Efficiency and Policy

A highly desirable characteristic of a policy is that it be efficient, or in other words, get the most bang for the buck. This is especially important when there is pressure to reduce program budgets. A number of design features can improve the economic performance of environmental policies.

Targeting policies to cropland that contributes the most to an environmental problem is one way of improving cost-effectiveness. A long line of research (for example, Better Targeting, Better Outcomes, March 2006, see link below) has found that certain cropland—defined in terms of resource characteristics (e.g., topography, soil type), farming practices, and geographic location—tends to contribute a disproportionate share of pollutants to the environment. For example, in the Chesapeake Bay watershed, cropland acres in need of conservation treatment and prone to pollutant losses are disproportionately found in the Susquehanna River watershed (see An Economic Assessment of Policy Options To Reduce Agricultural Pollutants in the Chesapeake Bay, June 2014, link below). Cropland in this region tends to contribute more pollutants per acre to the Bay than cropland in other regions. A policy promotes cost-effectiveness when it adequately accounts for the variation in each farm’s water quality impacts and abatement costs.

Conservation policies commonly encourage the adoption of specific conservation practices on cropland in need of treatment. Various indicators can be used to identify which cropland acres these are, including physical characteristics of the field (slope, soil type), location (adjacent to a stream or over an aquifer), and production practices (conventional tillage, fall application of fertilizer, presence of confined livestock or poultry). Research has demonstrated the economic benefits of targeting in conservation programs. The challenge is to identify those factors most closely related to the environmental problem being addressed.

An alternative to direct targeting of conservation resources is to employ a performance-based policy (see Rewarding Farm Practices versus Environmental Performance, March 2006, link below). Such a policy provides incentives based on the amount of environmental performance achieved. The greater the level of performance, such as a reduction in nitrogen losses to water, the greater is the incentive payment. As such, the economic rewards are highest for cropland that produces the greatest environmental benefit at the lowest cost, bypassing the need for explicit targeting by the program agency. The incentive structure also spurs producers to find the set of practices that produce the greatest benefit at the lowest cost. Since fields vary greatly in their physical and agronomic characteristics, the practices farmers choose are likely to vary across fields. This flexibility, allowing farmers to decide for themselves how to provide environmental services, is a great source of economic efficiency. 

Rewarding Farm Practices versus Environmental Performance

The downside of this approach is the need to measure the performance of conservation practices, which can be costly. Field-scale modeling tools can estimate environmental performance using easily observed physical and agronomic data. For example, the Universal Soil Loss Equation has long been used to estimate changes in soil loss for a variety of conservation programs. Still, because of the need to model each candidate field in a conservation program, the management costs of implementing a performance-based approach are likely to be much higher than for a practice-based approach.

Performance-based approaches are starting to be employed in incentive programs for farmers. The Conservation Stewardship Program (CSP) bases part of its payment on environmental performance, which is calculated with a modeling tool (Conservation Measurement Tool). The higher the score, the higher the payment. The ability to increase payments creates an incentive for landowners to provide more conservation than a simple cost-share approach. Water quality trading programs are performance based in that payments are based on the number of "credits" produced. Trading programs use field-scale modeling tools to estimate the credits that each management practice will generate. Farmers choose the most beneficial management measures, given the expected price of credits. Research in the Chesapeake Bay found that a performance-based approach could achieve water quality goals at a much lower cost than alternative approaches that focused on specific practices, even with targeting.

Relative costs of policies for reducing pollution from cropland in the Bay watershed
Policy Cost index
Hypothetical performance-based policy 1
Full implementation of all best management practices (BMPs)—(nh targeting) 23.1
Targeting based on soil vulnerability to leaching or runoff 7.7
Targeting based on adjacency to water and treatment need 6.2

An important issue related to the efficiency of both targeted and pay-for-performance policies is whether the gains in environmental quality are additional (see Additionality in U.S. Agricultural Conservation and Regulatory Offset Programs, July 2014, link below). Additionality occurs when a conservation payment causes a change in conservation practice use, agricultural input use, or land use (referred to collectively as "conservation practices") that improves environmental quality in a way that would not have occurred without the payment. If a producer intended to adopt a conservation practice because it made good business sense without the payment, the environmental benefits from the payment would not be additional. Support for conservation practices that are not additional depletes program resources without increasing environmental gain beyond what would have been realized without the payment. For example, conservation tillage is profitable for many farmers. Providing financial support to these farmers for adopting conservation tillage would not produce any additional environmental benefits. 

Additionality in U.S. Agricultural Conservation and Regulatory Offset Programs

Determining which farmers would adopt practices without payments is not straightforward. The benefits and costs of conservation practice adoption vary across farms and across time due to differences in climate, soils, topography, farmer management skills, concern about environmental quality, and other factors. Farmers who have not yet adopted a practice may reconsider once it has been used successfully by others or as the technology behind the practice evolves. While some of these differentiating factors can be observed, farmers who are seemingly similar may still differ in their beliefs about the benefits and costs of adopting a specific conservation practice at a given point in time.

When available, farm-specific information on past practices can be a helpful, but not necessarily reliable, predictor of future practices. Many conservation practices have been adopted by at least some farms without the benefit of a conservation payment, such as conservation tillage, indicating that adoption benefits exceed costs for those practices, at least for some producers. This suggests that some level of nonadditionality is likely when the adoption of "popular" conservation practices is supported through voluntary payment programs.

While full additionality is probably not a realistic policy goal, some design features of conservation program may help minimize nonadditionality. Research indicates that certain practices are more likely to be adopted without financial support than others. For example, structural practices that are expensive to install or take land out of production (manure storage structures, vegetative buffers/filters) are less likely to be adopted without financial assistance. Some nutrient management practices, such as applying fertilizer in the spring rather than the fall, are also not likely to be adopted without financial assistance. Focusing financial support on these practices, rather than on conservation tillage or other practices that are generally profitable would reduce nonadditionality and improve program cost-effectiveness. 

Another program design feature that can improve efficiency is to let farmers bid for contracts (see Options for Improving Conservation Programs: Insights from Auction Theory and Economic Experiments, January 2015, link below). Most programs (even trading programs) offer a set price for a particular practice or level of performance. Alternatively, farmers can simultaneously offer (or "competitively bid") a level of management (for a practice-based program) or performance (for a performance-based program) and also state their required compensation level. The managing agency then chooses among the bids to find the most efficient allocation, given its budget. Farmers who seek "excessive profit" from their offer risk being underbid by others. Accordingly, farmers have incentives to provide improvements at lowest possible cost, and to not bid much higher than this cost.

Options for Improving Conservation Programs: Insights from Auction Theory and Economic Experiments

Two USDA conservation programs have used or are using competitive bidding to reduce costs and/or to increase cost-effectiveness. For example, a landowner wanting to enroll in the Conservation Reserve Program submits a bid to the local USDA field office during a specified enrollment period, indicating how much land would be enrolled, the proposed management practices, and a rental rate (i.e., compensation price). All submitted bids are ranked by USDA on the basis of their Environmental Benefits Index (EBI) score and their cost. Bids are accepted until the acreage goal (set by Congress), rather than a budget goal or performance objective, is met. Farmers can improve the chance of acceptance by rental rate as near their costs as feasible, or by proposing more environmentally robust management measures (such as planting trees rather than grass). Several studies have concluded that the bidding process has increased the CRP’s cost-effectiveness.