Selling Environmental Services to help Finance Reforestation

Stefano Pagiola
Environment Department World Bank

Symposium on Financing Reforestation in Latin America Panama, November 21, 2003

Why reforest?
On-site benefits Off-site benefits Watershed protection Biodiversity conservation Carbon sequestration
Often insufficient High initial cost Long wait for returns

Benefits to others, not to forest managers

Stefano Pagiola, World Bank, 2003

Payment for Environmental Services (PES)

PES develops mechanisms to capture environmental externalities and bring them into the marketplace Basic principles:
Beneficiaries of environmental services pay for their provision Providers of environmental services get paid to provide them

Stefano Pagiola, World Bank, 2003

The logic of payments for environmental services

Continued use for pasture Reforestation with payment for service Payment
Benefits to land users

Costs to downstream populations

Stefano Pagiola, World Bank, 2003

Payments for environmental services: World Bank support

Projects under implementation:
Costa Rica: Ecomarkets Project ($33 million WB + $8 million GEF) Colombia/Costa Rica/Nicaragua: Regional Silvopastoral Management Project ($4.5 million GEF) Guatemala: Western Altiplano Natural Resources Management Project (US$32 million, incl. US$2 million pilot PES component)

Projects under preparation:

Mexico: Technical support to national PES program Venezuela: Canaima National Park Project South Africa: Cape Action Plan for the Environment (CAPE) Dominican Republic, Ecuador, El Salvador: Pilot PES projects

Developing carbon markets:

Prototype Carbon Fund (PCF) BioCarbon Fund (BioCF)

Research: Case studies, hydrological aspects, valuation methods Capacity building: Courses in Ecuador, Venezuela, Panama, Per, Mexico, South Africa, Senegal
Stefano Pagiola, World Bank, 2003

Developing payments for environmental services

1. Understanding the science
Hydrological effects Reforestation Carbon sequestration Biodiversity conservation

and the economics

Water services CERs Ecosystem services Welfare of water users Carbon buyers Welfare of beneficiaries

Payment 2. Capturing benefits 3. Paying service providers

Stefano Pagiola, World Bank, 2003

Identifying environmental services

Demand: What specific services? Who benefits from these services? How much benefit do they receive? Supply: How are these services generated? How much more or less of these services would we receive if land use changed? Who generates these services?
Stefano Pagiola, World Bank, 2003

Water services
Supply of services:
Upstream land uses affect the quantity, quality, and timing of water flows Demand for services: Possible downstream beneficiaries: Domestic water use Irrigated agriculture HEP Fisheries Recreation Downstream ecosystems
Stefano Pagiola, World Bank, 2003

Water services: key characteristic

Water flows downhill

Stefano Pagiola, World Bank, 2003

Water services vary substantially Ro Ocoa Ro Nizao

Substantial potential payments

98MW 52MW
Minimal potential payments

San Jos de Ocoa

64MW Irrigation

Hydropower Production Potable water

6 m3/sec

Dominican Republic

Caribbean
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Forest-hydrological links: Myths and reality

Myth: Reality: Myth: Reality: Myth: Reality: Myth: Reality: Myth: Reality: Myth: Reality: Forests increase precipitation Minor effect, except at continental scale Forests slow runoff True Forests increase total annual water flow Because of increased evapotranspiration, forests usually reduce total annual water flow. Exception: Cloud forests Forests increase water flow in the dry season Unclear Forests reduce flooding True at small scales, not at large scales Forests reduce erosion Depends on use that is made of deforested areas
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Identifying water service beneficiaries Example: Municipal water supply

What do they need?
Minimum quantity Depends on size of the population Needs will increase over time if the population is growing Constant flow year-round Minimum quality

What alternatives do they have?

Reducing consumption Increasing the efficiency of distribution Obtaining water from other sources Treating water to improve its quality

How could part of this value be captured?

Water tariff rates
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Costa Rica: Payments by water users

Firm Energa Global Watershed Ro Volcn Ro San Fernando Platanar SA CNFL Ro Platanar Ro Aranjuez Ro Balsa Lago Cote La Manguera SA La Esperanza 3,870
Watershed size (ha) Contract area (ha) Payment ($/ha/year)

3,466 2,404 3,129 9,515 18,926 1,259

2,493 1,818 1,800 5,000 6,000 900 3,000 1,000

10 10 10/30 42 42 42 10 10

Florida Ice & Farm Ro Segundo

Source: S. Pagiola, 2002. Paying for Water Services in Central America: Learning from Costa Rica. In S.Pagiola, J. Bishop, and N. Landell-Mills, eds, Selling Forest Environmental Services. London: Earthscan. Stefano Pagiola, World Bank, 2003 13

Costa Rica: Payments to participants

Amount Contract Reforestation Forest conservation ($/ha) 538 210 Distribution of payments (year) 1 50% 20% 2 20% 20% 3 15% 20% 4 10% 20% 5 5% 20%

200,000ha contracted, more than 800,000ha pending 83% of contracts for forest conservation Only 7% of contracts for reforestation
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Carbon sequestration services

CO2 CO2 CO2 Supply of services: Forests fix carbon, helping reduce the greenhouse effect Demand for services: CO2 CO2 Global community Kyoto Protocol/CDM National laws Individual (retail) demand
Stefano Pagiola, World Bank, 2003

CO2

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Demand for carbon sequestration services

Kyoto Protocol
Only reforestation and afforestation in areas deforested by 1990 are eligible Limited quantities Not yet ratified Many implementation problems
Incrementality Permanence Avoiding spillage

Retail demand
Many eligible activities Limited demand Example: Scolel T (Mxico)
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Carbon prices: Not as high as hoped

30 25

US$/tCO2

20 15 10 5 0
UK auction UK market Denmark Retail: early vintages JI to 2012

Prices at or above $5/t have delivery guarantees

CDM to 2012

Annex II other

Source: World Bank Carbon Finance

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Carbon Finance at the World Bank

PCF as the flagship: US$180 million Netherlands - Clean Development Facility
US$140 million in 2002-2005

Community Development Carbon Fund (CDCF)

Launched WSSD, implemented from June 2003 US$40-50 million

BioCarbon Fund
Just approved - US$30-40 million

World Bank Carbon-Neutral Policy

Initiated March 2003

Other initiatives being negotiated

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The BioCarbon Fund

Extending carbon financing to agriculture and forestry Applying the PCF learning by doing principle to generating emissions reductions from land use and forestry activities Two windows:
A: Kyoto-eligible projects under Art. 6 (JI) and Art. 12 (CDM) B: Explore potential for wider range of sink activities (not currently eligible under Kyoto)

Public and private sector participants US$30-40 million

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Biodiversity conservation services

What are biodiversity conservation services? Who are the beneficiaries? Who will buy them?

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How does one buy biodiversity?

Cannot ask land users to sell biodiversity Can pay for more biodiversity-friendly land uses But not all land uses equally biodiversity-friendly Create index of biodiversity benefits by land use

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Regional Silvopastoral Project: Biodiversity index

Land use Crops (annual, grains, and tubers) Perennial crops (plantain, unshaded coffee) Natural pasture Improved pasture Fruit crops Shaded coffee Fodder bank Commercial tree plantation Bamboo (guadua) Riparian forest Secondary forest (>10m2) Primary forest Points per hectare 0.0 0.2 0.0 without trees, 0.3 with trees 0.0 without trees, 0.3 <30 trees, 0.6 >30 trees 0.3 monocrop, 0.4 diverse 0.6 0.4 monocrop, 0.6 diverse 0.4 0.5 0.8 0.9 1.0

+0.1 for multiple species (>5); +0.1 for multiple shade species; +0.1 for multi strata; +0.1 for connectivity; +0.2 with understory; +0.3 with species enrichment; +0.1 if riparian; +0.1 with species enrichment
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Profitability of silvopastoral practices

1,250 1,000 750 500 250 0 -250 -500 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 Year Current practices Silvopastoral practices

Note: 20ha farm in Nicaragua

Returns to silvopastoral practices NPV (50 yrs, 10%) IRR US$439 11.8%
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Impact of PES on profitability of silvopastoral practices

1,250 1,000 750 500 250 0 -250 -500 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 Year Current practices Silvopastoral practices Silvopastoral practices with PES

Note: 20ha farm in Nicaragua

Returns to silvopastoral practices NPV (50 yrs, 10%) IRR

Without PES US$439 11.8%

With PES US$1,301 17.6%

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From theory to practice: Main steps

Getting the science right Getting the institutions right

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Generating financing
Who benefits from environmental services? How much do they benefit? How can part of these benefits be captured to help finance conservation? How should funds be managed?

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Generating financing
Easiest when beneficiaries Are easy to identify Are already organized
Easier to negotiate agreements Already have payment mechanisms

Are few Receive well-defined benefits

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Generating financing
Water services Quantifying linkages the main stumbling block Likely to be feast or famine Carbon sequestration Well-defined market (assuming Kyoto ratified) The devil is in the details Biodiversity conservation Who are the beneficiaries? Hard to capture benefits Existing mechanisms not suited for long-term payments
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Initial lessons
Not a universal solution One size does not fit all Identify the services being provided clearly Understand and document the links between forests and services Begin from the demand side, not the supply side Monitor effectiveness Design flexible mechanisms Mix and match with other mechanisms Ensure the poor can participate
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Conclusions
Developing new financing mechanisms is a promising approach, but not universally applicable Going from theory to practice is challenging; the World Bank is working to help its clients learn how to do so

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