Thursday, August 4, 2011

Nutrient Trading Markets, a Regulatory Pipe Dream

Under the Clean Water Act Virginia is required to meet the “waste load allocations” contained in the Chesapeake Bay TMDL. This can be accomplished though the Watershed Implementation Plans, WIP I and II, using a combination of agricultural BMPs, wastewater treatment plant upgrades, and improvements in stormwater management. If Virginia fails to meet these goals EPA will use the only regulatory sticks they have to force compliance. This could mean reducing Virginia’s federal funds for water quality or it might mean EPA directly permitting facilities in Virginia. This could mean more stringent requirements for wastewater treatment plants, MS4s, other stormwater permitting and confined feedlot operations.

So given the state of the federal budget (or lack there of) it seems a fairly certain that that Virginia will have to find a way not only to fund meeting the TMDL, but to get the local communities to embrace the WIPs, implementing the various strategies to reduce nutrient and sediment pollution. First, many existing wastewater treatment plants will have to be upgraded and any future population growth will require additional upgrades. These are major capital projects that will impact sewer fees within the communities served. We cannot meet the TMDL goal by only addressing wastewater treatment plants. Even if we could, there would still be a need for nutrient smoothing as expansions and technology improvements happened in spurts. Existing stormwater control systems will have to be upgraded in addition to having future development meet much more stringent current and future standards. Finally, agricultural nutrient management will have to be improved and widely implemented.

Much of the coastal area and northern Virginia is suburban. Curtailing future stormwater runoff by adopting low impact development, LID, techniques in new housing and in other development projects would, in many cases, not involve significant additional costs, but it will not achieve the goal of reducing the current nutrient and sediment pollution level as required under the TMDL. In addition, significant regulatory and business practices would have to change to implement LID. The changes would have to include zoning policies, current construction practices and building codes and any change is costly. The impervious surfaces associated with development like concrete sidewalks and asphalt roadways, and the buildings themselves create increased stormwater flow. Instead of soaking into the ground and recharging groundwater, rainwater runs across paved areas, collecting used motor oil, pesticides, fertilizers, and other pollutants. Under the TMDL mandate LID would not be enough to allow for any future construction in the Chesapeake Bay watershed.

Further nutrient reductions would be required to decrease the total nutrient load in the linear fashion dictated by the EPA. These nutrient pollution reductions could be achieved by requiring that new housing and other land development in the Chesapeake Bay watershed “offset” any new nutrient pollution load it generates by reducing the nutrient load elsewhere. These offsets could be provided directly or through the payment by developers of an “offset development fee.” The money from the fee could then be spent for upgrading stormwater control systems at older developments. This will have the effect of pushing up the cost of real estate in the Chesapeake Bay watershed by raising the cost of construction by the required fees. Existing housing and commercial building values would increase by the offset fees as well. Offset development fees are just one way to achieve this goal, but possibly the most painless. Another possible way to achieve the required reductions in nutrient and sediment pollution is to require all homeowners and building owners to implement improved stormwater control. The costs of these controls might not be reasonable in some cases, and lets face it, Virginia is struggling to get homeowners to appropriately maintain their alternative septic systems, adding stormwater control requirements does not seem likely to succeed.

Finally, it has been suggested that another way to achieve the TMDL goals is the regulators darling- the nutrient pollution trading model. Conceptually, pollution trading is appealing as a cost effective and flexible way to achieve and maintain water quality goals. However, I believe that it will prove impossible to create a pollution trading market place because of fatal flaws in the conceptual model. First, from a Bay-wide watershed perspective, the lowest-cost reduction efforts are not necessarily located within the watershed where a reduction is needed and the TMDL reductions do not appear to be tradeable on an intrastate basis. So the effective market for trading may be much too small to establish a market place. Uncertainty in reductions from agricultural sources cannot be entirely eliminated and must be implemented or maintained and funded every year, indefinitely, into the future. Monitoring and verification of BMPs are costly.

The regulators envision private entities that purchase large quantities of credits from nonpoint sources for the purpose of re-sale to potential buyers, such as regulated point sources. The regulators envision firms that are willing and able to accept and somehow manage the risks associated with trading fictional credits that have no other value, in an undeveloped and miniscule sized market place with an irregular demand based on economic and population growth and regulatory mandated decreases in the TMDL. In addition, the time lag inherent in BMP installation and verification will magnify the market instability and inefficiency by lagging market signaling.

The regulatory vision of a vibrant nutrient market cannot be achieved. In an economic sense, the regulations create an endowment- a regulatory endowed asset. New generation of nutrient pollution and sediment are prohibited while old activities are allowed (but must decrease over time). Unfortunately, unlike a really good asset, you can not value it, sell it or borrow against it and these are all requirements for property exchange. You cannot create a market without property rights that can be owned and sold. In addition, since the allowed activities and endowed asset are created by regulations they can vanish at regulatory whim.

There is no true economic value of a BMP (regulatory compliance not withstanding) so that installation cannot be financed and this would have to be a cash investment market that installs and maintains BMPs to have credits ready on demand. There are markets that function without credit, but the returns are venture capital returns (or illegal drug returns). In addition, BMPs do not pay “rent” and unlike bonds they cannot be warehoused, instead they are often seasonal and require expenditures and maintenance to continue to be viable. A series of nutrient markets can not succeed within the Chesapeake Bay watershed. The Commonwealth would be better served by regulators and local planning boards working together to effectively price and sell offsets to developers and wastewater treatment plants then ensure that they are installed and maintained if necessary.

1 comment:

  1. Great blog Elizabeth. I agree that trading will be hard to do, especially if the regulators are in charge. I do believe that the private sector, through a free market, could accomplish this. However, the rules will need to be flexible, the trading area large and the practices well defined with regard to the reductions that will be credited.

    Environmental Banc and Exchange (not my company) is doing this in some areas. We are pushing hard on Delaware to make this a reality.

    If all of the money that is being spent to develop the TMDL, WIPS, etc. etc. were spent on real practices based on the lowest cost per pound of reductions of N and P we would start making real progress.