The Basic Principle of PES

The basic principle of PES is that those who provide environmental services should be rewarded for doing so (Pagiola et al., 2005; Pagiola and Platais, 2005; Wunder, 2005; Engel et al., 2008; Kemkes et al., 2010; Muradian et al., 2010).

This means that mechanisms are put in place that transfer rewards or payments from those who benefit from the ecosystem service to those who manage it. This logic can be illustrated in three scenarios which include business as usual (scenario A, Figure 2.1), conservation without payments (scenario B, Figure 2.1), and conservation with PES payments (scenario C, Figure 2.1) (Pagiola et al., 2005; Wunder, 2005; Engel et al., 2008; Kemkes et al., 2010; Muradian et al., 2010).

Figure 2.1. The logic of payments for ecosystem services Source: Adapted from Pagiola and Platais (2005)

Figure 2.1 shows the basic logic of PES mechanisms. In the first scenario, land managers can receive more benefits from the conversion of forest lands into cropland or pasture than they could receive from forest conservation. When these alternative land uses are not sustainable, they can impose costs on the local and regional populations as well as on the global community (Engel et al., 2008).

Conservation without payments (B) Conservation with PES payments (C) Benefits to land managers Costs to service user i.e. downstream population and others Payment (s) Reduced water services Loss of biodiversity Carbon emissions Maximum payment Minimum payment Business as usual – i.e. conversion of forest to pasture or crop land (A)

These costs include the loss of benefit of services such as water filtration and improved water quality, groundwater recharge and preservation of scenic landscapes. Other costs could be carbon sequestration due to soil erosion from overgrazed hillsides and runoff of harmful nitrates from cropland to downstream catchments as well as the loss of biodiversity and carbon emissions on the global community (Millennium Ecosystem Assessment, 2005; FAO, 2007a; Engel et al., 2008).

Since the impacts of improved supply of ecosystem services are not often reflected in the incomes of land managers, provision of these services is therefore not a key consideration in most of their choices (Coase, 1960). Payments by those who benefit from services can make conservation the more attractive option for ecosystem managers, thus internalizing what would otherwise be an externality (Pagiola and Platais, 2005). In addition, for payments offered to induce land managers behaviour change (Engel et al., 2008), they must exceed the additional benefit the land managers would receive from alternative land uses and must be less than the value of the benefit to ecosystem service users for them to be willing and able to pay (Pagiola and Platais, 2005; Asquith et al., 2008). As such, the minimum payment has to equal the opportunity cost of a land manager (i.e. their benefits given up). For this to be successful, it has been shown that schemes that exploit ecosystem managers knowledge about their opportunity costs of ecosystem service provision are more efficient than top-down regulatory schemes (Kosoy and Corbera, 2010).

Paying the ecosystem managers the amount that covers their opportunity costs to adopt practices that ensure provision of ecosystem services is critical because, in the course of providing services they forego significant benefits from reducing the intensity or extent of their agricultural practices at plot or farm level (Kosoy and Corbera, 2010). Thus, payments are needed for compensation because when service users receive services without compensating providers for their provision, they would be “free-riding” at the provider’s expense (Engel et al., 2008). In this context, farmers would receive fewer benefits from adopting practices that generate ecosystem services without payments (Figure 2.1, scenario B) than business as usual. PES payments that do not cover land managers' opportunity cost may lead to low adoption of conservation practices required for the provision of ecosystem services (Ferraro, 2002; Wunder, 2007; Engel et al., 2008).

In addition to paying farmers for their opportunity costs, other costs that need to be covered are their transaction costs of establishing and maintaining improved land use practices (e.g., construction of terraces, preparation of tree nurseries, planting and maintenance of trees) (Wunder et al., 2008). Paying to cover farmers' opportunity costs and transaction costs are issues that have been discussed for other conservation approaches such as command and control regulations (Baland and Platteau, 1996; Bulte and Engel, 2006), community- based natural resource management (CBNRM) (Nelson and Agrawal, 2008) and integrated conservation and development projects (ICDPs) (Barrett and Arcese, 1995). For instance, research has shown that command-and control approaches in developing-countries are often hampered by high transaction costs, weak

governance, poor monitoring and enforcement at the local level (Baland and Platteau, 1996). Also, these practices create economic hardship and social conflicts related to distributional issues from the poor who depend on the resources (Bulte and Engel, 2006).

In this context, proponents of PES consider that the change of incentives for land use will maintain or restore the desired ecosystem service (Pagiola and Platais, 2007). This conceptualization assumes that decisions on land use and land use change are largely based on the net economic benefits that accrue to the landholder (Pagiola and Platais, 2005). Consequently, payments by service users can make conservation the most attractive option for service providers to adopt conservation practices (scenario C, Figure 2.1) (Wunder, 2005; Pagiola and Platais, 2007; Engel et al., 2008). In this way, PES can help to bridge the private interests of service providers and the public benefits of conservation management by funding actions that increase the levels of ecosystem services desired by society (Engel et al., 2008; Jack et al., 2008).

Increasingly therefore, PES is promoted as an alternative conservation approach to ‘command and control’ and other indirect approaches to natural resources management such as ICDPs, CBNRM and sustainable forest management (Pearce and Barbier, 2000; MA, 2005a; Wunder, 2005). Compared to indirect conservation approaches like ICDPs that require investments in alternative lines of production, the theoretical literature on PES shows that the direct nature of the PES mechanism to conservation and incentives makes it both more effective and more cost-efficient (Ferraro and Kiss, 2002; Ferraro and Simpson., 2002; Ferraro

and Pattanayak, 2006). PES targets conservation more directly through use of economic incentives (Figure 2.2), and as such, PES is viewed as (i) a potential means to generate new financing for conservation; (ii) a sustainable approach serving mutual self-interest of service users and providers; (iii) an efficient way to conserve services whose benefits exceed the cost of providing them, (Ferraro and Kiss, 2002; Nkonya et al., 2005; Wunder, 2005; Pagiola and Platais, 2007) and (iv) a means to improve rural livelihoods. On the improvement of livelihoods, it is argued that where providers of ecosystem services are poor landholders or disadvantaged communities, such payments can contribute to poverty alleviation (Ferraro and Kiss, 2002; Pagiola et al., 2005; Pagiola and Platais, 2007).

Figure 2.2. Comparison of PES to other conservation approaches on the basis of the degree to which PES relies on economic incentives and the extent to which the conservation of ecosystem services is targeted directly rather than integrated into other development approaches