Chesapeake Bay WQT: a geography of rules

Becca Madsen at Madsen Environmental wrote recently about a new report on water quality trading (WQT) in the Chesapeake Bay. The RTI report finds a lot of possible efficiencies that could come from trading in the Bay and a lot of potential demand for credits. But, as Madsen writes, noticing the existence of very few trades so far, "what about actual demand?" The lack of trading so far in the Bay seems to be an interesting case where the geography of the rules of the market matters for its success.

WQT promises to lower overall nutrient levels in waters by allowing regulated point sources of pollution (think wastewater treatment facilities) to buy credits, or representations of nutrient or even temperature reductions, from other sources, point or non-point (think crop farmers), that have installed technologies or performed best management practices (BMPs) that control nutrient/temperature loadings. The idea is that trading can be a more efficient way for these sources to reduce their impact than government telling them to install costly technology. Regulation is key here in two senses: those wastewater treatment facilities might not have any reason to control their N/P emissions but for EPA mandate. Regulation is also important in the sense that the state-specific rules on who can trade what with whom, when, and how. State departments of environmental quality or environmental protection list creditable actions (BMPs), control trading between sectors of polluters and between watersheds, and create trading ratios that tell potential credit buyers how many extra credits they have to buy in order to account for the uncertainty in knowing exactly how much pollution that installed BMP reduced.

The promise of WQT has been around for a while, but figuring out the right mix of rules to make it work has been a project around just as long. In 2003 EPA formalized some rules for how WQT might be done, but left it up to individual watersheds and states to figure out specifics and implementation on their own. A report the following year (2004) shows there were a lot of trading initiatives already in the works. Some of the ones listed never really got off the ground (e.g. Lake Dillon). In the Chesapeake Bay specifically, there's been a lot of hope for nutrient trading for way longer than I've been thinking about any of this.

As a couple of the contributors to a whole special issue in JAWRA last year noted, the "reality and rhetoric" of WQT can of course be two different things. Getting the reality right (if that makes sense) depends a lot on the context - institutional histories and inclinations, geographies, and drivers - in each trading program.

Indeed, the variation in success between Bay states is telling. Some have seen a few trades, others, like Virginia, none at all. Pennsylvania is the most successful and has been trading long before the most recent phase of the TMDL went into effect (its program started in late 2006). There have been many trades, and many traders, in the state. One in particular, the Red Barn Trading Company, is perhaps the only company to have started up directly in response to the creation of the Pennsylvania market. It aggregates credits generated by moving manure out of the watershed.

Even the success of the Pennsylvania program is not without its shortcomings. As Alexandra Chiaruttini wrote in a summary of last year's WQT activity, the way that the credit sale process is organized is prohibitive. It's an auction, facilitated by Markit, and the timing of each auction and the blind bid requirement, she argues, limit small credit sellers from joining the market.

So state-level WQT program designs are idiosyncratic and tricky. Where does the variation between states in trading levels come from? A report from WRI last year highlighted significant differences in the ways Bay states define the lifespan of a credit/debit and in implementing what kind and what size of trading ratios. Not agreeing on these basics makes it harder, if not impossible, for a credit produced in, say, Pennsylvania to be certified for trade to a debtor in West Virginia. At the 2011 Ecosystem Markets meeting in Madison, a poster presenter on Bay trading noted that only Maryland and Delaware have agreed to allow credit trades cross their state borders and agency boundaries.

As Ecosystem Marketplace author Steve Zwick bluntly claimed, "such a fragmented approach simply doesn't work in a shared body of water." Some of the contributors to the JAWRA special issue focused their comments on the geography of trading - what's the scale that works for watershed restoration and conservation? (This is not just a question for nutrient markets, but ecosystem service markets in general.) That question is something the Willamette Partnership in Oregon is thinking about and working hard on as well.

Whether the patchwork of Bay trading rules matters in the long-run is of course yet to be seen. It'll be interesting to compare the Bay program with EPRI's scaled-up eight state Ohio River Basin WQT Project. As Madsen writes in her notes from the recent National Mitigation and Ecosystem Banking conference, EPRI bills its project as the "world's first consensus agreement on interstate trading". Farmers in states like my own, Kentucky, would be able to trade with power plants in, say, Pennsylvania. Hopefully the Bay (and the Ohio River Basin) can get its reality right, because as one analyst said about Bay restoration, "Markets are the framework for everything that we do in our society – so we'll do it with markets, or we won't do it at all."