Economic Potential for GHG Mitigation in the Agriculture Sector

1. Economic Potential for GHG Mitigation in the Agriculture Sector Carol Jones, Jan Lewandrowski, Mark Peters and Robert House Economic Research Service with support from Marlen Eve, Keith Paustian, and Mark Sperow, Agricultural Research Service and NREL/CSU Forestry and Agriculture GHG Modeling Forum, Oct. 9-11, 2002

2. Outline • Policy design questions and scope of the analysis • ERS US agricultural sector modeling framework • Modeling results • Summary

3. Policy Issues • Issues in design of payment structure • Permanence: • “Full” payment during contract period or • Pay-as-you-store (“discount” payment) • For gross or net sequestration? • Only positive payment for sequestration Positive payment net of debit for land-based emissions • Include cost-share?

4. Scope of Analysis • Carbon sequestration in US ag sector • Activities: • Land use change to forest from croplands, pasture • Land use change to grasslands from croplands • Cropland management • Conservation tillage • Changes in rotations, cover crops/ fallow

5. Modeling Framework • USMP national agricultural sector model • EPIC biophysical model • Carbon accounting: • IPCC inventory procedures for carbon accounting: cropland management, and conversion of grasslands • Birdsey forestry accounting: afforestation

6. Endogenous Variables • Domestic consumption, exports/imports • Production quantities and prices • Production technologies: • Rotations • Tillage practices • Nitrogen fertilizer application rates • Input use: • Land, labor, capital, purchased inputs • Environmental outcomes

7. Inputs Primary Processing Demand Land Crop production Domestic use Labor Crop processing Ending stocks Capital Livestock production Purchased inputs Animal product processing Exports Environmental Indicator Imports Beginning stocks USMP Summary Schematic

8. Cropland C-Sequestration Rates: IPCC Inventory Method • Simplified carbon inventory procedure • Features and assumptions: • Top 30” of soil profile • 20-year inventory period: steady state achieved in the 20-year period • Sequestration parameters vary with: • Regional soil type and climate • Rotation types: fallow, organic improvements, residue input factor • Tillage

9. Birdsey Carbon Sequestration Rates for Afforestation • 8 regions • Above and below ground carbon pools: soil, litter, trees, understory • Average forest management intensity

10. Policy Scenarios All policies have 15-year contract period • S1:“Discounted” carbon payments for storage during contract period for net sequestration, no cost-share (Reference Policy) • S2:“Full” carbon payments up frontfor net sequestration, no cost-share • S3: “Discounted” carbon payments for net sequestration, with cost-share for LUC • S4: “Discounted” carbon payments for gross sequestration, no cost-share

11. Net CarbonSequestration S1 Reference Policy: Discounted payments on net seq.

12. Land Changes:S1: Discounted payments on net sequestration

13. Changes in Net Farm Income During Contract Period:S1: Discounted payments on net sequestration

14. Changes in Commodity Prices:S1:Discounted payments on net sequestration

15. S2: “Full” Payment Upfront vs. S1: “Discount”(Pay-As-You-Store) • PDV of payments are same, timing differs: • “Discount” (S1): receive .354 of full price in years 1-15 [& receive full price over time - if permanent] • “Full” (S2): receive full payment up front during contract period • Different behavioral assumptions: • Pay-as-you-store assumes payment is necessary to provide incentive to maintain practice • “Full” payment assumes farmer continues sequestering practice after payments end

16. Net Carbon Sequestration S2 Full vs. S2 Discounted sequestration payments

17. S2 “Full” Payment Upfront vs. S1 Pay-As-You-Store • Two scenarios provide a range of estimates of response to carbon price • At $25, 1 MMT - 3 MMT cropland mgmt; 6 MMT - 37 MMT total net sequestration • At $125, 8 MMT - 13 MMT cropland mgmt; 93 MMT - 362 MMT total net sequestration

18. How to Interpret the Range of Estimates? • Reasonable behavioral assumptions? • Is consistency of outcomes to policy design robust to alternative behavior? • “Full” payment not robust • If sequestration ends with contract period, then have overpaid by factor of 1/.354 = 2.8 • Pay-as-you-store is robust • If sequestration is permanent, then - over duration of permanent storage - pay PDV-equivalent to full payment during contract period

19. S2: “Full” Payment Upfront vs. S1: Pay-As-You-Store • Alternatively, can interpret full payment in pay-as-you-store framework: • $125 discount price  $353 “full” price • Grassland not competitive at these prices • Even in regions where forestry is not viable (Mountain, Plains states) • Threshold appears to be $125/$353: Southern Plains states have 4000 acres afforested

21. S3 Cost-share for Establishing Grasslands, Forest • Promotes more afforestation, but increase in seq. levels off at + 6 MMT by $25 • Share of subsidy/ton is high at low prices, but declines substantially with carbon price • At higher carbon prices, there is partial offset due to reduction in cropland sequestration • S3 may be more slightly cost-effective than S1, but distorts choice among activities

22. S4 Gross vs. S1 Net Sequestration Payments • Focus on cropland leakage (no forest sector leakage in the model) • Lower levels of net sequestration • Huge increase in program cost - ratios of S4 costs to S1 costs are: • For 1 MMT sequestration, 75 x • For 3 MMT sequestration, 16 x • For 5 MMT sequestration, 9 x

23. S4 Gross vs. S1 Net Sequestration Payments • Land in production 1) Switches from conservation to conventional - yield incentive w/no carbon debit increases emissions 2) Switches from conventional to conservation - carbon incentive increases sequestration 3) Omitted: tilling land now in conservation to establish future eligibility increases emissions B) Idle land brought into crop production Increases emissions, whether practice: 1) conservationtillage (in program) or 2) conventional tillage (not in program)

24. S4 Gross vs. S1 Net Sequestration Payments • Relative to S1, S4 farm income starts out higher at low carbon prices but is equal at $125 • S4 incentive payments are 25% higher at $125 • BUT: commodity price increases are much smaller (so producer surplus does not increase as much)

25. Conclusions • “Full” payments upfront vs. pay-as-you-store: • Important to distinguish which policy is employed in reporting marginal cost analysis • Pay-as-you-store is more robust across alternative behaviors • Cost-share of establishment costs: • Small impact on sequestration across price levels • May be slightly more cost-effective than without, but distorts choices if not applied to all activities

26. Conclusions • Gross sequestration payments: • Substantially cut net sequestration • Substantially increase costs per ton of net sequestration • Do not (substantially) increase farm income