October is nearly here, but we just had the driest September for Sydney on record!
And this is on back of a very dry August. It has basically not rained at all for a while!

This has meant that the volume of water stored in Sydney’s main drinking water supply source – Warragamba Dam, has been falling rapidly over the last couple of months. The Dam is currently some 88.5 % full, which is still good, but this percentage is dropping rapidly, at some 0.5% per week. If dry conditions continue, we are going to see the percentages dropping to 70% and 60%, and that’s when the Sydney desalination plant starts to kick in. Current operating rules for the plant stipulate that it will start operating when the level of the water stored in the dam falls below 60% and continue until the level climbs back over 70% again. These numbers used to be 70% and 80% respectively, but were changed recently with the 2017 Metropolitan Water Plan. A good change!

On the other hand, the same 2017 Metropolitan Water Plan puts in place new rules for environmental flow releases downstream from the Warragamba dam into the Hawkesbury river. While having more environmental flows is clearly beneficial and will provide significant improvement of river health, the full cost of providing those flows seem not to have been considered in the plan. In particular, there are ‘shadow’ costs of environmental flows in terms of speeding up the lowering of the water volume in the dam, and thereby speeding up the breaching of the threshold that will trigger the operation of the desalination plant. Now, the cost of the water supplied from the desalination plant is substantially (2-3 times) higher than the cost of supplying water from the dam. So, the sooner the desal is activated, and the longer it operates over a given time horizon, the higher the costs to municipal water users. Environmental flow releases contribute to these higher costs. Some simulations that we ran show that the extra costs from activating the desalination plant and having it operate for longer as a result of environmental flow releases are quite high.

In addition, we ran some optimization scenarios, where we used dynamic optimization methods that allow us to account for the ‘shadow’ costs of environmental flows, and to determine economically optimal quantity of environmental flows. The results show that combined net benefits of environmental flows and net benefits to municipal water users are significantly higher (about $15.3 million higher on average per annum) under optimized environmental flows that take into account the shadow cost, compared to the current environmental flow rules.

Environmental flows sent downstream from the dam are good. However, some of the costs at which they come are ‘hidden’, or not immediately apparent. These costs ought to be considered if benefits to whole society are to be maximized!

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I have been quiet over the last couple of winter months (Australian winter) on this blog. I have been traveling a bit, but have also been thinking and working on how to properly account for natural capital at a level of dis-aggregated production activities. Farming is a good example: the local farm level, or even field level, is where management of natural capital stock matters the most. Yet, there is currently no mechanism for accounting for natural capital at a farm level. There have been significant improvements in accounting for natural capital at the level of national economies through the implementation of the System of Environmental Economic Accounting. The Australian Bureau of Statistics has been one of the early adopters. While these efforts are to be praised, the level of aggregation at which they operate does not reflect the spatial scale at which humans make decisions about the management of natural capital. Like in farming.

For this reason devising ways of accounting for natural capital on farms has been of great interest. I spoke about our work (joint work with Samad Azad) in this area to several fora over the last few months: the OECD network on Agricultural TFP and the Environment, and seminars at the Australian Studies Centre at Universidad ORT Uruguay, Facultad de Agronomia Universidad de Buenos Aires, and the Institute of Environment, Energy and Sustainability at the Chinese University of Hong Kong.

A key point from our work is that evaluation of what is happening with natural capital on farms can be based on the observed changes in the contribution that natural capital is making to agricultural productive activity. The idea is to track the productivity of a farm over time and account for all inputs and other contributing factors that determine that productivity. After all factors are controlled for, the remaining variability of productivity over time can be related to the variability of natural capital. In this way, we can characterise the dynamics of natural capital on farms over time. Obviously, there are many complicating factors (like technology, adequate time frames, and the types of natural capital and their measurement), which we are considering in detail in the research. This is explained in the research outputs that are to follow. For the time being, we have just been excited to present the preliminary empirical findings from our work, which showcase the developed metric for soil natural capital at a field level that has been tested using actual field level data from commercial farms. The results show a variation in the dynamics of soil natural capital between fields and farms over several periods of time: while we find improved soil natural capital dynamics on some fields and farms, we find degradation in others, and not much change in the rest. These are some very promising results that give us confidence in the adequacy of the modelling approach that we are using.

Accounting for natural capital in agriculture is also a topic of one of the chapters (Ch. 7 by Carl Obst and Mark Eigenraam) in a book recently published by Edward Elgar that I co-edited. This book project was galvanised by the workshop on Environmentally Adjusted Productivity and Efficiency Measurement at the University of Sydney last year.

So, overall pretty busy couple of months. The winter is nearly over (complaining about Sydney winter, listen to me!), and the semester is in full swing. Hopefully, there will be more blog posts in the weeks and months to come!

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As all news outlets reported widely over the last few days, the US president Donald Trump has signed an executive order suspending US participation in the Paris Agreement on Climate Change negotiated in late 2015. This comes as a no surprise. It was very clear, even prior to the US elections in November 2016 that if Trump were elected, pulling out of the Paris Agreement would be one of the things he would do that are bad for the environment.

The question remains how bad this move really is? US is the second largest GHG emitter in the world, so at face value, it pulling out of the global effort to curb GHGs seems pretty serious. However, much of the US programs for reduction of GHG emissions are not federally sponsored, but are rather run by individual or groups of states, and by some of the major cities. So, despite Trump pulling out of Paris Agreement, significant reduction of emissions, at least in some parts of the US is going to continue.

Anyway, the Paris Agreement was never about binding emission reduction targets, but about general commitment to move away from fossil fuels, and to embark on a journey towards alternative, much less emissions intensive sources of energy. The US pullout from the Paris Agreement is just a hiccup, which will only marginally slow down the process of ‘de-carbonisation’ of economies that has already started and is inevitably going to continue, and in the US too.

This pullout from the Paris Agreement is mostly bad for the US itself. The US was strongest when it was successful in conquering the hearts and minds of people worldwide, by championing good causes. Pulling out of the Paris Agreement doesn’t win the US any friends. It further speaks to the emerging thesis that the US has lost the capacity for global leadership, and that it is almost handing it out to China. And China has gladly accepted to be seen as a good citizen on climate, which does win them some hearts and minds.

So, the deal-man Trump has stricken a really bad, but not such a big deal!

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Natural gas and its taxation seems to remain under the spotlight of the media over recent months. Following last month’s post on this blog about the proposal to share part of the tax revenue from CGS with landowners, I continued to be intrigued with the news on couple of reports on the operation of the Petroleum Resource Rent Tax (PRRT). This is the taxation mechanism for offshore petroleum resources administered directly by the federal government (note that taxation of the mineral resources on shore, including petroleum resources, such as CSG are under state government jurisdiction).

First came the news about the report commissioned by the McKell Institute, which found that the PRRT is not adequate and recommended that it should be replaced by a royalty. I was surprised to read this, given that one of the report’s authors is an academic economist. Resource economists have typically held a favorable view of the resource rent taxes (RRT) as they directly target the resource rent, whereas royalties are a much more blunt taxation instrument with many potential distortionary effects. In a published article by Ross Garnaut, an expert on mineral taxation, mixed taxation instruments are suggested, with all of the suggested mixes including the RRT, and none including royalties.

Just over the recent days came the news about another review of the PRRT, this time by a former treasury economist. The views on the report in the media were varied, depending on the outlet. This report also identified serious issues with the PRRT, but did not recommend scrapping it as a key taxation instrument for offshore petroleum resource.

In my own view, the problem is not with the PRRT in principle, but with the various deductions, offsets, and write-offs that are allowed under the current tax accounting practices in Australia. This is evidenced with the recent court case involving Chevron, the largest natural gas miner in Australia. Like the other multinationals (including Apple, Google, etc.) the big energy companies are doing everything they are allowed to do under the current accounting practices to minimize any taxes, including taxes designed to recover the natural resource rent on behalf of its rightful owner: the public. The PRRT offers more opportunities for tax avoidance accounting than do the royalties, but that doesn’t make it an inferior tax instrument. It just means that accounting practices should be tightened up and the various allowances be scaled back. So, if society is willing to fix the tax accounting standards and practices, we would be better off with the PRRT then with the royalty.

Putting the debate about the tax instrument aside, the fact remains that Australian public is not recovering its natural resource rent from the minerals that are extracted on and off its shores. So, something has to change. The change needed is more complex than simply switching from one tax instrument to another. We need a fundamental change of the tax laws and the associated accounting practices. If we get it right, we should still be using the tax instruments that are known to be more efficient.

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Dependent on a perspective, Coal-Seam Gas (CSG) can be seen as a source of plentiful and cleaner energy. Its development promises economic growth in regional areas, revenues for governments, and improved energy security. However, it can have potentially devastating impact on agriculture and on the surrounding environment. In Australia, these concerns have led to fervent opposition to CSG development by landowners and environmentalists alike. As a result, the exploitation of CSG has significantly slowed down in recent years.

In the wake of the perceived energy crisis related to natural gas shortages for the domestic market, unlocking the CSG potential seems like a good idea. Consequently there have been calls for finding modalities that will up-ease landowners’ opposition to CSG. Specifically, and championed by the Deputy Prime Minister Barnaby Joyce, there is a proposal to follow the South Australian example and to share some of the revenue collected from CSG royalties with landowners.

On the face of it, this proposal makes sense. One of the key reasons for landowners’ opposition to CSG is that under Australian sub-surface (mineral) property rights laws, the host landowners are not entitled to any portion of the natural resource rent from sub-surface resources. As the royalty on minerals, including on CSG, payable to the state is one form (and not the best at that, either) to capture the natural resource rent, the recently floated proposal effectively suggests that some of that resource rent should go to the landowners, who are in turn expected to become more welcoming to CSG development on or around their land.

However, that proposal only looks at the surface, and offers a relatively simplistic approach to the problem. In particular, there are at least three considerations of critical importance that are absent from the proposal.

Firstly, under the existing laws the natural resource rent from all sub-surface and mineral assets should be entirely captured by the public as their rightful owner. However in practice, a large proportion of the recourse rent is captured by the companies who exploit the resource. This is due to the imperfections of the resource taxation system, and the resistance to changing it. In light of this, the current proposal suggests that the public should give up a further percentage of the resource rent in order to up-ease landowners, whereas those who exploit the resource are left with whatever proportion of the rent they can get away with under the current natural resource taxation regime. That does not seem right, and does not seem fair.

Secondly, the problem of CSG is not solely about the natural resource rent from CSG. It is also about the natural resource rent from the land (land rent) on which CSG is developed. As a result of CSG development, there are serious threats that land rent appropriable by landowners might significantly diminish over the long term. However, the extent of land rent reduction, its timing, and indeed its very occurrence, is highly uncertain. So, we can only talk about the expected reduction in land rent attributable to CSG. Consequently, the portion of the royalty from CSG to be shared with landowners should be over and above this expected reduction in land rent. Given that the reduction of the land rent is highly uncertain, finding out what proportion of the royalty should be offered to landowners in order to gain their acceptance of CSG development, is difficult, if not impossible task.

Thirdly, recent findings suggest that landowners are likely to value the reduction in land rent attributable to CSG more than the share of CSG rent they might receive, even if the two come in the same amount. This is not surprising in light of the notion of ‘loss aversion’, which is a well-known psychological and economic phenomenon that explains why people are much more devastated by, for example, a $1000 loss on the share market than they are satisfied with a $1000 gain. It suggests that even if landowners are offered a share of the rent from CSG, they are not likely to take it and stop opposing its development, because they value the potential loss of land rent more than the gain from the shared royalty.

While current proposal to open up CSG development by offering landowners a share of the royalty makes some sense at a first glance, it only really scratches the surface. There are several, not as obvious, but nevertheless critically important aspects of the social conundrum that is the CSG that have to be considered in any policy solution.

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The debate on the obesity epidemic and its relationship to the food choices made by consumers has been high on the public agenda over recent weeks.

Much of the problem (but not all of it!) can be attributed to food choices that we make. This include choices about types of food we buy, quantities that we buy and consume, the health attributes of food (e.g. sugar, fat, salt content), and where we purchase food .

It seems that the problem lies in a ‘market failure’ in the food supply chain where prices of food do not reflect the possible private and public health costs associated with certain food choices. Some people might be making food choices that are largely driven by disposable income considerations and the prices of those foods, ignoring the possible long-term negative health consequences of those choices. Those particular food choices maybe harming the health of those who choose them, but the food prices do not reflect that harm. This is the basis of the argument for imposing a tax on potentially unhealthy food attributes such as sugars, fats and salts.

Of course, there are many counterarguments to unhealthy food taxation (even though they do not seem very convincing when they come from the Head of the Australian Beverage Council!). At any rate, the focus of this post is not on the ways society could address this market failure problem, but rather on the implications for agriculture and environment.

Agriculture is at the source of the food supply chain, and it carries a lot of responsibility for the types and healthiness of the food that is being offered to consumers. Given that foods with high sugar contents have been pointed out as some of the key culprits for the obesity epidemic it is perhaps interesting to look at the sugar crops agricultural sector. It is one of the agricultural sectors most subject to protectionism throughout the world. This is true in the US, the EU and in Australia. It is also one of the agricultural sectors with the highest environmental footprint, which has been especially significant in Australia, given the effects from sugar cane farming on the Great Barrier Reef.

So, one may imagine that dropping the protectionist policies would result in producing a bit less of the sugar crops, which would be a good thing for the health of the population, and for the environment. It will raise the price of sugar, which should discourage manufacturing of high sugar content foods and drinks, as well as their consumption.

But beyond the sugar crops sector, the long-term implications of the obesity debate for agriculture are that we will need to come up with ways of producing less crops that are high in sugar and starch content, and switch to crops with greater protein, and minerals and vitamin contents. Currently the key crops being grown globally are all sugary and starchy in nature: take rice, wheat, and corn as examples (and combine them with sugar cane and sugar beet to get the top five crops globally by tonnage harvested!). Perhaps it is no wonder that we are having the obesity epidemic given that our agriculture is so much biased towards growing crops that are high in sugar and starch content! In addition, the environmental effects associated with some of these crops are very significant.

In summary, something will have to be done about the obesity epidemic. It will more then likely involve implementing policies that will address the ‘market failure’ in the food supply chain, so that the prices that we pay for food better reflect the healthy or unhealthy attributes of that food. This will likely put in train significant changes to the global agricultural industry, steering it away from starchy and sugary crops, which have been its mainstay for too long. It will be a good outcome for human and environmental health!

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As the year is drawing to a close, I reflect on one of the final political frictions of the year in Canberra, which was across the headlines in early December. It started by the environment minister announcing a review within his Department to do with possible alternatives for Australia to meet its GHG emission commitments. A possibility of proposing an emissions trading scheme (of sorts) for the electricity sector was flagged.

This created massive disdain within Government’s own ranks leading the prime minister to publicly reject any notion of ‘carbon pricing’ or a ‘carbon tax’.

It is just another reminder of how politically dangerous these words have become in Australia, making it practically impossible to use two of the most valuable economic instruments of environmental policy. It is like shooting oneself in a foot! We know that those policy instruments work, but we can’t use them because we made them a political anathema!

In the meantime, Australian GHG emissions kept increasing. A final letdown in a year to forget for the Government on all fronts, and certainty on environmental front!

And, yes: Happy New Year! Hopefully a better one!

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