How Scale and Scope of Ecosystem Markets Impact Permit Trading: Evidence from Partial Equilibrium Modeling in the Chesapeake Bay Watershed

This study uses the Simplified International Model of agricultural Prices, Land use and the Environment, on a Grid (SIMPLE-G­), a partial equilibrium model of agricultural production, to explore how the scale and scope of environmental quality markets influence farm-level production decisions and market performance. I simulate how permit trading affects producers’ input use decisions, and ultimately pollution emissions, by modifying the supply nest structure of the model to include water quality permits as an additional output from agricultural production. Conservation practices improving water quality may also result in ecosystem co-benefits (e.g., reduced greenhouse gas emissions and habitat provision). Hence, I extend SIMPLE-G to quantify these co-benefits and simulate the effects of allowing conservationist producers to “stack” permits (i.e., to supply multiple permit types for each co-benefit). I find that, overall, permit production increases with the scale and scope of the markets. At the smallest market size—which allows trading only within 8-digit hydrological unit code watersheds—unintended policy implications arise as the stacked markets cause one conservation practice to crowd out the other. Meanwhile, the largest market—which allows trading across the Chesapeake Bay Watershed—produces nitrogen permits more efficiently which may lead to less of the secondary permits in comparison to other market configurations. The results of this study support the Environmental Protection Agency’s urging of the expansion of the scale and scope of ecosystem markets.