1 Dynamic optimisation of land-use systems in the presence of carbon payments ¥Ω Russell Wise and Oscar Cacho § ABSTRACT Sustainable resource use requires that an inter-generational approach to management be adopted. Therefore the effects of current decisions on the future state of resource stocks must be considered. The Clean Development Mechanism (CDM) of the Kyoto Protocol presents an interesting context in which this can be applied and dynamic-optimisation theory provides the methodological framework. A relatively simple numerical model that simulates carbon stocks and flows in trees, crops and soils under a range of management regimes is developed for a landholding in Sumatra. The model is used within a dynamic-programming (DP) algorithm to determine optimal tree/crop areas, fertiliser regimes, tree- rotation lengths and firewood-harvest regimes. The DP model is solved for an individual landholder faced with deteriorating land quality and the opportunity to receive carbon credits by participating in a CDM-carbon project. The model is run for various combinations of fertiliser and carbon prices and land quality. It is found that optimal management depends on initial soil quality; that carbon and fertiliser prices only affect optimal management when land quality is poor; and that incentives to participate in carbon-sink projects only exist when soil quality is poor. Keywords: agroforests, bioeconomics, carbon credits, dynamic programming, simulation modeling 1. INTRODUCTION This paper investigates the appropriateness of agroforests as alternatives to shifting-cultivation and continuous-cropping systems, which are responsible for much of the land degradation in Southeast Asia. Landholders often do not consider trees or tree-based systems as viable alternatives to crops because of the high establishment costs, delayed revenues and the lack of secure property rights associated with them. However, the environmental services provided by trees, such as improving land productivity and mitigating climate change through carbon sequestration, are increasingly being recognised for their associated social values and there is growing interest in the use of market-based instruments to internalise these benefits (i.e. giving them direct market values). If these environmental benefits are successfully internalised and landholders receive direct financial payment for them, this may make the growing of trees more appealing to landholders. This paper therefore investigates whether payments for sequestered carbon (C) will give incentives to landholders to grow trees and how management will be affected by such payments? ¥ Working Paper CC15, ACIAR Project ASEM 2002/066, http://www.une.edu.au/febl/Economics/carbon/ Ω Contributed Paper to the 49 th Annual Conference of the Australian Agricultural and Resource Economics Society, Coffs Harbour, New South Wales, 8-11 th February 2005. § Russell M. Wise and Oscar J. Cacho are with the Graduate School of Agricultural and Resource Economics, University of New England, Armidale NSW 2351. Correspondence: Russell Wise at above address or Tel: +61 2 6773 2354, Fax: +61 2 6773 3596, E-mail: rwise@une.edu.au