Elsevier

Ecological Economics

Volume 76, April 2012, Pages 87-94
Ecological Economics

Analysis
Designing watershed programs to pay farmers for water quality services: Case studies of Munich and New York City

https://doi.org/10.1016/j.ecolecon.2012.02.006Get rights and content

Abstract

While preserving water quality by contracting with farmers has been examined previously, we analyze these arrangements from a different perspective. This study uses a transaction cost framework, in conjunction with detailed case studies of two water quality payment schemes, to examine factors that increase and decrease transaction costs in order to improve policy choice as well as policy design and implementation. In both the Munich and New York City cases, agreements with farmers to change land management practices resolved the water quality problems. In Munich, factors including lack of rural/urban antipathy, homogeneous land use, utilization of well-developed organic standards, and strong demand for organic products decreased transaction costs. Using existing organic institutions addressed a range of environmental issues simultaneously. Factors that decreased transaction costs in both cases included: highly sensitive land was purchased outright and the existence of one large “buyer”. Adequate lead time and flexibility of water quality regulations allowed negotiation and development of the watershed programs. Tourism and eco-labels allow urban residents to become aware of the agricultural production practices that affect their water supply. We conclude with recommendations based on the experiences of these cities, both of which have been proposed as models for other schemes.

Highlights

► We compare approaches for nonpoint source water pollution in New York and Munich. ► We identify factors affecting transaction costs of contracting for ecosystem services. ► Using existing institutions, such as organic certification, reduces transaction costs. ► Homogeneous agents and a monopsony structure can decrease transaction costs.

Introduction

Preserving and restoring water quality is a major concern in numerous countries. The success of regulations in reducing pollution from point sources1 has led to an increased focus on nonpoint, unregulated, sources of pollution such as agriculture, which may have lower abatement costs. Point–nonpoint source trading has been enabled by legislation in several places in the U.S. as a way to reduce abatement costs but there has been less trading than expected due to issues such as transaction costs (Fang et al., 2005). Contractual arrangements and payments for water quality services from municipal water organizations to nonpoint sources represent a similar policy instrument. The current study uses a transaction cost framework in conjunction with detailed case studies of two water quality payment schemes (i.e., Munich and New York City) to examine the factors that increase and decrease transaction costs in order to improve policy choice as well as policy design and implementation. Rather than just admitting that high transaction costs can prevent contractual arrangements as emphasized by Coase (1960), we devote attention to factors explaining the level of transaction costs and strategies employed to shape them (Anderson and Libecap, 2005, Déprés et al., 2008, Libecap, 1989).

The water supply of Munich, Germany, with a population of 1.2 million, is mainly from the Mangfall Valley. The water supply for New York City, with a population of over 9 million people, comes from the Catskill Mountains and the headwaters of the Delaware River. In both cities, decreasing water quality in the 1980s meant that expensive water filtration systems would need to be installed ($6 billion in the case of New York City), or that land management changes would need to occur in the watersheds. In both cases, agreements with farmers to change land management practices resolved the water quality problems, however the two cases differed in a number of ways. Using these two detailed cases, we examine the factors that influenced the level of transaction costs, the nature of the transaction costs that are likely to affect the potential for exchange, and the opportunities for greater reliance on voluntary contractual solutions.2 Transaction costs arise throughout the process of an exchange transaction, even if it ultimately does not occur. From an operational viewpoint, these costs notably include the costs of defining, enforcing and exchanging property rights (Dahlman, 1979, McCann et al., 2005). Under some circumstances, they may be high enough to prevent voluntary exchanges (Coase, 1960).

The contributions of this paper are at least threefold. First, it adds empirical content to basic transaction cost concepts by analyzing the design and implementation of real contractual arrangements for nonpoint source pollution in a multi-player setting. Second, our comparative analysis of Munich and New York indicates how specific transaction costs were modified to enable efficiency gains and successful arrangements. Third, it uses the case studies to develop recommendations regarding the design of similar contractual solutions to water quality issues. While our analysis is focused on water quality, it has applicability to other complex environmental and natural resource issues where both physical location and the specific institutional environment are important.

The remainder of the paper is organized as follows. 2 Transaction Cost Issues in Munich, 3 Transaction Cost Issues in New York City provide historical background and context, analyze the transaction cost issues in each city, and show how various issues were overcome leading to satisfactory arrangements.3 The final section provides an overall assessment of arrangements, draws some generalizable lessons and policy implications, and then concludes.

Section snippets

Transaction Cost Issues in Munich

Munich is the third largest city in Germany with about 1.2 million inhabitants. For more than 125 years, Munich drinking water was extracted mainly from springs in the foothills of the Bavarian Alps, namely the Mangfall Valley. This valley, located 40 km from the city of Munich, supplies around 80% of the tap water consumed in Munich, that is, about 90 million m3 per year (SVM, 2008). The land in the catchment areas is mainly used for farming or forestry. Interestingly, since the end of the

Transaction Cost Issues in New York City

New York City is the largest city in the United States, with about 9 million inhabitants, and consumes almost 5 million m3 of water per day.6 The New York City watershed consists of 518,000 ha in the Catskill Mountains and Hudson Valley regions. The portion west of the Hudson River is located 120–200 km north of New York City (

Some Lessons from the Munich and New York City Strategies to Cope with Non-point Source Pollution

The previous two sections on the historical background of water supplies in Munich and New York City show that the two cities were benefiting for free from natural filtration services for many years. They eventually noticed a deterioration in their water quality and made the connection to watershed activities, notably intensive farming, and were forced to act. Previously, these two groups of agents, farmers and water suppliers, were using the same environmental assets for different purposes

References (59)

  • K. Baylis et al.

    Agri-environmental policies in the EU and United States: a comparison

    Ecological Economics

    (2008)
  • L. McCann et al.

    Transaction cost measurement for evaluating environmental policies

    Ecological Economics

    (2005)
  • J. Paavola et al.

    Institutional ecological economics

    Ecological Economics

    (2005)
  • Mark Pires

    Watershed protection for a world city: the case of New York

    Land Use Policy

    (2004)
  • A. Alberini et al.

    Assessing voluntary programs to improve environmental quality

    Environmental and Resource Economics

    (2002)
  • T.L. Anderson

    Donning coase-coloured glasses: a property rights view of natural resources economics

    The Australian Journal of Agricultural and Resource Economics

    (2004)
  • T.L. Anderson et al.

    Forging a new environmental and resource economics paradigm the contractual bases for exchange

    Workshop on Environmental Issues and New Institutional Economics, CESAER, December 8, Dijon (France)

    (2005)
  • Albert A. Appleton

    How New York City used an ecosystem services strategy carried out through an urban–rural partnership to preserve the pristine quality of its drinking water and save billions of dollars and what lessons it teaches about using ecosystem services

  • W.B. Arthur

    Competing technologies, increasing returns and lock-in by historical events

    The Economic Journal

    (1989)
  • C. Badgley et al.

    Organic agriculture and the global food supply

    Renewable Agriculture and Food Systems

    (2007)
  • D. Bougherara et al.

    The ‘make or buy’ decision in private environmental transactions

    European Journal of Law and Economics

    (2009)
  • D.W. Bromley

    The Handbook of Environmental Economics

    (1995)
  • E. Castle

    The market mechanism, externalities, and land economics

    Journal of Farm Economics

    (1965)
  • Catskill Center for Conservation and Development

    New York City Watershed Protection Priority Areas

    (2001)
  • R. Challen

    Institutions, Transaction Costs, and Environmental Policy: Institutional Reform for Water Resources

    (2000)
  • S. Cheung

    The structure of a contract and the theory of a non-exclusive resource

    Journal of Law and Economics

    (1970)
  • R.H. Coase

    The problem of social cost

    Journal of Law and Economics

    (1960)
  • R.H. Coase

    The institutional structure of production

    American Economic Review

    (1992)
  • C.J. Dahlman

    The problem of externality

    Journal of Law and Economics

    (1979)
  • K. Delate et al.

    An economic comparison of organic and conventional grain crops in a long-term agroecological research (LTAR) site in Iowa

    American Journal of Alternative Agriculture

    (2003)
  • H. Demsetz

    Toward a theory of property rights

    American Economic Review

    (1967)
  • C. Déprés et al.

    Contracting for environmental property rights: the case of Vittel

    Economica

    (2008)
  • T. Dietz et al.

    The struggle to govern the commons

    Science

    (2003)
  • F. Fang et al.

    Point–nonpoint source water quality trading: a case study in the Minnesota River Basin

    Journal of the American Water Resources Assoc.

    (2005)
  • Allan R. Gold

    New York's Water Rules Worry Catskills

    New York Times

    (1990)
  • Hahn, 2006. Watershed Services: The New Carbon?,...
  • J. Hoffman

    Census Peek: Collaboration in the New York City Catskill/Delaware Watershed: Case Study 1990–2000

    Environment, Development and Sustainability

    (2008)
  • K. Höllein

    Clean water through organic farming in Germany

    Pesticides News

    (1996)
  • R.J. Kemkes et al.

    Determining when payments are an effective policy approach to ecosystem service provision

    Ecological Economics

    (2009)
  • Cited by (79)

    • Payments for Watershed Services and corporate green innovation

      2023, International Review of Economics and Finance
    View all citing articles on Scopus

    Acknowledgements: We are particularly grateful to Naoufel Mzoughi, Christophe Déprés and participants at the workshop ‘A Primer in Economic Analysis of Soil-Related Ecosystem Services (Montpellier, November, 18, 2010) for many helpful comments and suggestions. We also benefited from comments at the World Congress of Social Economics meetings (Montreal, June 28–July 1, 2010). We are particularly indebted to two anonymous referees and the editor of Ecological Economics for suggestions that greatly improved the paper. We are also grateful to the French research program GESSOL sponsored by the Ministère de l'Ecologie, du Développement durable, des Transports et du Logement, the Agency for the Environment and Energy Management (ADEME), the EU Fellows Program at the University of Missouri, and the Missouri Agricultural Experiment Station for financial support. The usual disclaimer applies.

    View full text