4.1. Use of Environmental Economic Instruments in CEECs

Abbreviations: B&H - Bosnia and Herzegovina; BUL - Bulgaria; CRO - Croatia; CZE - Czech Republic; EST - Estonia; HUN - Hungary; LAT - Latvia; LIT - Lithuania; MAC - Former Yugoslav Republic of Macedonia; POL - Poland; ROM - Romania; SR - Slovak Republic; SLO - Slovenia; YUG - Federal Republic of Yugoslavia; ? = unclear whether such an instrument is in force at present.
Notes: 1) Only those natural resource or mining taxes/charges are reported which were introduced partly for environmental reasons or if part of the revenue is earmarked for environmental expenditure. 2) According to some classifications, environmental funds are seen as an economic instrument for implementing environmental policies. Environmental funds are not analyzed in this report, however.

The table shows that emission charges and non-compliance fees are very extensively used. Product charges, on the other hand, are in effect only in a few countries. In OECD countries product charges are more often used than emission charges. Furthermore, looking at the more detailed description of the emission charges, we can conclude that emission charges are very comprehensive in CEECs. Each charge covers many pollutants, some air emission charges and/or non-compliance fees as many as 200 pollutants. Exceptions are the CO₂ tax and water effluent charge in Slovenia. Those are more in line with the dominant structure of emission charges in OECD countries, where for instance air emission charges focus on one pollutant, such as SO₂ or NO_x charges in Sweden.

The use of emission charges and non-compliance fees in CEECs originates in the 1970s and early 1980s. In the economic and institutional context of centrally planned economy, the charges did not play an effective incentive role. The soft budget constraint for state owned enterprises meant that the extra financial burden of an environmental charge was more or less covered by additional money from the state. That was clear also to the environmental policy makers in these countries. They did not really intend to use them for any incentive purposes. The major function was to raise revenue into earmarked funds (national and local). These funds were needed because their subsidies constituted the only effective enforcement tool in the hand of the environmental authorities at that time.

Environmental charges were institutionalized when the political and economic transformation started. In the period of emerging market economy, the costs and profit implications of the charges became real and it required political strength to re-establish the charge level. Poland was particularly successful at increasing charge rates although it is also argued that the impact in Poland is limited. In most CEECs, it is suggested that direct incentive impact is limited. In most of the countries major effort was to maintain the real value of the charge rates and the structure was left largely untouched.

Emission charges are used in connection with the permit system. In fact emission charge rates have two tiered structure. Base rate applies to emission below the permitted level and a penalty factor for emission above that level. In most countries, there is a system of permit - emission charge - non-compliance fee for controlling air and water pollution and hazardous waste.

Non compliance charges are also widely used in CEE countries. Their function, theoretically, is to deter polluters from violating standards. In practice, however, these fines are set too low compared to the cost requirement of the actions they were supposed to trigger.

Many emission charge systems and a few non-compliance fees include the possibility for full or partial exemptions from charge payments. Charge waivers can be obtained for a certain period of time if the polluter undertakes some abatement investment.

Tax differentials encouraging the use of unleaded gasoline are in place in about half of the countries. These are used in connection with fuel standards and measures encouraging the change in the car fleet. In several countries, there is favorable consumption tax rate on unleaded gasoline and vehicles with catalytic converters. There are also preferential rates for cars with catalytic converters in the annual vehicle tax payments.

Product charges are the emerging set of new instruments. Many of them are being planned in the region. Presently, product charges are applied only in few countries (Hungary, Latvia, Estonia, Slovakia). It is interesting to note that they are most extensively used in Hungary where no emission charges are in force. Some of these charges are connected to some specific environmental problem, such as increased volume of waste from packaging material. Still these charges are mostly revenue raisers for earmarked environmental fund.

4.2. Efficiency and Effectiveness of Economic Instruments

Evaluation of the economic instruments in CEECs has added difficulties.

• Most of the emission charges and some of the product charges have been designed parallel to the operation of the permit system. There are only few cases in which specific environmental objectives were set beyond the emission limits for the charges. Their evaluation can not be separated from the performance of the permit system.
• Economic and industrial restructuring with its recession period impacted emission and environmental quality. That effect also intermingled with the operation of the economic instruments.
• Being utilized mostly as revenue raisers, direct economic and distributional impacts of the charges are largely changed via their earmarked spending. Therefore a full impact analysis must cover the assessment of this spending.

Economic efficiency criteria would require unit pollution charge rates to be set in correspondence to the marginal environmental damage associated with the particular pollution. For emission charges, the relative differences in rates of different pollutants usually are correlated with differences in pollutants' toxicity or its potential to cause environmental damages. In case of the Hungarian product charges the revenue-raising objective was more prominent. There were some expenditure plans made and unit charge rate was then correlated with them. The level of unit charge rate, at the end, set at the politically acceptable level.

The design and institutional arrangements of implementation makes it unlikely that environmental charges can directly induce efficient abatement strategies. Under these arrangements, Eefficiency theoretically can be achieved through efficient spending of the charge revenues.

The question arises then whether we can expect any environmental impact making these charges at least effective. Empirical observations show that in some cases, for e.g. Polish air pollution charges, there are incentive effects even if not at the efficient level. In Hungary, the packaging product charge had substantial environmental impact in the preparatory phase. Since the intention for introducing the charge was strong signal that packaging waste were high in the environmental policy agenda, the bigger multinational companies did start their own preventive and recycling measures. They could not afford to ignore the public relation and marketing impact of being perceived as not caring for the environment.

The impacts of charge exemptions are much debated. Charge waivers can certainly largely enhance the incentive effect if conditions for exemption are well defined and strictly enforced. Failing to enforce the requirements can result in severe distortions and surprising revenue decline.

Effectiveness of the environmental charges has been threatened by inflation in all countries. There have been different approaches implemented to protect the real value of the charge rates. In few countries (for e.g. Poland, Estonia) charge rates are indexed. In some other countries they are regularly changed. In Hungary, product charge rates are reviewed and revised in connection with the annual budget.

4.3. Administration and Enforcement

Administration of emission charges and non-compliance fees are mostly integrated into the permit system wherein environmental authorities collect charges. The additional administration requirements for the charge system are generally not too high. But the enforcement problems in the permitting process automatically appear in the emission charge system. Charge systems are based on self-reported emissions that are checked as part of monitoring compliance with permitted emission. Such monitoring is rather weak in most of the countries.

Product charges also required new administrative procedures. The complicity of the administrative structure and correspondingly the effectiveness of enforcement are different for each product charge. Tax collection authorities collect most of these product charges. The closer the structure of product charges is to an excise tax, the closer the collection efficiency to the regular tax collection efficiency. Transport fuel product charge has been very effectively enforced in Hungary. In many cases once the necessary administrative framework is implemented, the relative administration cost is declining.

Exemptions from charge payments tend to create enforcement and payment collection difficulties. For product charges it can be particularly problematic that exemptions are authorized and monitored by environmental authorities while tax authorities collect payment. Establishment of regular communication procedures becomes important.

The implementation phase of new instruments often brings surprises. The need for carrying out studies to understand complex economic and business linkages is sometimes recognized after the first phase of implementation. It underlines the importance of proper preparation even if political climate seems to offer quick chance for introducing a new economic instrument.

4.4. Use of Revenue: the Issue of Earmarking

The use of the eEnvironmental fund for subsidising pollution abatement may be justified under the definition of the Polluters Pay Principle, as long as its revenue base is environmental charges, taxes and fines (Zylicz, 1993) By making polluters as a group responsible, earmarking of environmental taxes and charges can function as mechanism for recyclesing funds from polluters in general to the polluters responsible for activities requiring remedial action on a priority basis. In that way, in fact, the efficient property of the environmental charges may be retained.

Earmarking environmental charge revenues has been practiced in OECD countries, as well. Examples can be given mostly in the field of water quality management. Water effluent charges are earmarked for financing water pollution abatement through water management funds, for e.g. in France and the Netherlands. The unique features of earmarking in CEECs is that charge revenues are channeled into comprehensive environmental fund(s). They provide financial assistance for very wide range of measures including pollution abatement (air, water soil), nature conservation and establishment/extension of monitoring networks. While many debates surrounds whether or not environment funds are sound concept from economic and public finance perspective, their widespread use in transition economies are grounded in very real interests.

Environmental funds' operation must certainly undergo some examination in the context of EU harmonization. Subsidies provided by the funds constitute state aid, which is strictly regulated at EU level. Community guidelines on State aid for environmental protection (94/C72/03) indicate under what circumstances subsidies for environmental protection are compatible with Community rules on state aid. The present setting of the environmental funds could be streamlined according to the community guidelines if their operation were based on well-defined specific spending programs.

It is important to note that the exemption from environmental charges also constitute state aid (Communication from the Commission). Therefore, charge waivers schema must be defined in accordance with the Community guidelines (94/C72/03).

4.5. Acceptance of EIs among the Public and Enterprises

The extent and difficulties of preparation and interest reconciliation was somewhat surprising to environmental policy makers when revisions and new instruments had been initiated. Environmental regulation, including economic instruments, imposes real costs on privatized companies. Companies, in turn, can devise well-informed and powerful strategies to block new economic instruments.

On the other hand, the business sector can also be a powerful ally if they see advantages of economic instruments over command and control regulation. For example, the introduction of the product charge on refrigerators in Hungary was supported by the big refrigerator manufacturers and importers as long as the charge revenues were earmarked for subsidizing the phase out of ozone depleting refrigerants. The reason was that these companies did not trust the capacity of the environmental authorities to enforce the strict regulation on phasing out ozone depleting refrigerants by smaller importers. They trusted more the tax and custom authorities to collect the charge from those smaller companies.

Households are also more sensitive to new taxes or charges. They are not protected anymore from their price impact. Information on the particular environmental problem, structure of the planned instruments and alternative consumption options has become very important.

The main lesson from the preparation and negotiations of the newly introduced charges is that the government must consider new forms for articulating the interests of affected parties. Environmental policy makers have to be prepared to formulate their proposals in a fairly complicated process that is sometimes dominated by strong economic pressure groups. Experience also shows that negotiations are often not based on sound professional assessments. Some options prevail not by the strength or efficiency of their environmental impact but through their political appeal.