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The environment and the economy: seeking a common ground.

Attempts to reconcile economics and environmental interests typically fail, with the result that these two groups often become opponents in the public arena. Most efforts to bridge intellectual differences have involved economists trying to get environmental activists to develop "the economic way of thinking," or, conversely, ecologists attempting to convert bean-counter economists to kinder environmental values.

The time is appropriate for a different approach to developing common ground between these two groups, both of whom genuinely and often passionately are concerned with improving the environment and the economy. A good place to start is to identify the public policies and activities which would be condemned equally by those concerned with the health of the environment as by those worrying about the state of the economy. Reversing those policies would generate simultaneous benefits in both areas of concern, rather than involving any compromise in either economic or environmental values. Such action does not involve a difficult trade-off.

The U.S. simultaneously can achieve a healthier environment and a stronger economy by reexamining public policies that impede both of these worthy objectives. There are many opportunities for doing so, illustrating that environmental and economic objectives often are fully compatible. Nevertheless, the challenge to move from ideas to action is a formidable one.

The Federal government sells and leases a great variety of natural resources in ways that both harm the environment and short-change the national taxpayer. For example, livestock grazing, the single largest use of Federal lands in the West, traditionally has been subsidized heavily by low grazing fees. Many economists believe that this is an unfair burden on the taxpayer, while many environmentalists believe that such grazing has had a deleterious effect on the ecology of the land. Livestock tend to congregate near streams or in wetlands, where land is sensitive to damage from trampling.

A 1988 study by the General Accounting Office reported that 90% of Federal stream-side lands in Colorado managed by the government have been degraded, with poorly managed livestock grazing being the major cause. These problems have not been alleviated since that report was written.

The Association of Forest Service Employees for Environmental Ethics issued a report in 1995 delineating the adverse effects of livestock grazing on Federal lands in the Umatilla National Forest in Oregon's Columbia River Basin. According to the authors, "Grazing can alter the composition, structure and function of terrestrial, riparian and aquatic ecosystems. Livestock grazing affects fish and wildlife populations, watershed hydrologic functions, soil structures, nutrient cycling, habitat characteristics...."

Livestock grazing on Federal lands has caused fiscal shortcomings as well. According to the Congressional Budget Office, maintaining grazing lands costs the Forest Service and the Bureau of Land Management $4.60 per animal unit month (AUM). However, the 1994 permit fee was only $1.98 per AUM. The average value in 1993 of grazing on private lands was estimated at $10 per AUM. If Federal grazing fees were raised to the private market level, revenues to the Federal government would rise by as much as $100,000,000 each year. Setting grazing fees commensurate with market prices would result in beneficial environmental impacts as well as positive fiscal effects.

Some economists would go further than merely raising the fees for grazing on Federal lands. Because the Federal government owns such large shares of western lands (over half of California and more than 80% of Nevada), they urge sales to private owners of some of the land that now is rented for purposes such as grazing. (Contrary to public perception, such action would not include selling off national parks or other pristine property.)

Other analysts recommend more esoteric approaches, such as treating grazing permits as tradable private property rights. They claim that this would provide security of tenure to ranchers and increase the incentive for good stewardship of the land.

Stopping the subsidy for hard rock mining. Under the law governing mining of hard rock minerals, the General Mining Law of 1872, mining claims are cheap to procure -- between $2.50 and $5 an acre. This figure approximates the fair market value for western grazing and farmland in 1872. It is inexpensive to maintain this mining fight; an owner of a mining claim must do a minimum of $100 of mining-related work on the property each year. The government, however, receives no royalties on minerals taken from Federal lands under the claim of private individuals.

The original purpose of the law was to promote exploration and development of the West by making access to minerals inexpensive. In the present day, this law represents little more than a giveaway of public assets and a windfall to mining interests -- owners and workers -- that encourages environmentally intensive activity.

According to the Congressional Budget Office, the annual value of hard rock mining on Federal lands is approximately $1,200,000,000. Imposing a royalty of 12.5% on hard rock mining -- which is commensurate with the existing royalties on coal, oil, and gas extraction -- could add an estimated $110,000,000 to the annual revenue of the Federal government. The exact amount of revenue would depend on the extent to which the imposition of royalty payments discourages mining activity. Eliminating the 1872 Mining Law would force the closing of some marginally profitable mines and curtail the environmental impact of domestic mining.

Eliminating subsidies in timber sales. If the U.S. Forest Service were a business, its economic assets would put it in the top five on Fortune's list of the nation's wealthiest corporations. If it were ranked according to operating revenue, though, it would fall to number 290. In terms of net income, the Forest Service would be in bankruptcy court.

The Forest Service provides many services to the logging and timber industries. The agency manages the growth of the nation's public forests, maintains logging roads, and replants logged areas. In 1994, the cost of Forest Service operations that directly benefited the logging industry totaled $900,000,000. Yet, according to Forest Service estimates, the 1994 harvest of 4,800,000,000 board feet garnered just $800,000,000 in Forest Service revenue. In some of the most environmentally sensitive areas of the nation, such as the Rocky Mountain region, Forest Service expenditures exceeded receipts by about three to one.

The Wilderness Society believes that the actual cost of Forest Service operations may be substantially higher. For instance, creating road bases, which made up 63% of total road outlays in 1992, is not counted as an expense associated with forest use. In addition, the Forest Service has overstated income by counting Federal subsidies as revenues. The Wilderness Society estimates the total loss to taxpayers was $614,000,000 in 1993.

The General Accounting Office has come up with lower loss estimates, notably $112,000,000 in 1990. The midpoint of this range of estimates -- $363,000,000 -- reflects the general magnitude of the revenue potential of policy changes. Clearly, whatever specific numbers are used, significant subsidies are present in Federal timber sates.

Much Forest Service timber is located in environmentally sensitive areas, such as steep slopes and wetlands. By compelling the Forest Service to account for the full costs of the benefits provided to the timber industry and to cover those costs with the price of timber sales, the Federal government could produce additional revenue of about $100,000,000 a year. Forced to bear the complete costs of harvesting, timber companies would be discouraged from using the national forest system's most ecologically fragile and sensitive lands.

Eliminating subsidies in river maintenance. Under current law, taxpayer money subsidizes inland waterway maintenance by funding half of the cost of dredging and maintenance. The Inland Waterway Trust Fund, which receives its revenue from fuel taxes on commercial waterway traffic, pays for the remaining expenses.

In Fiscal Year 1995, the Army Corps of Engineers accepted bids for the dredging of inland waterways that totaled $443,000,000 for the displacement of 202,000,000 cubic yards of river-bottom. In one year, the government spent more than $220,000,000 of taxpayer money on dredging alone. Maintenance of locks and port facilities are in addition to these dredging expenses. Taxpayers are footing half of the bill for maintaining the inland waterway system, thereby lowering costs to transporters and encouraging more waterborne traffic.

Of course, the additional traffic increases the need for more maintenance. Increased maintenance, in turn, has become a burden on the ecosystem. According to a 1995 Department of the Interior report on one such maintenance activity, "Disturbance associated with dredge spoils removal resulted in proliferation of nonnative weeds that further threaten the site." Straightening out and dredging waterways contributes to faster water flow and increased dislocation of sediment. Dredged materials must be deposited somewhere, and these deposits can have secondary, negative effects. As the Handbook of Dredging Engineering states, "The dispersal of fluid mud dredged material appears to have a relatively significant short-term impact on the benthic [bottom-dwelling] organisms within open-water disposal areas."

Eliminating Federal subsidies to users of inland waterways and forcing those users to cover the total costs of river maintenance would alleviate overuse of waterways by charging the full costs of this service to those receiving its benefit. Firms paying the total cost of river maintenance would have a new incentive to look for innovative means of transporting their products.

Eliminating irrigation subsidies. The Federal government subsidizes irrigation of private agricultural land by funding Bureau of Reclamation water projects and then charging farmers a minute fraction of the cost. For instance, it is estimated that the Central Utah Project in southern Utah will cost the government, on average, $350 to provide an acrefoot of water. Farmers, however, will pay just $3 for each acre-foot of water.

This project is not unique. Richard Wahl, a former Department of the Interior economist, has estimated that, since 1902, the Bureau of Reclamation has subsidized projects in the western U.S. to the tune of $20,000,000,000 (86% of total Bureau construction costs), or an average of $210,000,000 a year. The Bureau of Reclamation estimated that irrigation subsidies totaled $2,200,000,000 in 1986 alone. There is little change in sight. Irrigators are scheduled to repay just $3,400,000,000 of die $21,800,000,000 cost of construction projects, or 15.6%.

The Federal government provides irrigation subsidies to many farmers whose crops it also subsidizes. For example, the Bureau of Reclamation estimated that $830,000,000 in irrigation subsidies in 1986 went to farmers growing subsidized crops. Those Federal programs continue in effect to this day.

It is fascinating to contemplate the interrelationship between these two subsidy programs. First, the Federal government gives farmers the incentive to increase their output through irrigation subsidies. Then, it purchases those crops to keep prices artificially high to encourage farmers to raise the crops in the first place.

The environmental drawbacks to increased irrigation and Bureau of Reclamation projects have been documented extensively by the General Accounting Office. For instance, the San Luis Drain, constructed in 1968 to collect and recycle drainage from farms, became a repository for selenium, a trace element that is harmless in nature, but which, in concentration, is lethal to animals. In addition, it causes deformity and higher mortality rates in fish and waterfowl. Moreover, added irrigation increases the salinization of lands. When water is applied in agricultural use, the tiny amount of salt present in all water is filtered out and remains in the soil. The salt must then be removed by using more water. In one water district in California, reported crop and land losses due to this problem were estimated to be $35,000,000 in 1987. Waterfowl habitat in California is estimated to be at one-third of its optimal level due to water diversion. Ninety-five percent of trout streams in central California no longer are available for spawning due to damming.

Terminating Federal government water subsidies would generate both fiscal and environmental benefits. If users of Bureau of Reclamation water had to pay for the construction of dams in the western U.S., taxpayers would have saved untold billions over the past century. Elimination of the Bureau of Reclamation would avoid millions of dollars for administrative expenses. Surely, the use of tougher standards in reviewing proposed Federal construction projects, for water resources or other purposes, would reduce Federal spending and environmental intrusion.

Reducing tax subsidies

Many special provisions in the Federal tax code benefit firms and individuals engaged in activities that can have a severe impact on the environment. Such provisions range from special treatment of tax deductions for depletable resources to exclusion of parking expenses from employee income. These provisions, special exclusions, exemptions, deductions, and credits diminish the usual incentive to conserve scarce resources.

Owners of interests in mineral deposits are allowed to reduce their taxable income by a percentage of revenue. This provision also is allowed for independent oil and gas producers -- those who produce no more than 1,000 barrels per day of crude oil, or 6,000,000 cubic feet of natural gas, or the combined equivalent of both. This provision of the tax code is known as the percentage depletion allowance and, typically, results in lowering a company's Federal income tax liability.

Through the percentage allowance, qualifying firms are able to deduct from their taxable income more than actual costs incurred. Arguably, this provision is justifiable on strategic grounds, to ensure that our economy does not become too dependent on foreign sources of strategic materials. What is not arguable, though, is that this special treatment reduces tax revenue to the U.S. Treasury. Moreover, the percentage depletion allowance artificially increases returns to investment in mining and oil and gas extraction. This distortion increases, albeit by a minor amount, the portion of the economy's resources devoted to these activities relative to other, perhaps more environmentally benign, ones.

The percentage depletion allowance typically exceeds the actual costs incurred. However, it is statutorily limited on an annual basis to 50% of taxable income after all deductions. Unlike depreciation used by most other businesses, percentage depletion deductions can exceed the cost of the investment. In 1995, the net value of percentage depletion to the companies benefiting from it was $1,800,000,000.

For successful investments in domestic oil and gas wells by independent oil and gas producers, intangible drilling costs (wages, expenses of using machinery for grading and drilling, and costs of unsalvageable materials) are fully tax-deductible in the year in which they occur. Integrated oil companies may expense only 70% of their intangible drilling costs; they must amortize the remaining 30% over five years. Similarly, some investments for exploration and development of certain other fuel and nonfuel minerals may be expensed rather than depreciated over the life of the asset. This is in contrast to the normal tax treatment of investment costs, which limits deductions to expenses incurred.

Although the net effect in Fiscal Year 1995 was to increase the tax burden on affected firms by $250,000,000, this provision will generate a net benefit in 1999. In the year 2000, a tax benefit of $145,000,000 is estimated to be provided. Insofar as extraction activities are known to be stressful to surrounding ecosystems, this special tax treatment is another subsidy that increases investments in natural resource extraction while reducing Treasury revenues.

Firms investing in enhanced oil recovery operations qualify for a tax credit of 15% of costs for projects in the U.S. Through this tax credit, the government is subsidizing the drilling of wells which otherwise might be viewed as uneconomical investments.

Tertiary, or enhanced, oil recovery constitutes all oil recovered after using primary and secondary methods. Primary production is oil recovered naturally from reservoir pressure encountered after drilling a well. This includes oil recovered from natural gas expansion, gravity drainage, and aquifer drive. Secondary oil recovery is the incremental oil recovered via supplementary methods such as water, steam, and gas injection. Tertiary recovery is the final fractional oil recovered via enhanced methods such as solvent chemical injection and thermal methods.

Costs that qualify for this tax credit include tertiary chemical injectant expenses, intangible drilling and development costs on qualified tertiary oil recovery projects, and amounts incurred for tangible depreciable property. A government tax credit for tertiary methods may make an otherwise unattractive or marginal oil field investment opportunity economically viable.

Profits on sales of coal under some royalty contracts can be treated as capital gains, rather than ordinary income. Consequently, proceeds from these sales are taxed at a 28% maximum rate, rather than the 39.6% maximum rate on ordinary income.

Through these royalty contracts, prospective investors in coal mining can receive a higher after-tax return than that expected from an equally risky ordinary income-generating investment opportunity. This provides incentives for investing in coal mining above those profit incentives for businesses generating "ordinary income." The revenue from selling some iron ore and timber also can be treated as capital gains.

Eliminating special tax treatment of these income-generating activities would reduce the environmental damage typically associated with mining and logging while increasing Federal tax revenues. In 1995, these provisions generated an estimated benefit of $40,000,000 to the affected firms and individuals.

Investors who purchase the bonds issued to finance construction of these municipal power plants generally are exempt from Federal income taxation of the interest on these bonds. Therefore, municipal electric gas utilities are able to borrow at lower rates than other enterprises while ensuring their investors high after-tax earnings. In this way, tax-exempt financing distorts investor behavior and contributes to overinvestment in municipal power plant construction. The additional supply of power-generating capacity tends to reduce energy prices, discouraging conservation by consumers. Moreover, the U.S. Treasury forgoes the revenue it normally receives from interest reported by taxpayers.

Generally, costs must be capitalized if goods are produced for inventory. Production for inventory is considered an investment, and associated costs are treated accordingly -- i.e., amortized over time. However, multi-period timber growing costs are exempt from typical capitalization rules and can be expensed quickly. Therefore, firms' inventory-carrying costs are cut, which reduces incentives to match inventories to current demand. The practice of rapidly harvesting and storing timber becomes relatively more attractive since inventory costs are subsidized via the tax code. In addition, the resultant decrease in the expense of growing timber translates into a decrease in the cost of using it, discouraging conservation. In 1995, this provision resulted in an estimated tax benefit of $370,000,000 to the affected firms and individuals.

Dr. Weidenbaum, Ecology Editor of USA Today, is chairman, Center for the Study of American Business, Washington University in St. Louis (MO.). Mr. Douglass and Mr. Orlando are, respectively, John M. Olin Fellow and Louis Rene Gaiennie Fellow at the Center.
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Author:Weidenbaum, Murray L.; Douglass, Christopher; Orlando, Michael
Publication:USA Today (Magazine)
Date:Jan 1, 1998
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