Management Areas and Fixed Costs in the Economics of Water Quality Trading

Hung and Shaw’s (2005) trading-ratio system is modified to accommodate a management area approach wherein emissions sources are organized by impacts on identified “hot spots” and trading accounts for fixed as well as variable costs. An empirical example of phosphorus trading in a watershed with 22 potential traders demonstrates that marginal cost trading using a trading-ratio system yield nominal cost savings of less than 1% at the watershed level relative to the no-trade situation. A management area approach that accounts for fixed costs achieves over 13% in costs savings. The pattern of cost-effective trades is modeled using a mixed-integer approach. Acknowledgements: This project was made possible through funding provided by the EPA Targeted Watershed Grant Program (WS972841) and USDA Hatch Project funds provided through Cornell University (121– 7822). Without implication, we appreciate helpful inputs into this and related research from Chris Obrupta, Josef Kardos, and Yukako Sado. Neither the EPA nor the USDA has reviewed or endorsed this article. The views expressed herein are those of the authors and may not reflect the views of these agencies.