Some Analytics and Implications of EcoLabeling

Abstract

Concern over the condition of the world's forests has led to proposals for new standards of sustainable forest management, the argument being that new practices will enhance the overall viability of the forests. Although the initial concerns focused on the problem of high rates of deforestation in the tropics, in recent years much of the attention has been refocused on the temperate forests of the world. One set of proposals has resulted in a series of multinational national protocols and agreements. These include the Helsinki Agreement, among the ministers of European countries, and the Montreal process and Santiago Declaration among many non European temperate countries. These protocols commit countries to work toward increasing their efforts for sustainable forestry. Another approach involves various industry-led approaches for introducing new, more sustainable practices, including, for example, utilizing international certification organizations such as the International Standards Organization (ISO). Finally, there are proposals that call for the certification of forest management practices and the monitoring of the on- the-ground performance of individual producers. Such an approach involves developing criteria for sustainable management, adapted for unique regional factors, and the extensive use of teams of third-party certifiers. Wood harvested from these forests would be certified by a third party as produced in sustainable managed forests. Such wood would then be eligible for use in the production of products designed as "ecolabed." Ecolabeling, however, would require a "chain-of-custody," which would insure that the wood produced in a sustainable forest would reach the market untainted with noncertified wood.

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April 19, 1998
Some Analytics and Implications of Eco-Labeling
By Roger A. Sedjo and Stephen K. Swallow1
Concern over the condition of the world’s forests has led to proposals for
new standards of sustainable forest management, the argument being that
new practices will enhance the overall viability of the forests. Although
the initial concerns focused on the problem of high rates of deforestation
in the tropics, in recent years much of the attention has been refocused on
the temperate forests of the world. One set of proposals has resulted in a
series of multinational national protocols and agreements. These include
the Helsinki Agreement, among the ministers of European countries, and
the Montreal process and Santiago Declaration among many non
European temperate countries. These protocols commit countries to work
toward increasing their efforts for sustainable forestry. Another approach
involves various industry-led approaches for introducing new, more
sustainable practices, including, for example, utilizing international
certification organizations such as the International Standards
Organization (ISO). Finally, there are proposals that call for the
certification of forest management practices and the monitoring of the on-
the-ground performance of individual producers. Such an approach
involves developing criteria for sustainable management, adapted for
unique regional factors, and the extensive use of teams of third-party
certifiers. Wood harvested from these forests would be certified by a
third party as produced in sustainable managed forests. Such wood
would then be eligible for use in the production of products designed as
“ecolabed.” Ecolabeling, however, would require a “chain-of-custody,”
which would insure that the wood produced in a sustainable forest would
reach the market untainted with noncertified wood.
The Current Situation with Certification
There are a host of issues associated with the certification of sustainable
managed forests (e.g. see Upton and Bass 1995; Viana et al. 1997;
Kiekens 1997; Sedjo et al. 1998). An important issue, particularly with
third party certification, is the degree to which it is voluntary and thus
1 Roger A. Sedjo (email: sedjo@rff.org) is a Senior Fellow at Resources for the Future, Washington,
DC. 20036 Stephen K. Swallow (email: swallow@uriacc.uri.edu) is an Associated Professor at the
University of Rhode Island, Kingston RI 02881.

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driven by either altruistic or market concerns rather then being required
by law or required as a condition to allow the importation of certain wood
or wood products. Other obvious problems include: What are acceptable
forest management criteria and how would these vary by region? How
much would costs rise if certification were required? Who would do the
certification and who would certify the certifiers?
Furthermore, the fundamental question is how much difference would
certification make to the overall health of the forest and to the nontimber
values that society wishes to obtain from the forest. If certification is
voluntary, then some forests might experience improved practices in
order to obtain certification, but the rest would remain in their earlier
management status. In fact, some forest might lose their value for wood
production and be converted to other nontimber uses. Furthermore, the
major global pressures on forests are found in the deforestation that is
taking place in the tropics. Certification is unlikely to have any effect on
forest areas that are being converted.
A major rationale of voluntary certification is that the consumer can use
market forces to promote price differentials for certified wood. A price
differential will then reward certifiable forestry practices. Who can
object to voluntary behavior by consumers and producers within the
context of the market?
Overview: Some Concepts
In this paper we examine the operation of a competitive market when
dealing with two products – certified and noncertified wood. Certified
wood is used as an input in the production of ecolabeled products.
Noncertified wood cannot be used in ecolabeled products. Hence we are
dealing with intermediate input in markets driven by derived demand.
The products are differentiated by virtue of their forest management, but
are physically identical.
For consumers the products are substitutes, but for some consumers only
imperfect substitutes. Consumers of wood are assumed to be of two
types. Either they are indifferent to certification or they are willing to
pay some, but not an infinite premium for certified wood.
For our analysis we begin with a market with only noncertified wood and
we find an equilibrium price and quantity for that situation. Next, we
assume that a mandate requires a switch to only certified wood. We then
find the equilibrium price and quantify in this market. Finally, we allow

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the gradual development of a noncertified demand as some consumers
substitute noncertified wood for certified. We then examine equilibrium
adjustments in the two markets related.
On the supply side it is assumed that some firms can meet the
certification and chain-of-custody standards at lower costs than other
firms. Thus, we can think of there as being two interrelated market
supply curves – one for certified wood and the other for noncertified
wood. Both curves will have the normal upward slope. However, the
certified supply curve will generally be above the noncertified curve,
reflecting the higher costs associated with certification and maintaining
the chain-of-custody. Since some firms will find the additional costs
modest, while others will find them higher, the ecolabeled supply curve
will generally be higher than the noncertified curve and the differences
will increases (i.e., the curves will not be parallel but will diverge as they
move away from the origin.)
The Model
A basic partial equilibrium supply and demand approach is used.
Figure 1 presents the initial equilibrium situation for wood. In a world
where only noncertified wood exists, Dnc is the demand for wood and
Snc is the supply of wood. The equilibrium price is Pnc at quantity Qnc.
Note, that in this initial exploration, certification generates no new
demand for wood, i.e., certification per se did not create any new wood
demand, or Dnc is equal to Dc.
Suppose that certification is now required everywhere and the demand
schedule is unaffected. Supply shifts from Snc to Sc as the higher costs
associated with certification are manifest. The new equilibrium would
be Qc and Pc, with the price increasing and the quantity falling. This
situation is also shown on figure 1. The implications of this outcome for
the world’s forests are mixed. On the positive side, more of the world’s
forests would be managed in a mode consistent with certification and
presumably sustainability. One the negative side, more of the world’s
forests would become submarginal for timber production, thus make
alternative land uses, including conversion to nonforest uses more
economically attractive. Even in the case where the demand for wood is
positively impacted by certification, large areas of the world’s forests will
still be submarginal for forestry and therefore candidates for conversion
(see Murray and Casey 1998).

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In figure 2 we note that associated with any equilibrium is an excess
supply curve, S excess in the left quadrant, i.e., the supply that would be
forthcoming if price should rise higher. (Analysis of excess supply and
demand curves is common in the international trade literature where
foreign prices may be higher or lower than those found in domestic
markets.) This becomes important as the analysis proceeds.
Suppose now, starting from the position requiring certification, PcQc,
that certification were made voluntary. In Figure 3 the certified market is
in the right quadrant while the noncertified market is in the left. Suppose
also that preferences are such that many consumers were indifferent to
certification, but that some preferred certified wood and were “willing-to-
pay” some variable (depending upon the consumer) amount of premium.
As certification becomes voluntary, some portion of demand for certified
wood would fall as a portion of that demand shifted to the newly formed
noncertified market. This demand in the noncertified market, in the left-
hand quadrant, is D1nc. The demand in the certified market would fall to
D1c, being determined by the amount of demand for noncertified wood
that has shifted out of the certified market. Total demand would remain
unchanged since D1c + D1nc = Dc. The equilibrium price of certified
wood would fall to P1c and the quantity to Q1c (not designated).
The supply on noncertified wood is the excess supply from the certified
market, less the cost of certification or S1nc. In the noncertified market
the equilibrium price is Pnc1 associated with the quantity Q1nc. This
process of substituting noncertified demand for certified demand is
presented in figure 4 and results in movement down the certified supply
curve, Sc, toward the x axis with the certified prices and quantify both
falling. Simultaneously, the equilibrium path of price and quantity are
traced out by an “envelope curve” (the dank curve) in the noncertified
market.
It will be noticed that as the demand for noncertified wood increases
relative to certified wood, the price differential diminishes and eventually
disappears. Beyond this point, a further decline of the certified demand
curve, say to D3c, would result in the equilibrium price of certified wood
being lower than that of noncertified wood. However, since consumers
of noncertifed wood are indifferent between certified and noncertified
wood, they would not pay more for uncertified wood and hence further
price adjustment would cease once the price differential disappears.

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Note that under some reasonable assumptions: below some threshold
level of demand for certified wood, a price premium would cease to exist,
even if there are a substantial number of consumers “willing to pay” a
higher price for certified wood.
Some Qualifications:
The threshold for this effect is not indifferent to the extra costs associated
with achieving certification. The smaller the costs of certification, i.e.,
the horizontal distance between Snc and Sc, the smaller the price
differential for any situation. A small cost differential implies that a
small certified market can retain a price differential. In the extreme, parts
of the two curves would coincide if firms could meet the certification
requirements at no increase in costs. Conversely, where the costs of
certification are large, it is more difficult to maintain two separate
markets.
Furthermore, although not shown graphically, to the extent that new
demand accrues in the certified market, independently of general wood
demand, the price differential will be larger and the threshold smaller for
a differentiated price smaller before the price differential disappears.
Policy Implications for Certification
The implication of this analysis is significant. If the demand for certified
wood is small relative to the overall demand, the costs of certification
significant, and the amount of new demand created by certified wood
insignificant, then the market will not generate a price premium even if
there are a substantial number of consumers “willing-to-pay” the
premium. A major implication of the above analysis is that “willingness-
to-pay” is necessary, but not sufficient to generate a price differential
between the two markets.
However, to the extent that the costs of certification are small and new
demand is created for the certified wood, the two-market two-price
alternative is likely to be generated by voluntary market activities.
Finally, for certification to have a significant effect on the condition of
the world’s forests it must apply to many (most) of the forests. The
analysis suggests that fairly stringent conditions will need to be met for
large portions of the world’s forests to voluntarily be certified.

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References:
Kiekens, Jean Pierre. 1997. “Certification: International Trends and
Forestry Trade Implications,” Study by Environmental Strategies Europe
presented to the Ministere de l’Environment, des Resources naturrelles et
de l’Agriculture de la Region Wallone.
Murray, Brian C. and James F. Casey. 1998. Sustainable Forest
Management Certification: An Economic Framework for Policy
Analysis,” Working Paper, US EPA, RTI Project Number 6687-1 WP,
March.
Sedjo Roger A., Alberto Goetzl and Steversen Moffat. Forthcoming.
Sustainability in Temperate Forests, Resources for the Future,
Washington, DC.
Upton, C. S. Bass. 1996. Forest Certification Handbook, St. Lucie
Press, Delay Beach, Florida.
Viana, V.M., E. Jamison, R.Z. Donovan, C. Elliot, and H. Gholz, editors.
1997. Certification of Forest products, Issues and Perspectives, Island
Press, Washington, DC.

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Figure 1. Non-Certified and Certified Wood
P
Q
PC
PN C
SC
SN C
DD
N C C
º
QCQN C
0

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Figure 2. Excess Supply
Se x c e s s
P
Q
0
S
D
Q