Technical Working Paper

Payment for Ecosystem Services (PES) Schemes forConserving Sardu Watershed Nepal:Existing Practices and Future Prospects

November 2012

Rajendra KhanalProgramme Coordinator, IUCN Nepal

Deepak PaudelConsultant

International Union for Conservation of Nature

AbstractIn order to understand the implementation approach of PES, a study was conductedin Sardu Watershed in Sunsari district of Nepal. The ecosystem services consideredare drinking water supply, recreational services and support services at the watershedlevel. The study found that the economic value of water, fodder/forage, pebbles/boulders, and fuel wood available in the watershed was estimated to be more thanNRs. 60 million a year. However, the economic value of the recreational and regulatingservices needs to be estimated to give a significant boost to the concept and idea ofimplementing the PES scheme. Although PES generally is not pro-poor, the projectconsidered that poor local communities are at the centre in management and benefitsharing. The result showed that about 47 % of the total population living in thedownstream are willing to contribute their physical labour (Shramdan), while 42%have agreed to allocate monetary contribution to the conservation fund for thesustainable management of watershed. To initiate raising financial sources and advancethe PES scheme, a conservation fund was established, in which IUCN contributed anamount of NRs 1,000,000 in the form of seed money. However, for the sustainability ofPES scheme, either a mechanism should be established where fund is generatedfrom the service users or endowment fund should be established. Currently, PES inSardu Watershed only considers a drinking water service that gives very low return ofthe efforts made by the community to conserve watershed. Bundling other ecosystemservices, such as recreation, biodiversity conservation, carbon sequestration withdrinking water services, may give better return to the community. Based on the learning-by-doing approach, the specific PES law can draw the attention of the governmentand the public to the institutionalisation of PES as a policy instrument to ensurefuture provision at local, provincial and national levels.

Key Words: Watershed, PES, Service Provider, Users, Institutional Analysis, Nepal

1. IntroductionPayment for Ecosystem Services (PES) has been an emerging practice in numerouscountries around the world. This concept deals with a financial support schemethat aims to conserve ecosystem services by providing an economic incentive tothose who contribute to the conservation, mainly by managing ecosystem servicesto adopt land use practices and by encouraging to protect and conserve ecosystems.In general, PES scheme includes five basic components: well-definedenvironmental services, at least one buyer, at least one environmental servicein the transaction, at least one service provider, and conditionality (Wunder,2005, Fig.1).

Figure 1: Five basic components of PES

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Author:Rajendra KhanalDeepak Paudel

Reviewer:Sony BaralShanti KaranjitDr. Yam MallaAnu AdhikariRacchya Shah

Edit/Design:Amit Poudyal

Published by:IUCN Nepal

Copyright:© 2012, InternationalUnion for Conservation ofNature and NaturalResources

In practice there are three types of PES schemes: Public PES scheme, Cap andTrading PES scheme and Private PES scheme (IUCN, 2009). Among these, PublicPES and Private PES schemes are more feasible and realistic in practice. In PublicPES scheme, government agencies are the buyers with a strong legal binding towatershed level or province level, whereas in Private PES scheme, private companyor organisation is a service provider or buyer and government entity is anintermediary agency at the catchment or sub-watershed level. In all of the schemes,the rationale is to provide incentives and benefits to people to utilise environmentalservices for the benefit of the wider population (Karky, B.S. and Joshi, L. 2009).Although PES comprises four important dimensions- realistic, voluntary, conditionaland pro-poor- it does not include the pro-poor dimension. In developing countrieslike Nepal, sustainable watershed development will remain incomplete if the pro-poor issues are left unaddressed. The main objective of watershed management isthe conservation of soil and water and to manage water and other environmentalservices within the watershed area on a sustainable basis providing equitablebenefits.

Given the fact that PES is fairly a new concept, developing countries like Nepalencounter several implementation barriers and challenges. Most of these challenges,such as lack of hydrological data to establish a relationship between land use andpatterns that affects how the conditionality aspect of PES is being met, insufficientawareness of PES at policy and implementation levels, and lack of governanceand legal framework, are related to watershed management. Despite thesedifficulties and challenges to implement PES, several organisations in Nepal havetaken the initiative for its application in sustainable watershed management atorganisational and project levels. For instance, PES-like scheme is being put intopractice in Kulekhani Hydropower project area in Makwanpur district. Likewise, astudy was jointly undertaken by IUCN Nepal and International Center for IntegratedMountain Development (ICIMOD) in the Shivapuri Watershed for drinking waterservices. Similarly, another initiative was jointly initiated by IUCN Nepal and LocalInitiatives for Biodiversity, Research and Development (LI-BIRD) to integrate wetlandmanagement model into the Rupa Lake wetland. In yet another specimen of PESpilot, Dhulikhel Municipality developed a PES-like scheme by formulating a linkagebetween drinking water users in Dhulikhel Municipality as service buyers andupstream communities as service providers. Such applications of PES in watershedservices for drinking water, hydropower and recreational services are the keyopportunities in the country. The other possible areas of intervention in a broadercontext include carbon sequestration and biodiversity conservation. Consideringsuch potential opportunities, this paper describes a practical approach for theapplication of PES, thereby contributing to the sustainability of drinking water supply,recreational services and support services at the watershed level. This paper isbased on the research study entitled “Integrated Watershed Conservation andManagement Plan: Sardu Watershed in Sunsari District of the Eastern Region ofNepal”. The study was carried out by IUCN Nepal in 2010 with the financial supportfrom UKaid. A public-private partnership (3Ps) approach is described, showing thepotential application of PES in a local context. In addition, this paper proposes aframework for the sustainability of PES scheme and involvement of the stakeholdersin a local context.

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PES deals with afinancial support

scheme that aims toconserve ecosystemservices by providingan economic incentive

to the communities

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2. Sardu WatershedThe Sardu Watershed covers approximately 40 sq.km and is rich in floral andfaunal diversity (Fig.2). In addition, it has regulating services that protect thedownstream communities (including Dharan City) from environmental degradationcaused by floods. Drinking water originating upstream of the watershed is primarilyused as provisional services. About 85% of the total population in Dharan (150,000people according to District Profile, 2002) get their drinking water supply from theupstream of this watershed, in an amount approximately between 12 to 13 millionlitres per day (MLD) in wet season and between 4 to 4.5 MLD in dry season. Anestimate shows that ecosystems (about 58% of total land covered by the forest inthe Hill and Foothill regions) of the watershed has potential of carbon sequestration.Despite such services and potential opportunities, rapid population growth in theDharan Municipality has had repercussions on the water demand. It is estimatedthat the increase of population from 178,618 in 2009 to 196,840 by 2020 will increasewater demand from 20 MLD to 22 MLD during this period. Likewise, forestdegradation (from 60 % of total coverage area in 1995 to 53 % in 2009) due tomass sliding, shifting cultivation and human interventions is fostering in thewatershed. Furthermore, water holding capacity of plants and soil erosion controlcapability in the upstream and midstream regions is decreasing at a faster pace.As a result, downstream people in Dharan Municipality and dwellers of lowercatchment area in the watershed are already facing water shortage problems. Thecapability of the watershed to provide provisional services (water supply and food),regulating services (flood and erosion control, extreme rain energy dissipations)and cultural services (beauty of the nature and ecotourism), is in a decreasingtrend. In order to address these problems, IUCN carried out a feasibility study of aPES scheme for the Sardu Watershed management in 2009 and 20101.

1 Final Report of Integrated Watershed Conservation Plan: Sardu Watershed Dharan, Sunsari, Nepal,2010.IUCN/CETD-Dharan/APEC-Biratnagar,2010.

Figure 2: Salient Features of Sardu Watershed

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Located between 26°45’57.7” to 26°52’30.95” N and87°12’20.43”to 87°19’20.20”E in Sunsari district

Covers an area 39.35 square kilometer

Comprises of Mid-hills, Siwalik and Foothill

Faunal diversity: mammals-8 species, birds-26 species,reptiles-14 species and amphibians-5 species

Plant Diversity: vascular plants-147 species, dicotyledons-130species, monocotyledons-12 species, pteridophyta-8 species,

medicinal plants-28 species, edible plants-29 species, andtimber plants-20 species

Sardu watershed is amajor source of

drinking water forDharan Municipalitywhich also providesother provisioning

services to upstreamand downstream areas

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Figure 3: Map of the Study Area

3. Development of PESA PES scheme has been developed in the watershed context, with a view to providing a continuous flow ofdrinking water; developing a linkage between upstream communities and Dharan civilians, promoting flora andfauna available in the watershed, and addressing the livelihoods of the poor community in the upland region.The scheme has been tailor-designed by incorporating the key features in accordance with the local contextand needs. The key features include ecosystem services being provided, potential buyers and intermediaries,payment scheme, legal and regulatory framework, valuation of services, PES execution mechanism, and itssustainability and monitoring system.

Carrying bio-physical and natural systems of the watershed

Assessing water demand and supply from the watershed

Carrying out consultative meetings and interviews

Figure 4: PES Process

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Assessing bio-physical and natural systems of the watershedThe tools used for the assessment include: Local Ecological Knowledge Assessment (LEKA) throughhousehold survey and sampling; Participatory Vulnerability Assessment (PVA) through focus groupdiscussions, transect walk, stakeholder interview; Public Ecological Knowledge Assessment (PEKA)through FGDs and consultative meetings; Hydrologist Ecological Knowledge Assessment (HEKA) throughobserved data and rational formula; Land Use Cover and Land System Analysis (LULSA) throughparticipatory geographical information system (GIS); Economic Valuation Assessment (EVA) throughtotal economic value framework and market price for those services which are traded in the market andthe opportunity cost of time for resources not traded in the market; Rapid Biological Assessments (RBA);and literature reviews on international practices and local context potential assessments.

Assessing water demand and supply from the watershedDrinking water demand in Dharan City and within the watershed area was assessed by using per capitawater consumption and empirical relations, while flow observation in the Sardu River system was used toassess water supply from the watershed. The existing water availability (42 MLD in dry season) in thewatershed is expected to meet the total water demand (expected to be 31 MLD in dry season) for bothDharan City and areas within the watershed for the next 20 years (until 2030). A quick hydrologicalassessment indicates that Sardu Watershed produces sufficient water to meet the annual demand ofDharan City residents if conservation in the upstream is improved through a well- designed PES scheme.

Carrying out consultative meetings and interviewsSeveral consultative meetings and interviews were held with all the stakeholders, including privateorganisations, sector experts, government institutions, upstream and downstream users, and local politicalparties, to approach the PPP model in PES scheme. On the basis of the assessment of the perception ofthe stakeholders, a Public-Private PES scheme has been proposed at the watershed level. In this scheme,decision-makers come at a common forum and the forum can decide providers, conditionality, users,and targeted services in the PES transaction in a democratic and sustainable manner.

The following processes were carried out to develop PES scheme:

4. Framework for PES Scheme for Sardu Watershed in local context

Beneficiaries: Domestic water users / hotelassociation / private companies / tourists /entities of services users, etc

Protection of ecosystem services in thewatershed for ensuring services

Suppliers: Upland community: CFUGs,WUGs, affected communities

Conservation fund / PES fund under theplatform for watershed conservation andmanagement

Economic valuation of services: Direct andindirect uses for ensuring financialsustainability of PES

Payments: Tax / ecosystem fees /conservation fees, etc

Public institutions: Municipality,DWSC, DDC

Donors: I/NGOs, / privatesectors

Intermediary: PES Board includes,

Watershed Conservation &Management Committee

Resource Mobilisation &Monitoring Committee

Dharan Municipality WaterSupply Management Committee

Source: Adjusted from Sardu Study Report, IUCN, 2010

Figure 5: Framework for PES Scheme

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The following key features are included in the framework designed for PES scheme for Sardu Watershedmanagement:

Economic valuation of ecosystem servicesEconomic valuation of the ecosystem’s goods and services is a new concept, especially in developingcountries like Nepal. Some studies have used different methods of valuation for traded and non-traded goods and services, depending upon the availability of resources and information. In suchstudies, reliability of the economic valuation metrics of services like natural hydrological functions,sustainable upstream agricultural practices and associated protection of downstream areas againstflooding and sedimentation is often questionable. In this study, only the direct and indirect usevalues were given priority due to the availability of limited resources. The economic value of water,fodder/forage, pebbles/boulders, and fuel wood available in the watershed was estimated at NRs.60 million a year. The economic value of recreational and regulating services, which are not estimatedin this study, however, needs to be estimated to give a significant boost to the concept and idea ofimplementing the PES scheme. This estimate could help the system attain financial self-reliancein the long run. Overall, the economic value of the services can address the sustainability of PESscheme from the financial aspect in order to maximise the ecosystem services at the local orwatershed level.

Prospects of pro-poor PES mechanismAlthough PES is not designed to be a poverty reduction mechanism (Pagiola, 2007), the proposedPES scheme did address the environmental and natural resources management problems in whichpoor local communities considered to be the key factors to make or break the PES scheme. Forthis, additional income sources have been identified locally by assessing economic valuation ofthe services (as explained in the previous section). The income source identified can be usedprimarily in the poverty reduction mechanism and in the land system stabilisation. After a certainperiod, the upstream poor community may serve as a service providers and the downstream poorcommunity as a service buyers.

Conservation fund, financial mechanism and payment SystemIn case of Sardu Watershed, service providers have not been clearly defined. Despite this, aconservation financing mechanism has been assessed to know service providers (upstream andmidstream) and the needs of service users (people in downstream and in Dharan City). It is suggestedthat not only the population in the upper and mid-catchment areas but also the people from lowercatchment area and squatters living in Dharan Municipality should be involved to manage andconserve the watershed. Thus, it requires a common but differentiated motivation for upstream,mid and lower catchments for a collective venture to conserve the watershed. A survey wasconducted to find out the community’s willingness to pay (WTP) for the conservation of the watershed.The survey shows that about 47 % of the total population living in the downstream are willing tocontribute their physical labour (Shramdan), whereas 42% are willing to make a monetary contributionto the conservation fund for the sustainable management of watershed. Likewise, about 80% ofthe population living in the watershed area showed interest to participate in the conservation of thewatershed and water sources through the PES scheme, provided that the scheme focuses on thelocal context and adopts a sustainable mechanism. Similarly, the beneficiaries have agreed thepayment system through conservation fees for water use in PES scheme.

In order to initiate financial sources and advance the PES scheme, a conservation fund wasestablished in 2010. IUCN contributed an amount of NRs 1,000,000 towards this fund in the formof seed money. The purpose of the conservation fund is to address the immediate requirements forthe conservation and needs of the people whose livelihood is directly dependent on the localresources so that the PES scheme is gradually streamlined in the long run. The key water users,like Dharan inhabitants, DDC/VDC/Municipality and other upfront support, external beneficiariesand watershed dwellers, are taking interest to participate in the payment system through theconservation fund.

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Legal and institutional frameworksLiterature review showed that there are no specific and explicitly supportive legal documents andinstitutional frameworks to establish and implement a PES scheme in Nepal and also in the othernations of Asia. The concept of legal and institutional frameworks is one of the prerequisites for thesuccessful development and implementation of a PES scheme. The importance of legal andinstitutional frameworks depends on the various fundamentals: types of PES schemes, legalpersonality of the parties involved in the PES deal, the objective of the PES, and scale at which thePES scheme shall be established” (IUCN, 2009). Furthermore, customary law, traditional rules andnorms at the local level and for specific groups of people prevail for the management of naturalresources in some countries like Nepal. But because of globalisation and social and naturaldynamisms, the adopted customary law does not explicitly address the rights of use of ecosystemservices and their conservations. The statutory law—the written or codified law of a country, canprovide for a formulisation of customary natural resources rights in a formal approach. PES schemedose not only require land owner title but also allows the participation of holders of user rights, andcommunity tenure rights. It is therefore there is a need to analyse challenges of PES schemesrelated to property rights and assess the success of PES scheme.

There are several appropriate legal instruments like constitution, specific PES law, sectoralenvironmental legislation, and indirectly relevant laws. These legal instruments need to be analysedin the line of management and conservation of ecosystem services through PES scheme in Nepal.As the country does not have a concrete experience on a specific PES law, and policy, it can bedrafted by incorporating customary law/indigenous practices at the local level through theimplementation of a PES project for specific ecosystem services in order to conserve the catchmentsfrom where the services are provided. Based on the learning-by-doing approach, a specific PESlaw can draw the attention of the government and the public to the institutionalisation of PES as apolicy instrument to ensure future provision at all levels, including local, provincial and national.The Ministry of Forest and Soil Conservation has also initiated to formulate a policy to support PESat the national level.

There are several institutions to implement PES scheme. Some major institutions are: publicinstitution like local authorities, regional authorities, and national authorities; and private institutionssuch as non-governmental organisations and civil society associations. In the case of the PESscheme in Sardu Watershed, Dharan Integrated Watershed Conservation, and Water SupplyManagement Committee (DIWCWSMC) can independently play a role in building public-privaterelationship that complements in the development and implementation of PES schemes and canbring in more flexibility and independence and important external capacities and financial resources.For this, the platform initiates the formulation of its statute and regulatory mechanism with its rolesand responsibilities under the existing customary law. The platform will serve as a General Assembly(GA) and elects an Executive Board to involve in regular decision- making processes. The Boardcan work either as a public institution at local level or private institution as a non-governmentalorganisation or public-private institutional relationship. This Board can also form different committeesas deemed important: Watershed Conservation and Management Committee to design and workon conservation activities upstream and linkages with downstream; Resource Mobilisation andMonitoring Committee to monitor the progress and look after the administrative and financial aspectsof the scheme; Dharan Municipality Water supply Management Committee to take care of watermanagement aspects in the Municipality. Application of the proposed collaborative PES scheme inSardu Watershed context seems feasible in the region, which can encourage the sustainablesupply of hydrological services addressing the water shortage problem of Dharan Municipality in along term.

iv.

5. Current status, lessons learnt and future prospectsAt present, the platform has initiated the implementation of PES scheme by developing its statute and regulations.The conservation fund is being mobilised through the platform for the conservation activities in the upstreamregion of the watershed. The Watershed Management Committee has been leading the implementation ofconservation activities through the conservation fund. Intermediary with essential efforts is still required toimplement the PES scheme for the sustainability of the conservation of watershed. For this, a pilot project ofPES scheme needs to be developed by establishing endowment fund by community in future.

The feasibility study revealed that the proposed PES scheme is innovative and comparatively inclusive, resultoriented, implementable, replicable, democratic and sustainable in the local context. However, it is early toassert that it is exclusive and stands out among other PES practices being carried out in the country. Theproposed PES scheme is expected to be highly adaptable because it addresses the local context and theissues of conservation of watershed.

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Development of a platform and strengthening its capacityA platform led by Member (i.e. Constitution Member of electoral area) has been developed tointeract on the issue of watershed management and policy formulation for the implementation ofPES. The platform, Dharan Integrated Watershed Conservation and Water Supply Committee(DIWCWSMC), includes the representatives from all the stakeholders, including Dharan Municipality,community forest users’ committees, water users’ committees, civil service societies, NGOs,academic institutions, political institutions, VDCs, experts, hotel association, chambers of commerce,etc. By developing this platform, a modification has been made in general PES scheme to matchthe local context. Needless to say, the government interventions and support and the concernedstakeholders from upstream and downstream play a key role in modifying and customising thePES scheme to the local context. Further, government interventions are very crucial in enforcementof property rights and contractual agreements. Likewise, the stakeholders concerned from upstream,downstream and other users of services could help in making decisions on negotiation for thepayment, environmental friendly programme, and formulation for community and conservationperspectives through several discussions in a democratic approach.

The capacity of the platform has been strengthened by providing several training related toconservation of watershed and importance of PES scheme; exposure visits to those areas wherePES has been successfully implemented within the country; meetings; talk programmes on theissues, which have been undertaking within the platform under the support of IUCN Nepal. Suchefforts regarding the strengthening of the platform have contributed to the process of garneringcommitments and decisions at different levels and vantage points, especially the political one.

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6. ConclusionsThe study of implementation approach of PES in Sardu Watershed considered as a drinking water supply,recreational services and support services at the watershed level. The study estimated the value of ecosystemservices to be more than NRs. 60 million a year. However, the economic value of the recreational and regulatingservices needs to be estimated to give a significant boost to the concept and idea of implementing the PESscheme. The project has considered that poor local communities are at the centre in management and benefitsharing. The result showed that about 47 % of the total population living in the downstream are willing tocontribute their physical labour (Shramdan), while 42% have agreed to allocate monetary contribution to theconservation fund for the sustainable management of watershed. To initiate raising financial sources andadvance the PES scheme, a conservation fund was set up, in which IUCN contributed an amount of NRs1,000,000 in the form of seed money.

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7. RecommendationsFor the successful implementation of PES at local level local stakeholders as well as communities in upstreamand downstream should engage in the decision-making process in order to make effective and efficient PESscheme. However, initial, additional costs from donor funding and local financing are required to supportpoverty reduction and stabilise susceptible land through conservation programmes. As a result, the additionalcost can help in accepting the conditionality of PES, and can reduce the transaction cost of PES programme.The institutional framework of the PES scheme can be useful to reduce the transaction cost. In this watershed,Dharan Municipality (including Nepal Water Corporation, Dharan) and community forest users’ groups are thebuyers and service providers respectively for drinking water service. Conservation fee is the financial mechanismrecommended by the service users in order to get water and landscape beauty of the watershed. For theimplementation of PES scheme, a platform-DIWCWSMC has been established and strengthened by IUCNNepal. A conservation fund has also been established by the platform by providing seed money from IUCNNepal and the Dharan Municipality. However, for the sustainability of PES scheme, a mechanism should beestablished where fund is generated from service users or there should be an endowment fund established. Inaddition to the implementation of PES, IUCN and its partner Centre for Environment and Tourism Development(CETD Dharan) have shown their continuous involvement to facilitate as an intermediary to implement PESuntil the platform becomes capable of sustaining the PES scheme in the watershed. Attention needs to be paidto the distribution of payment or conservation benefits among the service provider households. For this,conservation project activities need to be incorporated into PES scheme to compensate the local residents forbetter livelihoods support. It is very important in any PES scheme to consider what motivates the public’swillingness to pay for and what motivates the upstream resides to conserve the watershed areas.

A specific PES law can be drafted by incorporating local-level customary law/rights and indigenous practicesthrough the implementation of PES project for specific ecosystem services in order to conserve the catchmentsfrom where the services are provided. Based on the learning-by-doing approach, the specific PES law candraw the attention of the government and the public to the institutionalisation of PES as a policy instrument toensure future provision at all levels including local, provincial and national.

Currently, PES in Sardu Watershed only considers drinking water services that give very low return of theefforts made by the community to conserve watershed. Bundling other ecosystem services, such as recreation,biodiversity conservation, carbon sequestration with drinking water services may give better return to thecommunity.

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Pagiola, S. (2007). Guidelines for Pro-Poor Payments for Environmental Services. EnvironmentDepartment, the World Bank.

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8. References

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