OECD Conference 2-3 December 2004
Economic Aspects of
Environmental Compliance Assurance
Incentive Framework for Firms
to Comply with Regulations
Presentation by Dirk Hazell, BIAC Environment Committee;
Chief Executive, Environmental Services Association.
A context:- The smart Hierarchy of public policy tools
1 Voluntary initiatives should be preferred, since these often provide the most flexible and, ultimately,
overall most cost-effective way to achieve a desired result.
2 Negotiated agreements can provide high operational flexibility if focused on what is required rather than
on how it is to be achieved.
3 Economic instruments can provide incentives but must be carefully designed to avoid unintended,
unwanted consequences-such as the creation of perverse subsidies.
4 Command-and-control regulations are needed to outlaw unsafe and unacceptable behavior and to
provide the framework within which innovation can flourish. Alone, however, they cannot deliver
continuous improvements, since the most effective solutions cannot be predicted or prescribed in
advance.
Source Holliday and Pepper (2001) Sustainability through the Market: seven keys to success
Comment: Weighting of 1-3 increasingly important compared to 4. Move
to more numerate (on-line) regulation focussed more on monitoring
compliance systems than site inspection.
Illustration of Voluntary initiative/Negotiated agreements
Under threat of regulation from the European Commission,
EU paper industry made voluntary commitment to increase
paper recycling to 56% by 2005.
In the UK the Government and newspaper publishers agreed
a voluntary target to increase recycled content of
newspapers to 70% by 2006 (current figure is 65%) and some
mills already utilise 100% recycled content.
Negotiation of voluntary targets in UK appears to have
secured commitment of all participants to targets agreed to
be economically, environmentally and physically possible.
Optimal mix of policy instruments should be determined by:Environmental effectiveness
Economic efficiency
Flexibility of response
Administrative feasibility
Fiscal neutrality
Equity and level playing field
Transparency of compliance
Acceptability
Simplicity and complementarity
Shift from goods to bads
Confidence in regulatory environment
Gradual introduction and progressive implementation
Sources: de Andraca and McCready 1994, Schmidheiny 1992 as reproduced in
Walking the Talk: the Business Case for sustainable development
Economic Perspective: “business” does not compare compliance and
non-compliance costs and choose least costly alternative.
Responsible regulated business
plans on basis of compliance with law.
However, key issues for business include:
Minimising compliance costs (e.g. using own management systems
for environmental protection); &
achieving required environmental outcomes without reducing rate of
return on capital of company or across economy: implies risk based
and outcome focussed environmental parameters, and smart
regulation working with grain of market (e.g. cap and trade).
Again, Responsible regulated business plans on basis of compliance with
law. This means formula in the briefing paper x = pF
Where
x is cost of non-compliance
p is probability of detection and
F is severity of (non-)financial sanction
is most relevant to criminals.
Within the UK, ESA strongly supports use of market oriented instruments
(and less strongly supports fiscal instruments) to achieve environment
outcomes for legitimate business but
ESA has also been the strongest advocate for the environmental regulator
having resources to increase p for criminals.
No suggestion that SMEs inherently more dishonest: often
powerful local community pressures on conduct.
But authorities have duty to inform SMEs of non-obvious
legal duties and keep as simple as possible: 75% of UK’s
business (i.e. most SMEs) do not know their legal duties as
producers of waste.
When EU/UK waste laws being tightened, imperative to
educate SMEs if criminals are not to supplant legitimate
regulated waste management industry.
Market increasingly more apt than command and control
Potentially easier and more environmentally effective for
regulator to concentrate on monitoring outputs than detail of
process.
Data requirements internalised: decisions made on existing
management data.
Flexibility for companies on how to comply – market cost of
abatement/innovation against price of permit.
In Colorado existing homeowners get permits to burn wood based
on historic use.
People wanting new wood stoves must retire two existing permits.
A trading system modelled progressively to design out wood
burning.
UK recovers 50% packaging, Germany recovers 80%
packaging.
Germany’s Scheme costs 25 times as much as UK’s. Which is
better?
Market itself
standards:
can
be
driver
for
better
environmental
insurance costs, adjusted for inflation, of extreme weather
events 1000% higher in the 1990s than in the 1950s,
averaging US $40 billion each year in 1990s.
Although obvious problem with timescales: e.g. need to
spend money to mitigate global warming now to prevent
phenomena such as flooding of World’s major conurbations
in late 21st Century.
Another reason why the market is increasingly important:
character of environmental regulation will be fundamentally
changed by EU/OECD work on topics like life cycle analysis,
resource efficiency and…producer responsibility.
Producer responsibility illustrates new purpose of environmental
regulation in developed world: less regulation of industrial
process, more focus on overall impact including use and post use
phases. By compelling producers to design in environmental
sustainability, “irresponsible” producers do not get free ride: EU’s
WEEE model requires producers to pay for recovery of their own
products. Producer responsibility transfers environmental costs to
consumers and can also reduce authorities’ costs.
Biffa, the largest UK
owned waste
management
company, estimates
that environmentally
neutral end of life
strategy for ‘fridges
would cost an extra
8% on the retail price,
2.5% for brown goods
(televisions), 4% for
tyres, 0.5% for cars,
and 15% for glass
containers but for
fluorescent lights, an
extra 44%: equivalent
to factory gate price.
Community Pressure/CSR/Reputation/social norms
Often this is the key driver: can be more important than level
of monetary fines.
Perhaps the single most salient characteristic of the
Johannesburg World summit was the promotion of and open
commitment to CSR agenda-with a strong environmental
component-by global business leaders: particularly the
leadership of the two largest groups-Suez and Severn Trentin ESA’s membership. There was a strong emphasis on
practical outcomes and the role of formal regulation was
relatively limited.
CSR can determine reputation and a company’s “licence to operate”
among investment/local communities, politicians and media.
e.g. Thames Water on pollution: “Every single incident is one that we
regret…the fine itself is a huge issue, but then there is the reputational
damage and the matter of pride: every time an incident happens…the
organisation hurts. None of us want to cause damage…the type of
people that are attracted to our business are predominantly people
who are environmentally aware…When we try to buy companies in the
US, our pollution record and our prosecution record is actively used
against us…all in all, these combined issues have a huge impact.
There is absolutely no benefit to us in continuing these activities, and
we want to prevent them.”
John Sexton, Managing Director Thames Water
Similarly SITA’s reports to Suez Environment consider only
three aspects of SITA’s activity:
financial performance
health and safety
environmental compliance.
Environment compliance is therefore a key determinant of
performance considered at the international group level.
Companies’ environmental performance increasingly matters to
the investment community:
Business in the Environment asked financial services analysts in
London to rate importance of a company’s environment and
social/community record. Increase in analysts rating environment
as “fairly or very important” was 20% in 1994 and 33% in 2001.
176 companies participate in BiE Index of Corporate Environmental
Engagement, including 74 FTSE 100 companies. Environment
scores of participants are rising and are particularly high for
utilities.
Larger businesses typically companies listed on stock exchanges
so accountable to non-environmental regulators and owners.
CSR/Environmental performance increasingly seen as area
for competition for employees.
NB in global markets level playing field not confined to one
Country: ESA’s manifesto for European Parliament Elections
in 2004 recommended:support for new EU Member States (where progress to
compliance with EU environmental law costs about 3% GDP);
and
Enhanced power for European Environment Agency to audit
EU Member States’ compliance with EU environmental law.