Three Strengths and Weaknesses of Water Quality Trading Policies

What types of environmental policies are protecting your local waterways?

When the US Environmental Protection Agency was first created, most regulations followed a command-and-control model in which polluters must meet requirements individually. Today, market-based environmental policies are increasingly popular. Todd BenDor, Associate Professor and Director of UNC’s City and Regional Planning PhD Program, recently gave a lecture on water quality trading and transfer of development rights programs and discussed his plans for research on these two types of market-based policies.

Water quality trading can be a viable means for producing substantial cost savings while meeting water quality goals. But what exactly is water quality trading and how can a community take full advantage of it? This post explores some of the potential benefits associated with water quality trading and hurdles to implementing a successful program.

How Does Water Quality Trading Work?

Under the Clean Water Act, a producer of point source pollution, such as a wastewater treatment facility, must have a permit to discharge pollutants. These permits put limits on discharge for each permit holder. Water quality trading allows a group of permitted facilities to meet environmental requirements for a body of water by trading credits that represent a certain amount of pollution reduction.

Each permitted member of the water quality trading market receives a pollution allocation and can generate credits by reducing pollution beyond this requirement. In many markets, entities such as farms and construction sites that generate nonpoint source pollution can also generate credits by implementing best management practices (BMPs). Examples of BMPs include strategic fertilizer application to prevent nutrient runoff and use of a silt fence to control sediment pollution.

Benefits of Water Quality Trading Programs

Flexibility: Water quality trading programs are designed to give facilities flexibility in timing and methods used to control water pollution. A facility might lack the capital to install an additional filtration system and decide to purchase credits instead of new equipment. If the facility finds a cheaper solution in the future, it can sell credits it no longer needs.

Cost-Effectiveness: Some entities are able to reduce pollution at a lower cost than others. A water quality trading program may allow polluters as a whole to meet the same water quality goals at a lower cost than the traditional command-and-control method.

Potential to Reduce Nonpoint Source Pollution: According to the EPA, nonpoint source pollution is the largest cause of water quality problems in the country. However, the volume of nonpoint source pollution is traditionally not directly regulated since it is difficult to track (though entities may be required to reduce runoff through BMPs or other types of stormwater controls). The ability to generate water quality credits can give emitters of nonpoint source pollution incentive to voluntarily reduce nutrient and sediment pollution by following approved BMPs.

Challenges to Implementing Effective Programs

Uncertainty Can Cause Low Trading Volume: From population change to weather patterns to production volumes, many variables can impact a facility’s ability to control pollution. For this reason, facilities are often reluctant to permanently sell portions of their pollution allocations even if their trading program allows such transactions and they are overcomplying with all guidelines. Short-term gains from selling allocations might not seem worth the risk of costly penalties if the facility pollutes more in the future. Rather than making permanent allocation trades, members may temporarily sell generated credits so that they retain the option to use their full pollution allocations in the future.

From the credit buyer’s perspective, it is risky to meet requirements by purchasing credits because the selling entities might later stop generating credits. Such a scenario could make credits more expensive or not available at all. Market members may choose to avoid uncertainty about future credit cost and availability by investing in facility improvements to meet pollution requirements on their own. The desire to minimize risk associated with loss of ability to pollute in the future could discourage market members from actually making trades.

Potential for Pollution Hotspots: Since water quality trading allows polluters to purchase credits instead of meeting their pollution requirements, such programs may cause hot spots of dangerous pollution levels if one facility buys too many credits. Individual markets have the freedom to implement prevention strategies to avoid hot spots but are not required to do so. Precautionary measures might include reserving the right to require nutrient removal or limiting the number of credits one facility can purchase.

Imperfect Modeling of Nonpoint Source Pollution: Trading between point source and nonpoint source polluters requires regulators to quantify the positive impacts of BMPs. For example, a regulator might need to determine how many kilograms of nitrogen a stream buffer absorbs in a year. Since many factors such as plant varieties and weather can affect the effectiveness of BMPs, it can be difficult to accurately measure avoided nutrient pollution.

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Kate is an undergraduate student at the University of North Carolina at Chapel Hill, where she is pursuing a degree in Environmental Science with a minor in Information Science. Kate works with the EFC at UNC as a Student Data Analyst, focusing on the water rates surveys and dashboard projects.

1 Comment

  1. Mark Wyzalek

    1. A change in terminology is needed.
    The term “Water Quality Trading” has a negative connotation that a trade off of water quality is occurring – when actually that doesn’t happen in a properly structured market program. The term “Water Quality Sharing” has a more positive meaning and

    2. The other challenge is for the individual states that have CWA primacy to have enabling regulations/policy to enable Water Quality Sharing – many states don’t – see this map: Intrastate waters policies need to be better established.

    3. Electric Power Research Institute (EPRI) has the Ohio River Basin Trading Project which has won recognition.