3    Pre-requisites for optimising use rights

This section discusses key barriers to successful establishment and operation of environmental use rights regimes (see Table 3 for examples).

This involves the classic difficulty of transferring theory to practice, which requires dealing with the imperfections of the real world, “But despite the fact that economists are increasingly called upon to design markets, there is little or no economic literature devoted to the engineering aspects of economic design and the practical problems of moving from theories about simple markets to workable institutions for complex markets” (Roth 1999 :749).

There is a need for a more in-depth understanding of what modifications need to be made in that process to reflect institutional factors, information asymmetries and transaction costs. Theoretical analysis, computational experiments (going beyond theoretical calculations to lab-based experiments involving computer agents or human participants) and real-world pilots can all play roles in achieving that understanding which can allow for revisions to occur at the design stage rather than after implementation, potentially significantly reducing costs.

Experimental economics has been used in Australia as part of a research programme on salt markets which will inform the National Action Plan for Salinity and Water Quality, Market Based Instruments Pilots Program (Duke 2004). The results illustrated expected prices, trading patterns, revenue and impacts. To design and run such experiments requires both resourcing and a good grounding in what the potential real-world problems actually are. The development of the electricity market in New Zealand used such techniques.

3.1 Specific Implementation Barriers

Transaction costs, for initial set-up and ongoing operation, will be highly relevant to practical implementation of use rights as information, enforcement and market administration are not free goods. Operating a use rights system requires supporting infrastructure with “detailed design and credible institutions which cannot be achieved overnight” (Guerin 2003b :14). It is easy to underestimate the requirements for supporting a robust legally enforceable system where the required standards of information are significantly above those required for customary management within a community.

There are a number of factors needed for a transferable permit regime to work (Kearney and Sinner 1997). They include demand exceeding supply, sufficient knowledge of availability and effects of use for central government or councils to set constraints and permit holders to understand their impact, an ability to monitor and enforce permits, benefits exceeding costs, and a sufficiently flexible market for transfer (eg; allowing water transfers at all times instead of just during low flow periods). It is also essential to have clear rules for managing risks relating to changes in resource availability and accepted processes for managing policy changes needed due to technology or market shifts.[2] Table 3 illustrates barriers to water transfer and possible mechanisms to address them

Source: Robb, Morgan and Harris (2001)

Size and scale are significant to determining the viability of a rights approach. The resource must be sufficiently large and valuable for the benefits of optimisation to cover the costs of operating the necessary systems. As discussed below water is problematic in this regard because the size of catchments may be too small, and the resource not sufficiently scarce, to justify a transferable use rights regime in parts of New Zealand. Similar issues are likely for air discharge trading schemes and other resources. It is, however, easy to underestimate the potential for new uses and values to emerge once robust rights are defined, and for values to rise over time.

There may be merit in experimenting providing generic rules for defining resources and allowing trading, in parallel with specific schemes targeted at those catchments or air-sheds where a viable market is most likely.