Environmental Interactions with Agricultural Production:
Policy Instruments for Protecting Environmental Quality

Environmental Interactions with Agricultural Production Briefing Room Background Animal Agriculture and the Environment Grazing Lands and Environmental Quality Federal Laws Protecting Environmental Quality Policy Instruments for Protecting Environmental Quality

Environmental quality is a public good. This means that it has characteristics making it unprofitable for the private sector to provide at socially optimal levels. A role of government can be to employ various policy instruments to promote the "production" of environmental quality. The policy instruments that can be used to provide incentives range from fully voluntary to regulatory and include:

• Education
• Government labeling standards for private goods
• Financial incentives
  • Cost-share and incentive payments
  • Land retirement payments
  • Taxes and fees
  • Environmental credit trading
• Compliance mechanisms
• Regulatory requirements

U.S. conservation and environmental programs rely heavily on these instruments.

Education

Education is a broad category of instruments aimed at developing an information base and improving conservation practices and program delivery. Research and data development provides information on the economic, agronomic, and environmental performance of production and conservation practices. Extension and technical assistance transfer this information to farmers through education materials, demonstration projects, and face-to-face contact. In USDA, these activities are undertaken by the Agricultural Research Service; Cooperative State Research, Education, and Extension Service; Economic Research Service; Agricultural Marketing Service; Forest Service; and Natural Resources Conservation Service.

Education by itself cannot be considered a strong tool for protecting environmental quality through conservation. The principle reason is that most of the environmental benefits occur off the farm. Education is more effective for improving productivity on the farm because the farmer can realize an economic gain. Education can, however, be an effective tool for improving environmental quality under certain conditions:

• The actions that improve environmental quality also increase profitability (win-win),
• Producers have strong altruistic or stewardship motives, and/or
• The onfarm costs of environmental impairments are sufficiently large.

For example, conservation tillage increases net returns for some producers while reducing soil erosion and improving water quality. Other practices that can increase profitability and environmental quality include nutrient management and irrigation water management. Practices that improve environmental quality without boosting profits, such as filter strips and enhanced wildlife habitat, would be less likely to be adopted voluntarily without financial assistance.

Education's greatest value is as a component of an environmental improvement policy that relies on other tools such as financial incentives and direct regulation. One of the lessons learned from USDA's Area Studies Project is that education influences which conservation practices a farmer adopts in order to meet the requirements of program provisions such as conservation compliance. By providing the information producers need to implement existing and new practices efficiently and also information about a producer's pollution contributions, overall pollution control can be attained at lower cost. USDA coordinates technical assistance with financial incentives it provides for implementing conservation practices through programs such as Environmental Quality Incentive Program, Conservation Security Program, and Conservation Reserve Program. USDA also provides technical assistance to help farmers comply with Highly Erodible Land and Wetland Conservation Compliance Provisions and environmental regulations such as the Clean Water Act.

Government Labeling Standards for Private Goods

Government labeling standards for private goods help create efficient private markets for goods produced with environmentally sound practices. National certification standards increase the informational value associated with specialized labels (e.g., labels for organic produce or other "eco-labels"). If enough consumers are willing to pay more for products grown in an "environmentally friendly" manner, then more producers will switch to these production practices. Participation is voluntary, but producers must meet minimum standards to use specific labels. USDA has set uniform national standards defining the term "organic" for both bulk and processed products. In recent years eco-labels have been used to tout reduced pesticide use, wildlife protection, and other environmental services tied to specific agricultural production systems.

Financial Incentives

Financial incentive-based policies provide positive monetary incentives (payments to farmers) designed to encourage environmentally beneficial activities, or negative incentives (taxes farmers pay) designed to discourage environmentally harmful activities. Ideally, incentives would be based on environmental outcomes. For example, financial assistance for an erosion control practice could be based on the amount that erosion is reduced. Such performance-based incentives are the most economically efficient. However, because of difficulties in measuring environmental outcomes from conservation and production practices, incentives are almost always based on specific practices. Both positive and negative incentives create an opportunity cost of engaging in environmentally harmful activities. Therefore, both can be designed to produce an identical environmental outcome, though the distribution of economic welfare between farmers and taxpayers will differ for each approach. In practice, only positive incentives have been used by Federal conservation programs to induce the voluntary adoption of conservation practices.

• Cost-share/incentive payments pay farmers for voluntarily adopting and implementing desirable conservation practices or land uses. Cost-share payments are typically a percentage of the cost of the practices (usually 50 to 75 percent for USDA financial incentive programs), and are generally used for structural practices, such as terraces or vegetative buffer strips. Incentive payments are not necessarily based on costs, but are set at a level necessary to get farmers to adopt a practice. Typically, incentive payments are used to encourage management practices such as nutrient management, conservation tillage, or integrated pest management. In some programs, incentive payments are used to purchase easements that reduce pressure to convert farmland to less desirable uses. Cost sharing and incentive payments are available to farmers through USDA's Environmental Quality Incentives Program, Conservation Stewardship Program, Grasslands Reserve Program, and Wildlife Habitat Incentive Program. The Farm and Ranch Lands Protection Program provides matching funds for the purchase of development rights to keep productive cropland and rangeland in agricultural uses.

• Land retirement (or rental) payments are made to farmers for voluntarily retiring land from production. Current USDA land retirement programs include the Conservation Reserve Program, and the Wetlands Reserve Program. Land retirement payments are generally more expensive on a per-acre basis than payments for conservation practices on working lands, but can produce large environmental benefits that are generally long-term. Land retirement may therefore be most effective when any type of crop production is generally incompatible with environmental goals.

• Environmental taxes are per-unit charges for actions contributing to environmental degradation. Charges may be associated with emissions (such as a fixed dollar value per pound of soil lost) or with input use (such as a tax on fertilizer). Environmental taxes are not currently being used in Federal conservation programs, but are being used in some States and in other countries.

• Environmental credit trading is an approach for reducing pollution discharges that uses market forces to allocate pollution control costs effectively between different pollution sources. Water quality trading and wetland mitigation are two examples. Traditional pollution control programs often require individual sources of pollution to meet a particular discharge limit, or to install a specific type of pollution control technology. Because individual pollution sources are not the same, the cost each one faces in meeting similar discharge goals is often very different. In a typical credit trading program a regulatory agency issues discharge allowances to all regulated dischargers. The total number of allowances is equal to a discharge cap set to achieve an environmental quality goal. A discharger is required to have enough discharge allowances to cover what it discharges over the course of a year. If a firm does not have enough allowances to cover its discharges, it must either purchase allowances from other firms, or reduce excess emissions. By allowing the trading of allowances, low cost firms may find it to their advantage to reduce emissions below their allowances and sell their excess credits. High cost firms will purchase allowances from low cost firms as long as the price of a credit is less than their marginal cost of pollution control. Society benefits because pollution reduction goals are achieved at a lower total cost than if all dischargers were required to actually reduce their own discharges.

  Agriculture is generally believed to be able to reduce pollution at a lower cost than most sources typically regulated by U.S. pollution control laws (factories and municipal water treatment plants, or point sources) for those pollutants common to both, such as nutrients. Farmers might be allowed to participate in a trading program in order to provide a source of inexpensive offset credits that point sources can purchase to meet their discharge requirements. For example, farmers might produce nitrogen credits by reducing nitrogen runoff using a comprehensive nutrient management plan. If point sources are willing to pay more for emissions credits than it costs farmers to produce them (by cutting nutrient loss in this case) then a trade can be made that allows farmers to benefit financially. Point sources also benefit because they pay less for pollution control than if they had to do it themselves. Farmers would continue receiving these payments for as long as they maintained the practices. A major challenge for agriculture participating in trading programs is the accurate measurement of pollution abatement (needed to assign credits) associated with implementing conservation practices. The regulatory agency overseeing the program must establish an exchange rate between discharge allowances and offset credits to account for uncertainty and other factors (known as a trading ratio). For a more detailed discussion of trading, see EPA's Water Quality Trading Assessment Handbook.

Compliance Mechanisms

Compliance mechanisms require a basic level of environmental compliance as a condition of eligibility for other agriculture programs. This tool shares characteristics with both government standards for private goods/actions and economic incentives. It is similar to the former in that the government establishes a set of approved practices, except that here compliance is linked to a direct economic payment. Because existing programs are used for leverage, compliance mechanisms require no new budget outlay for producer payments, although considerable technical assistance is needed to develop conservation compliance plans. Enacted at a time when farm income support programs were more closely tied to production, compliance mechanisms were used to remove apparent inconsistencies between signals for more intensive production (from the income support programs) and conservation programs. Existing compliance mechanisms include the Wetland Conservation (Swampbuster) and Highly Erodible Land Conservation (Sodbuster and Conservation Compliance) provisions.

Regulatory Requirements

Regulatory requirements lie at the other end of the policy spectrum from voluntary participation. Rather than attempting to facilitate or encourage improved environmental performance, policymakers can simply require it. Regulations can ban the use of a particular input or practice deemed a significant threat to public safety or the environment, or can require the use of a beneficial practice. The ban on the production and application of the chemical DDT (through the Federal Insecticide, Fungicide, and Rodenticide Act) is an example of the former. The Clean Water Act regulations requiring the implementation of a Comprehensive Nutrient Management Plan by concentrated animal feeding operations (CAFOs) is an example of the latter. Regulatory policies that can affect agriculture include the Coastal Zone Management Act Reauthorization Amendments (for polluted runoff), the Clean Water Act (for polluted runoff), the Federal Insecticide, Fungicide, and Rodenticide Act (for pesticide use), the Clean Air Act(for airborne particulates), and the Endangered Species Act (for wildlife habitat).

Application of Policy Instruments to U.S. Conservation Problems

A taxonomy of policy instruments illustrates their application to U.S. agricultural conservation issues. Three broad groupings organize the instruments: involuntary measures that are, to varying degrees, coercive; voluntary measures providing varying amounts of financial incentive; and facilitative measures that rely primarily on information.

Instruments are arrayed from left to right in the chart in order of decreasing level of direct control the instrument has on producer decisions. In other words, the more closely prescribed the producer actions, the farther left a particular instrument falls on the continuum.

The evolution of environmental concerns is echoed in the rows of the matrix, with the initial concerns about soil productivity losses from erosion occurring in the top rows, and more recent concerns (such as nitrogen leaching and manure management) appearing in the bottom rows. The approximate dates that specific policies were first applied to an environmental concern are indicated in the body of the matrix. Some of the programs listed have been phased out or combined with other programs. For example, the functions of the Agricultural Conservation Program and the Water Quality Incentive Program were taken over by the Environmental Quality Incentive Program in 1996.

Policymakers have at their disposal policy instruments that can induce changes in agricultural practices and technologies that lead to more sustainable agro-environmental systems. No general statement can be made about which policy instruments meet program goals in the most efficient or cost-effective manner. And within each broad policy tool grouping, implementation decisions can have significant impacts on program costs and environmental impacts. In addition, the characteristics of agriculture's impacts on environmental resources vary widely across regions and resource bases. The choice of policy instruments depends on the nature of the resource issue or problem, the information available to the administering agency on the linkages between farming activities and the environmental resources, farm economics, and societal decisions about who should bear the costs of providing more sustainable production systems.