Pacific Institute Insights

Moving from Theory to Practice: A Synthesis of Lessons about Incentive-Based Instruments for Freshwater Management

by Heather Cooley, Michael Cohen, and Matthew Heberger

February 8, 2016

There has been growing interest in applying incentive-based instruments, such as pollution charges and tradeable permits, to address the twin challenges of accessing enough freshwater to meet our needs while also preserving the well-being of freshwater ecosystems. These instruments use direct or indirect financial incentives as motivation to reallocate water or to reduce the health and environmental risks posed by an activity. But what do we know about how they have actually performed?

New York City provides an excellent illustration of the potential for incentive-based instruments. To meet new federal drinking water requirements in the late 1990s, the city was faced with the prospect of building a $4–$6 billion filtration plant and spending an additional $250 million annually to operate it. Instead, city officials paid farmers and landowners in the upstream rural Catskill watershed to better manage the land, at a fraction of the cost of the new filtration plant. The outcome was a win-win, improving downstream water quality for people and ecosystems and boosting the rural economy.

But this is just one example. To move beyond theory and better understand how these instruments perform in practice, The Rockefeller Foundation partnered with the Foundation Center and Pacific Institute on a synthesis review of existing, largely practice-based, knowledge about incentive-based instruments. For the review, The Rockefeller Foundation developed the project scope and provided financial support, the Foundation Center and its IssueLab service were involved in project and technology development, and the Pacific Institute wrote the report.

The resulting report reviews water trading, water quality trading, and payment for ecosystem services but notes that these are but three of a much broader suite of methods available to addresses threats to freshwater availability and sustainability. Other methods, such as demand-side management approaches, have demonstrated considerable success in addressing such threats but were not included in the scope of this review.

While incentive-based instruments are often juxtaposed with a “command-and-control” approach, the report reveals that, in practice, these seemingly-opposing approaches often operate alongside one another. With water quality trading, for example, governments mandate caps on the allowable pollutant levels and issue tradable permits that allow those in the industry to allocate polluting activities among themselves, incentivized by market forces. Similarly, with water trading, governments need recognize and enforce rights to water use and then institute a framework within which water trading could occur.

The review finds that despite the popularity of incentive-based instruments, information about their performance and the conditions needed to make them work are limited. Many incentive-based programs lack baseline data or monitoring systems. Further, it can be difficult to attribute change to the program rather than to external factors, such as changing commodity prices. Finally, such programs may not have reached threshold levels for measureable impact, or that impact may occur over a relatively long time period. More robust monitoring and evaluation are needed; and this information should be more broadly available on open-access platforms.

The studies that have been done show that performance varies widely. Some programs, like the New York City program, have been highly successful, providing benefits to the community, economy, and environment. Others have had more mixed results. For example, the nation’s largest agriculture-to-urban water trade, between the Imperial Irrigation District and the San Diego County Water Authority, has improved water supply reliability for the recipient, at the cost of significant adverse ecological, economic, and public health impacts in the area or origin.

The review identifies necessary, enabling, and limiting conditions – such as the nature and enforceability of existing water rights – that contribute to the success of any specific instrument. The success of a program in one set of conditions has little bearing on its potential under a different set of conditions. Altering the existing conditions requires determined effort and political will, as well as funding to incentivize stakeholders. The time and effort required to implement the necessary conditions for some instruments, especially water trading, helps explain their limited use in practice relative to their much more extensive presence in commentary and the theoretical literature.

The report concludes that decisions about whether and how to apply a particular instrument depend on the specific objectives, circumstances, conditions, and needs of a given area. These decisions should be based on an open and transparent process, with meaningful participation from all affected parties. This approach will help to craft a solution that is appropriate for local conditions, and ensure that it is fair and equitable. It will also help to reduce opposition and promote acceptance from those who will be implementing and affected by the program. Those with the least power may not have the resources to participate, or they may be skeptical of the groups involved. In these cases, there is a need for consistent and rigorous outreach and, potentially, for engaging a trusted intermediary.

Many of these hard-earned lessons have already been captured by researchers and nonprofits worldwide in case studies, evaluations, and white papers. By going beyond anecdotal cases and instead synthesizing some the common lessons captured in this knowledge base, while drawing out the unique characteristics of specific projects and geographies, we hope this effort can provide other foundations, practitioners, and researchers with a better understanding and starting place for their own work. 

Download the full study here.
View the interactive tool here.
Explore the related digital collection here

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