Economic Case For Expanding Forestry In Scotland

DIVISION OF ECONOMICS ECN48E DISSERTATION IN ECONOMICS SPRING 2009

Economic Case for Expanding Forestry in Scotland by Marta Wozniak 1417164 supervised by Professor David Bell

Abstract In this essay we try to argue for expanding forestry in Scotland. Our discussion is built on the economic theory of forestry. And so, Chapter 1 is dedicated to the investment theory of Johnsson and Lofgren, which relates the problem of investment to a potential higher utility achieved through it. In the same chapter the rotation theory offered by Perman et al is presented, offering us the theory for achieving the optimal consumption .Then in Chapter 2 we move to our case study presenting potential utility gains for the following groups: private investors, Scottish society, tourists and the world. In the same chapter we extend the theory and show how afforestation can affect the whole economy through the input-output analysis. Additionally, we try to define the value of positive externalities of planting forest using Perman et al multiple-use forestry theory. Moreover, the concept of forests as public goods will be presented. Following, we discuss the costs of afforestation and potential utility losers: sheep farmers and tourists. Subsequently, we present and access the government’s incentives to afforestation. Finally, we relate the problem of increasing the forest cover to the present economic climate. The government is mentioned throughout the paper as it plays an important part in our discussion. It is because the paper has been inspired by the release of the Scottish Forestry Strategy 2006, which defines an increase in the forest cover in Scotland to 25% (from current 17.2%) as its main goal.

2

To my husband

Acknowledgments I would like to say thank you to Mr. Simon Hart from UPM Tilhill for providing the needed information for my analysis. In addition, I would like to thank him for challenging discussions, which made me look at the issue from another perspective.

3

Table of contents 1. Forestry economics theory......................................................................................7 Investment Theory......................................................................................................8 Rotation Models.......................................................................................................12 Single rotation forest model.................................................................................13 Infinite-rotation forestry model...........................................................................16 4

2. Potential benefits of afforestation.........................................................................19 Benefits to private investors: the wood processing industries.................................20 Sawmill industry..................................................................................................20 Paper industry......................................................................................................21 Biofuel industry....................................................................................................21 The benefits..........................................................................................................22 Input output analysis................................................................................................24 Benefits to Scottish society and tourists: positive externalities of afforestation......26 Multiple-use forestry............................................................................................27 Forests as public goods ......................................................................................30 Recreation and tourism........................................................................................31 Health and regeneration benefits........................................................................32 Benefits to environment ......................................................................................33 Labour market and business enterprise ..............................................................34 Benefits to the world: climate change mitigation.....................................................35 3. Cost of planting new forests.................................................................................38 Financial costs of afforestation cycle.......................................................................39 Land.....................................................................................................................39 Planting, Managing and Felling..........................................................................40 Opportunity costs of land ........................................................................................41 Case for the sheep farming..................................................................................41 Negative externalities...............................................................................................42 4. The Government incentives to afforestation .......................................................44 Tax incentives..........................................................................................................44 Grants.......................................................................................................................45 5. Forestry and the present crisis..............................................................................46 6. Conclusion...............................................................................................................47 Appendix ....................................................................................................................49 References...................................................................................................................50

Introduction In 2006 The Forestry Commission Scotland released its Strategy, where it announced it was planning to increase afforestation in Scotland to 25% by 2050. At the moment the forest cover stands at 17.2%. This paper will strive to answer why Scotland

5

should pursue this goal, building the arguments around the Strategy. First we will look at some forestry economics theory, to help us answer the question from a theoretical point. The theory will bring into our discussion the risk, and the uncertainty problems of forestry. Then, knowing on what basis the Scottish government decided to increase the forest cover, we will move to the case study presenting benefits of afforestation to four different groups. And so, in the first part of the essay we will discuss possible benefits to sawmill, paper and biofuel industries in Scotland, which represent the private investors’ group. The discussion will continue with presenting benefits to 3 remaining groups: the Scottish society, tourists and the World. This part of the debate is built on the idea of positive externalities of planting forests and the notion of forests as public good. Firstly, we will look at the potential benefits of afforestation to tourists. The benefits to society, which we will subsequently present, are: health and regeneration of communities, an increase in biodiversity and benefits to labour and business enterprise. Finally, we will talk about possible benefits of afforestation to climate change mitigation and what impact it can have on the fourth group, the World.

It is important to realise that the Strategy (2006) does not present the negative side effects and costs of planting new forests. Therefore, the next part of the essay will be dedicated to this subject. And so, the average costs of planting and managing forests will be presented. In addition, we will discuss the problem of opportunity costs of land and argue the case for the sheep farming. Lastly, we will present the negative externalities of afforestation like possible losses in tourism through potential negative effects on biodiversity and aesthetics. Following, the government’s incentives to afforestation will be debated. The last chapter will be dedicated to combining the

6

problem of afforestation with the current economic situation. We will try to address whether forestry could prove as one of the stepping stones out of recession. Indeed, forestry could be a way Scotland could fight its increasing unemployment problem. And so, this debate will be the end of the paper followed by the conclusion.

In our discussion we are going to try to express the benefits and the costs in money terms when possible. However, it is important to emphasise, that in some cases, the benefits and the costs can be only a rough estimation as e.g. no direct data is available while in others, the pecuniary analysis will be dropped totally, although some attempt to value the non-market goods will be presented through the multiple-use forestry theory offered by Perman et al.

Before moving to the main discussion we also need to realise that forestry in Scotland is and potentially could be, more important to some areas than others. It means that benefits could be higher in some areas and negative side effects could be higher in other. The main parts of the country where forestry is dominant at the moment are Argyll, Dumfries and Galloway, Borders, and Highlands. However, even these areas, with already quite high forest cover, differ in the way they could benefit from a sustainable and well managed increase. We will discuss reasons for these spatial differences in the main body of this paper.

1. Forestry economics theory Before we move to the case study, we need to accustom ourselves with some economic theory of forestry. In this chapter we are going to address the investment theory because the question why should we increase forestry in Scotland is really a

7

question whether we should invest in planting new forests at all, or whether it is better to investment e.g. in the stock market. In both cases we have price uncertainty at the end of the investment and systematic and unsystematic risks. However, the investment in forestry has its specifics and these will be addressed in following paragraphs. This should bring us into a conclusion whether it is worth while to invest in woodlands and why the Scottish Government decided to increase the forest cover. Following will be a discussion on what rotation system would be most economically beneficial and what problems we can face in this area of forestry.

Investment Theory An individual who wants to dedicate capital to a forest investment needs to face some forestry specific facts. First of all, although the investments into forest plantation require resources up front, financial benefits do not realise until trees mature, and rotation may takes as long as 40 years in Scotland, although first small trees can be felled after 14 years. This process is called thinning and the value of the trees from this stage is much lower. Other benefits, like benefits to biodiversity could realise from the start, but for now we do not include them into our discussion. However, in comparison with bonds, which mature and give us a profit after 40 years, the investor in forestry may decide not to realise the benefits after the maturity time, and he may leave the forest standing. Moreover, after the initial investment, the forest requires a continuous investment like insurance and management expenditure. On top of that, though we will not discuss this problem in more detail, we need to remember that the forestry industry in Scotland faces competition when it comes to international market, especially from Scandinavia, Russia and Canada, All these add to the complexity of our debate.

8

Following on our discussion, in this part of the chapter we are going to look at the investment theory specific for forestry economics presented by Johansson and Lofgren (1985). We are going to base our investment decisions on the assumptions taken from Johansson and Lofgren. And so, we use the analysis, which includes the imperfect market assumption based only on the following: “c’) The capital market is imperfect in the sense that the lending rate is different from the borrowing rate. Both interest rates are known with certainty, and are constant over time.” Johnsson and Lofgren, (1985 p.11) In addition, we assume that the future real income and the future net real receipts from the investment are known. We are going to support our analysis with Figure 1.1. The consumption constraint is defined as OB’A’C’ if we decide to invest in forestry. If, on the other hand, we decide not to invest, our consumption constraint is shown on Figure 1.2 as OBAC.

However, if we look at these two graphs we should realise that it is impossible to make an objective decision whether to invest or not. The problem lies in the fact that there are choices under OBAC that do not exist under OB’A’C’ and vice versa. In application to our discussion we can raise a question: how did the Scottish Government decide to invest in forestry since it is not obvious, which one of the choices is better or worse. The answer is as follows. “If there are consumption bundles belonging to the choice set under the investment regime that do not belong to

9

Figure 1.1 The feasible consumption sets under an imperfect capital market regime— investment choice Taken Johnsson and Lofgren 1985, p 13

Figure 1.2 The choice set in an imperfect capital market—non investment choice Taken Johnsson and Lofgren 1985, p.12

10

the choice set under the non-investment regime. And every consumption choice under the non-investment regime is also feasible under the investment regime, then it is obviously the case that the choice set under the investment regime is unambiguously larger, and the investment can be recommended independently of preferences.” Johansson and Lofgren (1985, p.12).

Continuing our discussion on the theory, the mathematical expression of the above problem is presented below.

(1.1) when it is recommendable to invest, (1.2) when it is not recommendable to invest. These relationships are very general and therefore in order to expand our discussion we will try to find criterions, which will help us decide which one of these relationships is true. Figure 1.3 includes the indifference curves.

Figure 1.3 A profitable investment under an imperfect market capital From Johansson and Lofgren 1985, p14

11

We can see on the figure above that investing gives us a higher utility, as it takes us onto a higher indifference curve. In a situation when it is a fact, it is advisable to invest. In addition, if the following is true (1.3a)

(1.3b) where equation 1.3a is equal to the present value of the investment evaluated at the borrowing interest rate and equation 1.3b is the present value of the investment evaluated at the lending rate. It follows that if

i.e.

both are bigger than 0, the investment is preferred to non-investment. In other words, if through investing the Scottish Government can achieve a higher utility it should promote investment in forestry. We will distinct four groups which could achieve a higher utility thanks to afforestation, these are: the private sector represented as wood processing industries, the Scottish society, tourists and the world, which can achieve a higher utility through climate change mitigation.

Rotation Models Now, we stand before another question that is “what harvest programme is required in order that the present value of the profits from the stand of timber is maximised?” Perman et al (2003, p 605). In other words, as Johnsson and Lofgren present it, we need to choose an optimal consumption flow, a choice which will yield an optimal choice level at every time. In order to find an answer to this question, different rotation models, discussed in Perman et al, will be presented in the following paragraphs. They will help us answer problems like: how to choose an optimal rotation time or how the interest rate and the opportunity cost of land can affect our

12

decisions. The debate will be heavily based on the Perman arguments with support from Johansson and Lofgren.

Single rotation forest model The single-rotation forest model is built on the assumptions that all trees are the same age, they are felled at the same time, and that there is no replanting possible. For simplicity it is also assumed that there are no opportunity costs of land, and the following are constant in real terms over time: the planting costs (k), the marginal harvesting costs (c) and the gross price of felled timber (P). Lastly, the only revenue from the forest comes from timber alone and there are no other profits involved in our model. The analysis is presented from the angle of forest owner who also owns the land. The question he faces is: when is the best time for the harvest? To answer this question we need to decide at what age the present value of profits from the stand of timber is maximised. If we want to calculate the profits from felled trees at a certain age we should subtract the planting costs and the harvesting costs from the value of our harvest. Then the present value equals to

(1.4) where T is the age of the forest, ST is the volume of timber available for felling, p in the lower case is the net price of the timber and i is the private consumption discount rate which is to be equal to the opportunity costs of capital to our forest owner. The present value of profits is maximised at the value of T which gives the highest value

of

. In order to find the maximum we differentiate the equation 1.4 with

respect to T, we use the product rule and set the derivative equal to zero and solve for T. The result is 13

(1.5) According to Perman, this equation states that in order to maximise the present value of profits the rate of growth of the undiscounted net value of the stock has to be equal to the private discount rate. Since the timber price and harvesting costs are constant, this equation could be presented as

(1.6) that is, as an equality between the proportionate rate of growth of the volume of timber and the discount rate. Perman gives us an example, and so let us assume that a cubic foot of felled timber stands at £10, the total planting costs are £5000, and the harvesting costs per cubic metre are £2. The table with calculations for this data is available in the Appendix. One could notice that if i = 0 the present values are identical with the undiscounted values. This means that the rate of growth of timber is equal to the growth of net value of this timber. It indicates that the best time to cut trees is when their positive growth stops, which according to the table is in 135 year.

Figure 1.4 Present values of net benefits at i = 0.00 (NB1) and i = 0.03 (NB2) From Perman et al 2003, p. 606

14

The situation is different if we introduce a discount rate of i = 3%. In this case the present value is maximised in the year 50. It is well described by the Figure 1.4. At t = 50 both i and the rate of growth are equal. Before t =50 the return from the forest is above the interest rate, and beyond this point, the return is less than the interest rate. It is important to realise that the results will greatly depend on the discount rate used. In the above example a change from 0 to 3% changed the optimum age for harvesting from 135 to 50. In addition, Perman emphasises that single-rotation forest model, although very restricted, brings risk into the discussion. Figure 1.5 shows the variation of optimal felling age with the interest rate for the illustrative data from the appendix. It proves that even small changes in i can cause huge changes in harvesting programmes. Or in other words, the return on our investment depends on the interest

Figure 1.5 The variation of the optimal felling age with the interest rate, for a single-rotation forest From Perman et al 2003, p.607

15

rates, which in reality are unpredictable and change over time.

Infinite-rotation forestry model Building on the single-rotation forestry model, the infinite-rotation forestry model offered by Perman introduces the problem of the optimal length of the rotation, if we know re-planting is going to take place (in the case of Scotland it is a legal obligation). This presents us with the problem of opportunity costs from the delay in felling and re-planting of the next rotation cycle. So now we need to equate the benefits of deferring felling with the costs of deferring planting. Perman proves that in

16

this model the rotation time is shorter than for the single-rotation forestry model. This is an important conclusion for us, as all forests in Scotland nowadays would be replanted. However, the whole analysis of the infinite-rotation model does not differ much from the single-rotation model and therefore it will not be presented in more detail. Nonetheless, Perman offers another interesting problem, i.e. he proves that at certain i commercial forestry would not be pursued (for both models). It is the case for the higher interest rates.

Moreover, he offers us the analysis of relationships between the interest rates, the planting costs and the net price of timber with the optimal rotation times. And so, there is a negative relationship between the interest rates and the optimal rotation. As the interest rates go higher, the marginal costs of earnings forgone from having capital tied in timber and the profits forgone from not felling and selling the land increase. The planting costs are positively related to the rotation i.e. it will be more profitable to cut trees earlier, as the cost of replanting fall. Intuitively, the rise in the net timber prices will have a negative effect on the rotation length. Moreover, these relationships bring out one of the great issue of forestry i.e. uncertainty, especially since outside of the model, these variables are not constant over time.

In addition, if someone plants a forest they do experience opportunity costs of capital, as the interest rates are not 0%, but even more importantly they are not constant, and differ between borrowing and lending. Furthermore, as the interest rates change over time, the owner of forests, while planting, cannot make an assumption with certainty when will be the best time for his investment to realise. These uncertainties introduce risk to our model as it implies that the outcome of the investment is unknown. Risk

17

aversion may be a potential problem for the government, and may mean that they may have to provide a lot of incentives in order to attract private investment. In addition, according to Perman’s theory, the low interest rate may mean that the owners of woodlands, unless in need capital, will not see a need to harvest the trees, which may be a good or a bad thing in the present economic climate.

Based on the theory we can have a look at some statistics in order to answer further whether it is worth investing in woodlands. If we look at the Figure 1.6, we can clearly see that since the data on forestry has been available, investment in forestry outperformed equities markets. This, in spite of the uncertainties, could be an

Figure 1.6 Top performance of rural asset From Savillis Agricultural Land Market Survey 2009

18

additional incentive for private investors to dedicate their capital to forestry expansion, as we must not forget the earlier argument. The investment theory by Johnsson and Lofgren explained why the government wants to increase the forest cover. It is due to potential higher utility achieved by different groups. Now, as we know why the government wants to (why it should) promote afforestation in Scotland, and how potentially it could be developed, we will have a look at the case study.

2. Potential benefits of afforestation At the beginning of the 20th century Scotland forest cover was around 4.5%. In 1919 the Forestry Commission were established to ensure an increase in the forest cover and allow the UK to build its own timber reserve, in case of another war. However, the changes in technologies around 1960s had made timber irrelevant in warfare. Still, the forest cover reached around 7% by 1950 and continued to grow. In 2006 the Scottish forests officially entered the expansion path when the Forestry Commission released The Scottish Forestry Strategy. At the moment, the afforestation stands at

19

1.3million hectares and the planned increase by almost a half (650,000 hectares) is a considerable project, which is bound to affect Scotland and the World. We will start our discussion with three different wood processing industries and we will try to decide how afforestation could change their utility.

Benefits to private investors: the wood processing industries In this chapter we are going to discuss potential benefits of afforestation to three industries: sawmill, paper and biofuel. We will try to decide what impact the large scale forest planting can have on these sectors and whether they can achieve a higher utility through it. First, we will start with introducing the industries with emphasis on these sectors in Scotland. We will use The Forestry Commission Statistics and ONS (unless otherwise stated) to give us an overview of the situation within each one. The presentation of sectors will be followed by a discussion of potential effects of afforestation on each one of them.

Sawmill industry According to ONS 47% of all UK sawn softwood, which accounts for almost 1.5 million cubic metres, has been processed in Scotland. The industry’s production experienced continues growth since 1998 with parallel decrease in the number of sawmills from 95 to 70 in the same period. Additionally, 94% of softwood sawn logs used in Scotland came from the internal harvesting. The 3 main products of sawmills are used in the following industries: constructions, fencing, and packaging. Their percentage usage of sawmills products is 45%, 29% and 26% respectively. These statistics bring us to following conclusion. The increase in production with fall in the number of mills means a positive increase in the efficiency, which probably comes from technology developments. The production growth experienced is potentially due

20

to the demand growth, which in the great respect has been boosted by the housing boom. Furthermore, Scotland experienced the highest increase in the consumption of wood within the UK. In addition, according to the statistics in the future years the industry is expecting an increase in the supply of logs from just above 2000 to over 7000 thousand green tonnes by 2026. By then, Scotland could produce over 60% of the UK sawn logs.

Paper industry The increase and development is not part of the paper and pulp industry however. The number of different types of mills has been falling every year, with recent announcement of closure of the IP’s paper mill in Iverurie in Aberdeenshire. The downward trend is due to the high production costs and the fall in the global paper demand. Moreover, in comparison with the sawn log industry, the production fell as well, with additional almost 50% average fall in demand in this sector for round wood and sawmills products. This fall may be a result of an increase in usage of recycled paper as collection (and so usage) of recovered paper grew from 5 to 9 million tonnes between 1997 and 2007(CPI statistics). These statistics however, create a seriously negative market outlook for the paper industry in Scotland. Nonetheless, at the moment around 62% of all the wood processed products are pulp and paper (including the recovered paper) with a value for whole UK of £4.2 billion.

Biofuel industry In the recent years the wood products and residues started to become a popular fuel. In 2008 the total usage of the virgin fibre (unprocessed wood), the imported wood palettes and the recycled fibre in Scotland across all sizes of ventures was 413,357 ordinary dry tonnes per year (where the virgin fibre stands at 256,685) with industrial

21

and commercial plants utilising at least 1000 odt/yr accounting for about 96% of the total usage. Moreover, the usage of biofuel has been steadily increasing since 2005, when the Forestry Commission began the study. It is probably due to an increase in the number of operational plants from 43 to 154. At the moment there are ten projects in place with the potential virgin fibre usage of 761,000 odt/yr.

The benefits Knowing about the situations in the above industries we can now move to the discussion on the benefits of afforestation in Scotland for these wood processing industries. First, it is important to realise that the UK is the fourth biggest importer of forest products in the world, with total value of the imports at £12billion where wood products account for £6.8billion. Translating it into production, UK’s apparent consumption is 56.4 millions of cubic metres, with the internal production of 9 million of cubic metres of the wood raw material equivalent.

As presented above, a significant amount of the wood products is processed in Scotland. As a result, the afforestation in Scotland could help private investors achieve higher utility. According to Timber Price Indices, at the moment coniferous standing sell at £10.68 per cubic metre, which represents a price decrease in comparison with 2007. However, with the higher forest cover comes higher potential supply of wood. It means that, ceteris paribus, the price of timber is likely to fall, but the supply should stabilise. On the other hand, if the demand for raw materials increases Scottish exports of timber, the prices could rise. The fall in price could help the paper sector, which struggles to compete within the European market. However, it may not be the case, as Scotland has to compete with countries like Brazil or China, where production costs are cheaper. This may be reason for downward pressure on the 22

price of paper. An increase in afforestation therefore may not have a huge effect on this industry’s utility, as the other inputs costs, i.e. especially labour, affect its production.

From the statistics it is obvious that the sawn wood industry in Scotland is experiencing an expansion. It is important to realise that if this particular industry is to continue growing, in a sustainable way, it will require an increase in timber supply. At the moment, this wood processing industry contributes around £650 million to Scottish economy, which represents about 1% of Scottish GDP. It means that if the increase to 60% of all UK production is going to happen for saw mill industry, by then, it could contribute £812.5 million to GDP. Moreover, if it is to stay on the expansion path, an increase in supply is welcomed and needed. Therefore for this industry a raise in the forest cover can help it achieve a higher utility.

A higher utility could potentially be achieved by the biofuel industry, as well. The plans to build more biofuel plants mean that the country will need a sustainable supply of fuel, as well, in order to avoid supply shocks, which can be caused for example by an increase in export duties on timber. In addition, an increase in usage of this type of renewable energy would allow Scotland to diversify away from gas and coal heating. This may increase utility of the economy as it could create a more stable energy market. Furthermore, afforestation might be even more important as Scotland set herself very ambitious climate change mitigation goals.

Finally, the UK imports almost 85% of all the forest products consumed. An increase in Scottish forest cover could allow the UK to gain more independence on the world

23

wood market and minimize any possible knock on effects and supply shocks coming from outside, which could help in ensuring country’s economic stability. If the production would increase it could generate more financial benefits to Scottish economy, achieving higher utility for private investors. However, the above discussion focused only on 3 sectors of the economy. Therefore, we will dedicate the following chapter to an analysis, which will help us to understand how the whole economy could be affected by an increase in afforestation.

Input output analysis So far we discussed how afforestation can affect some of the wood processing industries in Scotland. In this chapter we will present the problem of inputs and outputs of forestry as it will help us to expand the analysis to the whole Scottish economy. The concept of inputs and output is shortly presented in Mather’s (1971) article. He recognises there are two main inputs into the forestry: the capital inputs and the labour inputs. The first one translates into opening investment being high and can be divided into labour cost, machinery and material costs. After the opening investment, the capital input falls although it continues as forest management is required. The inputs grow again, when the felling process can start, and the infrastructure like new roads has to be put in place. The labour input follows a similar structure with the high, low, high pattern in intensity. Forestry has additional specifics when it comes to outputs, as “it is impossible to predict with any degree of accuracy the price of timber at the end of a rotation which may be 40 years or more in length” Mather (1971, p.27).

Another way of looking at the inputs and outputs of forestry is using the input-output tables supplied by the Scottish Government Statistics. The input-output model helps 24

to predict the effect of changes in one industry’s inputs and outputs on other parts of the economy. This analysis will allow us to decide what increase in utility could be achieved by other sectors of the Scottish economy if afforestation increases. In our discussion we will focus on the multiplier effect, which allows us to demonstrate how a demand change in forestry activity can affect the rest of the economy through a direct effect, which represents a direct increase in a product demand. The multiplier also includes an indirect effect, which accounts for the demand change for the forestry suppliers, due to the forestry demand change. In addition, we use in our analysis the Type II multiplier, which includes as well the induced effect. This effect accounts for the households’ income increase in spending as a result of the increase in employment, due to the increase in direct and indirect demand. We are going to look at multipliers for two economic activities relating to forestry: the forestry planting (2.1) and the forestry harvesting (2.2). For brevity sake we are going to look at 3 types of multipliers. Nonetheless, they should give us enough information to create an informed analysis.

The first multiplier we are going to present is the output multiplier, which gives us an estimation of direct, indirect and induced impacts on output for the whole economy. And so, for the forestry planting (2.1) it is 1.77 ranked 27th (out of 123) and the forestry harvesting (2.2) it is 2.25, which is ranked 1st. It means that these two forestry activities have a huge effect on the Scottish output, especially the harvesting. Additionally, if we look at the Leontief Type II multiplier, it gives us in detail the proportion of the final output impact and the industries affected by the final demand change. And so for the forestry harvesting (2.2) we can learn that amongst the most affected industries, apart from the forestry itself, is other land transport (94). While

25

for the forestry planting (2.1) it is construction (88). Moving on with our discussion on multipliers, another important multiplier is the employment effect multiplier. This multiplier shows us the ratio between the direct, indirect and induced employment change to the direct output change due to an increase in the final demand. And so, the multiplier is ranked 22nd for the forestry planting (2.1) and 11th for the forestry harvesting (2.2). It is again, a reasonable high result for these two sectors of the industry. Finally, we will look at the income effect multiplier. This multiplier gives us the direct, indirect and induced income effect to the direct output change as a result of increase in final demand. The forestry planting (2.1) ranks as 59th and the forestry harvesting (2.2) ranks as 10th. This time, the forestry planting is not ranked very high, but forestry harvesting has still a relative high income effect.

The ranking of the presented multipliers gives us a good idea how forestry activities, in comparison to other economic activities, affect the Scottish economy. We can clearly see that the two activities mentioned are ranked quite high for the analysed multipliers. It means that potentially, forestry can have a reasonable high effect on the economy. The multipliers are an important addition to our discussion because they include other sectors, not only the forestry ones. And so, we can infer that forestry sector could affect positively utility of a large part of the Scottish economy.

Benefits to Scottish society and tourists: positive externalities of afforestation Planting new forests will not only potentially benefit the economy. An increase in the forest cover brings higher utility to other groups: the Scottish society, tourists and the World. We can find some of these benefits discussed in the Scottish Forestry Strategy. Indeed, the report focuses more on benefits, which cannot be sold or easily measured

26

in monetary terms. We will call them positive externalities, as these benefits are not accounted for in market transactions. In addition, in the following paragraphs the idea of forest as a public good will be developed, and we will discuss how these two concepts could affect potential utility gains. The problem of forest related tourism and recreation in Scotland will be discussed and we will try to answer how afforestation could affect the utility of tourists. We will discuss the potential benefits of forests to health and communities. Additionally, we will present predicted environmental benefits of increase in the forest cover. These benefits, including the positive effects of afforestation on labour and business enterprise, are the potential ways the Scottish society could achieve a higher utility. Finally, we will examine the problem of climate change mitigation, which will be developed separately in the following chapter. However, we will commence again with the theory, which should help us with valuing the non-timber related benefits of woodlands.

Multiple-use forestry In Chapter 1 we discussed the theories on the investment and the rotation processes in forestry. However, this discussion was based only on timber. As now we would like to discuss other benefits of forests, which are not involved in timber transactions, we need to introduce a theory, which could help us to value these benefits. Perman et al in his discussion tries to account for these types of benefits. He does it through extending his rotation models with the multiple-use forestry theory. For brevity sake we will focus only on the infinite-rotation model. Continuing our discussion, if a forest provides more benefits than just timber, this forest is a multiple-use forest. This brings an issue of efficiency into rotation models. It is because if the owner of the forest cannot be compensated for by the non-timber benefits, without government intervention, he is unlikely to involve these benefits in his decision making, which 27

potentially can negatively affect the consumption of non-timber goods of the society. That is, if the positive externalities are not accounted for by the forest owner. If this is the case it would mean that the optimal rotation age would not change.

Nonetheless, we assume that the non-timber benefits can be accounted for. However, it is important to keep in mind that the valuation of positive externalities stays rather awkward as mentioned by Mather (1971). Again, the forest owner wants to maximise his profits. He would do it through finding an optimal rotation period with the highest net present value for both: the timber and non-timber benefits. This affects the rotation time in two ways. First of all, the non-timber benefits add to the quality of the forest, which increases the length of the rotation time. However, in the same time, the non-timber benefits increase the value of the land, which could negatively affect the length of the rotation. He argues it is hard to decide which argument will prevail. This brings us back to the start, as it means we cannot use rotation to account for nontimber benefits. Still, to solve this problem Perman recommends equalising the increase in the net value of the timber left growing for an additional period, or in other words the marginal benefit of deferring harvesting on the left-hand side. On the righthand side he puts the interest forgone on the value of the growing timber plus the land rent, i.e. the interest forgone by not selling the land at its current value. This is presented in the equation below.

(2.1) This expression equates the earlier mentioned marginal benefits of deferring harvesting on the left-hand side with the marginal costs on the right-hand side. We can also express it graphically, which is represented in Figure 2.1. From our

28

discussion, we could assume that incorporating of non-timber benefits could change the way benefits increase over time. If non-timber benefits increase with the age of the forest it will shift the benefits curve upwards creating a longer optimal rotation and vice versa. However, Perman points out another issue. He claims that the changes in increase in benefits over time is not constant, which makes it difficult to decide what is the optimal rotation time. It is because the forest quality will increase in some non-timber values like aesthetics but fall in other, like water values, and for some values there is no clear relationship with the increase in age. Notwithstanding, he concludes that “it is most unlikely that the total non-timber benefits will be independent of the age of forests, and so the inclusion of these benefits into rotation calculations will make some difference” Perman et al, (2003 p. 615) Figure 2.1 Incremental change in value and costs with rotation stand age From Perman et al 2003, p.614

The above discussion allows us to account for the non-timber benefits of the woodlands. This theory could help to explain why some forests are national parks, where the optimal rotation time is not even a question. It is because the non-timber marginal benefits are much higher, than potential benefits of felling the trees. Or in 29

other words, the timber extracted from a forest has a lower value than the same forest standing. And so, some of these benefits which constitute the left-hand said of the equation will be discussed in the following paragraphs. However, before moving to the next part of our discussion we need to realise we assumed so far that social and private benefits are the same. This is unlikely to be true in reality as some benefits of forests are public goods, and the owner of the forest cannot account for them. In this case, according to Perman, some type of regulation is welcomed.

Forests as public goods From the microeconomic theory we know that some goods are public goods and forests are one of them. We want to look at this issue because it will extend the analysis of non-market goods provided by forests like recreation or health. Most of forests, maybe apart of the town parks are usually non-exclusive. Nonetheless, no trespass law in Scotland means that from a legal point of view it is impossible to exclude someone from any type of forest. In addition, after forests are planted and grown the consumption of additional units of the good involves zero social marginal costs of production. Although, we may argue that after too many people visit a certain forest some benefits of forest walks e.g. a quiet surrounding can diminish. Continuing our discussion, we need to realise the idea of forest as public good introduces a new problem. It is because for a public good, the value of producing one more unit is the sum of each consumer’s valuation of the extra output. It means that final demand is derived from the vertically added private demand curves. It follows that an individual spending on a public good does not take an account of the benefits it could bring to other consumers. Therefore too few resources are likely to be devoted to this good. In addition, though forests can be considered as public good, the problem of where they are planted may imply possible exclusion. People who are worse off are less likely to 30

travel miles to a forest, as they may be unwilling to pay for this experience. It implies that if more forests are planted closer to the urban areas it could help to increase social utility. Then, more forests may be within a willingness to pay of a larger group, where WTP refers to a value a person is willing to pay for a certain good. However, it poses problems which will be discussed in more detail in the next chapter.

Recreation and tourism In the following paragraphs we will try to answer how afforestation could affect utility of tourists. Tourism is one of the biggest Scottish industries. It generates around £4billion and employs 200,000 people (Scottish Government Tourism). Scottish woods related tourism generates £165million plus additional £94million from one day recreational trips to forests. The question is whether the increase in the forest cover will have a positive effect on the utility of tourists in Scotland, as more forest will be available. This will greatly depend on where forests will be planted. It is quite possible that most afforestation will take place up north or close to the English border, where the prices of land are likely to be lower, which maybe due to the fact there are fewer alternatives to forestry. However, if it is the case, possibly it will have a small or no effect at all on the increase in recreation or tourism. The problem of accessibility will be discussed in more detail in the following paragraph. A good example of an increase in utility of tourists is the Mountain Bike World Cup in Fort William, where both Forestry Commission and a private investor (Nevis Range) built mountain bike tracks. Now, this event attracts worldwide public and sponsorship. It also positively affects utility of a group of tourists, with a specific interest in biking. However, this example clearly implies an additional investment.

31

Health and regeneration benefits The Scottish Government emphasise the fact that forests can enhance the health and regenerate communities, which could potentially increase the utility of Scottish society. According to their studies, on average 60% of the Scottish population’s both physical and mental health is at risk from inactivity. In fact, in this case, encouraging moderate activity, like forests walks, is the most beneficial. In addition, Scottish Index of Multiple Depravation 2006 clearly indicates that people whose health would benefit the most live in the cities or close to the urban areas, with City of Glasgow taking the lead. This puts the government in a difficult position because planting forests in close vicinity to Glasgow could be too expensive as the opportunity costs of land could be too high. Furthermore, most people that are at this risk, do not value this type of activity. In addition, it may be a challenge to convince most people from the deprived communities to travel out of the city for a forest hike. Therefore, an additional effort may be needed to change people’s valuing of this kind of activity. Additionally, forestry could take an important part in regenerating the rural Scotland, as it could help vulnerable communities diversify their income streams (Scottish Forestry Strategy 2006). Planting forests could help the economical development of areas where e.g. farming stopped to be economically viable. However, planting forest itself will not attract much more additional revenue from recreation and support to build an infrastructure is needed. Then, forests could become a sustainable source of income like the presented earlier example of Fort William. This model could be successfully imitated across the country generating revenue for the local communities. This implies greater governmental involvement, whether through building the infrastructure itself or through grants. We will discuss this and relating issues in

32

greater detail in Chapter 5. Nonetheless, forests can potentially become economically beneficial to the vulnerable rural communities.

Benefits to environment Scottish Forestry Strategy greatly emphasises the benefits afforestation could have to the environment and through this to Scottish society. The society could benefit from increase in biodiversity as some people attach certain value to it, and so an increase in biodiversity will increase their utility. We will develop the problem of climate change in the following chapter but here we will focus on other environment related issues. At the moment, the native woodlands in Scotland make up 17% of all woodlands, with the rest being spruce and other conifers. This is an important fact because biodiversity in e.g. Sitka spruce forests may be not existent. It is mainly mixed broadleaves forests, which add to biodiversity. Nonetheless, the reason for this disproportion between coniferous and broadleaves is likely to be related to the fact that most of the native broadleaves woodlands are unlikely to be commercial ones, though part of the Forestry Strategy is to encourage hardwood, which is broadleaves, plantations. Moreover, the government offer much higher grants for planting broadleaves than for the coniferous. We may assume it is due to the fact that native forests bring more benefits to the environment and through it, to the society. And so, Scottish Forestry Strategy puts emphasis on this type of forests plantation, as well. Consequently, in our discussion, we will make native woodland the focal point.

Some animal species like the black grouse and the capercaillie depend on the native forests habitats. In order to secure their future the right native woodland management and conservation is required. For the same reasons, the government emphasise the importance of planting new woodlands, which are underrepresented in Scotland. This 33

could help the endangered animal species and promote biodiversity. In the afforestation process they present certain specific ways which could help with increasing the quality of the habitats and the biodiversity. In addition, they stress the importance of the landscape quality and how forests can enhance it. It is an important fact as landscape quality could increase the society’s utility as well, through an increase in aesthetics of the area. Finally, the government wants to include issues of biodiversity in every decision making related to forests, to emphasise its importance.

Interestingly enough, an increase in environment quality through planting broadleaves is the only positive externality, which is in some way represented in market transaction. It is simply because the grants available for broadleaves plantations are much higher than for coniferous plantation. However, if it is to create sustainable positive effects on biodiversity it can create problems of lack of investment. It is because commercial investors are unlikely to support the idea of planting forests, which will not be harvested. One of the ways the government may try to encourage it is through even higher grants for native woodland plantations. Nonetheless, if the investors will not be able to reap the benefits of the investments by harvesting, government may have to look towards other options. For example, Trees for Life charity is dedicated to restoration of Caledonian Forest.

Labour market and business enterprise New forests not only mean more timber for processing. The planting process, management, and felling require labour and developed business enterprise. It means that increased afforestation efforts in the future years can have positive effects on these two, very important for the society, parameters. At the moment the forestry industry, taking in to account management and haulage position comes up to over 34

10000 people in equivalent full time employment (Scottish Forestry Statistics). Increasing planting means a sharp increase in demand for labour as this part of afforestation is relatively labour and capital intense. Moreover, the Forestry Strategy (2006) argues that an increased demand for labour could increase the quality of labour. It is due to the fact that people will want to develop appropriate skills, if the employment will be available in this sector. In addition, an increase in demand may mean that there will be a more sustained supply of labour as well, as more people will be willing to participate in this industry for a long term. It could lead to an increase in productivity and business competitiveness. All this could mean positive effects on the society’s utility.

In addition, we must not forget about tourism and recreation sectors. Potentially, afforestation could greatly increase the employment in the forest related tourism and recreation. Still, for this to happen, the government needs to devote additional planning and investment to create the infrastructure. This however, can greatly help the development of the rural communities according to Forestry Strategy. Especially, as the forest related tourism can help with diversification from farming. Both tourism and farming problems related to forestry will be developed in more detail in one of the subsequent chapters.

Benefits to the world: climate change mitigation So far, we tried to argue that an increase in afforestation could potentially increase the Scottish society’s utility. Now it is time to discuss potential benefits to the world through the climate change mitigation. It has become one of the main goals of the Scottish government. The Forestry Strategy is part of the government plans to mitigate the global warming as new forests could help substantially with the climate 35

change commitments. Scotland jointly with England, Wales and the Northern Ireland signed the Kyoto Protocol in 1997. According to the Protocol, afforestation is one of the available removal processes as trees absorb CO2 and store it, and therefore afforestation could help Scotland with meeting its emission targets. Under the Kyoto Protocol the targets are rather modest in comparison with the Scottish Climate Change Bill (2007), which sets a target of 80% decrease in emissions by 2050, where 1990 is the base year. The decrease in emissions means that a higher utility could be achieved not only by the Scottish society but also by the World. In addition, an increase in forestry could offer some economic benefits in the area of the carbon credit trading. We are going to look at these two problems in more details in the following paragraphs

In the Intergovernmental Panel on Climate Change Report 2007 on “Mitigation of Climate Change” forestry is presented as one of the possible ways of decreasing the amount of carbon emission through removal of CO2 from the atmosphere. The paper presents 3 main mitigation options for the forestry industry: carbon retention in harvested wood products (1m3 stores about 0.92 tCO2), product substitution and producing biomass for bio-energy. According to data shown in the report the tree’s potential CO2 accumulation depends on the specie. An example of Sitka spruce removal capacity is presented by Jarvis (2008), where after 16-17 years from planting this specie can remove 24.2 +/- 1.14 tonne of CO2 equivalent per hectare every year. This number stays constant over the rest of the tree’s life. If we assume that afforestation in Scotland would increase up to 25% (increase by 650,000hectares) it would mean Scotland could mitigate 11.375 MtCO2 per year more when the goal is reached. At the moment, according to Jarvis, it is calculated that the Scottish forest

36

plantations between years 1950-1990 removed annually 10 million tonnes of carbon dioxide.

However, planting new forests on some grass planes can meet opposition as tree planting activities could potentially release carbon dioxide to the atmosphere. Jarvis in his article mentions it takes about 12 years for Sitka spruce to compensate this emission. In addition to CO2 retention, using more forest biofuel could be a source of sustainable fuel. It would benefit Scotland in two ways. First of all, the recent technology allows for using tree leftovers, like brash and stamp, which means that energy can be created with tree residues that would not be used otherwise. Additionally, with instability in the fossil fuel markets, biomass can supply a secure, environmentally friendly, low carbon foot print alternative to fossil fuels. At the moment, data on biomass energy creation is only available for the wider UK and not Scotland. According to these statistics, available in the Environment Accounts (Autumn 2008) biomass supplies 358 tonnes of equivalent oil supply per year. It has also been calculated that plant biomass (it includes straw and energy crops) produces 409 GWh of electricity per year.

To what we mentioned above, the good forest management (e.g. environment “friendly” thinning strategies) can potentially be a low cost method of climate mitigation. However, we must not forget that planting new forests requires an up-front capital investment, with a higher intensity of labour at the beginning, with both financial and labour intensity slowing down after a while. This characteristic of forestry presents an important economic constraint, and although the environmental

37

benefits from planting forest may be reaped instantly (e.g. lower soil erosion) economic benefits will not realise in case of Scotland for 38 years on average.

This problem could be lessened as forests potentially could offer financial benefits from the carbon credit trading. However, this depends on the price of a tonne of CO2 equivalent and policies put in place. The higher the price of carbon credit the more return one would get from planting trees. In addition, there is an idea of translating forest planting into carbon credits (Scarborough, 2007). It is possible as trees remove CO2 from the atmosphere, and this can be treated as an abatement strategy for big companies. If this idea would be implemented in Scotland this could potentially attract a large number of needed private investors, especially as Carbon Reduction Commitment has been put in place. This policy affects big energy users (6000MWh and above). It comes into effect in 2010 and involves both private and public companies with the electricity bills of £500,000 and above. For first 3 years the companies will be able to purchase the scheme carbon credits for £12 per tCO2. After this period, the credits will be auctioned, which can cause an increase in price. For some companies, abatement may not be economically efficient, and potentially, if company would receive carbon credit from planting forest, it may increase both private and social benefits. Though, this policy could produce opportunistic behaviour in some cases.

3. Cost of planting new forests In the following paragraphs we will discuss the potential negative pressures on utility of some groups, due to an increase in the forest cover, starting with basics i.e. the costs of creating a forest will be presented. If someone wants to plant a forest the first

38

thing one needs, is to possess land in one way or another. Therefore, we will discuss the issue of land and how it can affect the profitability of an enterprise in the subsequent paragraphs. The issue of the spatial differences in prices of land will be presented. Second problem we will discuss is the costs of planting, managing and felling the forests. The problem of variation in costs depending of the characteristics of the area will be discussed as well. In the final paragraphs the opportunity costs of land will be considered and the negative externalities of planting forests will be mentioned as well.

Financial costs of afforestation cycle Land Over the past five years the prices of the land in Scotland increased by 112% and they stand at the average of £2,928 per acre of the arable land, with the pasture land at just under £2,000, the prime dairy land at almost £3,500 and the arable land at almost £5,000 per acre. (Savillis, 2009). For brevity sake, we will omit in our discussion the problem of other types of land. This difference in the prices indicates variations in the quality of land and its primary usage. In addition, although the data is not available on this particular subject, the land is more likely to be more expensive closer to the urban settlements. It is probably to be related to the accessibility issue. For example, the further away from markets the forest is the higher the haulage costs, which decreases the benefits. Level areas are likely to be more expensive than the more hilly ones as planting, managing and felling is more difficult in the hills. All these variables make the decision where to plant forests to achieve the highest efficiency much more difficult, especially if we take into account that in Scotland hills dominate.

39

Planting, Managing and Felling When the problem of possessing the land is solved we need to move to the costs of planting, managing and felling our forest. The information provided is the courtesy of UPM Tilhill Forestry. The creation of 50 hectares plantation of commercial conifers costs around £60,000. These costs increase with the type of trees planted, characteristics of the area, the type of ground preparation and the infrastructure put in place. Our initial £60,000 investment includes everything from costs of plants, through drainage, finishing with the track construction, although the land is unimproved in our case. The annual expenditure falls later on, and after the several years includes only the insurance, management and maintenance, which can be around £25 per hectare per year. Nonetheless, the costs of the first 10 years come up to £100,000. Planting a mixture of conifers and broadleaves is about £30,000 more in total. However, the difference is discounted by more generous grants. In general, from data made available from Tilhill, it appears that grants are high enough to make forest planting itself a profitable enterprise. It is because the difference between the costs and the inputs from grants is positive in 10 years, running from £5,000 to £130,000 of profit. This surely helps to offset the costs incurred from the land purchase. When we decide that we want to fell the trees we need to apply for felling permission. One of the requirements of felling permission is an agreement to replant. Nonetheless, the costs of felling and extraction are around £15 per tonne and haulage between £5-14 per tonne. At the moment standing value of timber is within £3,600£7,200 per hectare.

40

Opportunity costs of land As mentioned earlier, the land prices will differ between the northern parts of Scotland in comparison with the areas around Glasgow, where the opportunity cost of land is potentially higher. In addition, land in the north of the country is likely to be lower in price, because of e.g. the haulage costs, which could diminish the benefits. This poses a serious problem for the government’s plans. It could be more expensive to plant forests on the flat land, or in the less hilly areas, as most of it may be farming land. On the other hand, felling on hills could be expensive, which makes it a less attractive investment. In addition, it is possible that forests could be planted on less fertile flat lands, like pasture lands, but this issue will be discussed in more detail in the following paragraph. And so, we will treat the sheep farming as the main rival to forestry. We will discuss the problem of the farming economic viability, and whether forestry could stand a chance with this type of agricultural activity. Notwithstanding, it is important to realise that use of less fertile soil could have a negative effect on the speed of growth of trees.

Case for the sheep farming The agricultural production contributes over £2billion to the Scottish economy with half of it being livestock related output. In this paper, for the sake of brevity we will only discuss the sheep farming as it is more likely that this type of agriculture will be an alternative to forestry. Especially in the Highlands, where according to Scottish Agricultural College, the most recent hill production is financially uneconomical. Their report states that the reason why some farmers choose to stay in hills is due to the government support schemes which are: Single Farm Payment and Less Favoured Area Support Scheme. In addition, since the SFP is no longer linked to the number of

41

animals, the levels of livestock have gradually dropped i.e. the production dropped. They also argue that if the support was not available, the numbers would fall even more. Especially for the hill areas, these schemes will decide of the future of farming. However, it also implies that opportunity costs of land will be lower for the areas where the farming is becoming less viable and where the sheep numbers are falling. For example Dumfries and Galloway, Inverclyde or North Lanarkshire, where the number of livestock fell over last years quite significantly the opportunity costs of land will be lower and the forestry could become a potential alternative. The opportunity costs of land will be higher for areas like Clackmannanshire, Aberdeenshire or Borders where the numbers of livestock decreased less steeply. Nonetheless, it has to be pointed out that without the financial support the farmers are receiving they would be making a loss, no matter whether it is the upland or lowland farming. From an economic point of view this is inefficiency. Potentially, forestry could become the economically viable alternative. This could mean that a decrease in sheep farming could help to achieve a higher utility to some private investors. However, if the grants schemes disappear, decrease in utility of sheep farmers is imminent. Still, potentially, the forestry could become a way for sheep farmer to diversify their income streams. On the other hand, the disappearance of farming in some areas may mean that the utility of whole communities could be negatively affected, as farming could play an important role in local economies. In the following paragraphs, we are going to look in more detail at the negative effects afforestation could have on utility of some groups.

Negative externalities Afforestation does not only offer benefits, but it could also be detrimental. The main negative impacts afforestation could have, which would not be expressed in the 42

market transactions, are the effects on the environment and biodiversity. In addition, in the case of Scotland the change in scenery could also affect the tourism and recreation. These are the issues we will discuss in the following paragraphs.

It is important to realise, that before the forest can be planted, the ground has to be prepared for seedlings. This releases carbon into the atmosphere. However, this negative side of afforestation is offset in case of e.g. Sitka spruce after 12 years. The argument for keeping some grass lands untouched and subsidising especially the sheep farming for biodiversity reasons is presented by Scottish Agricultural College in their report on retreat of farming from the hills. Although, it is rather unlikely that planning permission would be given to afforest some particularly rare grass planes. Nonetheless, they point out that some plant and animal species actually benefit from grazed pastures, and though some areas will inevitable benefit from afforestation, the argument is that for other regions higher utility can be achieved through supporting the grazing. Especially as they point out that sheep farming and so grazing is to be more effective and beneficial to hill biodiversity than deer grazing. Also, they admit that removing the grazing, and not planting forests could potentially create benefits to biodiversity. Lastly, it is important to realise that some commercial forests could decrease not increase biodiversity.

From the above information we can infer that in some areas afforestation could be detrimental and have a negative effect on some groups’ utility, e.g. sheep farmer. Another group whose utility could be negatively affected is tourists. It is argued in the same report that sheep grazing up on the hills are a public benefit and a tourist attraction. The discussion is based on the fact that visitors expect to see grasslands

43

with sheep on them. Although it is hard to argue how sheep can be of public benefit, and it is not more explained in the SAC report, the problem of moorlands and tourism can be a relevant one. Although, it is hard to estimate the negative effects of afforestation on this particular industry, the Scottish Forestry Strategy recognizes the issues and emphasises that afforestation has to be managed with sensitivity to local landscape’s character and biodiversity of the area.

4. The Government incentives to afforestation In this paper so far we have discussed the possible effect of an increase in the forest cover. Now, we move the focus of our discussion to what government do or could do to encourage afforestation by the private investor group. We will present what tax incentives and what grants are available for those willing to invest in forestry. This information should help us to answer whether the government offers enough support in to achieve its goals.

Tax incentives The government can encourage forest planting in two ways: grants and tax exemptions or deductions. In this part of the chapter, we are going to look at different available tax incentives offered by the government to commercial forestry. A private investor looking to dedicate some capital to forestry can count on three of the main tax incentives. First of all, commercial woodlands receive 100% tax relief from inheritance tax. It creates an inducement for someone who has heirs and a reasonable amount of capital (tax threshold is £312,000), to invest his money in forestry.

In addition, the income derived from the sale of timber harvested on commercially managed forests is free from the income tax. This creates an alternative to banks and 44

building societies savings (except from Individual Saving Accounts and Personal Equity Plans) and various pensions and retirement plans, as they are all taxed. A discussion dedicated to comparing in more detail the risks, liquidity and returns between these two types of investment, in order to decide which one is more attractive, is beyond the scope of this paper. Nonetheless, we can conclude that the decision how to invest will often depend on the individual’s personal preferences and risk aversion.

Finally, the last tax incentive available for the commercial forestry is the Capital Gains Tax. It is a valuable tax benefit as it means that the increase in the value attributable to standing or felled timber is not taxed. As the profit derived from the woodlands is based on the accrued value over time it means that our money invested in the woodlands is almost tax proof (information courtesy of UPM Tilhill Forestry).

Grants Another way the government try to encourage commercial forestry is through grants. Until the end of 2006 grants for new plantations were available through the Scottish Forestry Grant Scheme. The size of the grant depended on the type of the trees planted and on the size of plantation. For example, 50 hectare of Sitka spruce plantation could enjoy a grant of £44,500 at the establishment phase and additional £5,600 in instalments over next five years. Additionally, on top of SFGS, the Farmland Premium was available, which depends on the quality of land used for plantation. This grant ranges for £60 per hectare for the unimproved land to £300 per hectare of the best quality arable land. The payment is yearly for 10 years for conifers and 15 years for broadleaf plantation. (Information courtesy of UMP Tilhill)

45

At the moment the Farmland Premium is kept but the grant scheme for the forestry is now under the hospice of Scottish Rural Development Contracts. This is to allow for a local approach to afforestation, as every decision will be based on the regional circumstances. According to UPM TIlhil’s annual newsletter 2009 the new grant rates are good, which encourages new planting. In addition, they emphasise that Scottish Government is very keen to fight climate change and this may help to promote new plantations amongst the regional governments.

From the above facts, we could assume that at the present the government’s efforts to encourage at least the commercial afforestation are quite extensive. The support is so extensive that an investor could make a profit on planting, i.e. the amount of support available is higher than the expanses on the planting itself. However, we cannot forget the costs of land, which are not included in grants’ schemes. The government could attract additional investment through awarding carbon credits for the forest plantation as offered by Scarborough (2007) especially as the Carbon Reduction Commitment has been implemented. This could attract investment from companies, which would not consider it otherwise. As a result, the afforestation would become attractive to a larger group of private investors.

5. Forestry and the present crisis Lastly, the present economic climate brings a challenge to all industries, and the forestry industry is not an exception. However, there are still ongoing investments in sawmilling and biomass sectors, the challenge for the industry now “is to ensure [it] maintain[s] the infrastructure around the supply chain and, to ensure this happens, [it] must maintain a decent level of activity from both growers and processors alike, to

46

retain a degree of stability” Whitfield (2008, p.11 ) It implies we stand before a dilemma. On one hand, the investment in the forestry requires huge capital at the outset but in the same time, the forestry could lend a hand in helping the economy to come out of the recession. It appears to be a good time to increase the spending it this area as it could not only help achieve the goal of 25% forest cover, but it could also help to boost the economy Although some degree of gradualism in afforestation is welcomed, as it makes the forestry related production more sustainable, potentially, now could be a good time for the government to support larger afforestation enterprises. If we look at the multipliers mentioned earlier in our discussion, the employment effect multiplier for planting is ranked 22nd which is reasonable high. Additional advantage of this economic activity is that forestry planting requires relatively low skills. As a result, it could help with providing employment to usually more vulnerable groups of unskilled workers. Therefore, if the government increases the investment in the forestry it could be a way of not only pursuing its Strategy but it could also help with the present recession.

6. Conclusion In this essay we tried to argue why from an economic point of view Scotland should pursue the increase in the forest cover. Often, this presented us with problems of valuation of goods which do not have a market value, like health or biodiversity. Moreover, it may appear that these benefits dominated our discussion. This may seem inappropriate; however, it is the benefits of afforestation to the Scottish society that prevail in government’s agenda, presented in the Forestry Strategy 2006. Still, for the higher utility to be achieved by Scots from afforestation, and not only to be assumed, the government will have to dedicate additional resources to promoting forestry in the

47

society. It may prove to be a difficult task. Especially that not every group will achieve a higher utility, but some will lose, like sheep farmers.

The government also miss to answer clearly who should lead the afforestation: the government or the private investors. This is again, an especially important question to answer, if the benefits for the society are to be achieved, as some private investors may not want to get involved in some enterprises due to the lack of profits. In addition, the government does not explain why the goal is 25% of the forest cover, not 20% or 30%. This may be worrying to some extent as it may mean they do not have clear predictions on how an increase in forest cover can affect Scotland.

Finally, with the recent high food inflation, the sheep and cattle farmers are unlikely to leave the hills, especially that the government are unlikely to eradicate the grants. It is what stopped forestry in Scotland in the past, and this means that forestry again may struggle to expand in the future years. Nonetheless, the benefits of afforestation to all of the presented groups are large, and the government will soon stand before a decision, which one, the farming or the forestry, to support more. The problem lies in the fact that no one in 2006 could predict the present state of the world economy, and unfortunately the long run investment, like forestry, will always bring with itself the uncertainty. And so, we all need to wait to see what the future brings.

48

Appendix

From Perman et al 2003, p. 604

49

References - CPI (Confederation of Paper Industries) (2007), Key Industry Facts 2007, http://www.paper.org.uk/information/statistics/industryfacts2007.pdf - Department for Business Enterprise and Regulatory Reform (July 2008), Digest of United Kingdom Energy Statistics 2008 chapter 7: Renewable Sources of energy, http://stats.berr.gov.uk/energystats/dukes08_c7.pdf - Jarvis, P (2008) Locking in the gas, Chartered Forester, Spring 2008, p. 14-16 - Johansson, P and Lofgren, K (1985), The Economics of Forestry and Natural Resources, Blackwell: Oxford - Mather, A S (1971), Problems of afforestation in north Scotland, Transactions of the Institute of British Geographers, No. 54, pp. 19-32 Accessed at: http://www.jstor.org/pss/621359 - Office for National Statistics (Autumn 2008), Environmental Accounts, http://www.statistics.gov.uk/downloads/theme_environment/EADec2008.pdf - Office of Public Sector Information (2008), Climate Change Act 2008 chapter 27, http://www.opsi.gov.uk/acts/acts2008/ukpga_20080027_en_1 - Perman R, et al (2003), Natural Resource and Environmental Economics, 3rd Edition, Pearson Education Limited, Chapter 18 - IPCC Fourth Assessment Report (2007), Working Group III, Mitigation of Climate Change, Chapter 9 Forestry Accessed at: http://www.ipcc.ch/pdf/assessment-report/ar4/wg3/ar4-wg3chapter9.pdf - Savillis UK (2009), UK and European Research, Agricultural Land Market Survey, http://www.savills.co.uk/research/Report.aspx?nodeID=10285 - Savillis UK (2008), UK and European Research, Rural Research Report No 07-08, Farmland Market, http://www.savills.co.uk/research/Report.aspx?nodeID=10094 - Savillis UK (2008), UK and European Research, Rural Research Report No 08-08, Wheat Price Outlook, http://www.savills.co.uk/research/Report.aspx?nodeID=10174# - Savillis UK (2008), UK and European Research, The Carbon Reduction Commitment, http://www.savills.co.uk/research/Report.aspx?nodeID=10112 - Scarborough, B (2007), Trading Forest Carbon: A Panacea or pipe dream to address climate change, The property and Environment Research Center: Policy Series, No. 40, July 2007 Accessed at: http://www.perc.org/pdf/ps40.pdf

50

- Scottish Agricultural College (2008), Rural Policy Centre, Farming’s Retreat from the Hills, http://www.sac.ac.uk/mainrep/pdfs/retreatreport.pdf - The Forestry Commission Great Britain (2008), Timber Price Indices to March 2008, http://www.forestry.gov.uk/pdf/tpi200803.pdf/$FILE/tpi200803.pdf - The Forestry Commission Great Britain (2008), The Forestry Statistics, http://www.forestry.gov.uk/website/forstats2008.nsf/LUContentsTop? openview&RestrictToCategory=1 - The Forestry Commission Scotland (2008), Forests for people: access, recreation and tourism on the national forest estate, www.forestry.gov.uk/pdf/fcfc114.pdf/ $FILE/fcfc114.pdf - The Forestry Commission Scotland (2007), Timber Development Programme 20072011, http://www.forestry.gov.uk/pdf/fcfc113.pdf/$FILE/fcfc113.pdf - The Forestry Commission Scotland (2006), The Scottish Forestry Strategy 2006, http://www.forestry.gov.uk/pdf/SFS2006fcfc101.pdf/$FILE/SFS2006fcfc101.pdf - The Forestry Commission Scotland (March 2008), Woodfuel: Demand and Usage in Scotland: Update Report to March 2008, http://www.forestry.gov.uk/pdf/Woodfuelusagestudy2008.pdf/ $FILE/Woodfuelusagestudy2008.pdf - The Leader: UPM Tilhill’ annual newsletter (2009) - The Scottish Government Publications (2008), Agriculture Facts and Figures 2008, http://www.scotland.gov.uk/Publications/2008/06/16141710/2 - The Scottish Government Tourism (2009), http://www.scotland.gov.uk/Topics/Business-Industry/Tourism - The Scottish Government Statistics (2004), Input-Output All files 2004, http://www.scotland.gov.uk/Topics/Statistics/Browse/Economy/InputOutput/IOAllFiles2004 - The Scottish Government Statistics (2006), Scottish Index of Multiple Deprivation, Overall SIMD 2006 and individual domains, http://www.scotland.gov.uk/Topics/Statistics/SIMD/Background-Data-2006 - The Scottish Parliament (2008), Climate Change (Scotland) Bill http://www.scottish.parliament.uk/s3/bills/17-ClimateChange/b17s3-introd.pdf - United Nation Framework Convention on Climate Change (1997), The Kyoto Protocol http://www.rsg.co.za/luister.asp -Whitfield, P (October 2008), “Prices slip as timber market slows”, in Forest and timber news, Issue 29, p11

51