Economics, Environment

102 – A national market for biodiversity?

Someone asked me recently, “How close are we to having a national market for biodiversity? My answer is, “probably not very close”.

In part, the answer depends on whether you consider conservation tenders to be a form of market. Tenders were the most successful approach in the first round of the Market-Based Instruments Pilot Program, and it seems likely that they do have a viable future in Australian biodiversity policy. They have been described as “market like”, but really they lack a number of desirable features of markets. Certainly they are not like the market for, say, cars, which has many well-informed buyers and sellers competing and communicating. Conservation auctions have only one buyer: the environmental management agency, who has to dominate and drive the process. Because of the public good nature of biodiversity, with the resulting temptation for free riding, I think it is unrealistic to expect multiple buyers to emerge in a competitive market.

There are a couple of other ways to artificially create a kind of market. For some environmental issues, we are likely to see the development of markets for tradable permits (in a “cap and trade” system). The much-discussed carbon market is the obvious first candidate. This type of market works by creating scarcity in something valuable (e.g. the right to emit carbon) so that there are incentives for buyers and sellers to trade. I don’t think this approach is very relevant to biodiversity in Australia. It might have been if there was still a lot of clearing going on, but there isn’t. It’s been stopped by other policy measures.

Another approach is to allow trade in offsets. Someone is allowed to do something with an environmental cost, provided they fund some positive environmental works elsewhere to compensate. Farmers could potentially provide the positive works to become suppliers in this market. This has been explored a bit in Australia, but I don’t see it making a big impact on biodiversity broadly.

Overall, I think that conservation tenders will be the main economic instrument used to advance biodiversity (and of course economic instruments will continue to not be the only type of instruments used).

Now what about the “national” part of the question? Perhaps we could envisage conservation tenders operating nationally. While that may be technically feasible, I think there is little to gain, and plenty to lose in the form of transaction costs, relative to running a number of more localised tender schemes. These could be targeted to regions and for issues where the likely benefits are higher, rather than being offered indiscriminately across the whole nation. The challenges of comparing bids from different regions with radically different problems and opportunities would also tell against the feasibility of a unified national scheme.

Another challenge is that markets operate on a common currency, whereas biodiversity-related interventions are highly heterogeneous and hard to compare. We do have some tools intended for this purpose (non-market valuation, or “habitat hectares” as an index of the value of native vegetation in Victoria) but they do not seem sufficient (or, in the former case, not sufficiently cheap) to underpin a national scheme.

Even more fundamentally, it is difficult just to predict the biodiversity consequences of different interventions, let alone their values. If tenders are really to achieve their potential, we will need to greatly improve knowledge about cause-and-effect relationships for interventions and their consequences for biodiversity. I suspect that this may be the biggest single factor inhibiting improved purchase of environmental services, whether we use tenders or other approaches.

Then there is the issue of human capacity to roll out either a tender or market scheme nationally. It is not a game for amateurs. We are slowly building the number of people with the expertise, but we are still well short of being able to implement the approach at a national scale.

To reinforce these points it may be helpful to ask, what are the characteristics of the national car market that allow it to work but which are lacking for a biodiversity market?

  1. A clear measure of the value of the goods being purchased. In the car market, this value is revealed by consumers’ willingness to pay for the cars they buy, whereas the true values are obscured for biodiversity, and may be clouded by ignorance in any case.
  2. A capacity for buyers and sellers to communicate with each other cheaply. New communication systems would need to be developed for a biodiversity market.
  3. Confidence in the market. As a car purchaser, if you pay the money, you do get the product, and there is probably a warrantee on its quality. In the case of biodiversity, you may pay the money and have little idea about what product or service will be generated. This relates to uncertainty about cause and effect, but also to the reliability of suppliers.
  4. The absence of a free-rider problem. If you want a car, you’ll have to pay for it. If you value biodiversity, you could just wait for someone else to pay for its preservation, without making any contribution, or at least not a full contribution reflecting your benefits.
  5. A capacity to compare the values of different products easily. Easy among cars, hard for biodiversity.
  6. Essential market infrastructure exists. It does for cars (car yards, distributors, part suppliers, etc.) but there is nothing comparable for biodiversity.
  7. Relevant institutions have been developed. They have for the car industry (e.g. regulation of car dealers) but they are still being developed for biodiversity.
  8. Experts in the operations of the market. There are many people who are expert in the operation of the car market, but few experts in biodiversity markets or related approaches.

That is why my answer is “probably not very close”.

David Pannell, The University of Western Australia