  Winners received certificates of recognition from the
Integrated Waste Management Board as well as the right to use the WRAP logo to publicize their
waste reduction achievements.
The California EPA announces winners each year. The 1999 winners include Autrey Museum of
Western  Heritage, Cagwin & Dorward Landscape Contractors, Investec,  Kraft Foods  Inc.
Visalia, Memorial Hospitals  Association,  Pebble Beach  Company,  Straus Family Creamery,
Swinerton & Walberg Company, Trips for Kids/Re-Cyclery, and Unisys Corp.252
In Texas, Governor's  Awards for Environmental Excellence are  issued  for the  following
categories: large business; large technical business; non-technical, small business;  government,
civic, and non-profit organizations; education; youth organization; media; agriculture; individual;
and special.253 These awards are  part of the Clean Texas  initiative under the Waste Reduction
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                                                                  Information Disclosure
Act of 1991. In the large technical business category, Lockheed Martin Tactical Aircraft Systems
was the 1995 winner. The company has also received awards from EPA for reducing emissions
of ozone-depleting chemicals and VOCs. It has also received the EPA Regional Administrator's
Environmental Excellence Award for Excellence in Hazardous Waste Minimization Program
Development.254

9.11   Securities and Exchange Commission Disclosure Requirements

Section 14(a) of the Securities Exchange Act of 1934 empowers the Securities  and Exchange
Commission  (SEC) to require disclosure by  publicly owned companies "as necessary or
appropriate in the public  interest or for the protection of investors."255 To  date, the SEC has
interpreted this statement to require the reporting of information that would be deemed important
by investors.
The SEC requires disclosure of environmental liabilities that could have a "material" impact on
the company's  financial  or competitive  position,  information that would be important to
investors. Companies also must report individual environmental enforcement proceedings that
are expected to cost more than $100,000  as well as environmental litigation that might have
significant financial impact on the company.  SEC access to information submitted by companies
to EPA enables it to verify company disclosures on  Superfund  sites, RCRA sites, and federal
enforcement actions. The SEC is authorized to require companies to revise their filings in case of
inaccuracies. In the past, the Commission has written to companies to inquire why the companies
did not disclose certain environmental information in their filings.
The number of large companies disclosing environmental information in SEC  Form 10-Ks is
increasing. Among Standard & Poor's 500  companies, 322 submitted environmental information
in 1990 as  compared to 217 companies in 1988. The  incentive effect of these disclosure
requirements is not known. However, evidence presented elsewhere in this chapter indicates that
information on the environmental performance of companies is of interest to investors.256

9.12   Summary

Information programs have the potential for creating incentives for environmental change if they
are credible and present data in a usable form. The best known of the information programs is the
TRI. While changes in reported releases have been large following the establishment of the TRI
program, its actual impact is difficult to assess quantitatively because the data are not measured
or verified and no assessment  of relative risks  accompanies the reports. Information from the
TRI  program is  widely  distributed,  well-used, and  likely to be  affecting  environmental
performance at many companies.
State information programs tend to base data on materials accounting and thus partially address
the concern  of data reliability.  The New Jersey and Massachusetts programs seem to be well-
regarded and well-used. Proposition  65 places the burden of  proof on industry,  which has
incentive effects on firms similar to that of requiring more  reliable data. Data collected as the
result of Proposition 65 are well-used
Experience with labeling  schemes indicates that they are more  likely to influence behavior if
they are accompanied by promotional activities that target retailers  and consumers. In many
cases, the label itself is only one element of a larger effort to promote the use  of environmentally
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friendly products. As a result, it may be difficult to isolate the incentive effect of a label from
that of related promotional activities.257 One of the main problems encountered by environmental
seal-of-approval schemes  is the lack of  agreed-upon criteria for assessing  environmental
friendliness. While seals of approval may be relatively easy for consumers to understand, they
risk not only lacking  agreed-upon standards but also oversimplifying complex environmental
issues.
OSHA MSDS sheets have been criticized as overly lengthy and complicated. FTC Guidelines for
Environmental Marketing are intended to prevent false or misleading use of advertising claims
such as "environmentally friendly," "degradable," and "recyclable."
Experience with energy-efficiency labeling demonstrates the limitations of information that is
perceived to be unrealistic,  such as the fuel economy labels on automobiles before  the 1985
revisions, or confusing, such as the Energy Guide labels on appliances.
SEC-mandated  environmental  disclosures  by  firms  increasingly  are used  by  investors as
indicators of proactive management, legal liability, or risk at particular firms.
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                                                                     Voluntary Programs
10.    Voluntary Programs

An important new trend in environmental management is  the  use  of voluntary
programs to accomplish the goals of environmental protection.  This trend involves
implementing methods to cut waste,  conserve materials, and improve efficiency—
outcomes that increase the value added by business, improve competitiveness, and
reduce pollution. Voluntary programs are an important addition to the more market-
based incentive measures discussed elsewhere in this report. While the market-based
programs offer financial and other closely related incentives to encourage firms and
individuals to reduce pollution, voluntary programs offer less tangible rewards such
as public recognition and access to information on ways to reduce pollution at low or
no  cost. Governments  promote voluntary initiatives  for  a variety  of reasons,
including the pilot testing of new approaches and the absence of legislative authority
to establish mandatory programs. As such, many voluntary programs offer unique
approaches to environmental management.
Two major federal initiatives  are  responsible for  many of the  federal voluntary
programs.  One is pollution prevention, particularly as  articulated in the Pollution
                      OCQ 	
Prevention  Act of 1990.   The second is the reduction of greenhouse gas emissions
called  for  in the  Clinton administration's   1993  Climate  Change  Action  Plan
(CCAP).259 A variety of private-sector and state-led initiatives also are noteworthy.
Without other legislative authorities, the  objectives of  pollution  prevention in  the
United States are pursued largely through voluntary actions by firms or agreements
negotiated  between government agencies and individual firms.  The objective of
pollution prevention  is to reduce the pollution intensity of  production through
changes in input use, technologies, processes, management,  and  other parameters.
Because the full range and effectiveness of these parameters cannot be well-known to
regulatory  agencies,  governments  pursue the goals of pollution prevention  by
providing information to firms and encouraging the firms to use production methods
that are less pollution-intensive. Similarly, the Climate Change Action Plan relies on
a series of voluntary initiatives that are supplemented by modest subsidy programs to
induce meaningful reductions in greenhouse gas emissions.

10.1   Background

Because voluntary programs  are relatively new and involve intangibles that  are
difficult to quantify (e.g., what would have been done anyway without the program),
they are difficult  to  evaluate quantitatively.  However, the Oak Ridge  National
Laboratory recently completed  an initial assessment of about a dozen energy-related
programs for EPA's Office of Atmospheric Programs (OAP). This assessment was
conducted  to support a forthcoming  DOE study entitled Scenarios for a Clean
Energy Future2 ° In addition,  the  proceedings from the American Council for an
Energy Efficient Economy (ACEEE) have a number of peer-reviewed papers that
review  and evaluate a wide variety of voluntary  energy conservation programs.
These  papers can be found in  ACEEE's Energy Efficiency Summer Studies (1994,
1996, 1998, 2000).

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One  incentive for businesses to take part in these voluntary programs appears to be favorable
public relations (PR). Favorable PR could result in less public pressure to regulate participants,
better relations with employees and the community, and increased market share at the expense of
competitors perceived to be less environmentally friendly. For example, polls have  shown that
                                                                                     r\r I
consumers are willing to pay a premium for  products that have  environmental advantages.
Henriques  and  Sadorsky  (1996)  found  that pressure from   shareholders  and  customers
significantly influenced  Canadian  firms'  decisions to formulate  environmental  plans. In this
respect, voluntary programs could have effects similar to the  information approaches discussed
in Chapter 9.
Another reason for  corporate  participation  in  voluntary programs  is that the  sponsoring
regulatory authority may provide technical assistance to  participants.  Such assistance  could be
regarded as a  subsidy, as discussed in Chapter 8. As noted in subsequent paragraphs, several
companies have saved money by implementing the activities associated with voluntary programs
such as Green Lights and WasteWise.
Moreover, voluntary programs sometimes are structured  to limit potentially high litigation,
monitoring, and enforcement costs that otherwise could be incurred by regulators and  businesses.
Some voluntary programs offer participating companies the opportunity to identify and address
environmental problems  in the present, problems that could subject them to regulatory sanctions
in the near future. On occasion, these programs also give companies the flexibility  to improve
their environmental performance at less cost.
A Resources for the Future (RFF) study of EPA's 33/50 program cited several reasons other than
publicity benefits and added flexibility to explain why firms  might voluntarily  exceed the
standards set in environmental  regulations. (The 33/50 program  is discussed in  10.3.1, 33/50
Program.) In some industries, firms might improve their performance in the hope of  leading the
government  to make such  performance mandatory, thereby  creating barriers to the entry of
potential competitors. It  has also been suggested that firms over-comply to forestall additional
mandatory  regulation. Another possibility is that the  "lumpiness"  of pollution  abatement
investments means that  large investments offer significantly more abatement per dollar than a
series of small investments made to comply with progressively tighter restrictions.262
Most voluntary environmental programs in the United  States  have been designed  and
implemented  by the U.S. EPA. Industry also is involved in the oversight of  a  number of
voluntary programs. The programs that have  been created and managed solely by  the federal
government are classified as "public voluntary" programs. Acting independently  or with other
federal agencies, EPA oversees programs directed at climate change and pollution  prevention.
Programs developed by  industry trade  organizations for their member companies  are termed
"unilateral" programs in  this report. Finally, there are voluntary programs that involve significant
negotiation between government  regulators   and participants.  These programs  are  called
"negotiated agreements." The following sections review many  of these programs.

10.2   Federal Initiatives: Climate Change

The  great majority of  voluntary  programs   are concerned  with reducing  the  emissions of
greenhouse gases: carbon dioxide (CO2), methane (CFL;),  nitrous oxide (N2O), perfluorocarbons
(PFC), hydrofluorocarbons  (HFC),  and sulfur hexafluoride (SF6).  The 1993 Climate Change
Action Plan responded to the 1992 Earth Summit's call for reducing greenhouse gas emissions
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                                                                   Voluntary Programs
by developing innovative public- and private-sector voluntary initiatives. Partnerships between
the Environmental Protection Agency (EPA); the Departments of Energy (DOE), Agriculture
(USDA), and Transportation (DOT); state and local governments; industry; farmers; nonprofit
organizations;  trade associations; and professional societies have focused on the low-cost and
profitable opportunities for reducing greenhouse emissions. This collaboration has resulted in the
development of more than 40 programs. The principal climate change programs are summarized
in Table 10-1 and described in more detail in the following sections.

Table 10-1. Federal Voluntary Programs for Greenhouse Gases
PARTNERSHIP PROGRAMS
(year program launched)
Green Lights (1991)
www.epa.gov/energystar
WasteWise(1992)
www.epa.gov/wastewise
AgStar(1993)
www.epa.gov/agstar
Climate Wise (1993)
www.epa.gov/climatewise
Commuter Choice (1993)
www.epa.gov/ooaujeag/livability/com
_choi.htm
Natural Gas Star (1993)
www.epa.gov/gasstar
Ruminant Livestock Efficiency (1993)
www.epa.gov/rlep
Seasonal Gas Use to Control NCv
(1993)
State and Local Outreach (1993)
www.epa.gov/globalwarming
The U.S. Initiative/Joint
Implementation (1993) www.ij.org
Environmental Leadership (1994)
es.epa.gov/elp
Energy Star (1994)
www.epa.gov/energystar
Environmental Stewardship (1994)
Coalbed Methane Outreach Program
(1994) yosemite.epa.gov/methane/
cmophome.nsf
Landfill Methane Outreach Program
(1994) www.epa.gov/lmop
Transportation Partners (1995)
www.epa.gov/tp
Voluntary Aluminum Industrial
Partnership (1995) www.epa.gov/vaip
ENVIRONMENTAL GOAL
Reduce energy consumption of lighting through cost-effective, energy-efficient lighting
technologies.
Reduce municipal solid waste through waste prevention and the purchase/manufacture
of products with recycled content, at business, government, and institutional partners
Promote cost-effective methods for reducing methane emissions at dairy and swine
operations through improved manure management.
Reduce industrial greenhouse gas emissions and energy costs through comprehensive
pollution prevention and energy efficiency programs.
Promote employer-provided commuting options designed to reduce traffic congestion,
improve air quality, and allow employers to tailor transportation benefits to the needs of
individual employees.
Encourage natural gas industries to reduce methane emissions through cost-effective
technologies and best management practices.
Reduce methane emissions from ruminant livestock operations.
Promote seasonal switching toward the use of low-carbon natural gas, particularly in the
summer, in utility coal and oil plants and in industrial facilities.
Reduce greenhouse gas emissions from states and local communities by empowering
officials with information and technical assistance.
Encourage private-sector investment and innovation in developing and disseminating
technologies to reduce greenhouse gas emissions.
Recognize and provide incentives to facilities that are willing to develop and demonstrate
accountability for compliance with existing laws.
Maximize energy efficiency in commercial, industrial, and residential settings by
promoting new building and product design and practices.
Limit emissions of perfluorocarbons and hydrofluorocarbons in three industrial
applications: electrical transmission and distribution systems, magnesium casting, and
semiconductor production.
Identify and remove obstacles to investment in coalbed methane recovery projects,
which increases awareness of investment opportunities.
Encourage profitable recovery of methane released from landfills by identifying viable
technologies, markets, and financing sources.
Reduce the growth in vehicular travel through the voluntary adoption of local and
regional transportation strategies that provide better, cheaper, transportation choices for
citizens. Program was discontinued due to funding reductions at the U.S. DOT.
Reduce perfluorocarbon gas emissions from aluminum smelting.
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10.2.1 Green Lights
One of the early voluntary partnerships between EPA  and industry was the Green  Lights
Program. The primary purpose of the program was to encourage the use of energy-efficient
lighting to prevent air emissions (CC>2, 862, and NOX)  and other emissions from the generation
of electricity. By December 1994, Green Lights  investments in energy-efficient lighting had
resulted in annual energy savings of 1 billion kWh, translating into annual energy cost savings of
about $92 million. By May 1996, the program had  1,316 Partners (corporations, industry groups,
nonprofit organizations, hospitals, governments, and universities); 585 Allies (electric utilities,
lighting manufacturers and  distributors,  and  lighting  management companies); and  286
Endorsers (professional and  trade  associations).  In  1997,  EPA consolidated  Green  Lights
activities within the Energy Star Buildings program to encourage  a  more  comprehensive
approach to energy-efficiency investments.

Table 10-2 illustrates the  energy  savings  achieved by three companies—Staples, the Atlanta
Journal-Constitution (Cox Newspapers), and Mobil Corp—as a result of their participation in the
Green Lights Program. More information on these and other success  stories is available at the
EPA Energy Star web site.
263
Table 10-2.  Energy Savings from Green Lights/Energy Star Program
PROJECT INFORMATION
Project costs ($)
• Total expenditures
• Costs per sq. ft.
Cost savings ($)
• Annual savings
• $ saved/sq. ft.
Internal rate of return
kWh savings
C02 savings (Ibs.)
STAPLES
$3.1 million
$0.91
$985,425
$0.29
29.3%
6.3 million
6.37 million
ATLANTA JOURNAL-
CONSTITUTION
$1.007 million
$0.53
$447,564
$0.53
51%
6.8 million
11.9 million
MOBIL
$1.182 million
$3.95
$224,500
$0.75
19%
7.2 million
103 million
Source: http://www.epa.gov/buildings/esbhome

10.2.2 Energy Star Partnership Program
The Energy Star Partnership Program is designed to raise the level of public consciousness and
action  regarding energy conservation. Programs  focus on fostering  energy  efficiency and
reducing transaction costs for consumers and businesses.  Three Energy  Star programs discussed
in this subsection have been especially successful in reducing annual carbon-equivalent pollution
while maximizing energy cost savings.
           264
       10.2.2.1 Energy Star Buildings
EPA asks  participants in the Energy  Star  Buildings program to perform  energy-efficiency
upgrades in buildings where profitable. After installing energy-efficient lighting, participants
tune up building systems, invest in upgrades  to reduce heating and cooling loads, improve fans
and air handling systems,  and improve the heating and cooling plant. This five-stage upgrade
process is part of an integrated approach to whole-building energy efficiency. Participants that
follow this approach are often able to reduce their energy use by 30% while achieving an internal
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                                                                     Voluntary Programs
rate of return  (IRR) of 20% or greater on their investment. As shown in Figure 10-1, EPA
predicted that energy costs at Energy Star Showcase Buildings could fall by nearly 50%.265
Figure 10-1.  Energy Savings in Showcase Buildings
    $2.00 n

    $1.80

    $1.60

    $1.40

    $1.20

    $1.00

    $0.80
 5!  $0.60
    $0.40

    $0.20

    $0.00
          Baseline   Stage 1
Stage 2    Stage 3    Stage 4    Stage 5
Source: EPA. 1994h.
                                                             In   1999,   EPA    began
                                                             providing an effective means
                                                             of monitoring the progress of
                                                             energy-efficiency   upgrades
                                                             to buildings; the mechanism
                                                             was  EPA's   Energy   Star
                                                             Benchmarking        Tool.
                                                             Combining  the  values  of
                                                             building energy consumption
                                                             and their relative  impact on
                                                             total  energy  consumption,
                                                             performance levels can now
                                                             be benchmarked against  the
                                                             top  25% of  all  similar-use
                                                             buildings.  Such information
                                                             provides  Partners  with  the
                                                             opportunity to save  energy
and money and prevent pollution. It provides valuable input into business transactions involving
the buying, selling, appraising, leasing, and insuring of the building as well as the contracting for
energy, operations, and maintenance services.
Energy  Star Buildings  and  Green  Lights  have  over  5,500  participants.  Partners  have
cumulatively invested more than $3.6 billion on energy-efficiency improvements. From  1995 to
1999, these upgrades  have resulted in an estimated reduction in energy use of more than 108
billion kilowatt hours (kWh), with a corresponding reduction of over 23 million metric tons of
carbon-equivalent (MMTCE). (See Table 10-2.)

       10.2.2.2 Energy Star Products
Working with equipment manufacturers, the U.S. Department of Energy (DOE) and EPA  are
using Energy Star labels to promote highly energy-efficient products. Collaborations  formed
with DOE are also facilitating the development of initial markets for advanced technologies, for
example, by encouraging large-volume purchases. These purchases help reduce manufacturing
costs through economies of scale in initial production.  More than 1,200 manufacturers now offer
Energy  Star products in over 30 commercial and residential product categories such as air
conditioners, heating systems, and exit lights. These products are featured in over 4,000 retail
stores. In  1999 alone, consumers  purchased more than 100 million EPA-labeled Energy  Star
products, saving over 25 billion kWh of energy.266

       10.2.2.3 Energy Star Homes
Jointly sponsored by DOE and EPA, Energy Star Homes promotes voluntary partnerships with
homebuilders to construct homes that are 30% more energy- efficient than the guidelines of the
Model Energy  Code.  (The Model Energy  Code is  a model national standard for  residential
construction.) The program  also encourages  lenders to provide  Energy-Efficient Mortgages,
which offer lower interest rates than conventional home loans, lower closing costs, up to a 4%
extension  of the maximum  debt-to-income ratio, and a free home energy  rating. (For more
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The U. S. Experience with Economic Incentives for Protecting the Environment


information on Energy-Efficient Mortgages, see Chapter 7, Section 7.8) Fannie Mae and Freddie
Mac encourage lenders to offer energy-efficient mortgages by providing incentives and specific
criteria for the purchase of such mortgages.

10.2.3 Climate Wise
Climate Wise is helping companies realize environmental and economic benefits through cost-
effective industrial  energy-efficiency and  pollution-prevention actions.  Designed to reduce
greenhouse gas emissions across all sectors, Climate Wise challenges participants to devise and
implement innovative ways of limiting,  reducing,  or mitigating  greenhouse gases.  Methods
include process modifications, use  of alternative raw materials, carbon sequestration, and other
measures that abate emissions.
The program is a partnership between EPA and the DOE. Collaborative initiatives with industry
include AT&T, British Petroleum,  DuPont, General Motors, and Weyerhaeuser, as well as 30
states and local governments. Partnerships number more than 550 and represent more than 13%
of U.S. industrial energy use.
Most recently, EPA has partnered with the United States Agency for International Development
(USAID). This partnership will now extend technical assistance to local municipalities and
companies who seek energy savings and emission reductions in Brazil, Central America, India,
Mexico, and the Philippines.

10.2.4 WasteWise
Created in 1994, WasteWise is a voluntary program intended to reduce the solid waste generated
by businesses.  The program's source-reduction and recycling efforts are intended to reduce
greenhouse gas emissions  by (1)  reducing methane  emissions from the decay  of  waste  in
landfills, (2) increasing carbon sequestered by forests, and (3) reducing emissions resulting from
extracting  and  processing  virgin  materials  and manufacturing  products.  There are many
additional benefits of WasteWise, including the following: reduced extraction and processing of
virgin  materials; reduced waste disposal; reduction in air, water, noise, and  other  pollution
associated with waste disposal and manufacturing; reduced costs of managing municipal solid
waste; and new jobs and income created by new recycling enterprises.
To participate, partners are  required to implement three significant waste  prevention activities,
improve  collection programs  for recyclables  on  company premises,  and  increase either their
purchases of recycled products or the recycled content of the products they manufacture. In the
first  year of the program alone, participating  companies conserved over 240,000  tons of solid
waste, mostly transportation packaging. They also recycled about  1  million tons of waste and
purchased 20 different kinds of recycled-content products.
With more than 1,000 participating companies, members have  saved a significant amount of
money through the program. WasteWise  partners reduced  a total of 7.8 millions  tons of solid
waste in 1998. The cost savings they achieved by not having to dispose of these wastes increased
from $38 million in 1994 to $280 million in 1998.267

10.2.5 Methane  Reduction Programs
Methane,  a potent greenhouse gas, can  be recovered for energy use. To promote methane
recovery, EPA has launched at least three voluntary programs: the Coalbed Methane  Outreach
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                                                                    Voluntary Programs
Program, the Landfill Methane Outreach Program, and Natural Gas Star. In addition, joint efforts
of EPA  and  the  U.S.  Department  of Agriculture (USDA) have encouraged  the  profitable
collection and reuse of methane in  two agriculture-based programs. These  programs are the
AgStar Program and the Ruminant Livestock Efficiency Program.

10.2.6 Coalbed Methane Outreach Program
In 1990, methane emissions associated with coal mining operations accounted  for approximately
18% of human-related U.S. methane  emissions. Launched in  spring 1994, the  Coalbed Methane
Outreach Program disseminates  information that  addresses a  number  of obstacles to mine
methane  recovery and development,  including the lack of information on recovery technology,
difficulties in obtaining financing for recovery investments,  the lack  of markets for recovered
methane, and the uncertainty concerning ownership of mine  methane. EPA has also developed
guides for state, local, and federal assistance programs that pinpoint sources of loans, grants, and
technical assistance for  profitable coal mine methane projects as well as a comprehensive guide
for private-sector financing of coal mine methane projects.
Under this program  and as a result of the Energy Policy Act of 1992, methane recovery by the
coal  industry has more than doubled since 1993.  Partners increased the quantity of methane
recovered to nearly 2.0 million tons of carbon  equivalent (MMCTE), which is equivalent to
eliminating the emissions from about 1.5 million cars per year.268

10.2.7 Natural Gas Star Program
Initiated  in March 1993, the Natural Gas  Star Program  encourages natural  gas companies to
adopt cost-effective technologies and practices that reduce emissions of methane from natural
gas transmission and distribution systems. Methane emissions can be decreased by up to one-
third by improving inspection and maintenance practices to reduce fugitive emissions, replacing
equipment that normally vents  gas with low-emission technologies, and  repairing  or replacing
leaking service lines.
More than 70 natural gas transmission and distribution companies have joined  the program since
it was expanded in the  summer of 1995 to  include gas producers.  By working with the natural
gas industry, the program has identified more than  50 cost-effective best management practices
for methane-reduction.

10.2.8 Agstar Program
The AgStar Program was launched in the summer of 1993. Under the program, EPA works with
the Departments of Energy and Agriculture to encourage swine  and dairy producers to recover
methane  from their  animal waste management systems. Participants commit  themselves  to
conducting three activities:  (1) surveying their facilities,  (2) installing AgStar-selected
technology wherever profitable, and (3) appointing managers to oversee their participation in the
program. EPA helps partners optimize systems and recoup some  of their investments through
energy recovery. More  than 500 farms are  currently AgStar Partners.  The program also has 50
Allies, which represent  system  and equipment manufacturers, educational institutions,  and state
and local governments.
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10.2.9 Assessment of Climate Change Programs
EPA reported to the U.S. Senate Appropriations Committee in February 2000 that the Agency's
climate change programs have continued to meet their greenhouse gas reduction goal since 1995,
as shown in Figure 10-2. Cumulatively, greenhouse gas emissions have been reduced by 118.2
MMTCE from 1995 to  1999, with 88.1 MMTCE of the reductions coming from the industrial
sector. Within the industrial sector, carbon dioxide (CC^) emissions have been reduced by 20.8
MMTCE;  methane (CH4)  by 23.7  MMTCE; and  perfluorocarbon  (PFC), hydrofluorocarbon
(HFC), and sulfur hexaflouride (SF6) by  43.6 MMTCE. The baseline for evaluating program
performance through 1999 has been a forecast of U.S. greenhouse  gas emissions  in the absence
of the Climate Change Action Plan programs. This baseline was developed and updated as part
of an interagency evaluation of the Climate Change Action Plan in 1997, which built on a similar
baseline forecast that was developed in 1993 for the Climate Change Action Plan.

Figure 10-2.   Goals and Accomplishments of EPA's Climate Change
                Programs: 1995-2000
     60
     50
   •c 40
     30
     20 --
D State and Local
• Transportation
^Buildings
  Industry
•  CO2
•  CH4
•  PFCs, SF6, MFCs
                                                                             2000
                                                                             Goal
Source: EPA. 2000c
                                         Note: 1999 attained values are estimated.
EPA's own  evaluation of climate change activities recognizes  the difficulties of measuring
effectiveness.
       Prior studies have focused on estimating the localized energy savings that could
       be attributed to products and services that were purchased by eligible utility
       customers, with the incentives of rebates and subsidies. Participant micro data
       specifically,  customer billing data and customer measure installation data, were
       used to estimate changes in customer energy consumption due to participation in
       the program.
       Recently, the market transformation programs operated by  the federal
       government  have shifted program emphasis away from energy savings and
       towards promoting market growth for energy-efficient products and services.  This
       shift in program paradigms requires a parallel shift in program evaluation
       designs. Energy-efficiency program evaluation concepts such as free riders and
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                                                                    January

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                                                                    Voluntary Programs
      free drivers have only indirect use for evaluating whether, and to which degree, a
      program has quickened the overall pace of market movement. For these reasons,
       the paradigm for evaluating market transformation programs cannot center on
       estimating changes in participant energy use and inferring participant intentions.
       Rather, it must focus on the dynamics and the determinants of market outcomes.
       EPA is now moving to new methods of program evaluation that are more
       appropriate for the types of programs that EPA operates. These evaluations will
       assess the market transformation impacts success in promoting market growth for
       energy-efficient products and services, as well as the reductions in greenhouse
       gas emissions and energy consumption. With the programs now producing sizable
       results in the marketplace, EPA can use market-based assessments to evaluate its
      programs, as opposed to requiring an analysis of program participant micro data
       as a means of inferring market impact.269

10.3   Public Voluntary Initiatives: Pollution Prevention

EPA's first major voluntary program, 33/50, was designed to promote pollution prevention. Most
prevention  programs seek to  reduce a subset of toxic chemicals released and transferred by
manufacturers. Before  the  33/50 Program ended  in 1995,  it encouraged  manufacturers  to
voluntarily reduce emissions of 17 target chemicals by 50%.  Other prevention programs, such as
Design for the Environment and Green Chemistry, are designed to promote the development of
cleaner products and industrial processes. This section reviews  several of the public voluntary
programs for pollution  prevention identified in Table 10-3.  Information on other programs not
discussed here can be found on the web site of EPA's Office of Policy, Economy and Innovation
                             970
and in various EPA publications.

10.3.1 33/50 Program
The  33/50 Program, introduced  by EPA Administrator Riley in  1991,  encouraged industry
participation through a  challenge to the more than 16,000 facilities releasing any of 17 priority
toxic chemicals.  The challenge: Reduce your emissions (reported as TRI releases and transfers)
by 33% by 1992  and by 50% by 1995, relative to a 1988 baseline for the facility.
EPA first issued invitations to take part in the 33/50 Program in February 1991, focusing initially
on 555 primarily large companies that had the highest releases of the 17  chemicals targeted by
the 33/50 Program. As of March 1994, EPA had invited more than 8,000 companies to join, and
almost 1,200 had said they would participate.
Of the largest 600  emitters, approximately 60%  agreed, ultimately, to participate.  In the
aggregate, the actual emissions reduced by these  companies exceeded EPA's expectations and
occurred  ahead  of  schedule. From those  perspectives, the  program  may be viewed as a
considerable success. Zatz and Harbour (1999) cite six factors as key to the success of the 33/50
Program:

   •   voluntary participation

   •   flexibility in the goals and the methods used to reduce emissions

   •   no additional reporting requirements
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The U. S. Experience with Economic Incentives for Protecting the Environment


   •  public recognition for participants and their successes

   •  finite life of program

   •  an economic benefit for companies

Table 10-3. Federal Voluntary Pollution Prevention Programs
FEDERAL VOLUNTARY PROGRAMS
(year program launched)
33/50 Program (1991)
Environmental Accounting (1992)
www.epa.gov/oppintr/acctr
Design for the Environment (1992)
www.epa.gov/dfe
Green Chemistry (1992)
www.epa.gov/dfe/greenchem
Water Alliances for Voluntary Efficiency (1992)
www.epa.gov/owm/genwave
Pesticide Environmental Stewardship (1993)
www.pesp.org
Waste Minimization National Plan (1994)
www.epa.gov/wastemin
Indoor Air Quality (1995)
www.epa.gov/iaq
Community-Based Environmental Protection (1998)
www.epa.gov/ecocommunity
Adopt Your Watershed (1994)
www.epa.gov/adopt
Environmental Technology Verification (1995)
www.epa.gov/etv
Voluntary Mobile Source Emission Reduction Program
(1997)
www.epa.gov/oms/transp/traqvolm.htm
Pesticide Environmental Stewardship Program (1994)
www.epa.gov/oppbppd1/PESP
Commuter Choice Leadership Initiative (2000)
ENVIRONMENTAL GOAL
Reduce total releases and transfers of 17 priority chemicals by 33%
by 1992 and by 50% by 1995, relative to a 1988 baseline. Program
ended in 1995.
Increase corporate understanding of environmental costs and how to
incorporate these costs into routine business operations.
Help business incorporate environmental considerations into the
design of products, processes, and technical systems.
Promote the design of chemical products and processes that reduce
or eliminate the generation of hazardous substances.
Promote water efficiency in hotels, schools, universities, and office
buildings.
Promote integrated pest management and pesticide risk reduction in
agricultural and nonagricultural settings.
Reduce the presence of persistent, bioaccumulative, and toxic
chemicals in hazardous waste.
Promote simple, low-cost methods for reducing risks to indoor air
quality.
Integrate environmental management with human needs, consider
long-term ecosystem health, and highlight the positive correlation
between economic prosperity and environmental well-being.
Encourage and facilitate citizen involvement in local watershed
protection activities.
Verify the performance of innovative technologies to accelerate their
entrance into the marketplace.
Provide flexibility to states in meeting federal air quality goals.
Reduce risk from pesticides through improved pesticide stewardship.
Promote the reshaping of employee benefits packages to include
commuting benefits.
EPA data, shown in Figure 10-3, demonstrate that the program goals for 33/50 were achieved 1
year ahead of schedule and that the reductions were greater than anticipated. While some have
criticized the methods by which EPA made these calculations, the program clearly seems to have
been a success.
Aurora and Cason  (1995) found  that the  33/50 Program had a significant incentive effect.
Although the willingness to participate varied greatly across industries and firms, and a relatively
small percentage of any industry's firms participated, those that did participate were responsible
for most of the toxic emissions within their respective industries. In the case of petroleum and
chemicals,  for  example,  participating  companies were  responsible  for  over 80% of their
182
January

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                                                                      Voluntary Programs
industries'  total emissions.  The participation of large  polluters  allowed the program  to  be
effective in targeting the main sources of pollution.
Aurora and Cason also found that participation rates were higher for industries that were less
concentrated (those having many firms) and that participants in Green Lights were significantly
more likely to participate in 33/50 as well. This "suggests that 'environmentally conscious' firms
seek  to   improve   their
reputation by participating  Figure 10-3.  Releases of TRI Chemicals (1988-1994)
in    several    voluntary
pollution        reduction
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Some reviewers assert that
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allowed  participants  who
had  already achieved the
reductions  to   join   the
program   after  the  fact.
Indeed,  some participants
had achieved more than a
50% reduction before they
joined 33/50 in  1991. Aurora and Cason (1995) found that one of the main determinants of
participation in the program was a desire by the firm to achieve favorable publicity. Overall, the
program  achieved real reductions. GAO (1997b) estimated them to be on the order of 20%, and
participants, in general, realized cost savings. Khanna and Damon estimated that participation in
the program also resulted in a reduction of 28% in future TRI releases.
Source: EPA. 1996c.
                                     271
10.3.2 Design for the Environment (DfE)
EPA's Design for the Environment (DfE) Program helps businesses incorporate environmental
considerations  into  the design  and redesign  of products,  processes,  and  technical  and
management systems. Initiated by EPA's Office of Pollution Prevention and Toxics (OPPT) in
1992, DfE forms voluntary partnerships with industry, universities, research institutions, public
interest groups, and other government agencies.
Activities of Project Partners include broad institutional efforts  aimed  at changing general
business practices as well  as cooperative projects with trade associations and businesses in
specific  industries.  The DfE Program ensures that the information developed through  this
voluntary effort reaches the people who  make decisions—from managers to  industrial design
engineers to those who specify materials to buyers. By  disseminating the information to these
individuals, the program encourages its Partners to incorporate environmental considerations  into
their traditional decision-making process.
DfE works  with entire industrial sectors,  typically through trade associations and  industry
leaders. Several of the current DfE partnerships are highlighted below.
2001
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The U. S. Experience with Economic Incentives for Protecting the Environment


•  The Printing  Sector: DfE works with  the  screen printing, lithography, and  flexography
   sectors  to improve their environmental performance, principally through solvent use and
   reclamation technologies.

•  The Printed Wire Board Sector: Traditional methods for making printed wire boards require
   the use  of  substantial amounts of water,  energy, and certain toxic chemicals. DfE has
   collaborated with this sector to evaluate alternative methods and processes.

•  The Computer Manufacturing Sector: DfE is collaborating with this sector to perform life-
   cycle cost assessments of cathode ray tubes and flat panel displays in computers, assessments
   that include environmental impacts.

•  Garment and  Textile Industries: DfE is working with this sector to  reduce  the public's
   exposure to perchloroethylene,  a  chemical used in dry cleaning. DfE  is also exploring
   alternatives  in the dyes and finishes used in textile processing or in  clothing design (or in
   both) to reduce the need for dry cleaning.

•  Industrial Cleaning Sector: Through partnerships with detergent formulators, DfE is trying to
   encourage the development and adoption  of safer, more cost-effective effective industrial
   cleaning agents.

•  Auto Refmishing Sector: DfE is working with auto refmishers to identify and adopt cleaner,
   safer, and  more  cost-effective practices that reduce the use  of harmful  chemicals and
   solvents.

•  Manufacturers of foam Furniture  and  Bedding Adhesives: The adhesives  used in  these
   products can contain chlorinated and flammable solvents, and these solvents are increasingly
   coming under environmental  regulation. DfE is working with  manufacturers to develop
   adhesives that are more environmentally friendly.

10.3.3 Environmental Accounting Project (EAR)
EPA initiated the Environmental Accounting Project (EAP) in 1992 out of concern that pollution
prevention would not be used to manage the environment until managerial accounting practices
were  modified to account  for  environmental costs. In  cooperation with the  Institute  for
Management Accountants,  the American Institute for Certified Public Accountants, the U.S.
Chamber of Commerce, the Business  Roundtable,  and the American Association of Cost
Engineers, EPA developed agendas for 10 different stakeholder groups. The goal of the EAP is
to help business  understand the  full  range of environmental  costs they incur  and how  to
incorporate these costs into their decision-making.
The  EAP encourages businesses to focus on energy  costs, capital and operating costs  of
equipment  that controls pollution,  remediation  efforts,  salaries of  environmental  managers,
public relations outlays, and other costs associated  with the environment.  Closer tracking  of
these costs  enables businesses to identify opportunities to reduce or eliminate various elements
of these  costs.  Companies  can improve their environmental performance, gain a competitive
advantage, and achieve cost savings or increased revenues.
EPA maintains  a network  of over 800 members of the EAP who share information  and ideas.
EAP has prepared several guidebooks  for implementing these concepts, and it has developed a
184                                                                              January

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                                                                     Voluntary Programs
number of case studies that illustrate the gains that can be achieved. Much of this information is
available on EPA's web site.

10.3.4 Environmental Leadership Program (ELP)
ELP uses innovative approaches to environmental protection by focusing on flexible laws and
regulations. In addition, ELP  seeks ways in which to use the greater availability of environmental
information to empower citizens and communities.  EPA launched the pilot phase of ELP in June
1994. In April 1995, ELP formally selected 12  projects  from a pool  of 40  proposals. The
projects, which  included  10 companies  and two federal facilities,  centered  on compliance
management   systems, verification  procedures,  management  accountability  systems,  and
community access and participation in compliance. EPA indicated that  participants would be
allowed a limited period  of time in which to correct minor violations that were discovered in
their audits, without the application of penalties.  Two conditions, however, were attached to this
offer: The violations could not be criminal in nature; and they must not present an imminent and
substantial risk to public  health or the environment. Participants receive  public recognition for
their efforts.
One ELP participant,  Gillette Co., is working with EPA and state authorities on auditing and
certifying their environmental management system. The company's ELP project involves  the
following four steps: (1) developing  criteria for compliance audits; (2) preparing detailed
instructions for conducting such audits; (3)  preparing guidelines for third-arty verification of
these audits; and (4) using the guidelines when auditing three company facilities.
Gillette officials have  cited several reasons for participating in the program. It prepares them for
compliance with ISO 14000  environmental management certification  standards,  which  are
expected to become important in the years to come. The program also gives the company  the
chance to monitor itself, which will help the firm to avoid excessive monitoring by EPA.
It is not clear to what extent the results of audits  conducted under ELP will be made available to
the public. Public interest groups believe that  they are entitled to  access such information.
Businesses,  however, maintain that much  of the  data contained in audits should be kept
confidential.

10.3.5 Water Alliances for Voluntary Efficiency (WAVE)
Another EPA  initiative,  Water  Alliances  for Voluntary Efficiency (WAVE),  encourages
businesses and  institutions—primarily in  the  lodging  sector—to  reduce  water  use while
increasing efficiency, profitability, and competitiveness. EPA says that the program "is designed
to focus attention on the value of water and the need for efficient use of this important natural
resource/'272
WAVE participants include partners, supporters, and endorsers. Program Partners agree to equip
new facilities with water-efficient equipment and to install such equipment in existing facilities
wherever  profitable.  In  exchange, they receive technical  support and EPA assistance  in
publicizing their water efficiency initiatives. Program Supporters publicize the benefits of water
use efficiency and assist partners in their conservation efforts. Supporters are also  supposed to
implement water  efficiency measures. Endorsers include "conservation-minded environmental
groups, trade and  professional associations"  who "are invited to review and endorse the WAVE
program."273
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The U. S. Experience with Economic Incentives for Protecting the Environment


As of April 2000, there were 40  WAVE industry partners, all of which were in the lodging
sector. Several  of the partners were  large chains such as Westin, Hyatt, and Sheraton,  with
multiple facilities participating in  the program. In addition, two hospitals and two educational
institutions are counted as Partners. The list of Supporters consisted of more than 50 consulting
firms,  equipment  distributors,  manufacturing  companies, utilities,  and  water  management
companies. The American Hotel & Motel Association, the  American Water Works Association,
Green Seal, and three other institutions were WAVE Endorsers as well.
EPA has stated  that WAVE's measures can result in significant decreases in energy, water, and
wastewater management costs. Through the program, the lodging industry potentially could save
32 billion gallons of water and more than 1 trillion Btu per year of related energy use. According
to an EPA official, the main incentive for businesses to participate in WAVE is cost savings, but
positive publicity is  also a  factor. Although the  program has resulted in water and energy
savings, it has not been without problems. The development of water management software has
taken longer and has cost more than originally expected. In addition, marketing the program to
hotels and motels has been slowed by a reluctance of the lodging industry to embrace change and
by significant variations in the ownership and management structures of hotel branches.

10.3.6 Community-Based Environmental Protection (CBEP)
Initiated  in  1997, this program  integrates  environmental management with human  needs,
considers ecosystem  benefits, and emphasizes relationships between economic well-being and
environmentally sustainable development.  As its name implies, CBEP works with communities
to protect and improve their local environment.
EPA has established several core principles for implementing CBEP.

   •   Focus on a definable geographic area.

   •   Interact with stakeholders through a range of partnership mechanisms.

   •   Determine overall environmental conditions in the area.

   •   Integrate environmental, economic, and social objectives and encourage local
       stewardship.

   •   Rely on appropriate public-sector, private-sector, regulatory, and non-regulatory tools.

   •   Monitor results and adjust programs in light of the results that are observed.
EPA's role in CBEP varies from one  situation to another.  In  communities that  cross  state
boundaries or are nationally important,  EPA takes the lead role. In other cases EPA helps to
define goals and methods, and provides environmental information, monitoring and  scientific
analysis to community organizers and stakeholders. Because individual projects are expected to
take many years to achieve full success, the agency uses measures of performance that reflect
incremental progress toward the goals.

10.3.7 Voluntary Mobile Source Emission Reduction Program (VMEP)
In the area of  mobile sources, EPA has developed  the  Voluntary Mobile Source  Emission
Reduction Program (VMEP). This  policy was initiated on October 23 1997, with the purpose of
providing flexibility  to  states in meeting  their  federal air  quality goals through   State
Implementation Plans (SIPs). Through this policy, EPA makes it easier for states to obtain SIP


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                                                                    Voluntary Programs
credits for voluntary activities, and it seeks to further encourage innovation and investment in
effective programs and actions. Thus, the policy provides an incentive for states, localities, and
the public to voluntarily reduce air pollution in their communities.
To obtain these SIP credits, a voluntary program under VMEP must be quantifiable; surplus (i.e.,
yield  reductions in addition to those credited in other parts  of the  SIP); enforceable, and
permanent. The most distinctive difference between a VMEP control measure and a regular SIP
control measure is that the VMEP is enforceable against the state for the emission reductions
only,  as opposed  to the regular SIP control measure that is enforceable  against the regulated
parties for  specified actions to  reduce  emissions.274 This provision  encourages  industry,
community groups, and third parties to voluntarily agree to emission reductions. The state then
estimates the reduction in emissions it expects will result from the agreements, and includes this
as a control program  in their  SIP. VMEP  submissions  are limited to  3% of the  emission
reductions needed to obtain the National Ambient Air Quality Standards (NAAQS) in the non-
attainment area.
The cities of Dallas, Houston, Chicago, Atlanta, and Las Vegas are including, or are planning to
include, VMEP programs in their SIP. Programs include ozone action-day programs, technology
retrofits, lawnmower buybacks, alternative fuel programs, commuter choice programs, and land
use measures as well as many other programs. Support for the policy, in terms of technical and
programmatic support, has been conducted through the Regional  and State  Programs Division of
the Office of Transportation and Air Quality.

10.3.8 Pesticide  Environmental Stewardship Program (PESP)
Under the  Pesticide Environmental  Stewardship Program (PESP), EPA works with  many
different  organizations  to  promote  environmentally   responsible   pesticide  stewardship.
Membership in PESP requires that organizations  develop and adhere to well-defined  goals for
improving pesticide stewardship. Only those organizations that meet these goals are allowed to
publicize their membership in the program in their promotional materials.275

10.3.9 Commuter Choice  Leadership Initiative
On October 17, 2000, EPA and several leading U.S. employers launched the Commuter Choice
Leadership Initiative. Under  a Commuter Choice Leadership agreement, employers commit to
working  with  EPA to develop new commuting benefits and  services  for their employees.
(Employers who have joined this initiative are also known as "Commuter Choice Leaders.") This
initiative is  part of an effort to redefine the "comprehensive employee  benefits package"  to
include commuting benefits alongside other standard employee benefits, such as health plans and
retirement packages. New Commuter Choice benefits will help American  employees get to and
from work in ways that cut air pollution and greenhouse gas emissions, improve public health,
increase worker productivity,  and cut taxes and other expenses for employers and employees.
This initiative is the first step in a national  effort  to provide employers across the country with
the opportunity to partner with EPA in providing  new commuting choices and services to their
employees. If  one-half of all U.S. employers offered  the  same commuting benefits as those
promised by Commuter Choice Leaders, air pollution in the United States would be cut by the
equivalent of about 15 million cars.
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The U. S. Experience with Economic Incentives for Protecting the Environment


The commuting options promoted through the Commuter Choice Leader Initiative include the
following: parking cashout (allowing  employees to trade their free parking space for cash),
transit fare subsidies, telecommuting, compressed work schedules, flexible work schedules,
carpools, vanpools, bicycling to work,  walking to work, environmentally-friendly vehicles, and
others.
Because of recent changes in the U.S. tax code, employees frequently enjoy a reduced tax burden
when taking advantage of these commuting options. Likewise, U.S. employers enjoy a reduced
tax burden when providing commuting benefits that encourage these commuting  options. The
initial Commuter Choice Leaders include The Calvert Group,  GEICO DIRECT,  Intel, Kaiser
Permanente, Nike, Pitney Bowes, and The Walt Disney Company.
EPA has committed itself to helping Commuter Choice Leaders and their employees in several
ways: (1) by providing public recognition to Commuter Choice Leaders; (2) by providing
technical assistance on commuting options and services;  (3) by providing communications and
analytical tools;  (4) by helping employers and  employees  identify  federal, state, and  local
commuting options, benefits, and services; and (5) by providing a forum for exchanging  ideas
and experiences with other leading employers.

10.4   Industry Initiatives

In contrast to EPA programs, which primarily seek to reduce pollution, unilateral industry-led
strategies are designed first and foremost to improve public opinion. They  are also designed,
however, to accomplish a broad range  of worthy objectives. Responsible Care, which began as
an initiative of the Chemical Manufacturers Association  (CMA),  a 190-member industry  trade
association in the United States, has grown to be truly  international in  scope. This initiative
includes firms in at least 40 nations, firms that represent more than 85% of the global chemicals
industry.276 CMA provides its  members with general guidance  documents that  explain how
companies may adopt management codes in six areas:

   •   community awareness and emergency response
   •   pollution prevention

   •   process safety
   •   distribution

   •   employee health and safety
   •   product stewardship
For the most part, other industry-sponsored efforts in the United States could be characterized as
extending the Responsible Care initiative to other industries. Examples include the American
Petroleum Institute's (API) STEP program, "Strategies for Today's Environmental Partnership,"
and the American Forest and Paper Association's "Sustainable Forestry Initiative." The National
Association of Chemical Recyclers has developed  a "Responsible Recycling Code," which
extends Responsible Care  principles to  chemical  recycling.  The Synthetic  Organic Chemical
Manufacturers Association  has adopted  the pollution prevention management codes  of
Responsible  Care.  The  Great  Printers Project is a hybrid effort developed by  the  Printing
188                                                                              January

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                                                                      Voluntary Programs
Industries of America, the Environmental Defense Fund, and the governors from four states in
the Great Lakes Region.

10.5   Federal Negotiated Agreements

Negotiated agreements are voluntary in the sense that firms are free to participate, or not, as they
see fit.  However,  once a firm has signed a negotiated agreement,  the  firm  is committed to
fulfilling its part of the agreement. If the firm fails to deliver on agreed-upon actions or fails to
achieve the results specified in the agreement, the firm risks adverse publicity and increased
scrutiny by EPA. The goals of two negotiated voluntary programs are shown in Table 10-4.

Table  10-4.  Federal Negotiated Voluntary Programs
                             ENVIRONMENTAL GOALS
 Project XL (1995)                Develops innovative strategies to test better and more cost- effective ways of
 www.epa.gov/ProjectXL            protecting the environment and public health.
 Common Sense Initiative (1994)      Addresses environmental management by industrial sector rather than by
 www.epa.gov/commonsense        environmental medium (air, water, land). Now an EPA Sector Program.
A primary goal of negotiated strategies is to improve efficiency by reducing regulatory burden.
In practice, most Project XL and CSI (Common Sense Initiative) projects attempt to reduce the
administrative costs associated with reporting, monitoring, and permitting.

10.5.1 Project XL
In 1995, EPA launched a portfolio of high-priority initiatives that sought new ways to protect the
environment and public health, while demonstrating how EPA, the regulated community, and the
public together  can improve  environmental management  to  address complex  environmental
issues. Since then, businesses, communities, and other federal agencies  have responded to this
challenge by participating in these initiatives, including Project XL (which stands for excellence
and  Leadership). Project  XL was developed  to  accelerate environmental  progress  through
collaboration on environmental problem solving, to modify certain constraints,  and to reduce
some costs that could be associated with environmental regulations.
Project XL solicits ideas from EPA's partners:  private-sector and public-sector facilities, other
government agencies, trade associations, and communities. The project then assesses those ideas
that  propose solutions  to  difficult  regulatory  or technical  problems  and that explore  new
approaches to protecting public health and the environment, usually at a lower cost or lessened
regulatory burden  for the  project sponsor. The basic  tenet of Project XL can be explained in
terms of its three elements: Through prudent experimentation and regulatory flexibility, EPA and
its partners can  (1) find economic gains for businesses and government,  (2) more effectively
engage the public  in decisions that affect their local  environments, and (3) achieve a cleaner
environment.
Project XL is  providing  a forum for companies to test new technologies and alternative
regulatory approaches that eventually might be used more widely to boost energy efficiency and
achieve  greater  environmental  protection.  One criticism of federal  efforts  to protect the
environment is that EPA's regulatory requirements can be too prescriptive. For years, EPA has
heard: "Give us environmental goals to  meet, but don't tell us how to meet them." For  the past


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The U. S. Experience with Economic Incentives for Protecting the Environment


decade, EPA has been building greater flexibility into regulatory programs through the trading of
emission "allowances" and other approaches. Through Project XL, EPA is providing companies
and other project sponsors with additional  opportunities to  demonstrate their abilities to find
innovative approaches to environmental protection. EPA is finding that a little flexibility can go
a long way toward getting better results.
The experiments being conducted under Project XL are in various stages.  As of November 2000,
16 projects have been underway for a year  or more, and 34  projects have  been in progress for
less than 1 year. Early evaluation results show benefits to the environment, project sponsors, and
the communities. Data from  several projects indicate the potential that  innovative approaches
have  for  significantly  improving  current  methods for
managing the environment.
In fact, Project XL's  greatest opportunity, and  its greatest
challenge, is taking successful ideas from  individual pilot
projects and moving these ideas into system-wide practice and      „	
^  J               °                j          t-                Stakeholder Involvement
                                                                  Features of Project XL

                                                               Superior Environmental Protection
                                                               Cost Savings and Reduced
                                                               Paperwork
                                                             • Innovative Pollution Prevention
                                                             • Transferability
                                                             • Feasibility
                                                             • Monitoring, Reporting, and
                                                               Evaluation
                                                             • No Shifting of Risk Burden
into EPA's  everyday  way  of doing business.  Through
experimentation and evaluation,  Project XL can add to an
ever diversifying set of tools for environmental protection by
identifying new  approaches,  discovering the  keys to their
effective use, and better enabling EPA to match the right tool
to the right problem.
Under Project XL, project sponsors have gained operational flexibility, such as expediting or
consolidating permitting, reducing the amount and frequency of recordkeeping and reporting,
creating  facility-wide  emission caps,  and supporting innovative technology. As a result of
operational  flexibility,  project  sponsors,  in  turn,  gain additional  benefits  from improved
administrative  or  technological  efficiencies,   industry  recognition  and  leadership,  better
leveraging of employee expertise, better community and stakeholder relations, and improved
relationships with regulators. EPA encourages firms to view the flexibility provided by Project
XL as an opportunity to create real incentives for environmental improvement, whether they are
financial, competitive, technological, community-related, or otherwise.
For example, Intel Corporation has announced that it will take advantage of some these concepts
in their  business planning.  Early this  year, Intel  announced that it  will build its first 300-
millimeter, high-volume semiconductor manufacturing facility in Chandler, Arizona. Intel will
be able to expand the Chandler facility under an existing air emissions cap that was established
under Project XL in 1996. Table 10-5 provides  examples of the actual and anticipated economic
gains that have been reported by project  sponsors.
EPA currently faces important questions regarding the Project XL challenge. As the information
on project results expands exponentially, what are the best methods for transforming results into
knowledge? As EPA evaluates and learns how these new tools work, how does it match the right
tools to the right problems? How does  the Agency increase its rate and scale of adopting new
ideas into appropriate system-wide practice? How does EPA translate its innovation experience
into improved processes that will enhance its ability to test new concepts?
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                                                                                  Voluntary Programs
 Table 10-5. Economic Benefits for Select Project Sponsors of Project XL
 •  Crompton Corporation's Sistersville plant (formerly known as Witco) saved $58,000 from waste minimization and
    pollution prevention (WM/PP) activities in 1998 ($42,000 in one-time activities and $16,000 in savings from recurring air
    emissions reductions and methanol recycling). As of July 2000, 67 WM/PP initiatives have been implemented at the
    Sistersville plant, resulting in a total cost savings of an additional $1,010,000 during 1997-1999 and the first half of 2000.
    Crompton expects future savings of $800,000 over 5 years as a result of a negotiated deferral under the rules of the
    Resource Conservation and Recovery Act (RCRA). The company also identified potential, recurring cost savings of
    $620,000 per year that will be achieved through WM/PP activities.

 •  Department of Defense Elmendorf Air Force Base (Elmendorf AFB) aims to streamline the application,
    implementation, management, and renewal process for Elmendorf AFB's Title V permit through reduced monitoring and
    recordkeeping. EAFB estimates that total monitoring,  recordkeeping, reporting, and overall permit management costs
    will decrease by about 80%, yielding about $1.5 million in savings over 6 years.
 •  Department of Defense Vandenberg Air Force Base (Vandenberg AFB) negotiated a protocol for source testing and
    validation with the Santa Barbara County Air Pollution District that is $2,400 cheaper than the standard EPA test ($600
    per test rather than $3,000 per test). This protocol complies with administrative requirements to upgrade its
    infrastructure, pollution prevention programs, innovative technologies, and other approaches that will cost effectively
    reduce air emissions below mandated levels.
 •  HADCO Corporation has achieved some cost savings by reducing the number of sludge shipments it requires, an
    action that results from its voluntary installation of a sludge dryer. HADCO expects to see cost savings when it sends its
    sludge directly to a recycler instead of shipping it to an intermediate processor.

 •  Intel Corporation has avoided millions of dollars in production  delays in the competitive quick-to-market semiconductor
    industry by eliminating 30 to 50 reviews per year. The company operates under a facility-wide permit that allows for
    equipment changes, process changes, and new construction at the site as long as the site's overall air quality limits are
    met. Early this year, Intel announced that it will  build its first 300-millimeter, high-volume production manufacturing
    facility in Chandler, Arizona. Intel will be able to expand an existing facility under an air emissions cap that was
    established under Project XL in 1996.
 •  Weyerhaeuser Company achieved an estimated savings of $176,000 in reporting costs during the first year of
    operation as a result of the successful revision and reissue of the facility's air quality and wastewater discharge permits.
    The company is now saving $200,000 a year by recovering  lime muds and reusing this solid waste in lieu of purchasing
    new lime for use in the mill's production. (It did incur a one-time cost of $150,000 in 1998 on related sampling collection
    and analysis.) Weyerhaeuser foresees avoiding $10 million  in future capital spending. While it expects to spend $10
    million on new water equipment, it will subsequently save $20 million that would otherwise have been spent on air
    pollution equipment.
Source: Project XL 1999 Comprehensive Report, and Project XL 2000 Comprehensive Report.
    http://www.epa.gov/projectxl/guidexl.htm

10.5.2 Common Sense Initiative (CSI)

EPA designed the Common Sense Initiative (CSI) to take environmental protection beyond the
command-and-control,  pollutant-specific,  and  media-specific  approaches.  CSI used  a  sector
approach, which focused on a particular business, service, or industrial  sector, to achieve more
efficient,  effective,  and timely  environmental results.  EPA  believes  that when industry  works
collaboratively with government and other stakeholders to consider releases to all environmental
media  concurrently rather in  piecemeal  fashion,  industry sees more  clearly the environmental
and economic value of preventing pollution at the source. Furthermore, incentives can be tailored
to meet the specific needs of an industry sector.

CSI was a 4-year (1994-98) pilot program for six large and small industry sectors. EPA worked
with industry-sector  representatives  and other stakeholders   in a   consensus-based,  federal
advisory  committee forum  to  find innovative ways  to achieve '"cleaner, cheaper,  smarter"
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The U. S. Experience with Economic Incentives for Protecting the Environment


environmental performance.  The sectors  involved in CSI  were metal  finishing,  petroleum
refining,  printing, auto manufacturing, computers and electronics, and iron and steel. This effort
produced more than 40 sector projects  and one sector-wide  stewardship initiative,  the  Metal
Finishing Strategic Goals Program (SGP).
Among the  44 CSI  projects, 23  addressed regulations, 20 promoted pollution prevention,  7
sought to reduce recordkeeping and  reporting, 9  addressed  compliance and enforcement,  6
addressed permitting, and  9 attempted to stimulate new environmental technology. True to its
experimental nature,  CSI produced expected and unexpected results. Some results  are tangible,
such as the implementation of many formal recommendations to the EPA Administrator, while
others are intangible. It provided learning opportunities on a variety of environmental,  economic,
and  social issues. For  example,  CSI  significantly improved  working  relationships  among
stakeholders, many of whom had only interacted as adversaries in the past. In fact,  the printing,
petroleum, and metal finishing sectors are continuing to address issues in a multi-stakeholder,
federal advisory committee forum.
SGP was adopted by the metal finishing industry in October 1997, and the program is still very
active. While voluntary in nature, this stakeholder-driven program has led to regulatory and non-
regulatory incentives, tools, and actions to improve performance by facilities within this sector.
The agreement contains commitments on the part of EPA to change regulations that affect the
industry, such as industry-wide goals for full compliance, improved economic payback,  and
reduced emissions from facilities.  The agreement also includes a comprehensive action plan for
state and local regulators and other stakeholders. As an indicator  of the incentive nature of SGP,
more than 400 companies, 21 states, and over 75 municipalities are participating.
With  SGP  as a model,  EPA is developing  similar,  targeted programs to achieve  better
environmental  performance  and  lower  regulatory  burden  in  the  meat  processing,
shipbuilding/repair,  specialty-batch chemical, and metal casting sectors.  These programs also
benefit from strong industry support. One of many EPA projects is a joint effort with the metal
casting sector to  produce information for states that will help them to permit safe uses for spent
sand from foundries. This  action will give the metal casting industry the economic incentive to
re-use, rather than dispose of, the  spent sand. Hence, millions  of tons less waste will  be sent to
landfills each year, saving millions of dollars in waste disposal expenses for the  industry.
With the growing knowledge of how to use sector approaches to  tackle tough problems, in 1998
EPA began a process to integrate sector work into  the Agency's core functions. Sector Action
Plans were developed for FY1999 and FY2000 to guide this effort. EPA's  program offices have
been encouraged to consider, where appropriate, an  integrated cross-Agency, multi-media sector
approach as  a way of conducting their everyday business. The draft EPA Sector Program Plan
2001-2005,  which is being  reviewed by stakeholders, provides a vision for environmental
excellence by U.S. industries. The plan affirms the validity of using all types of sector tools and
approaches to protect the  environment,  whether these tools and approaches  are voluntary or
regulatory, single-media or multi-media, issue-specific or industry-wide. The sector approach is
also being extended to include related  economic entities through the supplier-producer-customer
chain and other networks that directly impact an industry sector.
Sector approaches are increasingly common. Through the shared experiences  of CSI and other
sector programs, leaders from government, industry, and other stakeholder groups have become
192                                                                              January

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                                                                 Voluntary Programs
more willing to sit down together to search for solutions to today's environmental challenges in a
non-adversarial way.

10.6  An Assessment of Pollution Prevention Efforts

A 1998 EPA review of all of its Partners for the Environment efforts concluded that the results to
date have been impressive. Environmental benefits achieved by EPA's Partners totaled

   •  5.2 billion fewer tons of solid waste generated,
   •  199 trillion fewer Btus of energy used,

   •  24.7 million fewer tons of greenhouse gases emitted, and

   •  1.2 billion fewer gallons of water used.
At the same time, these Partners saved $852 million in 1996.

10.7  Voluntary Programs Developed by EPA Regions

The regional offices of EPA have  been active in the development and promotion of voluntary
programs. Table 10-6 identifies many of these programs.

 Table 10-6. Selected Regional Voluntary Programs of EPA
EPA PROGRAM
Agricultural Initiative
Air Quality Initiative
American Heritage Rivers
Bay Area Green Business Program
Beneficial Landscaping
Brownfields Initiatives
Business for the Chesapeake Bay
Center for Industry and Technology
Chemical Safety Audit Program
Chemical Safety Audit Program
Chlor-Alkali Mercury Reduction
Clean Star Texas City
Community-Based Environmental Protection
Compliance Leadership
Environmental Merit Awards
Evergreen Award
Great Printers Project
Greater Chicago P2 Alliance
Green Communities
Headwaters Waste Mining Initiative
Henryetta, Oklahoma, CBEP
Indoor Quality Initiatives
Merit Partnership
EPA
REGION
9
8
8
9
5
1-10
3
1
3
4
5
6
8
1
1
10
5
5
3
8
6
5
9
EPA PROG RAM
Metal Finishing Partnership
Osage Nation, Oklahoma, CBEP
Pollution Prevention (P2) Awards for Excellence
P2 Roundtable
Pacific Northwest P2 Research Center
Partners for Change
Partnership to Help Foundries Achieve Compliance
PCB Used Oil Sweep
Problem Oil Pit Initiatives
Small Business Assistance Center
Southern Application Mountain Initiative
StarTrack
StarTrack
Sustainable Challenge Grants
Texas City, Texas, CBEP
U. S. Auto P2 Project
Urban Initiatives
Urban Initiatives for Sustainable Communities
Urban Livability
Utah 2002 Olympics
Voluntary Initiative for P2
Waste Minimization Assessment
EPA
REGION
9
6
7
7
10
1
6
5
8
3
4
1
3
4
6
5
4
4
8
8
3
5

2001
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The U. S. Experience with Economic Incentives for Protecting the Environment


10.8  State Programs

A comprehensive treatment of the hundreds of state and community voluntary programs for
environmental protection is beyond the scope of this paper. However, a few  programs are
reported in the following paragraphs to illustrate the nature and scope of these activities.

10.8.1 Massachusetts Recycled Newsprint Program
Massachusetts has developed  a voluntary newsprint recycling program.  (This program can be
contrasted to Wisconsin's program, which has recycled  content requirements on newspaper
publishers, and fees levied on  those failing to meet the requirements. See Chapter 6.) Under the
terms of a 1992 memorandum of understanding between the Commonwealth of Massachusetts
and the Massachusetts Newspaper Publishers Association, the Commonwealth agreed to develop
newsprint collection and processing programs within the  state, and the  Association agreed to
increase its use of recycled content. The following targets for increasing the recycled content of
newsprint were set: 13% of recycled content by December 1993, 23% by December 1995, 31%
by December 1997, and 40% by December 2000.
The publishers agreed to give preference to purchasing newsprint that was recycled within the
state.  They are exempt from  the  targets  described  in the previous paragraph if high-quality
recycled newsprint cannot be obtained at prices comparable to those of virgin newsprint.
In return  for the  publishers'  efforts,  the  Commonwealth agreed to promote  de-inking and
processing facilities in an attempt to increase the supply of recycled-content newsprint that was
available to the  publishers.  The  state also  agreed to  oppose recycled-content mandates  or
penalties for the  use  of virgin newsprint and to  facilitate  private-sector investment in the
publishing industry.

10.8.2 Adopt-a-Highway Programs
In Adopt-a-Highway Programs, volunteers agree to periodically clean up selected stretches of
roadside. Although these programs vary from state to state,  they typically involve agreements by
organizations to clean up a stretch of roadside that is approximately two miles long and  to do so
two to seven times a year, for  1 to 3 years. The state usually offers trash bags, safety vests, and
other  gear. Perhaps most important for businesses that participate, the state usually provides at
least one  sign to  be placed on the  adopted  roadside that indicates the  name of the adopting
organization.  However, a 1994 survey revealed that 10 states did not allow businesses to adopt
highways, and 33 states did not allow adopting organizations to contract others to perform the
cleanup.
Adopt-a-Highway programs offer advantages both to states and to  adopting organizations. They
allow states to maintain roadsides at lower state expense, and they generate positive publicity for
businesses and other adopting organizations.
Although  there is  no  federal  Adopt-a-Highway Program,  state programs have spread  rapidly
since Texas created the first one in 1985. The number of states with programs increased to 41  by
1990. The aforementioned 1994 survey revealed that all states except Maine and Vermont had
these  programs.  According to the  same  survey, 121,700 adopting groups  composed of 1.3
million volunteers were participating in the programs, and over 200,000 miles  of roadside had
been adopted.
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                                                                     Voluntary Programs
10.8.3 State Voluntary Cleanup Programs
More than 40 states have voluntary cleanup programs that offer a wide range of incentives for
cleaning up and reusing brownfields. The voluntary programs vary by funding levels, types of
activities funded,  and the eligibility of entities. State incentives can include financial support,
regulatory streamlining, and liability relief. EPA provides about $10 million annually to support
state voluntary cleanup programs. In addition, 14 state voluntary cleanup programs have signed
memoranda of agreement with EPA that clarify state and federal responsibilities and strengthen
the role of the state programs.

10.9   Conclusions

Voluntary programs  in the United States  combine the features of unilateral, negotiated, and
public voluntary  approaches  employed in  the European Union (EU). In the United  States,
voluntary agreements have been crafted under the aegis of the Pollution Prevention Act, through
the Climate Change Action Plan, by industry associations, and by state and local governments.
Most U.S. voluntary efforts would be characterized as cooperative, non-mandatory strategies.
Several authors have claimed that existing legislation impedes the implementation of industry-
led voluntary  agreements and public-sector  projects  that employ negotiation  (Davies and
Mazurek 1996; Kappas  1999; Boyd, Krupnick, and Mazurek 1998). The consequence  is that
voluntary approaches serve as a supplement to  the main thrust of federally mandated air, water,
waste, and toxic control programs.
In most of the U.S. voluntary programs, the task of  evaluating program  effectiveness is
hampered by unique program  features as well as limited data and monitoring relative to baseline
conditions. While there are some data illustrating the administrative costs of developing  certain
types of voluntary agreements and the environmental effectiveness of a few of the  energy
conservation measures, a comprehensive cost-effectiveness assessment has not been performed
for any of the voluntary programs.
EPA reports and other literature mention a number of desirable effects besides environmental
improvement that result from  these programs. Participants in Responsible Care, 33/50,  CSI, and
Project XL all cite enhanced public opinion or goodwill with regulators as significant benefits. In
fact,  a motivating factor for several Project XL participants was to improve relations with the
community (Boyd, Krupnick, and Mazurek 1998).  The Chemical  Manufacturers Association
(CMA) advocated Responsible Care primarily  as a means of improving public opinion. CMA
convinced its membership that the future of the chemical industry depended on their reversing
the negative public perception of the industry.  To facilitate the adoption of its program, CMA
patterned Responsible Care on its members' ongoing environmental, health, and  safety (EHS)
programs.
Voluntary agreements appear  to contribute to constructive dialogue among  groups that normally
act as adversaries. Voluntary agreements  also provide for more  opportunity for stakeholder
participation than the status quo does.  With improvements  in administrative, monitoring, and
participatory procedures, voluntary agreements could become an important element of the U.S.
strategy for improving the cost effectiveness of environmental management.
Unilateral, industry-led voluntary agreements can suffer from what is termed the "free rider"
problem. Such agreements provide benefits  in the form of publicity and  goodwill  for all
members. Members of an industry association may join a voluntary agreement, yet take minimal


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The U. S. Experience with Economic Incentives for Protecting the Environment


actions to comply. Members can also choose not to join the voluntary agreement, but they can
still benefit from the actions of those who have joined. Understandably, an association would be
reluctant to eject members, since it depends on dues from them to survive. Thus, free-riding may
be a significant problem from the point of view of truly motivating participants to join unilateral
agreements. This problem was evident in the STEP program of the American Petroleum Institute
(API). In this case, several API members joined STEP, yet they failed to follow through with all
of its provisions.
Implementation of negotiated agreements is slowed  because Congress did not give EPA the
authority to offer firms  relief from existing laws and regulations (Davies and Mazurek 1996).
Two consequences follow. The first issue relates to procedure. Whenever government or trade
associations have less than strong legal authority for their initiatives, they act through consensus-
building  processes. This approach gives individual participants potential veto  power over such
initiatives,  and it may result in large transaction costs. Second, reliance  on  consensus-based
methods  also tends to result in goals that reflect the  basic common denominator on which all
parties agree.
While there  were  difficulties  in the  initial  implementation  of CSI,  the  experiment  has
demonstrated the value  of collaborative, sector-based approaches  to environmental protection.
Many of the 300 participants in CSI have built positive relationships with former adversaries that
have  outlasted the program  itself.  Based on  its experiences with CSI,  EPA has expanded
opportunities  for involving stakeholders in the Agency's  decision-making processes. EPA is
using voluntary  collaboration  to improve  traditional  EPA  functions  such  as  regulation,
permitting, and compliance assistance. By applying the many lessons learned  from  this unique
program, EPA attempts to  ensure that the  next generation of initiatives for environmental
protection is based on common sense and cost effectiveness.
The  first few XL projects  posed many challenges. EPA  had never attempted this type of
experiment. As a regulatory agency, EPA was cautious in the early stages.  EPA and others had
concerns about how to test new approaches and yet still maintain the  same level of protection
that the current regulatory  system  provides. The Agency  had to learn as Project XL  progressed.
Project sponsors, regulators, and citizens alike invested significant resources and time in XL's
creative and complex  experiments. After gaining  experience, the Agency  had a better idea of
what  information was important for industry to include in their proposals and how decisions
should be  made. In  1998, EPA and its partners worked hard to streamline Project XL, so
negotiations would go more smoothly,  quickly, and predictably. This  new process  now yields
agreements for most projects in six months to a year, compared to 24 months or longer under the
old process. For example, the Atlantic  Steel  project, in Atlanta,  Georgia, has already shown
results by producing a signed project agreement for Phase One, just eight months after initial pre-
proposal  discussions with EPA.
The Agency's rapidly growing partnership programs continue to show promise for effecting
improved stewardship.277 These programs typically improve efficiency, cut waste, and conserve
resources, thus lowering costs  and yielding environmental benefits.  As  such, EPA  has  used
partnership programs  to address  a variety of issues, including  climate  change, solid waste,
pesticide risks, and to advance new environmental technologies and practices. These experiences
have shown that voluntary approaches can be a strong complement to the  traditional regulatory
system and a tangible means for getting better environmental results.
196                                                                              January

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                                                                                       Index
Index
33/50 Program, 181-83
Acid rain, 69, 71,76-79
Advance disposal fees, 49, 50, 57, 111, 128
Agstar Program, 179
Air
  Charges, fees, and taxes, 37-41
  Emissions data, 162
  Emissions trading, 69-85
    acid rain program, 76-79
    banking, 73
    bubble policy, 72
    evaluation of, 74
    netting, 73
    NOx emissions trading, 82-85
    offset program, 72
    state programs, 98
  Industrial air toxics, 71
  Liability under the Clean Air Act, 147
  Motor vehicle emissions, 133-36
  Reporting under California "Hot Spots" Act,
    164
  Smog and other common pollutants, 70
  Subsidies, 113
  Traditional regulatory approaches, 16
  Trends in air quality, 16
  Voluntary programs, 186,  187
Alternative fuels, alternative  fuel  vehicles, 111,
  112, 133, 134,  135, 136, 169,187
Cap and trade, 29, 68, 83, 98
CFCs. See Ozone depleting chemicals
Clean Air Act, 12, 37, 67, 72, 73, 76, 77, 80, 83,
  84, 85, 86, 87, 89, 97, 147, 148, 150, 170
Clean Water Act, 1, 67, 101, 103, 106, 107, 124,
  137, 145, 148, 149
Climate change, 6, 9, 107-10, 180
  Voluntary programs, 174-81
Climate Wise, 178
Coalbed Methane Outreach Program, 179
Common Sense  Initiative (CSI), 191-93
Community-Based Environmental Protection
  (CBEP), 186
Commuter Choice Leadership Initiative, 187
Comprehensive Environmental Response,
  Compensation, and Liability Act (CERCLA),
  21, 49, 116, 143,  144, 145, 146, 147, 149
Congestion pricing, 2, 3, 53
Conservation Farm Option, 125
Cost effectiveness, 2,  16, 23, 24, 27, 30, 57, 68,
  81, 154, 195

                    D

Design for the Environment (DfE), 183

                    E

Efficiency (economic), 2, 6, 15, 18, 24, 33, 41,
  48, 96, 173,189
Elasticities
  Demand for water, 34
  Waste generation with respect to disposal
    taxes, 48
Emergency Planning and Community Right-To-
  Know Act (EPCRA), 22, 115, 149, 155, 156,
  158,  159
Emission reduction credits, 67, 72
Energy Star Buildings, 176
Energy Star Homes, 177
Energy Star Partnership Program, 176
Energy Star Products, 177
Envirofacts, 162
Environmental Accounting Project (EAP), 184
Environmental Leadership Program (ELP), 185
Environmental Quality Incentive Program
  (EQIP), 125
Farm Bill (1996), 107, 119, 120, 121, 123, 124,
  125
Farmland Protection Program, 125
Federal Agencies
  Bureau of Land Management, 55,  139
  U.S. Bureau of Reclamation, 140
  U.S. Department of Agriculture, 119, 120,
    124, 125, 126, 141, 175,179
  U.S. Department of Energy, 169, 173, 177,
    178
2001
                                        197

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The U. S. Experience with Economic Incentives for Protecting the Environment
  U.S. Office of Management and Budget, 7, 8,
     9

                     G
Gas Guzzler Tax, 49
Green Lights, 176
Green Seal, 166
Greenhouse Gas Emissions. See Climate change

                     H
Hazardous/Toxic air pollutants
  Intertemporal trading, 91
  Liability, obsticles to use, 150
  Permit fees, 37
  Reporting releases, 157,  164
Innovation, 2, 14, 16, 27, 28, 29, 81, 101
Intertemporal trading, 91
Joint implementation, 108, 175

                    M
Montreal Protocol, 50, 85

                    N
National Pollution Discharge Elimination
  System (NPDES), 35, 36, 103
Natural Gas Star Program, 179
Newspaper recycling, 132

                    o
Oil Pollution Act of 1990, 21, 143, 145
Open market trading, 29, 96, 97
Ozone depleting chemicals
  Charges, fees, and taxes, 50
  Trading program, 71, 85
Pesticide Environmental Stewardship Program
  (PESP), 187
Pollution prevention, 9, 74, 93, 111, 115, 158,
  161, 173, 181, 182, 193
Project XL, 189-91
                     R

Recycling, 15, 23, 41, 43, 44, 45, 46, 50, 51, 52,
  57, 58, 60, 61, 62, 63, 64, 114, 129, 130, 131,
  132, 155, 165, 168, 178,  194
Reporting requirements, 22, 87, 155, 159,  160,
  161
Resource Conservation and Recovery Act
  (RCRA), 115, 148
Responsible Care, 188
Sector Facility Indexing (SFI), 162
Sodbuster, 123
Solid and hazardous waste
  Charges, fees, and taxes, 41-48
  Deposite-refund systems. See Chapter 5, p. 61
  Liability, 148-49
  Product charges, 51, 52
  Subsidies, 128-33
  Voluntary programs, 178, 194
State programs
  California
    AVF requirment, 135
    Bay Protection and Toxic Cleanup fees, 37
    Beverage container recycling program, 62
    Emission permit fees, 38
    Hazardous waste landfill fees, 47
    Hot Spots, 39,  164
    NPDES annual fees, 37
    Proposition 65, 133, 163, 170, 171
    Recycling Market Development Zones, 130
    Recycling subsidies, 130
    Regional Clean Air Incentives Market
       (RECLAIM), 68, 93-96, 136
    Riverside Freeway congestion-based toll,
       53
     Solid waste disposal fee, 42, 43, 44
    Variable rate disposal fees, 43
    Wetland reserve program, 123
  Colorado
    Cherry Creek Reservoir effluent trading,
       102
    Dillon Reservoir effluent trading, 102
    Recycling subsidies, 130
     Solid waste disposal fee, 42
    Wood Stove and Fireplace Permit Trading,
       98
  Connecticut
    Tax exemption for AVFs, 135
198
                                    January

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                                                                                        Index
  Delaware
    Conservation Reserve Enhancement
       Programs, 122
  District of Columbia
    Solid waste disposal fees, 46
  Florida
    Advance Disposal Fee (ADF), 51
    Dairy Rule, 126
    Mitigation Park Program, 54
    Recycling subsidies, 130
  Georgia
    Marietta variable waste disposal fees, 44
  Illinois
    Conservation Reserve Enhancement
       Programs, 121
    Emission Reduction Market System, 96
    Recycling subsidies, 130
    Solid waste disposal fee, 42
  Indiana
    Recycling subsidies, 130
  Iowa
    Recycling subsidies, 130
    Wetland reserve program, 123
  Kentucky
    Recycling subsidies, 130
  Louisiana
    Environmental Scorecard, 114
    Recycling subsidies, 130
    Used tire subsidy program, 131
    Water permit fees, 36
    Wetland reserve program, 123
    Wetlands Conservation and Restoration
       Fund, 54
  Maine
    Air emission permit fees, 38
    Bottle Deposit System, 62
    Pesticide Container Deposit System, 64
    Recycling subsidies, 130
  Maryland
    Conservation Reserve Enhancement
       Programs, 121
    Nontidal Wetlands Compensation Fund, 54
  Massachusetts
    Recycled newsprint program, 194
    Toxics Use Reduction Act (TURA), 159
  Michigan
    Emissions Trading Program, 97
    Recycling subsidies, 130
    Solid waste disposal fee, 42
  Minnesota
  Conservation Reserve Enhancement
    Programs, 121
  Contaminated Property Tax, 55
  Property tax exemption for undisturbed
    wetlands and ungrazed prairie, 127
  Recycling subsidies, 130
  Variable rate disposal fees, 41
  Wetland reserve program, 123
Mississippi
  Recycling subsidies, 130
  Wetland reserve program, 123
Missouri
  Wetland reserve program, 123
New Jersey
  Emission Trading Program, 97
  Information Awards Program,  133
  Recycling subsidies, 130
  Solid waste disposal fees, 46
  Subsidies to encourage brownfields
    development, 117
  Worker and Community Right-to-Know
    Act, 160
New York
  Conservation Reserve Enhancement
    Programs, 121
  Recycling subsidies, 130
  Wetland reserve program, 123
North Carolina
  Advanced disposal fees, 52
  Cherry Creek Reservoir effluent trading,
     103
  Conservation Reserve Enhancement
    Programs, 122
  Wetland reserve program, 123
Oregon
  Conservation Reserve Enhancement
    Programs, 122
  Solid waste disposal fee, 42
Pennsylvania
  Emission Trading Program, 98
  Industrial Sites Cleanup Fund,  117
  Recycling subsidies, 130
Rhode Island
  Deposits on replacement vehicle tires, 65
  Hard-to-Dispose Material Tax, 51
Texas
  Adopt-a-highway, 194
  Clean Fuel Incentive Surcharge, 52
  Emissions trading program, 97
  Governor's Awards for Environmental
    Excellence, 170
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                                      199

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The U. S. Experience with Economic Incentives for Protecting the Environment
    Liability for natural resource damages, 147
    Property tax exemption for pollution
       control, 113
    Solid waste disposal fees, 46, 51
    Tax Exemptions for land preservation, 127
    Texas City voluntary programs, 193
    Wetland compensation fee, 54
  Vermont
    Recycling subsidies, 130
  Washington
    Conservation Reserve Enhancement
       Programs, 122
    Grass-Burning Permit Trading, 99
    Seattle weight-based disposal fees, 44
    Solid waste disposal fee, 42
  Wisconsin
    Effluent fees, 37
    Effluent trading, 101
    Recycling Law, 132
    Recycling subsidies, 130
    Solid waste collection fee, 41
    Waste Tire Reimbursement Grant Program,
       129
    Wetland reserve program, 123
Superfund. See Comprehensive Environmental
  Response, Compensation, and Liability Act
  (CERCLA)
Surface Mining Control and Reclamation Act
  (SMCRA)of 1977, 66
Swampbuster Program,  124
Toxic Substances Control Act (TSCA), 115, 170
Toxics Release Inventory (TRI). See Emergency
  Planning and Community Right-To-Know
  Act (EPCRA)
Voluntary Mobile Source Emission Reduction
  Program (VMEP), 186

                    w

WasteWise, 178
Water
  Charges, fees, and taxes, 34-37
  Cost savings from economic incentives, 26
  Effluent trading, 99-106
  Labeling products for water efficiency, 168
  Liability for damage to, 147
  Liability under Clean Water Act, 149
  Reporting on drinking water quality, 161
  Reporting releases to, 157
  Reporting under California Proposition 65,
     163
  Subsidies
     land conservation, 118, 119, 120, 124, 126
     municipal sewage treatment, 137
     negative effects of subsidized water, 140
     negative effects of sugar subsidies, 141
  Traditional regulatory approaches,  16
  Voluntary programs
     Adopt Your Watershed, 182
     Water Alliances for Voluntary Efficiency
       (WAVE), 185
Water Alliances for Voluntary Efficiency
  (WAVE), 185
Wildlife Habitat Incentives Program,  126
200
                                    January

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                                                                                 Bibliography
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Takemoto, Carla. 1996. Personal communication. California Air Resources Board.
Temple, Barker & Sloane. 1981. The Effect of the Water Bubble Policy on Individual Iron and Steel
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                                                                       About the Report
About the Report
This report has been prepared by the National Center for Environmental Economics in the EPA
Office of Policy, Economics, and Innovation, which is a part of the Office of the Administrator.
It builds on two previous reports (Carlin, 1992, and Anderson and Lohof, 1997) with similar
titles. This report both updates and substantially expands on the United States portions of these
earlier reports and was authored by Robert C. Anderson. The report has been extensively revised
as a result of reviews by many EPA staff both inside and outside NCEE for both policy and
technical accuracy. Comments were received from the following EPA offices, among others:
    Office of the Administrator:
       Office of Policy, Economics, and Innovation
       Office of Communications, Education, and Media Relations
    Office of Air and Radiation
    Office of Enforcement and Compliance Assurance
    Office of General  Counsel
    Office of Prevention, Pesticides and Toxic Substances
    Office of Research and Development
    Office of Solid Waste and Emergency  Response
    Office of Water
    Region  10

Graphical, editorial, and typographical assistance was obtained under Work Assignment WA4-
24 under EPA Contract 68-W6-0029.
Because of the desirability of making possible future reports in this series as comprehensive as
possible, readers who are aware of interesting applications  of incentive mechanisms that they
believe should be included in subsequent reports are encouraged to send that information to Alan
Carlin (Carlin.alan@epa.gov) at EPA Mailcode 1809, Washington, DC 20460, who served as the
principal coordinator for this report.
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The U. S. Experience with Economic Incentives for Protecting the Environment
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224                                                                               January

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                                                                                           Endnotes
Endnotes
Chapter 1
1 Carlin. 1992.
2 Anderson and Lohof. 1997.
3 Stavins, Robert. 2000; Hahn, Robert. 2000; NAP A. 2000.

Chapter 2
4 Project 88.
5 EPA. 1991.
6 OMB. 1996.
7 OMB. 2000.
8 More detail regarding the tax credits is in Congressional Research Service. 1998.
9 http ://www. npr. gov/library/nprrpt/annrpt/wrkcst94/create. html
10 President Bill Clinton and Vice President Al Gore. 1995.
11 EPA. 2000a.
12 http://es.epa.gov/ncerqa/rfa/
13 Vice President Gore. 1999.

Chapter 3
14Coase. 1960.
15 Sterner and Hoglund. 2000.
16Hahn and Noll. 1982.
17 Hahn. 1989.
18Burtraw. 1995; Kerr and Mare. 1995.
19Alberini and Austin. 1999.
0 Marine Spill Response Corporation.
1 Riley et al. 1994.; Konar and Cohen. 1997.
2 Jaeger. 2000.
3 EPA calculated ratio from costs estimated in Krupnick study.
4 Atkinson and Tietenberg. 1991.
5 See Atkinson and Tietenberg. 1991; Dudek and Palmisano. 1998; Hahn. 1989; Hahn and Hester. 1989; Liroff.
    1986; Tietenberg. 1985; and Tietenberg. 1990.
26 Hahn and Noll. 1982.
27 Gates, et al. 1989.
28 Gates, et al. 1989.
Chapter 4
29 Sims. 1977.
30 EPA. 1997b,p. 15.
31 Gibbons. 1986, pp. 10-11; EPA.. 1991, p. 4-5.
32 Morandi, et al.  1995.
33 http://www.epa.gov/owm/npdes.htm
34 http://www.epa. gov/owm/wm05000.htm#state
35 GAG. 1996a. pp. 1-4.
36Duhl. 1993.
37 Limouze.  1996.
38SCAQMDRule303.
39 Environmental  Law Institute. 1993b. p. 22-23.
40 Skumatz.  1996. p. 1.
41 Skumatz. 1996.  p. 2.
42 Miranda and Aldy. 1996. p. 16.
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The U. S. Experience with Economic Incentives for Protecting the Environment
43 Miranda, Bauer, and Aldy. 1995.
44 Kinnaman and Fullerton. 1998.
45 Skumatz. 1993.
46 Warmer Bulletin. February 1996.
47 Miranda and Aldy. 1996. p. 19.
48 Skumatz. 1993.
49 Skumatz. 1996.
50 Repetto, et al.  1992.
51 Skumatz. 1996.
52 Repetto, et al.  1992.
53 Miller. Undated.
54GAO. 1995a. p. 23.
55 Hoerner. 1998.
56 Larson.  1996.
57 Deyle and Bretschneider. 1990
58 Hickle. 2000.
59Barthold. 1994. p. 146-147.
60 Fullerton. 1995.
61 http://www.unep.ch/ozone/mp-text.htm
62 Cook. 1996.
63 CRA. 1994. p. 72-75.
64 Cook. 1996. p. 5.
65 Brown, et al. 2000.
66 Fullerton. 1995. A7.
67 DEN. October 5, 1993.
68 Ackerman. 1994.
69 Hoerner. 1995.
70 Grocery Manufacturers of America. 1995.
71 North Carolina State Law 1998-24.
72 Environmental Law Institute. 1993b.
73 Cameron. 1991.
74 Parry. 2000.
75 Brooks.  1996.
76 http://www.fhwa.dot.gov/policv/13-hmpg.htm.
77 http://www.fcn.state.fl.us/gfc/viewing/mitigation/mit _intro.html.
78 Congressional Research Service. 1996.
79 Executive Order 12548.
80 Hoerner. 1995.
Chapter 5
85 See for example: http://www.economagic.com/em-cgi/data.exe/bci97/lsm023.
81 Criner, Jacobs, andPeavey. 1991.
82 White. 1996.
83 Cain.  1998.
84 Cited in Criner, Jacobs, and Peavey. 1991.
 1 See for exampk
5bBatteese.  1996.
87 As calculated by Batteese. 1996.
88 Surface Mining Control and Reclamation Act of 1977.

Chapter 6
89 Crocker. 1966; Dales. 1968.
90Dewees. 1983; Harrison. 1983.
91 45 FR 80824. Dec. 8, 1980.
92 45 FR 52676.
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                                                                                            Endnotes
93 Halin and Noll. 1982.
94 South Coast Air Quality Management District Rule 1610.
95 EPA. 1986.
96
  Hahn and Hester. 1989.
97 EPA. 1980.
98 Crookshank. 1994.
99 Hahn and Hester. 1989.
100 EPA. Acid Rain Program web page: http://www.epa.gov/acidrain
101 Portney. 1990.
102ICF Resources Inc. 1989.
103 Ellerman. 2000. p. 296
104 EPA. 1995b.
105 Atkeson. 1997.
106 Ellerman. 1997.
107 Cason.  1995.
108 Hausker. 1992.
109 Cason.  1995.
110 McLean. 1996. p. 12.
111 Ellerman. 2000.
112 EPA. Acid Rain Program. Monthly Average Price of Sulfur Dioxide Allowances Under the Acid Rain Program.
113
   EPA. 1995b.
114Burtraw. 1998.
115 The 1999 allocations include one-time early reduction credits (24,635) in addition to annual allocations.
116 Ozone Transport Commission. 2000.
117 EPA. 1999b.
118 www.unep.ch/ozone/mp-text.htm
119
1
1
1
1
1
1
 Loeb. 1996.
 Hahn and Hester. 1989.
 Anderson, Rusin, and Hoffman. 1990.
2Kerr. 1993.
3 EPA. 1992a.
4 EPA. 2000b.
5 Tier 1 and Tier 2 emission standards are specified in the Clean Air Act Amendments of 1990 and implemented
  through EPA regulations. Tier 2 standards will be phased in during the period 2004-2009.
126 Rubin and Kling. 1993.
127 The harmonic mean is computed as the mean obtained by taking the reciprocal of the arithmetic mean of the
    reciprocals.
128 Green. 1990.
129 EPA. 1992b.
130NovelloandMartineau. 1993.
131 South Coast Air Quality Management District. 1998.
132 Cantor Fitzgerald.
133 EPA. 1995g.
134 Michigan Air Emission Trading Program.
135 New Jersey Emission Trading Program.
136 Pennsylvania Department of Environmental Protection. Emission Reduction Credit Registry System.
137 Skelton. 1994.
138 Putnam, Hayes & Bartlett. 1981.
139 Temple, Barker & Sloane. 1981.
140 Amendola, Gary.
141 O'Neil. 1983.
142 http ://www. epa. gov/o wo w/watershed/trading/traenvrn.pdf
143 EPA. Office of Water. Total Maximum Daily Load Program.
144 EPA. Reinvention Activity Fact Sheets. Effluent Trading in Watersheds.
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The U. S. Experience with Economic Incentives for Protecting the Environment
145 Dahl. 1979.
1 46 http ://cop6 .unfccc .int/modules/none. asp?pageid= 1 6
147 Yellen. 1998.

Chapter 7
148 Goldhammer, et al. 1995. p. 1-5.
149 DEN. March 24,  1995. Bl-2.
150 DEN. March 24,  1995.
151 EPA. 1995c. p. 2-14.
152 Whitehouse. 1996. p. 74.
153 Goldstone. 1996.
154 DEN. January 16, 1996. p. A10.
155 Pennsylvania DEP. Pennsylvania's Land Recycling Program.
156 Pennsylvania DEP. Fact Sheet: Overview Of The Land Recycling Program.
157 Pennsylvania DEP. 2000.
158 DEN, July 18, 1995. p. B2.
159 Environmental Law Institute. 1995. p. 76.
160 GAO.  1995c. p. 13.
161 GAO.  1995b.
162 National Research Council. 1993.
163 Jacobs and Gilliam. 1985.
164 Haycock and Pinay. 1993.
165 Huslin. 2000.
166 USD A. 1994a. p. 182.
167Rolfe.  1993. p. 21.
168 USD A. 1996b.
169 GAO.  1995c. p. 17-18.
170 USD A. 1994a. p. 166.
171 USD A. 1994a. p. 175.
172 Sendak. 1995. p.5.
173 DEN. July 14, 1995.
174 Sendak. 1995.
175 DEN. May 2, 1995. Bl.
176 DEN. November 14, 1995. B5.
177 Virginia Department of Environmental Quality. Waste Tire Management Program.
178 Steuteville. 1995.
179 Beverage World Databank.
180
   Bonderudand Shanovich. 1995. p. 11-32.
181 California EPA. 1996b.
182 Steuteville. 1995.
183 Beverage World Databank.
184Hendricksen. 1996.
185 Whitehouse. 1996. p. 74.
186 DOE. 1996.
187 Sierra Research. 1995.
188 DEN. September 26, 1995, p. 25.
189 Environmental Law Institute. 1993b.
190 http://www.hud.gov/progdesc/energy-r.html
191 EPA. The Clean Water State Revolving Fund (SRF) Program.
192 Freeman. 1990. p. 100-101.
193 Freeman. 1990, p. 138.
194 EPA. 1995a.
195 EPA. 1999a.
196 EPA. 1995a.
228                                                                                          January

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                                                                                            Endnotes
197 http://www.epa.gov/oppfeadl/amiual/1994/94annual.pdf
1 98 http ://www. epa. gov/oppfead l/trac/tracpps3 .htm
199 Tolman. 1995.

Chapter 8
200 Alberini and Austin. 1999b.
201 Some firms cite expected future liability for clean-up costs as one of the costs of hazardous waste disposal. For
    example, see EPA. June 1994a.
202 U.S. Department of the Interior. CERCLA Natural Resource Damage Assessment Regulations.
203 NOAA. 1996.
204 U.S. Department of the Interior. 1996.
205 U.S. Coast Guard.

Chapter 9
206 National Environmental Policy Act (NEPA) of 1969.
207 Council on Environmental Quality.
208 EPA. 2000d.
209 The annual reportable amount is equal to the combined total quantities recycled, combusted for energy recovery,
    treated, or released.
210 59 FR 61501. November 30, 1994.
211 www.epa.gov/tri/dq.htm.
212 GAO.  1994a. p. 14.
213 Khanna et al. 1998.
214 EPA. 1995c. p. 3.
215 Wall Street Journal. June 27, 1996. p. B12.
   Aurora and Cason. 1995. p. 9.
   EPA. 1996c. p. 2.
218 EPA. 1998a.
219 Innovations in American Government. 1999.
220 New Jersey Department of Health and Senior Services. 1984.
221 65 FR 4451, August 19, 1998. See also http://www.epa.gov/safewater/ccrl.html
 2 http://www.vosemite.epa.gov/ogwdw/ccr.nsf/America7OpenView
 3 http://www.epa.gov/autoemissions
 4 http ://www.epa. gov/enviro/index  i ava. html
 5 http://es.epa.gov/oeca/sfi/
 6 http://es.epa.gov/oeca/sfi/friunOO.htm
 7 California. 1986.
 8 California EPA. 2000.
   California Attorney General's Office. 1996.
230Helfand. 1994. p. 289.
231 EPA. 1994a. p. 29.
232Helfand. 1994. p. 291.
233Helfand. 1994. p. 293.
234 California Air Resources Board. Air Toxics "Hot Spots" (AB 2588) Program.
235 EPA. 1994a. p. 9.
236 EPA. 1994a. p. 49.
237 EPA. 1996b.
238OSHA. 1983.
239 OSHA. September 1996.
240 DEN. October 23, 1995. p. A3.
241 Green Seal: www.greenseal.org/
242 Harris and Casey-McCabe. p. 8.
243 EPA. 1994a. p. 13.
244
   Harris and Casey-McCabe. p. 8.
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The U. S. Experience with Economic Incentives for Protecting the Environment
 45 EPA. 1993a. p. 118.
 46 EPA. 1993a. p. 145-146.
 47 The studies cited in this paragraph are discussed in EPA (1994a).
 48 Harris and Casey-McCabe. p. 11.
 49 Harris and Casey-McCabe. p. 9.
   EPA. 1994a. p. 27-28.
   Harris and Casey-McCabe. p. 10.
 2 California. Waste Reduction Awards Program.
 3 TNRCC. 2000.
 4 Quinn. 1996. p. 25.
 5 Williams. 1999.
   Investor Responsibility Research Center, p. 11, 61-62. Also: http://www.irrc.org/
   Investor Responsibility Research Center, p. 49.

Chapter 10
258 Pollution Prevention Act of 1990.
259 White House. October 1993.
260
   Interlaboratory Working Group on Energy-Efficient and Low-Carbon Technologies. 2000.
261 Aurora and Cason. 1995.
262
   Aurora and Cason. 1995. p. 3-4.
  ' EPA. Energy Star Buildings. Partner Success Stories.
264 EPA. 2000e.
265 Energy cost savings are calculated for an upgrade of a 7-story 196,000 square foot office building in Washington
    DC.
266 EPA. 2000e. p. 6.
267 EPA. 1999c.
 68 EPA. 2000c. p. 25.
 69 EPA. 2000c.
 70 EPA. 1998b.
 71 Khanna and Damon. 1999.
 72 DEN. June 23, 1995. p. Ell.
 73 EPA. Water Alliances for Voluntary Efficiency (WAVE).
 74 http ://www. epa. gov/oms/transp/trancont/vmep-gud.pdf
 75 http ://www. epa. gov/oppbppd 1/PESP/
 76 Chemical Manufacturers  Association.
 77 USEPA. 1999d.
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