The Waste Tax 1987-1996 2. Theory and methodology in the evaluation of economic instruments in environmental policy2.1 Differences between environmental economy theory and use of
environmental taxes in practical regulation 2.1 Differences between environmental economic theory and use of environmental taxes in practical regulation Taxes are cost-effective According to environmental economic theory, the use of economic instruments (taxes or marketable permits) in environmental policy will lead to a more cost-effective pollution abatement than the use of administrative instruments (Baumol and Oates, 1975; 1988). Administrative requirements to the effect that all players must reduce pollution to the same pre-set level will normally be more expensive, as there are no safeguards that the reduction takes place where reduction costs are lowest. Polluters have different marginal abatement costs With a tax, players with abatement costs lower than the tax will choose to limit pollution, whereas players with abatement costs higher than the tax will prefer to pay the tax. To obtain a given reduction of pollution, imposing a tax has less economic cost than requiring all polluters to reduce their pollution equally. This is explained by the fact that marginal costs of a pollution reduction are different for different players, and a correctly fixed environmental tax will secure that reductions are made where they are cheapest to obtain. However, it is difficult to fix the precise rate of an environmental tax. Ideally, it is assumed that this is best done on the basis of a valuation of the environment based on a survey of citizens' preferences in relation to "environment" compared to other goods (Pearce and Turner, 1990). Based on the value of the environment it is possible to fix a tax on pollution. There are several methods of valuing the environment, and there is considerable disagreement whether they are satisfactory (O'Neill, 1996). Many also consider political preferences more significant than economic preferences when deciding how much pollution is to be abated. Standard pricing approach The problems of developing methods of valuating the environment have led to an interest in more pragmatic approaches to determine environmental taxes. A recognised alternative is the so-called "standard pricing approach" (Baumol and Oates, 1971). This approach involves an environmental standard that has been defined politically, and subsequently an economic instrument is used to secure its fulfilment in a cost-effective way. Interest in this approach can also be explained by the fact that it was recognised that economic instruments often led to a higher degree of fulfilment of objectives than administrative instruments. This was after extensive regulation in the environmental field in the 1970s and also on the basis of Japanese experience. Environmental taxes were therefore seen not only as a cheaper, but also a better (more effective) way of achieving objectives. Recycling rate of 54% Environmental taxes in effect today in the OECD countries are almost all based on more pragmatic criteria - mostly the need for finding funds to solve an environmental task or the desire to reach a given environmental standard (OECD, 1989; 1991; 1996; 1997). There is only one example of a tax for which it was attempted in advance to value environmental damage: the British landfill tax introduced in 1996 (Riley, 1996). Many of the economic instruments that are known in Danish environmental regulation are determined on the basis of the standard pricing approach - based on the desire to secure a specific politically determined environmental standard. For example, this was for example the starting point in the Dithmer-report (Finansministeriet, 1994). For the waste tax, the desire was to fulfil the objective of a recycling rate of 54 per cent, cf. Chapter 3. 2.2 Methodology considerations in the evaluation of environmental taxes Theory assumptions are restrictive In the evaluation of environmental taxes, it must not be neglected that the predictions of environmental economic theory, that the use of economic instruments will lead to more efficient solutions, rest on relatively strict assumptions that are not likely to be fulfilled in practice. For example it is assumed that all players act in an economically rational way, and that they are fully informed. Furthermore, the environmental economy theory is biased, as it assumes that the only instrument used against pollution is an economic instrument. The theory does not deal with the interplay between economic and other instruments, and neither does it deal with the nature of the sectors in which the economic instruments are used. Also, resource allocation in enterprises is not considered in the theory. Interplay with other instruments These limitations are recognised among environmental economists, and they are not so important in the economic and theoretical world. However, they may have significant importance in evaluating the use of economic instruments in practice: here, economic instruments are often used in an interplay with other instruments, mostly rules and standards. They are also often used in sectors and sub-markets in which competition is not complete, and where players' options are limited by institutionalised standards and routines, as it is the case in the energy sector, in agriculture and in the waste sector. Ex-ante or ex-post Environmental economy generally acts in an ex-ante paradigm, and its theories and methods allow us to analyse expected effects of taxes on pollution all other things being equal, before their coming into effect. If, however, we want to evaluate the actual effect of an environmental tax ex-post, i.e. after its implementation, it is problematic to ignore the interplay with other instruments and the institutional framework. An ex-ante analysis is based on assumptions of rationality and perfect information among the players; by contrast, the purpose of an ex-post analysis of economic instruments is to analyse and reconstruct the perceptions of players in a situation where they have mostly acted with limited capacity to handle the necessary information. In an ex-post analysis, in other words, we move from economy towards sociology. Consequently, an ex-post analysis will take its starting point, not in the relatively strict assumptions and expectations of environmental economic theory, but in knowledge from sociological and political evaluation and implementation literature (Winter, 1994). Evaluation methods Attempts have been made to evaluate the use of taxes within the framework of environmental economy. It has been attempted to model the connection between developments in an environmental tax rate and developments in a pollution parameter (see for example Statistisk Sentralbyro, 1996). The problem of these analyses is, however, that it seems unonvincing to ignore that there are also other instruments used for controlling pollution. For example, Bressers (1988) in his analysis of Dutch wastewater taxes demonstrated a strong correlation between the development in the tax rate and the drop in wastewater quantities, but his analysis did not attempt to identify the role of the approval instrument (i.e. standards and norms) in wastewater emissions of enterprises. A more convincing study of the same taxes was carried out a few years later by Schuurman (1988) who, through interviews with enterprises, attempted to unveil the motivation behind the reduction of emissions, and thus to demonstrate the role of taxes in relation to other instruments. The Schuurman motivational analysis showed that taxes had been the most important factor, but that the interplay was more complex than the Bressers study showed. The question of isolating the effect of economic instruments from the effect of other instruments is discussed in an OECD report (OECD, 1997). The authors of the report state that only in rare cases will it be possible to isolate the effect of economic instruments from the effect of other instruments. As a consequence it is recommended to carry out evaluations analysing the effects of a mix of instruments and comparing these results with results from other "instrument mixes". Institutions are a filter on the tax incentive Environmental taxes are often used in areas and sectors where there are not only other instruments, but also very well-defined routines and standards for the interplay among players. These markets are not free, and transactions between players are linked to well-defined channels. For example, these markets may be dominated by specific players, subsidies distort the market, and well-established rights may be difficult to question. Such institutions may act as a filter on price mechanisms and the use of economic instruments. Therefore, it is not only necessary to control for the interplay with other instruments; it is also necessary to carry out a more detailed analysis of the entire institutional framework in which taxes have been implemented. If an environmental tax is without effect it is not necessarily because it is too low; it may also be due to institutional barriers to players and their ability or willingness to react on incentives from the tax. Target group's perception of alternatives The consequence of this knowledge is that the study must leave the simplified control perspective of the ex-ante analysis and adopt the more complex player perspective of the ex-post analysis. This means that the focus of economic theory on marginal behaviour change as a response to a tax will have to be somewhat extended. It is more necessary to take the starting point in the target group's perceptions with regard to basic objectives and ranges of real possibilities of action. Even if a minor tax increase, in an ideal world, is expected to shift the balance to a situation with less pollution, it may for the target group be more rational to ignore the incentive. There may be several reasons for ignoring a tax. One reason may be that the target group of the tax has an opportunity through established institutional structures to avoid the tax, for example by passing on the cost to others. Another reason may be related to transaction costs, meaning costs of collecting sufficient information and adapting to a new behaviour. If such costs are assessed to be higher than the possible gains of changing behaviour, it may be rational to ignore the tax. A third reason may be related to non-economic rationality, for example people do as "they have always done" and do not consider new alternatives of action because of changed costs. 2.3 Necessary elements of an ex-post evaluation of environmental taxes Described below are the elements that are considered necessary in an ex-post evaluation of economic instruments in environmental policy. 2.3.1 Pre-investigations Design of tax First, it is necessary to understand the reasoning behind the precise design of the economic instrument. How did the architects behind the tax expect it to work, and which assumptions did they have for expected effects of the chosen rate of the tax? What was the precise taxable base, and what exceptions were made? Which images prevailed of the interplay with other instruments? If these questions are not clarified it may be difficult to identify the relevant data to be analysed in order to evaluate the tax. If no study is made of the design of the tax it may lead to wrong assumptions of expected effects. Some taxes make use of complicated refunding mechanisms, other taxes are expected to have an effect only by way of price signals. Basic misunderstandings of causal relationships among decision-makers, or politically-based decisions, may lead to errors in the design of a tax, and this will have implications for the fulfilment of objectives. Context of regulation Furthermore, as already mentioned, it is important to understand the context of regulation of the tax. What are the characteristics of the sector or the market where the tax is to be implemented? Which other regulations are in place, and how can the interplay between these and the tax be interpreted? This may often lead to a more in-depth analysis of the institutionalisation of a given regulation over time. However, it will also be necessary to make a concrete evaluation of implemented legal, normative, economic and informative instruments and of how they relate to the intentions of a tax. Are they directed towards the same phenomena or are they complementary? The purpose of this evaluation is not only to study whether we have "excess control", i.e. whether several instruments are implemented with the same purpose, but also to decide precisely how the instruments relate to each other. Which emissions or inputs are expected to be regulated through administrative guidelines, and which through economic measures? If it is possible to identify clear distinctions analytically, this may be very valuable to a subsequent study of the effects of various instruments. 2.3.2 The dependent variable Environmental data Next step consists of identifying the dependent variable, i.e. the environmental parameter the tax is levied on. The identification of the relevant parameter is closely related to the study of the design of the tax. Normally, it will not be sufficient to look at a variable of environmental quality, whereas a concrete emission variable will often match a tax better, though much depends on the precise design of the tax. Availability of data on developments in emissions in the time period in question will have to be evaluated. If no data are available matching the taxable items, a proxy, i.e. a substitution will have to be identified. For example, if it is not possible to obtain data on emissions from enterprises, and if data on their consumption are available, a conversion factor will have to be defined. For evaluation of concrete environmental data, it will be necessary to relate such data to a baseline, which can be defined as expected developments without regulation. Often, such a baseline will be identifiable on the basis of an economic development index. In order to analyse the dependent variable it is of advantage to disentangle it, allowing a specification of relevant sub-parameters and subgroups of polluters. Such disentangling, however, may often cause difficulties if original data are not available, and it will often be impossible to make a disentangling if the study relies on statistical publications only. Instead, it may be possible to move forward on a trial basis by using various combinable information in order to elucidate the development in the dependent variable. 2.3.3 Motivational analysis Interviews It is not possible to draw any conclusions on the analysed tax based on developments in the dependent variable alone. Also, the effect of the economic instrument in relation to other instruments and institutions identified above must be evaluated. The problem here is to decide with certainty which of many instruments in place will influence the options of the players in relation to the regulated environmental parameter. In contrast to the economic approach which assumes players to be rational and analyse their actions only on this basis, the sociological approach analyses the actions of players through interviews or questionnaires which shows how players have perceived their possibilities of action and response. Players' actual options are often somewhat more complex than expected, but through such a "backward mapping" of the motivations of players for making their choices concerning the environmental parameter(s) in question, it is possible to identify and compare the importance of various instruments and institutions. Often, this may be possible by asking players to identify instruments or considerations which were most important for specific actions. Only in rare cases will this lead to an unambiguous identification of one decisive instrument, but it will give a fair understanding of the complexity of instruments and their effectiveness. Interviews will also often indicate intervening variables such as development of new technology or shifts in market demands that may have influenced developments in the environmental parameter. Economic calculations A motivational analysis must be supplemented by a more economically-based, player-level analysis of marginal costs of pollution reduction in relation to marginal tax rate. An economic analysis will show what is "worthwhile" for the various players and thus explain their actions. However, it will often be difficult to obtain sufficient data for evaluating the economic consequences of various options for various players. If the player is an enterprise, economic consequences will often vary depending on turnover, emissions, production equipment, historic rights etc. Not always do enterprises want to give away such internal information, and attempts to acquire access to such information will often reveal that in their daily operation enterprises work with quite rough calculations of costs and profits of behaviour-change. To calculate marginal pollution abatement costs for a specific enterprise is often a very complicated task, and it is rarely done in connection with the evaluation of economic instruments. Often one will have to be content with average estimates which deviate quite significantly from the situation of individual enterprises. It will, however, be possible to carry out more macro-economic calculations on the basis of statistical data. Such calculations will show economic gains of using economic instruments compared to a baseline with traditional command-and-control, insofar as it is possible to identify comparable units in the analysis, such as regions or municipalities with different systems of regulation. 2.3.4 Qualitative analysis incorporating quantitative data Combination of qualitative and quantitative data Conclusions will basically be based on a qualitative analysis even if this is supported by quantitative data. It should be noted that the analysis is qualitative, because it has to be based on reasonings and interpretations relating the results of the motivational analysis of the different instruments and the institutional framework in which the economic instrument is implemented. The present evaluation of the waste tax is structured according to these points. Chapter 3 describes the design of the waste tax and its place in overall waste regulation. In Chapter 4 the dependent variable - waste amounts - and the development in the different waste fractions are analysed. Chapter 5 presents the motivational analysis of enterprises and Chapter 6 an analysis of local waste administrations. More detail is given in Chapter 7 on waste collection fees in municipal collection schemes and their impact on the development in waste amounts. In Chapter 8 data are presented on waste taxes, waste charges and waste amounts in a number of other EU Member States. Chapter 9 gives conclusions of the analysis, and recommendations are given concerning the waste tax. This approach has been developed and applied to a comparative analysis of the use of wastewater taxes in the regulation of industry emissions (Andersen, 1994). The advantage of the comparative approach is that it is possible to compare different systems of regulation. In this evaluation, such comparisons are not made, but as mentioned a brief reference is given to the development in waste amounts in some of our neighbouring countries.
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