Are Disproportionate Costs of the WFD an Issue

Are disproportionate costs of the WFD an issue?

A screening of catchments in Denmark

C.L.JensenI, A. DubgaardI, B. H.JacobsenI, S. B. OlsenI, B. HaslerII

I)  Institute of Food and Resource Economics, University of Copenhagen, Rolighedsvej 25, DK-1958 Frederiksberg C, Denmark

II)  Aarhus University, Department of Environmental Science - Policy Analysis. Frederiksborgvej 399, DK-4000 Roskilde, Denmark.

Abstract

EU’s Water Framework Directive (WFD) is implemented as an instrument to obtain good ecological status in water bodies of Europe. The directive recognizes the need to accommodate social and economic considerations to obtain cost-effective implementation of the Directive. In particular, EU member states can.apply for various exemptions from the objectives if costs can be considered disproportionate, e.g. compared to potential benefits. This paper addresses the costs and benefits of achieving good ecological status and demonstrates a methodology designed to investigate disproportionate costs at the national level. Specifically, we propose to use a screening procedure based on a relatively conservative Cost-Benefit Analysis (CBA) as a first step to identifying areas where costs could be disproportionate. We provide an empirical example by applying the proposed screening procedure to a total of 23 water catchment areas in Denmark where costs and benefits are estimated for each of the areas. The results suggest that costs could be disproportionate in several Danish water catchment areas. The sensitivity analysis further helps to pinpoint two or three catchments where we suggest that more detailed and precise CBAs are needed in order to properly ascertain whether costs are indeed disproportionate.

Keywords: Screening procedure, Disproportionate costs, Water Framework Directive, Cost-Benefit Analysis, Benefit transfer

JEL: q25, q28

1. Introduction

The European Union’s Water Framework Directive (WFD) seeks to achieve Good Ecological Status (GES) of water bodies in the European Union preferably by 2015 and no later than 2027.[1] However, article 4 of the WFD opens for exemptions from the GES target, extended deadlines, or less stringent environmental objectives in cases where achieving GES can be deemed disproportionately costly. While the concept of disproportional costs is only vaguely defined in the WFD, the typical interpretation is that costs are disproportional when costs exceed the environmental benefits. It is explicitly suggested in the guidelines to the WFD that judgment of disproportional cost could be based on an economic analysis of the costs and benefits of achieving GES (EU commission 2009, WATECO 2003)[2]. It is furthermore suggested that the costs need to be somewhat higher than the benefits – exactly how much is a delicate and somewhat arbitrary decision which remains a political decision.

General guidelines on how to perform the disproportionate cost analysis are available (Wateco, 2003; European Commission, 2009) but these guidelines are not very detailed and they do not suggest a practical procedure by which a country can carry out this analysis. What is missing is an approach to the CBA that on one hand can cover a whole country while on the other hand being affordable and practically implementable. Extending on the surprisingly few investigations on the use of CBA for disproportionate cost assessment available in the literature (e.g. Bateman et al. 2006, Hanley and Black 2006, De Nocker et al. 2007, Lago et al. 2010, Molinos-Senante et al. 2011, Kinnel et al. 2012, Vinten et al. 2012), in this paper we propose a novel CBA-based, water catchment level screening procedure as a first step towards identifying and narrowing down the number of catchments in a country where disproportionate costs are likely to occur – areas where more comprehensive and costly CBAs would seem worthwhile undertaking in order to properly assess whether costs can be considered disproportionate. The aim of the paper is also is to exemplify the suggested approach on a relevant case, by providing an initial screening in order to identify if there are water catchment areas in Denmark, where the disproportionate cost clause of the WFD could potentially be invoked. As the EU member states are obviously different in a plethora of aspects, the key issue in the paper is to suggest a road map for an initial nation-wide disproportional cost screening of the WFD implementation which should be adaptable for use in all member states, based on Denmark as a case example. Given the uncertainty that is inherent in estimates of costs and benefits, the WFD guidelines emphasize that disproportionality should not begin at the point where measured costs simply exceed quantifiable benefits. Rather, a precautionary approach should be used, where particular uncertainties in either estimating cost or benefits should be taking into account. Thus, we propose a cautious approach in the CBA using a baseline for the analysis based on values from the lower and the upper end, respectively, of the spectrum of likely values for benefits and costs. In other words, care is taken not to underestimate costs and not to overestimate benefits by assuming a sort of worst-case pessimistic outcome for the cost and benefits that are inherently uncertain. This ensures that we get a relatively conservative estimate of the bottom-line welfare gain in the CBA. Through this approach it will be possible identify the catchments, if any, where additional assessments should be made to provide satisfactory decision support for the application of exemption possibilities in the WFD. Thus, if the welfare gain is clearly positive for a given area in the baseline CBA, it will most likely not be possible to claim that the costs associated with adhering to the WFD requirements are disproportionate. However, if the welfare gain for an area is not clearly positive there is a potential for disproportionate costs which should be further investigated. The screening provided by the baseline CBA will thus identify the areas where further considerations and more detailed CBAs could be necessary in order to properly establish if there are disproportionate costs and at which spatial scale. If the welfare gain is clearly negative it is likely that the area or part of the area would qualify for the exemption.

Results from our case example suggest that the proposed procedure may indeed serve as a first step towards assessing whether implementation of the WFD can be considered disproportionally costly in some water catchment areas. Using water catchments as the geographical scale for the analysis, for each of the 23 water catchment areas in Denmark current average water quality status for the main categories of water bodies is identified and the costs and benefits of achieving GES relative to the current situation are assessed. Based on the conservative baseline welfare gain estimates accompanied by a range of less conservative sensitivity analyses, we are able to identify three water catchments where the costs of fulfilling the WFD GES target are markedly higher than benefits, potentially to an extent that may be deemed disproportionate. For these three areas, where we would expect the highest probability of obtaining disproportionate costs, we recommend Danish policy makers to prioritize these areas and initiate more detailed CBA analyses in order to obtain more solid results – results that may serve as useful ‘evidence’ if the Danish state wants to apply the EU Commission for derogations from the WFD requirements. Furthermore, we identify nine catchments where costs and benefits are more or less at the same level. For these areas, we recommend considering doing further analysis since costs could turn out to be disproportionate in more detailed analyses. However, priority should be given to the three areas mentioned previously. Finally, for the remaining 11 water bodies, benefits seem to clearly outweigh the costs, suggesting that disproportionate costs are highly unlikely in these areas.

While the proposed procedure is of course relatively data demanding, all the data used in the Danish case example was already available and accessible as a results of previous and on-going work related to the national implementation of the WFD. Hence, new data requirements were limited, and the main task was to merge it all. Many other European countries similarly have built up extensive bodies of data related to WFD implementation. We thus believe that the screening procedure proposed here offers a novel and practically useful tool that can be relatively easily implemented in most European countries at reasonable efforts and cost.

The paper is structured as follows: Section 2 provides a short description of the proposed screening procedure. Section 3 presents a thorough empirical exemplification of the proposed screening procedure on the case of Denmark. Based on this, we conclude with final remarks in section 4.

2. A screening procedure for identification of areas where costs of fulfilling the WFD may be disproportionate

As already mentioned, CBA has been suggested as one way of providing economic information to decision makers concerning disproportionate costs associated with the implementation of the WFD. Hence, the central steps in the proposed screening procedure outlined below are largely similar to the typical steps in any CBA. However, since one of the main goals with the screening procedure is to make it practically useful for instance by as far as possible avoiding the need for collecting extensive amounts of new data, some digressions from the ‘ideal’ textbook CBA may be necessary. This is one of the reasons why we refer to the procedure merely as an initial screening. In order to make the approach practical in real life, we may make some simplifying assumptions, compromises and short-cuts that could reduce the accuracy of the results, potentially to an extent that is inadequate for policy decisions but still suitable for an initial screening (Pearce et al. 2006). The proposed procedure follows the steps outlined here:

1.  Defining the geographical scale of analysis

ð  Ideally at the individual water body level, though availability and accessibility of national WFD related data may require a more aggregate scale such as catchment level or regional level.

2.  Identification of the current ecological status of the water bodies

ð  For different types of water bodies the current ecological status should be assessed according to the biophysical definitions used in the WFD. Depending on the chosen scale of analysis this may be at individual water body scale or at some aggregate level.

ð  This step implies a physical quantification of impacts associated with changing from current status to GES

3.  Assessment of benefits from achieving GES

ð  Since benefits will mainly be non-marketed, the values associated with moving from the current status to the GES should be assessed using primary valuation studies for each area if available. If unavailable, benefit transfer method may be used to avoid costly and time consuming primary valuation studies, though this is subject to the availability of at least one useful study site where primary valuation has been done. The benefit assessment should as far as possible cover both users’ as well as non-users’ benefits.

4.  Assessment of costs associated with achieving GES

ð  A decision has to be made regarding which measures to apply to achieve GES in each area. The measures chosen have to be cost effective as stated in the WFD. Several European countries have already worked extensively on this in the RBMPs. Typically the RBMPs assess the resource costs associated with implementing the required measures. Such figures which are based on factor prices need to be adjusted to consumer prices in order to assess the welfare economic costs necessary for the CBA. Furthermore, the marginal cost of public funding, i.e. tax deadweight loss, should also be adjusted for according to official national guidelines.

5.  Calculation of baseline welfare gain

ð  Flows of costs and benefits should be converted to a bottom-line welfare gain according to official national guidelines. This could be reported either as a net present value or as a net annuity.

6.  Sensitivity analyses

ð  Should be based on less conservative/pessimistic estimates of in the costs and benefit. Hence the sensitivity analysis would generally lead to higher welfare gains with the baseline analysis serving as a lower bound.

7.  Final recommendations on the indication of areas where costs may potentially be disproportionate and where more comprehensive and precise spatial analyses and CBAs are warranted.

While this list of steps may suggest a unidirectional progression, it is important to recognize that the procedure is iterative and it could be relevant to backtrack and reconsider earlier steps. For instance, the definition of the scale of analysis in step 1 is very much dependent on data availability for steps 2, 3 and 4. Furthermore, it is important to realize that there will potentially be a lot of difference in the application of the procedure across countries. For instance, the issue of cost-effectiveness in relation to choosing which measures should be used to reach GES is far from agreed upon in the EU member states (step 4). Other issues where official national recommendations differ across member countries are which discount rate to use (step 5), which, if any, standard conversion factor to use (step 4), and how to incorporate tax deadweight loss (step 4). We deliberately do no go further into the discussion of these issues as they are beyond the scope of the current paper. Instead, we provide an example of how the procedure could be applied.