GEC 93-07

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   CSERGE Working Paper GEC 93-07


                                 RAFFAELLO CERVIGNI

                      Centre for Social and Economic Research
                             on the Global Environment
                              University College London
                               University of East Anglia


The Centre for the Social and Economic Research on the Global Environment (CSERGE) is a
designated research centre of the UK Economic and Social Research Council (ESRC).

The author would like to thank David Pearce, Neil Adger and Michael Collins for useful
comments, but remains the only responsible for errors or omissions. Financial support from the
Italian "Consiglio Nazionale delle Ricerche" is gratefully acknowledged.

ISSN 0967-8875

This paper addresses the main economic aspects of habitat conversion in biodiversity rich
areas. Land use changes are taking place as a result of demographic pressure (population
growth and/or migration) and because local resource users are not able to capture the global
benefits of biological resources; the particular case of Amazon's "peasant cycle" is illustrated
with the aid of the notion of bid-rent function. A mechanism to capture the global benefits of
conservation is to trade rights in land uses between tropical countries and the international
community. Based on the idea of International Franchise Agreements (IFAs), a simplified
framework is then formulated, to analyse under which conditions such a trade would be effective
in modifying local incentives. A significant element of this problem is the choice of a contractual
structure capable of minimizing conflicts of interest among the different parties involved in the
scheme. Finally, it is argued that introducing a market in land uses may have general
equilibrium effects whose final impact on conservation is worthwhile investigating.

It is widely recognized that one of the most important ways to protect biological resources is
conservation of habitat (see for example Ehrlich, 1988). This implies that a correct
understanding of the process of habitat modifications is needed to prescribe appropriate
conservation measures.

Apart from natural changes, habitats are subject to pressures of human origin, which often tend
to reduce the richness of their biological resources. In those cases, what is defined as habitat
modification (or disruption) from the point of view of natural sciences, is normally regarded as
land use change from the standpoint of social disciplines, and of economics in particular. The
issue becomes then one of identifying the economic factors causing land use changes, and
what forms of intervention are appropriate.

The two most important socio-economic factors which are usually considered responsible for
land conversion are demographic pressure, due to population growth and/or to migration1, and
what is known as distorted rate of return from conversion, i.e. the fact that it appears more
profitable to convert rather than conserve land. Population growth increases the demand for
final and intermediate commodities. This must be mainly met with local production at the

 An important qualification: demographic pressure causes deforestation when it is not mediated by the social and
institutional structure, as suggested by Perrings et al. (1992). This may happen when traditional systems of
sustainable management of natural resources break down. On these issues, see also López (1992).
expenses of preserved natural habitats - especially when foreign trade deficits constrain
imports, as it is often the case in developing countries.

Natural habitats are valuable to society, and yet the cost of altering them to the advantage of
productive activities seems to be low enough as to encourage conversion. This is indicative that
some form of distortion is taking place. According to economic analysis, distortions are normally
due to two causes: market failures and government failures.

In the first case, resources are allocated inefficiently because markets for some of the benefits
generated by natural habitats fail to exist. This is the case for some of the benefits enjoyed at
the local level (e.g. micro-climate regulation, watershed protection, pollination), and, more
importantly, for the so called "global benefits", like carbon sequestration2, and the general world-
wide concern for biodiversity conservation. In all of those cases, benefits are generated locally,
but enjoyed - even if with different degree of intensity - by the whole international community.
The availability of a large stock of biological resources, or the reduction in greenhouse gases
due to tropical forests carbon storage are "global public goods": consumption by any one
individual does not preclude consumption of anyone else in the planet.

If resources which are potentially valuable to society are depleted too intensively, there is scope
for governments to intervene in order to attribute the socially correct scarcity values to those
resources. So we come to the second source of distortions, government failure, which occurs
either because governments do not introduce measures to correct market failures (for example
by taxing habitat conversion or subsidizing conservation), or because they take the "wrong"
actions. For example, some governments may encourage exploitation of natural resources (and
thus conversion of habitats) in order to promote (unsustainable) growth, or to correct foreign
trade imbalances.

In the case of global benefits from conservation, government failure is due to the fact that there
is no "global government", which would be needed to incorporate those benefits into the
decision-making process of private resource users. However, there are ways out of this
impasse. Countries feeling that tropical nations are exhausting biological resources at a
"globally undesirable" rate should take the initiative to slow or reverse the process. A possible
way for them to do so, is to engage in a trade over rights on land uses with biologically rich
countries. Such a trade could be effective in promoting conservation, only to the extent that it is
able to affect the incentives of the actual local resource users. This paper examines the
conditions required for this to happen.

    The carbon storage value of tropical forests has recently been estimated by Brown and Pearce (1993).

In section 1, the process of land use change is analyzed with regard to a specific geographic
context, namely Brazil's Amazon. A diagrammatic illustration of the process of "nutrient mining"
is proposed, which uses the notion of "bid-rent function" (section 1.1). Shifting the rent function
of conservation compatible activities is indicated as the main way to slow down the process of
habitat conversion. This could be done by establishing a trade in land use rights between
developed and developing countries (section 1.2).

The issue of choosing an appropriate contractual structure is addressed in section 2, which
deals with International Franchise Agreements (IFAs). Conditions required for IFAs to be
successful are formulated in section 2.1. Introducing a market for land use rights could produce
a wide range of effects on the markets for production inputs and final commodities. These may
feed back into the relative demand for competing land uses. The final impact on conservation is
uncertain a priori. Therefore, section 2.2 argues in favour of a general equilibrium analysis; that
is, an analysis which takes into account all relevant interlinkages among economic sectors.
Section 3 provides some preliminary conclusions.


  The northern region of Brazil (including the States of Acre, Amapa, Amazonas, Para, Rondonia
  and Roraima) is a rich depository of natural resources: forest vegetal and animal products,
  timber, land for cultivation and ranching, precious metals like gold, hydro-generated energy. A
  variety of land users interact in the socio-economic environment of the Amazon: migrants,
  lumbermen, garimpeiros (placer miners), small and large farmers, cattle ranchers, rubber
  tappers and other forest products gatherers. Some data on the significance of their activities is
  provided by 0.

  Table 1:         Indicators of the importance of economic activities in the Amazon (Source:
                   Schneider, 1992)
Activity        Participation          Area Involved                             Comments
Ranching and    Nearly 100,000         Nearly 100,000 km2 in    Approximately    There are approximately 7
livestock       people involved in     forested areas,          one fourth of    million head of cattle in the
                raising cattle. Over   another 40,000 km2 in    agricultural     northern region (4.2% of the
                80% involved in        natural pasture.         value added.     national herd).
                agriculture with
                fewer than 100 per

Loggers         4,000 licenced         Mostly frontier Pará     13% of           Growth from 4.5 million cubic
                sawmills               and Rondônia             industrial       meters of log production in
                                                                production of    1975 to 24.6 in 1987.
                                                                the Amazon.
Small           1,800,000 people       Approximately 70,000
Farmers         employed on            km2 in the north
                farms smaller than     (1980).
                100 hectares in
                north (1985).

Garimpeiros     650,000 – 800,000      170,000 km2              $13 billion      Only 20-30% goes through
                                                                between 1980     official channels
                                                                and 1984

Extractivists   Fewer than             112,000 km2              $40-50 million   65% of the value of production
                200,000 of which                                in 1984          is rubber
                100,000 are tribal

Large-scale                            10-15,000 km2            $1 billion in    Mineral wealth of the Amazon
mining                                 actually being mined.    1987             estimated at $3 trillion.

Hydro-Devel-                           Upper limit of 100,000   98,000           Revisions of Brazil’s hydro-
opments                                km2 if all potential     megawatts        development plan have
                                       hydro development        hydroelectric    reduced planned development
                                       were to take place       potential        by 6,500 megawatts.
                                       (currently 5,445 km2)
  All those agents participate in the exploitation of Amazon's natural resources, some of them
  carrying out sustainable activities, others unsustainable ones. The latter activities, however,

tend to prevail over the former ones. Capital and labour are employed to a great extent to "mine
the nutrients" contained in the Amazon's soil in a process whose successive steps are logging,
gold extraction and/or annual cropping, ranching, and finally (possibly) abandoning land in
favour of other, still virgin areas (peasant cycle).
The following section provides a diagrammatic exposition of the process of
nutrient exhaustion and of the peasant cycle, based on the notion of bid-rent function.

2.1     An interpretation of Amazon deforestation in terms of bid-rent function
Deforestation can be explained as the outcome of a process of resource allocation among
competing land uses, for a given incentive structure. As a result, we could apply some basic
results of the theory of land use to summarize some features of the process. (For a treatment of
the theory of land use, see Hartwick and Olewiler (1986), and Randall and Castle (1985)).

The basic idea is that land owners are interested in maximizing the rent per unit of land, i.e. the
revenue from land in excess of the input (labour and capital) cost.

Rents, in turn, vary across different land uses (cultivating different crops, ranching, logging, and
so forth). The reason of this variation is that each use is characterized by different input
requirements, and hence different labour and capital costs per unit of output, different price of
the final output, and finally different transportation costs, depending on the distance from the
market of the area where the activities are carried out. For use i, rent is then defined by:

                                                             zi
                                            Ri = yi pi -tix-w 
                                                                                                (1)
                                                             yi

where: R is rent per unit of land (rent per unit of output - in brackets - times output per unit of
        land, y);
        p is price of the final good;
        t is a unit transportation costs;
        x is distance form the market;
        z/y is the labour requirement per unit of output; and
        w is the wage rate.

For simplicity, capital inputs are assumed to be absent, labour is supposed to be used in fixed
proportions, and neither unit transportation costs, t, nor fertility (output per unit of land, y) vary
with distance.

It is interesting to emphasize the last determinant of cost (i.e. distance) for three reasons. Firstly,
because we are interested in the balance between developed and non- developed (forested)
land. When productive activities take place in locations further and further away from the
market, the frontier between cleared and forested land moves ahead, and the size of the
forested area shrinks. So, increasing distance from the market of activities requiring land
clearing is a proxy for decrease in conservation.

Secondly, unit transportation cost is a parameter which can be influenced by policy through road
building; therefore, policy can in some cases have a crucial role in determining land use
changes. Indeed, this has seemed to be the case in the Amazon (see, for example, Mahar,
1989, Schneider, 1992).

Thirdly, we can use a diagrammatic tool known as "bid-rent function", which has the advantage
of a very intuitive interpretation. Consider 0: the variable X on the horizontal axis represents
distance from a hypothetical market central location; on the vertical axis there are rents from
land. The two downward sloping lines are the graphical counterpart of equation 0 for two
possible competing land uses, 1 and 2.

Figure 1:       Bid-Rent function for two competing land uses


                           C                     Slope: -t1y1

                             0        x1   x1’                     x2
For distances in the interval [0, x1), land will be used for activity 1, as rents from that use are
higher. For distances in the interval [x1, x2], land use 2 will prevail. For distances x>x2, none of
the two activities is profitable, and land will be left unused, (virgin forest in the case of the
Amazon). The bid-rent function tells us what pattern of land use will result from maximization of
rents; in 0 the bid-rent function is given by the heavy marked line ABx2.

How can the "peasant cycle" be illustrated by means of a bid-rent function approach? Consider
the four panels of 0. They are meant to be only an example, useful to clarify ideas, but without
claims of complete realism. In panel 1, an area is covered by forest for its whole size, 0-x. Until
distance xe extractivism (sustainable harvesting of non-timber products), which does not imply
clearing, is profitable; for x>xe no activity is viable, and the forest is left in its virgin state.

Agriculture has a lower labour input requirement (higher vertical intercept), but much higher
transportation costs (few roads are initially available) than extractivism. The reason for this
assumption is that in the case of agriculture, transportation costs have a more substantial
component of input transportation cost (pesticides, irrigation, technical assistance and so on).
As a result, agriculture it is more profitable only in proximity of the market, i.e. in the interval [0,
xa]. The bid-rent frontier is ABxe.

In panel 2, a road building program has taken place. This has relevant implications for the slope
of the rent functions. Namely, it tends to decrease transportation costs, that is, to make the rent
curves flatter. However, it is likely that agriculture will benefit more from the road building
program, so that its horizontal intercept will shift rightwards more (from xa0 to x'a) than what the
extractivism rent curve will do (from xe0 to x'e). The new bid-rent function is now CDx'e, so that it
will pay to convert land to agriculture (and to deforest) in the interval [0, x1] (note that to keep
matters simple, deforestation costs are deliberately ignored). In panel 3, the fall in agriculture's
productivity - due to nutrient mining - is represented by means of an increase in labour input
requirement per unit of output, that is, a lower vertical intercept of the rent function. This has the
effect of making profitable another activity with higher transportation costs (say ranching, or
cultivation of a different type of crop), in the interval [0, x'1]. Agriculture is now confined to the
interval [x'1, x1]. Note that as deforestation has been carried out over the range [0, x1], the rent
function for extractivism is no longer drawn for that tract. The bid-rent line is now FGHx'e, with a
jump at J.

Figure 2:   Frontier Expansion in a Bid-Rent Function Approach

Consider now panel 4. Nutrient mining continues in the cleared area, so that both farming and
ranching productivity decline; when they approximate zero, land is relinquished (interval [0, x1].
In the meanwhile, population density has increased: road building and the prospect of rising
income may have encouraged colonization, or proliferation of urban agglomerates; cleared land
may have become accessible to placer miners (garimpeiros). These factors, in turn, increase
demand for agriculture commodities, and, thus, with upward sloping supply, their price. In terms
of the diagram, this has the effect of shifting the rent function upwards, so that new deforestation
in the interval [x1, x2] is called for, and the size of the extractivist area shrinks to x'e-x2. Now the
bid-rent line is LMx'e. The process may iterate until extractivism ceases to be profitable
completely out of business, while the development frontier approachesx .

2.2     How to modify the bid-rent schedule in favour of conservation
As argued in the introduction, many of the benefits of conserving biological resources are of
global nature. Therefore, neither private resource users nor national governments are able to
fully capture the monetary reward of conservation; they will only take into account private and
social national benefits, respectively, when taking decisions about natural resource use. The
global public good nature of conservation's benefits suggests that some form of action at the
international level is called for.

One way for developed countries to express their willingness to pay for tropical forest
biodiversity conservation would be to simply buy some of the land where the forest is located.
Quite apart from the considerable resulting financial burden, a similar suggestion is clearly not
viable because of the limitations of national sovereignty that it would imply.

However, developed countries are interested in conservation, and not in the exclusive control of
land. As a result, buying only some of the rights of the land, and not their totality, could be
equally effective but more acceptable (and perhaps cheaper) than outright purchase. In
particular, landowners could be asked to give up their rights on some uses of land (e.g. burning
the forest, or developing land beyond a given level of intensity) in exchange for a money

How would this suggestion fit into the above bid-rent framework? The basic idea is that buying
some of the rights would modify the rent schedule for some uses of land, namely those
compatible with conservation, like extractivism (but others can be imagined, like ecotourism,
scientific research, and so on). Landowners carrying out these activities would then have two
sources of income: the proceeds of the activity itself, plus the fee paid by the conservation
agency for giving up the right to other uses. The resulting modification of the rent schedule

would make conservation compatible uses of land the most profitable ones, over a sufficiently
range of variation of the parameters of the above framework. Landowners would find it in their
interest to choose those uses.

3.     INTERNATIONAL         FRANCHISE         AGREEMENTS        AS    A    WAY     TO    TRADE

Trading conservation between developed and developing countries is a rather complicated
question. The problem for the international community is to find a contractual structure which
effectively induces local resource users to carry out conservation-compatible uses of land.
There are good reasons for the national state to be involved in such a contractual structure. In
many biologically rich frontier areas, there are no clearly identifiable land owners. Even when
land owners are known, widespread rental agreements are likely to be seen as an interference
with the State's sovereignty. Furthermore, respecting State sovereignty makes it very difficult for
donor countries to monitor the actual implementation of the agreed contracts. On the other
hand, the national State does have the appropriate policing powers. The problem is then to find
a contractual structure which could provide the "right" incentives both for the national State and
for local resource users.

A recent suggestion which goes in this direction is the International Franchise Agreement (IFA)
(see Swanson, 1992, and Swanson and Cervigni, 1992). An IFA is a concession, by the state,
of exclusive rights on land to a franchisee, with limitation on allowable uses in the interest of a
third party. As explained by Swanson (1992),

       "in the case of the Brazilian Amazon, the franchise would be a limited term of use of
       a specified property within that region subject to specific restrictions. The grantor
       would be the owner-state (O-S), e.g. Brazil. The franchisee would be the entity
       allocated the franchise. The third party is the global community, represented by
       bilateral agreement between an international organization such as the World Bank,
       and Brazil. The IFA operates by the O-S dividing the total development rights for the
       particular parcel of land between the GC and the Franchisee in a way that
       maximizes the O-S's return from that land. The O-S then collects a rental payment
       from the franchisee for its use of the franchise, and a rental payment from GC for the
       restrictions placed upon that franchise. Both "holders" of development rights
       (franchisee and GC) have an incentive to police their own allocations; the owner-
       state has the incentive to respond to intrusions on its holders' rights in order to
       maximize the value of its auctioned rights in the future (and to receive the future
       rental streams from both rights allocations). This mechanism allows the expression
       of GC's preferences within O-S in an incentive compatible fashion, which is the
       solution to the underlying problem".

The structure of an IFA is represented in 1.

  Figure 1:        The Structure of an IFA

According to the International Franchise Agreement (IFA) approach, the owner state confers
exclusive rights on land to a franchisee in exchange for a payment, and it imposes restrictions
on admitted uses in exchange for a compensation fee paid by a third party (the international

The mix of charges for admitted uses and compensations for prohibited uses would affect the
individual perception of returns from alternative activities. The decision on whether to engage in
an admitted activity or in an illegal one will depend on the policing effort of the body responsible
for the enforcement for the restriction. It will also depend on the share of compensation fee the
owner state will decide to transfer to local resource users.

An important point concerns the conditions under which individual incentives would be modified
so as to make conservation a more attractive use of land than at present. This issue is
addressed in the next section.

3.1      Effective restrictions on land uses: a partial equilibrium approach
Suppose that a particular area has been selected for implementing an IFA. To keep matters
very simple, assume the following 2x2x2 structure. There are two possible uses of land, two
types of land users, two options about restrictions on use. The two uses are use 1, which is
prohibited by zoning (non-conservation compatible activities), and use 2 which is admitted
(conservation compatible activities). Use 1 is more profitable over the range of distances from
the market [0, x1], whereas use 2 is more profitable over the range [x1, x2]. (For a graphic
illustration, refer again to 0).

Local land users may either be owners or squatters, depending on whether or not they have a
valid tenure title. If they have it, this subsection assumes that the state has conferred to them full
rights of land use when land tenure was granted. Therefore, they are entitled to a recurrent
compensation payment of αC for giving up rights to use 1, where C is the amount paid by the
international community, and α is the fraction of it which the owner state redistributes to local
resource users. Conversely, squatters have no title to land; so they have to pay a fee f in order
to carry out any activity on land, but are also entitled to compensation αC to forgo use 1.

Land users carrying out conservation-compatible use 2 face a labour cost for patrolling, given by
wlo and wls per unit of distance for owners and squatters, respectively. The reason for this cost
is the forest cover makes it difficult to fully enforce property rights. In order to exclude others
from using forested land, and to impede undesired clearing, land users will have to meet the
cost of preventive actions (e.g. fencing, patrolling, etc.) against squatting and encroaching.

Regarding the restrictions on land use, there are two options about them: a) accept; b) refuse,
and carry out the most profitable activity. In the first case, the rent bid schedule reduces to CBx2.
In the second case (refusing restrictions), the rent schedule is the "natural", and more profitable,
ABx2. The owner state will have an incentive to repress infringement of zoning, since otherwise
it will forfeit its share of international transfers, i.e. (1-α)C. It will then police the area subject to
restrictions on use. Owners and squatters will therefore incur a cost of bo and bs, respectively, if
they are caught breaking zoning, which happens with probability π (an increasing function of the
owner's state patrolling effort). They can also "cheat", (i.e. pretend to respect restrictions on use
when in fact they don't) and collect the compensation αC if they are not caught breaking zoning,
which happens with probability (1-π)3. A complete description of the payoffs to the different
option for each category of land users is provided by 1.

 It is likely that in a more general setting the decision process will be sequential. That is, individuals will first decide
whether or not to accept restrictions; next, if they did accept, they will decide whether or not to "cheat".

Table 1 Benefits and Costs of Accepting and Refusing Restrictions on Land Use
                       Accept zoning                              Do not accept zoning
             Cost             Benefit              Cost                     Benefit
        O    spend wlo for    Rents from use       cost of being caught     Get compensation αC
        W    monitoring       2 over [0,x2]; get   bo with prob. π;         with probab. (1-π); Rent
        N    over [0,x2]      αC as compen-        spend wlo over [x1,x2]   from use 1 over [0, x1];
        E                     sation                                        from use 2 over [x1, x2]
        S    spend wls for    Rents from use       cost of being caught     Get net compensation
        Q    monitoring       2 over [0, x2];      bs with prob. π;         (αC-f) with probab. (1-π);
        U    over [0,x2]      get (αC-f) as net    spend wls over [x1,x2]   Rent from use 1 over [0,
        A                     compen-sation                                 x1]; from use 2 over [x1,
        T                                                                   x2]

Net pay-offs to different options could then be expressed by the following nnnnequations, where
Ri(x) denotes rents from use i (i=1, 2) as a function of distance from the market, x, and R stands
for rents to land user y from action z, over the entire tract [0, x2]. (y=o (owner), s (squatter); z=a
(accept), na (not accept)). In particular, we have:
        • Owner who accepts:

                                     a 2
                                    R = ò R2(x)dx+αC-wlox2                                       (1)

        • Owner who does not accept

                         x         x2
                      na 1
                     R = ò R1(x)dx+ ò R2(x)dx+(1-π)αC-πbo -wlo(x2 -x1)                           (2)
                         0         x1

        • Squatter who accepts:

                                   a 2
                                  R = ò R2(x)dx+(αC-f )-wlsx2                                    (3)

        • Squatter who does not accept:

                         x         x2
                      na 1
                     R = ò R1(x)dx+ ò R2(x)dx+(1-π)αC-πbs -wls(x2 -x1)                           (4)
                         0         x1

From these equations it is easy to derive the following Acceptance Conditions:
        • Owner:

                        a na
                       R ³R  Þ π(αC+bo)³ ò (R1(x)-R2(x)) dx+wlox1                              (5)
                        o o

        • Squatter:

                       a na
                      R ³R  Þ π (αC-f+bs ) ³ ò (R1(x)-R2(x)) dx+wlsx1                          (6)
                       s s

The interpretation of these conditions is that for land users to respect zoning the total expected
cost of not accepting restrictions on use must be at least as large as the total cost of accepting
them. The cost of not accepting (the LHS of 5 and 6) is only borne when individuals are caught,
which happens with probability π. This is cost id given by the foregone compensation αC (the
opportunity cost) plus the penalty by (y=o, s) (the direct cost). Similarly, the total cost of
accepting restrictions, which appears on the RHS of 5 and 6, is given by net opportunity costs
(the foregone extra rent in the relevant tract [0, x1]) plus the incremental direct cost, i.e. the
higher fencing and patrolling cost.

There are two sets of issues concerning conditions 5 and 6. The first one regards empirical
estimation of the direct and opportunity costs of conservation, i.e. the RHS of the equations.
This is an area where available evidence is quite poor (as reviewed in Cervigni, 1992, and
Pearce et al., 1992), and therefore further research is needed.

The second set of questions is related to the LHS of 5 and 6. The variables involved in it are
chosen by two distinct decision-makers with conflicting interests: the international community,
which chooses the total amount of compensation, C, and the national state, which chooses the
share of C going to land users, α, the penalty charges, bs and bo, the use fee, f, and the policing
effort, which affects π.

For a given sum of direct and opportunity costs, "low" (high) levels of international transfers C
require "high" (low) α, π and bs and/or low (high) f. The national state is likely to prefer
combinations involving low policing effort, low penalties and low redistributive ratio: policing
effort is expensive in monetary terms, penalties in political ones, and a low α allows cuts in taxes
and/or higher spending in other sectors. Conversely, the international community is likely to
prefer low C, and a higher share of economic and political costs to be borne locally.

The upshot of this discussion is that there is scope for empirical research on minimum
compensation required to offset direct and opportunity costs of conservation. There is also
scope for research in the contractual structure necessary to minimize potential conflict of
interests among individuals, national state and international community.

3.2       A general equilibrium approach
In the previous sub-section, rents change only because "policy" variables like αC, f, π, bo and bs
change. In fact, there are further determinants of rents which may vary when some of the above
policy variables change. In general, rents will depend on the entire range of costs (capital,
transportation, labour), and on demand conditions. An expansion of conservation compatible
uses will produce a change in the relative demand for inputs. Changes in relative inputs
remuneration may alter demand composition, which may feed back into relative rents. If, for
example, allowed activities are more labour intensive than prohibited ones, an excess demand
for labour will result, which may be satisfied by reducing employment in other sectors, or by
inducing migration from other regions. Changes in population structure may have an effect on
relative demand for final outputs, and possibly also affect relative prices. This, in turn may have
impacts on relative rents beyond the initial change produced by the market for development

As a result, it would seem desirable to build a description of the interaction of the different types
of agents of the economic system under investigation. How could this interaction be
represented? A possible, very simplified way of doing this is the flow diagram which is drawn
and explained in 0.

How could we model the introduction of IFAs in this framework? If the above conditions 5 and 6
are satisfied, some local resource users would find more profitable than before to undertake
conservation compatible activities, CC. The flow of compensation fees, originated from the
international community and managed by the owner state would act as a subsidy to sector CC;
but it would not be a subsidy to its output, but rather a subsidy to one of its input (a subsidy per
unit of land conserved, net of fencing and patrolling costs). In 0, the introduction of IFAs is
represented by an additional flow between sector CC and the international community, via the
owner state.

Box 1: Representing the Economy of a Selected Tropical Region

                                   Labour Market                             Labour force change

                                   Forested                    Households
                                   land                                                    Population
                                          Land     Total     Squat-                        change
                                          Use      Area             Owners
Final    Land                                                ers
                                   LD     Change
                                   De-    s                                                   Net
                                   forested                                   demand          Migration
                                   land                      internal         from rest
                                                             demand           of country
                    Intermediate Good

                                                                                       Rest of the
                                   Product Market                                      Country

The picture represents a standard economy-wide flow of goods and services. It should
describe the economy of a selected region, open to transactions with the rest of the country.
On the right hand side there are economic units supplying inputs and demanding outputs
(households, rest of the country); on the left hand side there are units demanding inputs and
supplying final and intermediate outputs. There are three sectors: i) land clearing, ii) non-
conservation compatible activities, NC, iii) conservation compatible activities, CC.
The land clearing sector produces LD, deforested land out of labour, l and forested land, LF.
Cleared land is only used as an intermediate good by the second sector, NC, which requires
LD and labour as inputs. The third sector includes conservation compatible activities, CC, which
require labour and forested land as inputs. The inputs would then be labour, forested land and
cleared land; the latter two however are linked by the total land availability constraint, A=LD+LF,
where A is total land area, so that the number of inputs is in fact two. Labour is supplied by
households, who control land use with or without legal title (owners and squatters,
respectively), and demand final goods produced by sectors CC and NC. Similarly, the rest of
the country demands final goods and contributes to changes in local consumption and local
labour force size via inter-regional (net) migrations.
The basic idea in aggregating production into three sectors, is that forests resources could be
either used sustainably (e.g. extractivism, non-destructive logging) or unsustainably (e.g.
expanding the agriculture frontier, clear felling). The second way of using forest resources
gives rise to the demand for the intermediate good LD. Considering this last sector separately
allows to focus on deforestation as a provision of goods/services demanded by other sectors.
Which is to say that deforestation can slow down only if sectors using cleared land as an input
slow down their activity, and/or their size shrinks relative to the other sectors of the economy.

Box 2: Effects of Introducing IFAs

                                      Labour Market                            Labour force change

                                      land                                                    Population
                                                     Total     Squat-                         change
Final                                        Chan                     Owners
            Land                             ges     Area      ers
Goods                                 LD
                                      forested                                  demand             Net
                                      land                     internal         from rest          Migratio
                                                               demand           of country         n
                       Intermediate Good

                                                                                             Rest of the
                                      Product Market                                         Country


The international community pays the owner state for limiting admitted uses on land. The latter,
in turn, redistributes parts of the transfers to local resource users undertaking activities of type
CC. This is represented by the dotted line in the above diagram. Note that the international
community is not subsidizing production of CC, but rather the use of a particular input, LF. If net
transfers manage to change individual behaviour (conditions 5 and 6), sector CC should start
to increase the share of its output on regional GDP. (Shift from dotted to continuous lined box
surrounding CC). This would have some consequences.
A first effect would be to increase the demand for labour in the CC sector (thick line joining
labour market with CC). The effect on the distribution of labour across the three sectors will
vary according to different possible assumptions on labour supply (essentially it will depend on
how migratory flows will be affected by the initial change in the rent schedule of activity CC).
A second, longer run effect should be on entry and exit from the three sectors. In order to
improve conservation, IFAs should be able increase the number of "firms", or of economic
units, carrying out activities CC at the expenses of activities NC, and, as a result, decrease the
demand for LD. In a sense, this is what the international community is after: by subsidizing one
input, LD, the international community encourages entry in the sector that uses that factor more
intensively; that is to say, entry in sector CC.
If, however, CC is more labour intensive than NC, expanding CC at the expenses of NC may
involve an increased absolute size of the labour force. This implies higher demand for
necessities like agricultural commodities; if it is too expensive to import agriculture goods from
the rest of the country, this could increase the demand for local products. If the latter ones are
produced with unsustainable techniques, this could increase the demand for deforestation,
partially or totally offsetting the decrease in demand due to IFAs.
0 and 0 are intended to give only a flavour of possible interactions in the selected regional
economy which a suitably specified general equilibrium framework should be able to capture.
The purpose of this section has been to sketch out a way to model the economic forces which

interact in causing land use changes, and the effects that contractual structure like IFAs would
have on them. In order to obtain quantitative indications, further empirical research is necessary.


An economic approach to biodiversity conservation highlights that habitat conversion is taking
place mainly as a result of local resource users not being able to capture the global benefits of
biological resources. Trading rights on land use may enable them to internalize some of those

This paper has provided an illustration of the process of land use change as prevailing in the
Amazon, based on the notion of bid-rent function. Next, it has proposed a simplified framework
to analyze under which conditions a scheme of trade in land use rights such as the International
Franchise Agreements (IFAs) would be effective in modifying incentives towards land use. A
significant element of this problem is the choice of a contractual structure capable of minimizing
conflicts of interest among the different parties involved in the scheme. Finally, the paper has
suggested that introducing a market in land uses may have general equilibrium effects whose
final impact on conservation is worthwhile investigating.

Further research seems desirable on many of the issues addressed here, like estimation of
direct and opportunity costs of conservation, the nature of contracts among the international
community, national states and individuals, and the general equilibrium effects of markets for
rights on land.

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