Karnal bunt is a fungal disease affecting wheat, rye and triticale. While posing no risk to human health, Karnal bunt can cause production losses to wheat in the form of reduced yields due to the infestation of kernels and reduction in the quality of wheat flour. Karnal bunt was first detected in the United States (in Arizona, New Mexico and Texas) in March 1996. As a result, USDA quickly established testing for Karnal bunt teliospores, and regulations that quarantined all of Arizona and portions of New Mexico and Texas to avoid spread of the disease to other wheat growing regions of the country. Glauber and Narrod provide a detailed account of the regulation associated with the quarantine. They also review the risk assessments by Podleckis and Firko (1996a, b, c, d; 1997) that were used in design of the quarantine, and the cost/benefit analysis that was conducted.

In their analysis, Glauber and Narrod recreate the original Karnal bunt risk model, which focused on measuring risk of individual potential pathways for disease spread. With movement of positivetested grain and seed outside of the quarantine area prohibited, these pathway for spread of the disease from negative-tested wheat still included: (1) millfeed (by-products of wheat milling that is fed to cattle); (2) transporting grain from the quarantined area to domestic grain storage facilities, mills and export elevators; (3) use outside the quarantine area of combines and other harvesting machinery; (4) infection through railcars that had transported infected wheat; and (5) planting of wheat seed originating in the quarantined area. These pathways led to regulations being considered on the following articles: (1) farm machinery and equipment used to produce wheat; (2) conveyances from field to handler, such as farm trucks and wagons; (3) grain elevators, equipment and structures at facilities that store and handle grain; (4) conveyances from handler to other marketing channels, such as railroad cars; (5) plant and plant parts, such as grain for milling, grain for seed, and straw; (6) flour and milling byproducts; (7) manure from animals fed wheat/wheat byproducts from the quarantine area; (8) used sacks; (9) seed-conditioning equipment; (10) byproducts of seed cleaning; (11) soil-moving equipment; (12) root crops with soil; and (13) soil.

Glauber and Narrod modified the initial risk assessment analysis to examine the overall level of risk of a Karnal bunt outbreak from any source originating in the quarantined area. They estimated the probability of at least one outbreak of Karnal bunt occurring outside the quarantined area, *p\**, as:

$$p^\* = 1 \text{ - (1 - p\_1)(1 - p\_2)(1 - p\_3)(1 - p\_4)(1 - p\_5)}$$

where:

*p1* = probability of an outbreak of Karnal bunt outside the quarantined area from millfeed;

*p2* = probability of an outbreak of Karnal bunt in host fields outside the quarantined area from grain in transit to mills or export elevators;

*p3* = probability of an outbreak of Karnal bunt outside the quarantined area from combines or other harvesting machinery;

*p4* = probability of an outbreak of Karnal bunt outside the quarantined area from railcars after grain is unloaded at mills or export elevators;

*p5* = probability of an outbreak of Karnal bunt outside the quarantined area from seed.

Glauber and Narrod found that the probability of outbreak via a given pathway was positively correlated with the number of railcars or other conveyances transporting grain or seed outside of the quarantined areas. Thus, a higher infestation of Karnal bunt within the quarantined area would mean less negative-tested wheat available for export or domestic milling purposes, lowering the probability of outbreak outside of the quarantined area. This interaction was incorporated into the risk assessment.

Glauber and Narrod's analysis addresses the sensitivity of the overall level of risk of a Karnal bunt outbreak outside of the quarantine area, and finds it to be mostly influenced by the riskier pathways. Changes in the probability of outbreak in a given pathway with relatively low probability may be large in absolute terms, but have little effect on the overall level of risk. By focusing on individual pathways, the risk reducing potential of a specific protocol of the quarantine may be overestimated. For example, in the initial analysis a controversial requirement to heat-treat millfeed to eliminate risk of spread of Karnal bunt through manure of animals consuming this by-product was justified by USDA on the basis of the relatively sharp reduction in the risk of outbreak from contaminated millfeed from the heat-treatment procedure. When this factor is isolated, the results indicate that the millfeed treatment requirement reduced the mean risk of Karnal bunt outbreak from contaminated millfeed from 1 in 15,674 to 1 in 68 million. Yet the effect of the heat-treatment protocol was negligible in reducing the overall level of risk. Likewise, restrictions on the movement of negative-tested seed outside the quarantine area had a relatively small effect on the overall risk of outbreak.

#### *Model results*

In their reassessment of the original risk analysis for the Karnal bunt quarantine, Glauber and Narrod consider eight quarantine options by which risk of spread of the disease could be reduced. These options are based on four basic protocols. The first protocol restricted the movement of positive-tested grain and seed outside the quarantine area, but allowed all negative-tested grain and seed to move without significant additional restrictions. The second protocol required that all railcars be cleaned after delivery of wheat from the quarantined area. The third protocol restricted the movement of negative-tested seed outside of the quarantine area. The fourth protocol required the heat treatment of millfeed from quarantine-area wheat. These protocols were chosen as the focus of the analysis because they imposed the largest costs on the wheat industry in the Southwest when the quarantine was imposed and, as a result, were controversial.

Stochastic assessments of the effects of the eight options on reducing the risk of an outbreak of Karnal bunt outside the quarantine area are shown in Table 11.3. The options are based on the four protocols, singly and in combination. The baseline (option 1) reflects the least restrictive policy, with the quarantine protocol limited to restrictions on the movement of positive-tested grain and seed. Grain and seed that twice tested negative for Karnal bunt teliospores would be free

**Table 11.3: Probability of an outbreak of Karnal bunt under eight quarantine options**

1 Expressed in scientific notation; e.g., 6.03E-03 = 6.03 x 10-03 = .00603.

2 Benchmark procedure includes prohibition of movement of positive testing grain and seed from quarantined area; all negative-testeed grain and seed moved in sealed hopper cars; all combines disinfected before leaving quarantined area. Options 2-8 include benchmark procedures plus additional protocols as indicated.

3( ) denotes percentage of risk relative to baseline.

Source: Glauber and Narrod (2000)

206 Part III Adding more economics to risk analysis

to move to domestic and export locations with no additional restrictions. Railcars would not be required to be cleaned. Options 2, 3 and 4 consider the other protocols individually in combination with the baseline restrictions. Of the individual protocols considered, railcar cleaning (option 2) had the largest effect on the overall level of risk of outbreak because of the relatively high risk of contamination through railcars. Restrictions on the movement of negative-tested seed (option 3) and millfeed treatment requirements (option 4) had minimal effects on the overall level of risk. Options 5 through 8 include combinations of the proposed protocols. Among these, option 8 reflects the system put in place by APHIS following the discovery of Karnal bunt in Arizona. Taken together, the protocols in option 8 reduced the mean level of risk by 97 per cent compared to the baseline (option 1).

The original USDA regulatory impact analysis assumed that failure to implement the quarantine would jeopardise US exports to those countries that maintained restrictions against wheat from Karnal bunt infected countries at the time the disease was discovered in Arizona. The United States was exporting about 1.2 billion bushels of wheat annually in 1995-96, with an estimated value of \$3 to \$4 billion. About one-half of US wheat exports were shipped to countries that had Karnal bunt restrictions. Thus, effects on the wheat market from spread of the disease beyond the quarantine area were considered that ranged from a 10 per cent net loss of export markets to a 50 per cent loss. For example, a decrease of 10 per cent in exports was estimated to cause a \$0.22 per bushel drop in the wheat price and reduce wheat sector income by over \$500 million per year. A decrease of exports of 50 per cent was estimated to cause the price of US wheat to fall by 30 per cent and lower net sectoral income by \$2.7 billion annually. These estimates took into account a dampening effect on domestic wheat prices as wheat for export was routed into the domestic consumption market, animal feed outlets, and inventory. In the impact analysis accompanying the final Karnal bunt regulations on compensation, USDA (1997) concluded that:

"...our quarantine measures were appropriate and justifiable when compared with the magnitude of the benefits achieved. Even a 10per cent reduction in wheat exports would have a significant effect on wheat sector income. It is estimated that a 10 per cent decline in wheat exports would cause a decline in wheat sector of over \$500 million."

USDA emphasised the 10 per cent loss of export markets in its assessment because substitution and arbitrage opportunities made it unlikely that a Karnal bunt outbreak would lead to more than this amount of trade being diverted from countries imposing restrictions because of the disease.

In reviewing the USDA argument, Glauber and Narrod note that the original impact analysis failed to consider changes in consumer welfare resulting from lower domestic prices if wheat were diverted from export markets. Using observed price and domestic demand levels, and applying the domestic demand elasticity assumed by USDA, they estimate consumer surplus effects for each level of wheat export diversion. The resulting estimated annual effects on net welfare measured by consumer plus producer surplus ranged from \$261 million for a 10 per cent loss in exports to \$976 million assuming a 50 per cent reduction in exports.

Glauber and Narrod also conclude that the effects due to an outbreak of Karnal bunt outside the quarantined area should be evaluated on the basis of net present value of annual losses over the full period in which an outbreak is expected to have an adverse effect. Using an 8 per cent discount rate and assuming losses sustained for ten years, they estimate that the discounted welfare effects ranged from just over \$2 billion (\$2.016 billion) for a 10 per cent loss of exports to nearly \$7.5 billion for a 50 per cent loss.

In the original regulatory analysis, USDA estimated that the costs of the Karnal bunt regulations in 1996 incurred by producers, handlers, and other affected parties would be \$44 million. These costs arose from six requirements: 1) plowdown of fields planted with infected seed (\$1.2 million); 2) diversion of infected grain to animal feed (\$4.2 million); 3) cleaning and disinfecting of railcars (\$0.6 million); 4) loss of seed value (\$6.0 million); 5) loss of value of negative-tested grain 208 Part III Adding more economics to risk analysis

from millfeed treatment costs (\$28.0 million); and 6) other assorted costs (\$4.1 million).

Cost/benefit analysis for the eight quarantine options can be completed under the assumptions given above. For the baseline (option 1), the costs of destroying crops planted with contaminated seed and diverting positive-tested wheat to feed markets and is \$5.4 million. The probability of an outbreak outside the quarantine area was reduced from certainty with no protocol to 0.0549. For a 10 per cent diversion of exports with present value of costs of \$2.016 billion, the expected loss due to an outbreak of Karnal bunt outside of the quarantined area is \$110.7 million, and the welfare gain from utilising the baseline option is \$1.905 billion dollars. Each of the other quarantine options also shows a large expected cost/benefit ratio.

A large expected cost/benefit ratio does not imply, however, that each option is an economically efficient quarantine policy. Three options: 3 restrictions on seed movements; 4 millfeed treatment; and 7 restrictions on seed movements and millfeed treatment) achieve little risk reduction compared to the baseline (option 1). Four other options: 2 railcar cleaning; 5 railcar cleaning and restriction on seed movement; 6 railcar cleaning and millfeed treatment; and 8 railcar cleaning, restrictions on seed movement, and millfeed treatment) are more efficient policies in providing expected benefits for a given level of outlays. These options, along with the baseline (option 1), lie on or near an expected cost/benefit frontier, as shown in Figure 11.2. Options 3, 4 and 7 are economically inefficient. Greater levels of risk reduction and expected benefits can be achieved with lower cost by other choices.

The results in Figure 11.2 also show that most of the expected benefits of any quarantine procedure are achieved by the baseline (option 1). Using additional protocols adds to quarantine costs, but adds little to expected benefits. Consider the efficient baseline (option 1) and options 2, 5 and 8—in which the three protocols of railcar cleaning, restrictions on seed movement, and millfeed

Cost (million dollars)

Source: Glauber and Narrod (2000).

treatment are added sequentially. The expected benefits of each option, the marginal cost of each added protocol, and the expected marginal benefits of that protocol, at the mean value of risk and the more conservative 95th percentile of risk, are shown in Table 11.4. The results demonstrate that the use of railcar cleaning (option 2) provides \$104 million in additional benefits for additional costs of only \$0.6 million. The addition of a protocol restricting the movement of negative-tested seed (option 5) imposes an additional cost of \$6 million, while the welfare gain is only \$2.9 million when 210 Part III Adding more economics to risk analysis

evaluated at the mean probability estimate. The added seed protocol is shown to be marginally cost effective when evaluated using the more conservative 95th percentile value for the risk of outbreak. Finally, the protocol of millfeed treatment (option 8) adds \$28 million to quarantine costs at the margin, but has a marginal benefit that is less than \$0.1 million.

As shown in Table 11.3 (and Figure 11.2), options 2 and 6 achieve nearly identical reductions of risk, as do options 5 and 8. Within each pair there is an efficient choice: 2 dominates 6, and 8 is dominated by 5. If the very similar levels of risk associated with

#### **Table 11.4: Expected benefits, marginal costs and marginal benefits of alternative**

Quarantine options (million dollars)

Source: Glauber and Narrod.

these two choice-pairs are both considered acceptable by decision makers, then option 2 emerges as the most efficient among all four options, and thus is the least trade-distorting (including, in this case, trade in the internal market).

To summarise, Glauber and Narrod find that the original Karnal bunt regulatory impact analysis ignored the effects of the quarantine policies on consumers, and therefore tended to overestimate the benefits of the quarantine. The original analysis also failed to look at the expected marginal benefits and costs of various quarantine protocols. Had the expected marginal effects been considered in the quarantine decisions, it is likely that at least two of the more controversial protocols, seed restrictions and the millfeed requirement, would have received closer scrutiny and possibly been rejected.5 The use of restrictions on movement of positive-tested grain and seed, together with railcar cleaning, results in significant risk reduction in an efficient manner.

#### **Conclusion**

This chapter highlights the potential for complementarity between science-based risk assessment and economic-based cost/benefit analysis in regulatory decision processes. In particular, we use two case studies to highlight a key point: that economic cost/benefit analysis *ought* to play an explicit role in decision-making about SPS

5 Indeed, in subsequent USDA assessments, implications similar to those from the marginal benefit-cost analysis worked their way into the quarantine regulations, but for somewhat different reasons. During a national survey of elevators in the fall of 1996, USDA detected Karnal bunt-like spores in a number of grain facilities in the Southeast. It was determined that the teliospores were for a fungus that affects ryegrass but not wheat. As the spores were indistinguishable from Karnal bunt teliospores, USDA did not impose a quarantine. In 1997, USDA changed the standard to define quarantine areas based on the presence of bunted kernels rather than Karnal bunt teliospores. The immediate effect of the regulatory change was the removal of the millfeed treatment requirement. In 1998, USDA relaxed the quarantine to allow commercial seed to move outside of the quarantine area. With these changes much of the original quarantine area returned to normal marketing. Karnal bunt losses in recent years have been small and confined to positive-tested grain.

#### 212 Part III Adding more economics to risk analysis

regulations. The SPS Agreement of the WTO does not require countries to take into account cost/benefit analysis in making regulatory decisions—doing so might be considered a ―WTO-plus good regulatory practice,‖ as opposed to one, as Donna Roberts has previously described it, that is ―merely legally defensible‖ (Roberts, Orden, and Josling 1999). A WTO-plus approach to regulation is unlikely to bring objections from trade partners since the results are likely to open trade opportunities otherwise precluded. The WTO agreement does require that countries employ measures that are least trade-restrictive. This requirement alone can push countries some distance toward economically sensible SPS regulatory decisions, since for any given objective in terms of achieving a specified level of risk, the least trade-distorting policies are those that achieve the risk objective most economically efficiently.

The avocado case study demonstrates the possibilities for either convergence or divergence between the policy implications from risk assessment and cost/benefit analysis. The USDA decision that a systems approach to risk management kept pest-infestation risk low enabled regulators to partially ease a longstanding ban on avocado imports from Mexico. This was a move to a *less* trade-distorting policy, and for this move there is convergence of decision-making criteria, at least in the sense that the limited-trade decision is only estimated to have a net positive effect on expected national welfare when pest risk is relatively low. The cost/benefit analysis also suggests an increase in welfare from a free trade policy even if pest infestation occurs with certainty. Free trade has not been considered a viable decision in recent policy determination, but additional steps toward trade opening will be evaluated. There is simultaneity between the rule, pest risk, and expected welfare. The more trade is opened, the higher may be the infestation risk, but also because of more trade, the less sensitive are the expected net welfare gains to the level of risk. One can imagine additional moves toward less trade-distorting policies that raise infestation risk (while still keeping that risk below a level deemed acceptable) and simultaneously yield substantial net economic benefits. For example, what is the risk associated with avocado imports into the entire eastern United States over the full year? Perhaps such a policy captures most of the expected economic gains from free trade with relatively little additional risk exposure.

The Karnal bunt analysis by Glauber and Narrod, allows evaluation of just such relationships between quarantine options. Among eight options, they show a limited approach that restricts the movement of positive-tested grain and seed together with railcar cleaning achieves much of the potential risk reduction and expected welfare gains for the least direct cost. By highlighting the marginal cost and benefit of each protocol, they identify the most efficient options, and hence the options that would be least trade-distorting because they impose the least costs on producers within the quarantine area. Two of their option pairs achieve nearly identical reductions of risk. Within each pair, there is an efficient and an inefficient choice. Moreover, if the very similar levels of risk associated with these two choice-pairs are both considered acceptable by decision makers, then the single benchmark-railcar cleaning option emerges as being the most efficient among the four options. Cost/benefit analysis can not make risk management decisions for policy makers, as between the two similar risk levels in the Karnal bunt case. But cost/benefit analysis can help policy makers choose the efficient protocol if they are willing to consider such a trade-off, and understand the costs incurred, and for what ends, if they are not.

#### **References**

Carman, H. and R. Cook (1996) 'An assessment of potential economic impact of Mexican avocado imports on the California industry'. Presented at the ISHS Economic Division Meetings, Rutgers University, August.

Evangelou, P, P. Kemere, and C. Miller (1993) *Potential economic impacts of an avocado weevil infestation in California*. Unpublished paper, USDA/APHIS, Washington, DC, August.

Firko, M. J. (1995) *Importation of Avocado fruit (Persea americana) from Mexico, supplemental pest risk assessment.* BATS/PPQ/APHIS/USDA, Washington, DC, May.

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Garoyan, L. (1995) *Proposed rule for the importation of fresh Hass Avocado fruit grown in Michoacan, Mexico*. Report prepared or by the California Avocado Commission by Management Research Associates, Davis, CA, August.

Glauber, J. and C. Narrod (2000) 'A rational risk policy for regulating plant diseases and pests'. Draft Paper Presented at the Western Economics Association Annual Meetings, Vancouver, BC, 30 June.

Nyrop, J.P. (1995) *A critique of the risk management analysis for importation of avocados from Mexico.* Report prepared for the Florida Avocado and Lime Committee and presented at the public hearings on the avocado proposed rule, Washington DC, August.

Orden, D. and E. Romano (1996) 'The avocado dispute and other technical barriers to agricultural trade under NAFTA'. Invited paper presented at the conference on NAFTA and Agriculture: 'Is the Experiment Working?' San Antonio, TX, November.

Podleckis, E.V. and M. J. Firko (1996a) *Karnal Bunt: likelihood of spread via conveyances, harvest equipment and wheat shipments*. US Department of Agriculture, Animal and Plant Health Inspection Service, Washington, DC, 8 May.

Podleckis, E.V. and M. J. Firko (1996b) *Karnal Bunt: special risk assessment addendum.* US Department of Agriculture, Animal and Plant Health Inspection Service, Washington, DC, 14 May.

Podleckis, E.V. and M.J. Firko. (1996c*) Karnal Bunt: special risk assessment addendum II*. US Department of Agriculture, Animal and Plant Health Inspection Service, Washington, DC, 22 May.

Podleckis, E.V. and M.J. Firko (1996d) *Karnal Bunt: special risk assessment addendum III*. US Department of Agriculture, Animal and Plant Health Inspection Service, Washington, DC, 28 May.

Podleckis, E.V. and M.J. Firko (1997) 'Karnal Bunt: likelihood of spread with proposed 1997 program', pp. 229-271 in *Bunts and Smuts of Wheat: an International Symposium* edited by V.S. Malik and D.E. Mathre. Ottawa: North American Plant Protection Organization.

Roberts, D. and D. Orden (1996) 'Determinants of technical barriers to trade: the case of US phytosanitary restrictions on Mexican avocados, 1972-1995', in *Understanding technical barriers to agricultural trade*, edited by D. Orden and D. Roberts. St. Paul, MN: International Agricultural Trade Research Consortium, Department of Applied Economics, University of Minnesota.

Roberts, D., T. Josling and D. Orden. (1999) *A Framework for Analyzing Technical Trade Barriers in Agricultural Markets*. Economic Research Service, USDA, Technical Bulletin Number 1876, Washington, DC, March.

United States Department of Agriculture (1995) 'Notice of proposed rule on importation of Hass avocados', pp. 34832-34842, *Federal Register,* 7 CFR Part 319, Docket 94-116-3, Washington, DC, 3 July.

United States Department of Agriculture (1997) 'Karnal Bunt regulatory flexibility analysis and regulatory impact analysis', pp. 24753-24765 *Federal Register* 7 CFR Part 301 Docket 96-016-20, Washington, DC, May 6.

World Trade Organization (1995) *The Results of the Uruguay Round of multilateral trade negotiations: the legal texts,* Geneva: WTO Secretariat.

# **Quarantine decision-making in Australia** MONIKA BINDER

A fundamental economic question about the Australian Government's decision-making process governing the import of animals, plants and their products is posed in this chapter. Does the process generate measures that not only reduce quarantine risk but are also consistent with the best possible use of Australia's resources? In other words, is Australia as a whole getting value for money from import decisions?

The chapter looks at import risk analysis (IRA) — the analytical tool that underpins quarantine decisions — as well as cost/benefit analysis (CBA) — an analytical tool of economists. It then examines the scope for incorporating CBA in import decision-making under the WTO *Agreement on the Application of Sanitary and Phytosanitary Measures* (SPS Agreement). The determination of the acceptable level of risk, and of risk conservatism.

#### **Import risk analysis**

The decision-making process that currently applies to requests to import animals, plants and their products is illustrated in Figure 12.1. It is administered by Biosecurity Australia within the Department of Agriculture, Fisheries and Forestry — Australia

 The views expressed in this paper are those of the author and do not necessarily reflect those of the Productivity Commission.

**Figure 12.1: Import decision-making process**

Source: AQIS (1998).

218 Part III Adding more economics to risk analysis

(AFFA). (Until recently, the Australian Quarantine and Inspection Service (AQIS) was the administrating agency.) It distinguishes between routine and non-routine matters, involves the establishment of a risk analysis panel in non-routine matters, includes public consultation at particular stages, and sets out an appeal mechanism. It is distinct from the determination of the Government's response to any industry adjustment effects from allowing imports; that matter is handled separately (and independently) by another part of AFFA (DPIE 1997, p. 41).

A core element of the process is IRA. This was viewed by the Nairn Committee and the National Task Force as encompassing: 'risk assessment', 'risk management' and 'risk communication'. As Box 12.1 shows, their definitions of each of these terms are fairly similar, although the terminology does not accord strictly with that contained in the SPS Agreement, nor with the international guidelines of the International Office of Epizootics (OIE) and the International Plant Protection Convention (IPPC). It also differs from the approaches of other nations' quarantine regulators.

OIE and IPPC guidelines are relevant to Biosecurity Australia's IRAs (AQIS 1998 and 1999, p. 10). The current OIE 'model' of IRA was finalised in 1999. The current IPPC model was issued in 1996, with a new draft circulated for comment in 1999. The basic components of all these models are summarised in Table 12.1 using the terminology of the relevant organisation. Although the terminology frequently differs, all the models involve the identification of the risk of concern, the estimation of that risk, and an identification and evaluation of options to reduce that risk. The table also highlights where the models permit a degree of economic input.

Although individuals confront and manage many risks from day to day, there are some risks that warrant government involvement. These risks generally involve an 'externality'. This arises when individuals who engage in activities expose others to the risks and, moreover, do not themselves bear the full consequences when those risks are realised. (Risk analysts frequently describe these risks as 'involuntary risks'.)

#### **Box 12.1: Components of import risk analysis**

The Nairn Committee and the National Task Force on imported fish and fish products identified three common components in IRA: 'risk assessment', 'risk management' and 'risk communication'. They defined these components as follows:

Sources*:* Nairn et al (1996, p. 85); DPIE (1996, p. 108).

#### 220 Part III Adding more economics to risk analysis

#### **Table 12.1: Basic components of three IRA models**

\*indicates that a degree of economic input is required within the particular component of the IRA model.

Sources: OIE (1999, section 1.4), IPPC (1996) and IPPC (1999).

Quarantine risks involve externalities. Importers of animals, plants or their products seldom have sufficient incentive (due to an absence of market price signals) to reduce the disease or pest risks associated with their imports. This is because, if diseases or pests were introduced, the associated costs would not be borne fully, or at all, by importers, but by local producers. Little recourse is available to local producers (say from common law negligence actions) to recover these costs from importers.

However, even though a *prima facie* economic rationale exists for governments to reduce quarantine risks, community well being overall may not be enhanced if the total cost of such intervention exceeds the total benefit. A fundamental trade-off is between the benefit to producers from reducing a particular quarantine risk and the cost to consumers from being denied cheaper products or products of different qualities or varieties.

A formal economic approach to help decide the full extent of the trade-offs involved in measures to reduce quarantine risk is CBA. 1

CBA involves:

1 A limited version of CBA is cost effectiveness analysis, which focuses on the costs of achieving a particular target. Compared with CBA, this type of analysis does not consider the full range of tradeoffs involved in particular measures.

2 Here, the costs and benefits are measured by 'opportunity costs' and 'willingness to pay', respectively.

222 Part III Adding more economics to risk analysis

A result which found that all quarantine risk-reducing measures under consideration relative to unrestricted trade yielded net costs suggests that community well being would be enhanced by not placing restrictions on imports of the product.

#### *Nature of costs and benefits*

So what are the costs and benefits of measures to reduce quarantine risk relative to a situation of unrestricted trade?

The key costs include the cost to consumers arising from reduced import availability or increased import prices, and the cost to government (net of charges) of administering the measure. The extent of the cost to consumers will depend on the level of the import parity price (that would occur if trade were unrestricted) relative to domestic price that arises because of the measure in place, as well as the extent to which consumers are responsive to price changes (price elasticities of demand).3

The key benefits of measures to reduce quarantine risk are:

The magnitude of the benefits are often uncertain. In the absence of measures to reduce quarantine risk, different outcomes may occur for producers. One outcome is that diseases or pests do not enter and establish, in which case there would be no change in costs of production and output levels (and, thus, no benefits from introducing a measure to reduce quarantine risk). An alternative

3 It is assumed that the domestic and imported products are identical. If they are not, then there would be costs from excluding imports which are associated with loss of variety or seasonality. This does not affect the essence of the analysis.

outcome is that diseases or pests do establish and substantially reduce output and access to export markets (which may mean there are not benefits from introducing a measure to reduce quarantine risk).

#### *Acceptable level of risk*

CBA does not involve specifying the acceptable level of risk explicitly. Underlying a measure with the highest net benefit is a level of risk which, if the measure is chosen, the community implicitly 'accepts' - zero being just one of a range of accepted risk levels. In this sense, from a community wide perspective, the acceptable level of risk is 'optimal'. Moreover, the optimal risk does not necessarily coincide with risk minimisation. This is very different to the meaning of acceptable level of risk given in the SPS Agreement and by quarantine regulators.

One way of visualising this is Figure 12.2. The top panel shows the community benefits and costs of reducing quarantine risk for a particular product below Ro , which is the level of quarantine risk which would exist in the absence of any risk reducing measures. Associated with each level of risk below Ro is a particular measure. The shape of the benefits curve assumes that there are decreasing marginal (or incremental) benefits to the community from reducing quarantine risk below Ro. The cost curve assumes that the marginal costs of reducing risks below Ro increase as the level of risk approaches zero. The level of risk associated with the highest net benefit to the community of a risk-reducing measure is given by R\*, the benefits of reducing risk to this level is B\* and the costs are C\*. The lower panel, which derives a net benefit curve, shows this result more clearly.

The acceptable level of risk which emerges from a CBA will typically vary between products, including products with the same quarantine risk. An issue raised later in this chapter is whether such differences might amount to discrimination under the SPS Agreement and thus bar CBA from having a role in import decisionmaking.

#### **Figure 12.2: An example of benefits and costs of quarantine risk reduction**

Source: Hinchy and Fisher (1991).

#### *Net benefit (or cost) outcomes*

A number of different net benefit or cost outcomes may arise from a CBA of quarantine risk-reducing measures: indeed, a matrix of outcomes could be envisaged. Table 12.2 provides a stylised example of what this might look like for three disease or pest events for the same product and three measures. The data used assume that the net benefit to the community declines as the degree of disease or pest incursion increases and also as the measure becomes more restrictive (with import protocol B being more restrictive than import protocol A). In this example, nine net benefit outcomes are possible.

Whether or not probabilities could be assigned to these outcomes would depend crucially on the risk assessments undertaken in the IRAs. If probability estimates could not be assigned, various decision rules such as 'maximin' or 'minimax regret' could be used to assist in the choice of measure. Indeed, a rule could be designed to reflect the community's attitude to risk. However, given that the SPS Agreement provides that SPS measures must be based on 'risk assessments', it is questionable whether such rules could be used. Moreover, the choice of decision rule is subjective; no one rule is objectively superior to the other.

If probability estimates could be assigned, then expected values could be estimated for each measure. For example, Table 12.2 gives indicative probabilities for the three disease or pest events. The probabilities of the adverse events (that is, events involving disease or pest incursion) decline as the measures become more restrictive. Conversely, probabilities of no disease or pest incursions increase. Thus, using the indicative probabilities in the table, the expected net benefit of allowing unrestricted imports is: 0.7 x 100 + 0.2 x 70 + 0.1 x 60 = \$90 million.

If the community's attitude to risk is 'neutral', the measure to be applied would then be the one yielding the highest expected net benefit. However, as will be seen later, this might not be an appropriate rule where the community is risk averse.

#### **Accommodating risk aversion in cost/benefit analysis**

Risk aversion implies that a measure to reduce quarantine risk which yields an expected net cost to the community might nonetheless be accepted. This is because a lower, but more certain level of community well being (or wealth), is preferred to a higher, but uncertain, level.

#### **Table 12.2: A stylised matrix of net benefit outcomes**

The results of CBA could be extended in various ways to accommodate risk aversion (as well as other risk attitudes). One approach where probability estimates are absent is to apply particular decision rules ('maximin' or 'minimax regret') which emphasise worst case outcomes. Other approaches where probability estimates are available are discounting and expected utility maximisation. Because of the questionable legitimacy of using decision rules under the SPS Agreement, only those approaches based on the availability of probability estimates, and their main limitations, are reviewed below.

Before reviewing them, it is worth noting that risk aversion could also be encompassed in the 'risk assessment' component of IRAs. This could arise, for example, where Biosecurity Australia estimates quarantine risks using worst case (rather than likely) scenarios, or applies a 'safety margin' to its risk estimates. In this situation, the use of any of the techniques reviewed below could lead to a 'double accounting' of risk aversion if these risk estimates were to be used in CBA.

#### *Discounting*

Where probability estimates are available, a rough approach for taking account of risk aversion is to apply a simple discount to the results of CBA. For example, an expected net cost (or benefit) for a measure could be deflated by particular dollar amounts.

Although this approach is simple to use and makes transparent an assumed degree of risk aversion, the size of the discount is inevitably a matter of subjective judgement.

#### *Expected utility*

Another approach to accommodating risk aversion where probability estimates are known is to apply a utility function which reflects the decision maker's subjective valuation of alternative risky prospects (probability distributions of wealth or gambles). A utility function would be based on specific assumptions about the decision maker's preferences. It could be applied to choosing amongst alternative risky prospects, with the aim of maximising the expected utility value.

The following stylised example shows how this approach can be applied. Suppose a utility function exists which reflects the decision maker's aversion to risk (say): U(w) = log10w where w is a net benefit (or cost) outcome from applying a particular measure. Now suppose the removal of an import ban is considered. There are two possible net benefit outcomes from unrestricted trade: \$100 million with probability 0.7 (where no diseases or pests enter or establish) and \$60 million with probability 0.3 (where diseases or pests enter and establish). The expected value of this net benefit is: 0.7 x \$100 million + 0.3 x \$ 60 million = \$ 88 million. The expected utility of the net benefit is: 0.7x U(\$100 million )+0.3x U(\$60 million) 0.7 x log 10 (\$100 million) + 0.3 x log 10 (\$60 million) = 0.7 x 8 + 0.3 x 7.8 = 7.93.

Now consider another measure which replaces an import ban with an import protocol. The net benefit outcomes are \$80 million with 0.8 probability (where there are no diseases or pests) and \$50 million with 0.2 probability (where diseases or pests enter and establish). The expected value of net benefit is \$74 million and the expected 228 Part III Adding more economics to risk analysis

utility of net benefit is: 0.8 x U(\$80 million) + 0.2 x U(\$50 million) 0.8 x log 10 (\$80 million) + 0.2 log 10 (\$50 million) = 0.8 x 7.9 + 0.2 x 7.7 = 7.86.

In choosing between the two measures — removal of the import ban and imposition of an import protocol — the aim is to maximise the expected utility value. Hence, the measure involving removal of the import ban would be preferred because the expected utility value of this measure is higher than that of the protocol.

There have been various criticisms of the theoretical underpinnings of the expected utility approach. They have generally focused on the realism of the assumptions (or axioms) concerning the decision maker's preferences over risk prospects, which invariably demand a good deal of rationality.

#### **Is there a role for cost/benefit analysis?**

As noted earlier, CBA has the potential to inform import decisionmaking by providing an insight into the community-wide resource effects of measures to reduce quarantine risk.

However, CBA has not played a role in IRAs undertaken in the past by Biosecurity Australia's predecessor, AQIS, or indeed, in other countries' quarantine regimes. The economic input which applied was of a limited nature. In its handbook on the import decisionmaking process, AQIS stated:

"The social and economic considerations arising from the potential impact of pests and diseases that could enter and establish in Australia as a result of importation are taken into account, but the potential competitive economic impact of prospective imports on domestic industries is not within the scope of AQIS' import risk analysis. Relevant economic considerations in quarantine risk analysis include the cost of programs required to manage disease and pest outbreaks, the cost to industry of loss of markets due to an outbreak [of pests or disease]." (AQIS 1998, p. 11).

Further, AQIS said of considerations such as the effect of exposing domestic industries to substantially greater import competition and consequent structural adjustment pressure:

"The Government may in such circumstances seek relevant economic analysis and consider options available for an appropriate response. Such considerations may occur in parallel with but will in no way influence the import risk analysis performed in accordance with the procedures described in [the Handbook]." (AQIS 1998, p. 11).

And recently it said at the 2000 Outlook conference:

"In setting its [appropriate level of protection], a World Trade Organization Member strikes a balance between the risk of pest or disease incursion (and the associated potential for damage) and the benefits of trade (which include access to produces of other countries for both consumption and production improvement)." (Gascoine, Wilson and McRae 2000, p. 176).

This limited economic input is apparent in a recent IRA report by AQIS on the importation of crocodile meat from Zimbabwe. In that report, economic input comprised during:

An issue thus arises as to whether CBA should play a greater part in import decision-making and, in particular, in determining the measure to be applied to achieve, in the parlance of the SPS Agreement, an 'appropriate level of Protection'.

Various arguments have been put forward against such a proposal (for example, see Sinner 1999). These arguments generally focus on the potential for CBA to breach the SPS Agreement.

230 Part III Adding more economics to risk analysis

One argument is that, in deciding amongst measures to be applied to reduce quarantine risk, Article 5.3 does not include consideration of the competition- or trade-related impacts of allowing or restricting imports on consumers or producers. This Article provides that:

"In assessing the risk to animal or plant life or health and determining the measure to be applied for achieving the appropriate level of [SPS] protection from such risk, Members shall take into account as relevant economic factors: the potential damage in terms of loss of production or sales in the event of the entry, establishment or spread of a pest or disease; the costs of control or eradication in the territory of the importing Member; and the relative cost-effectiveness of alternative approaches to limiting risks."

Although the language in this Article is clearest with respect to the costs of diseases or pests, it simply does not address the competition- or trade-related impacts of allowing or restricting imports on consumers or producers. There is nothing in the Article to suggest that only specified factors must be taken into account in choosing amongst measures to reduce quarantine risk.

A second argument against the use of CBA is that Article 2.3 could be breached. This Article provides that measures must not 'arbitrarily or unjustifiably 'discriminate between Members where 'identical or similar conditions prevail' and not be applied in a manner constituting a 'disguised restriction on international trade'. The concern here about the use of CBA is that it might lead to divergent results for Members where identical or similar conditions prevail, thus leading to complaints about arbitrary or unjustifiable discrimination. Divergent results could arise, for example, in relation to two products from two countries with similar quarantine risks, which face different demand and supply conditions in Australia. Here, it is possible that one CBA suggests that the preferred measure is to restrict imports, while the second CBA suggests that imports be allowed.

However, this argument may really be one against defining the scope of CBAs (and even IRAs) too narrowly, not against CBA itself. For example, it is possible that divergent results would not arise for 'generic' CBAs, that is, CBAs which focus on a product from all countries, not just a particular country, or on products which are close substitutes. Even if the argument were valid, one option would be to not act in accordance with divergent results from a CBA.

A third argument against the use of CBA is that it could lead to 'distinctions' in the levels of acceptable risk in 'different situations' and thus breach Article 5.5. This Article (known as the consistency requirement) provides that:

"With the objective of achieving consistency in the application of the concept of appropriate level of [SPS] protection against risks to human life or health, or to animal and plant life or health, each Member shall avoid arbitrary or unjustifiable distinctions in the levels it considers to be appropriate in different situations, if such distinctions result in discrimination or a disguised restriction on international trade."

The WTO's Appellate Body in the Hormones and Salmon cases provided guidance on the interpretation of this Article. For the Article to be breached, the Appellate Body stated that three elements must be present:

The SPS Committee's guidelines on this Article appear to largely codify the views of the Appellate Body (WTO 2000).

Although differing levels of acceptable risk could emerge from CBA in different situations, this does not mean that they are 'arbitrary or unjustifiable'. Indeed, it could be argued that linking acceptable risk levels to CBAs is a way of avoiding a breach of this Article as it ensures decisions are backed by objective analysis.

A final argument is that the use of CBA is limited by Article 3.1 which requires measures to be 'based on 'international guidelines (as well as standards and recommendations) where they exist, except as otherwise provided in the Agreement. Nonetheless, as the Appellate Body noted in the Hormones case, the Article does not necessarily mean that compliance with international guidelines is mandatory; merely, that they be considered in the establishment of the measures to be applied. Thus, there is still scope for CBA to be used even where there are international guidelines, standards and recommendations advocating a specific SPS measure.

Interestingly, OIE and IPPC guidelines do not appear to discount the use of CBA in their IRA models. Although the OIE model is noncommittal on the nature of economic input in risk management, both IPPC models explicitly allow the choice of measures to be based on CBA. Indeed, the IPPC Draft Guidelines provide that in selecting measures to reduce pest risk, 'cost/benefit analysis for each of the minimum measures found to provide acceptable security may be estimated' (IPPC 1999, section 3.4).

Thus, there does not appear to be anything in the wording of the relevant provisions of the SPS Agreement, WTO Appellate Body guidance to date, or in the OIE and IPPC guidelines that expressly rules out the use of CBA in the risk management component of IRAs. Provided that the minimum requirements of the SPS Agreement in respect of 'risk assessment' and determining the 'appropriate level of protection' are satisfied, it would be in the interest of the overall Australian community that CBA (or at least cost-effectiveness analysis) be applied.

This is not to say that a CBA should be undertaken in every case. It (and, indeed, a full IRA) is resource intensive and, accordingly, should be rationed. The following are some suggestions about how and when it could be used.

A CBA could be unnecessary if Biosecurity Australia assesses the quarantine risk in a particular case to be 'zero or negligible'. This approach is similar to ensuring that the assessed risk falls within a target or threshold level of risk before proceeding into the risk management component of IRA. (Indeed, as discussed below, a target of 'zero or negligible' risk could be perceived as an 'acceptable level of risk').

Generic or more broadly based CBAs could be undertaken. For example, instead of focusing on a particular product from a particular country, a CBA could be extended to encompass a particular product from all countries. In taking this approach, however, consideration may need to be given as to whether the scope of IRA overall could feasibly be broadened.

Qualitative CBAs, which are not so data intensive, could be undertaken. In this regard, adherence to the guidelines on Regulatory Impact Statements - effectively a template of CBA - set out by the Office of Regulation Review (1998) may prove sufficient.

#### *The acceptable level of risk*

The SPS Agreement gives Members a right to determine their own level of acceptable risk (or, in the words of the SPS Agreement, 'appropriate level of protection') provided they:

Although it is not clear from the SPS Agreement what acceptable level of risk means — it is tautologically defined — the WTO's Appellate Body provides some guidance. In the Salmon case, the Appellate Body said that:

it is a prerogative of the Member concerned;

234 Part III Adding more economics to risk analysis

According to comments by the Government and AQIS, Australia's acceptable level of risk is low, but not zero. The Government has said 'there will always be an element of risk' with imports (DPIE 1997, p. 10). AQIS has said that 'quarantine policies are based on the concept of the management of risk to an acceptably low level' (AQIS 1998, p. 11). AQIS said that 'a guide to the [appropriate level of Protection] is community and industry acceptance of [previous] quarantine decisions taken' (AQIS 1999, p. 15, and Senate Rural and Regional Affairs and Transport Legislation Committee 2000, p. 82).

Apart from these comments, there is no guidance as to what 'acceptably low' means or how the concept is applied in individual cases. Indeed, the Senate Rural and Regional Affairs and Transport Legislation Committee (2000, p. 97) expressed disquiet recently over the vagueness of the concept, when it said:

"The Committee is concerned about the difficulty of defining 'Appropriate Level of Protection'. …. putting in place quarantine measures determined against a concepts which is inherently vague and unsubstantiated, and which can only be inferred from analysing decisions on quarantine applications, is a recipe for inviting confusion and criticism."

In general, there are a number of approaches to determining whether a quarantine risk is acceptable. As noted earlier, CBA is one approach. Alternative approaches involve the following:

 Expressly identifying a risk target or threshold and then comparing the particular quarantine risk of concern against this target. There are various ways of expressing the risk target. For example, the IPPC Draft Guidelines (IPPC 1999, section 3.1) suggested that 'acceptable level of risk' may be expressed in 'reference to existing phytosanitary requirements, indexed to estimated economic losses, expressed on a scale of risk tolerance or [expressed] in comparison with the level of risk accepted by other countries'.

A common feature of these alternative approaches is that they involve limited or no consideration of the community wide tradeoffs associated with importing a product with quarantine risk.

Given the significance of the concept under the SPS Agreement and the lack of clear guidance to date by either the Government or by Biosecurity Australia (or its predecessor AQIS), it appears that issuing detailed guidelines on acceptable risk would make transparent this crucial aspect of import decision-making. At the very least, more detail could be given by Biosecurity Australia in its IRA reports about what is, in a particular case, the 'acceptable' risk and how it is determined. This approach was effectively endorsed by the Senate Rural and Regional Affairs and Transport Legislation Committee (2000, p. 97) recently when it said:

"the standard against which the risk is being determined must be subject to some standards, guidelines or definition. … [Furthermore] the determination of the [appropriate level of Protection] is a matter for Government and not one which is appropriate for individual agencies. Nor should the determination of the [appropriate level of Protection] be seen to be within the scope of one particular agency's functions."

236 Part III Adding more economics to risk analysis

#### **Box 12.2: Inferring risk acceptability**

One approach to determining whether an assessed quarantine risk is acceptable or not is to compare it with the quarantine risks associated with other situations (such as previous quarantine decisions). The diagram below, which focuses on risk as a function of probability and adverse consequences, is one way of conceiving what this involves. It plots risks in different situations and identifies which risks have been accepted and which have not. Indeed, an imaginary frontier of acceptable risk levels could be drawn. A slight variant of this approach is the 'risk evaluation matrix' devised by AQIS (see Senate Rural And Regional Affairs and Transport Legislation Committee 2000, p. 144).

Although this approach ensures consistency in decision making, it does not of itself explain all the factors relevant in determining whether or not a risk is acceptable.

#### **Conservatism in IRA**

Conservatism in IRAs can occur during the risk assessment (for example, in the choice of data, assumptions and risk estimation techniques) and in risk management components.

It could be argued that this is consistent with Australia's conservative attitude to risk. However, applying a conservative approach to both risk estimation and to risk management can unnecessarily bias decision-making away from measures which enhance community well being. Indeed, as noted earlier, it could lead to a kind of 'double accounting' of risk attitudes.

In principle, it would be preferable if the assessment of risk involves, as far as possible, an objective appraisal of data and information. This means avoiding the incorporation of particular risk attitudes in risk assessment. Otherwise, risk estimates could be biased towards the 'high end' and risk attitudes would be better incorporated in deciding among the measures to reduce risk. For example, risk attitudes could be incorporated in the choice of risk target to be achieved or, if CBA is used, in applying a specific risk aversion factor or decision rule.

#### **Conclusion**

Biosecurity Australia's predecessor, AQIS, has done much in recent years to address the shortcomings of its previous approach to IRA and import decision-making (see the following chapter in this volume, by Tanner). There is now a more formalised appellable decision-making process with greater opportunity for stakeholder participation. There is also in place a program of review of IRAs on aquatic animals. As well, quarantine proclamations have been rationalised, and the informative quality of IRAs has increased markedly.

That said, there is scope for futher improvement. Provided the minimum requirements of the SPS Agreement are met, consideration by Biosecurity Australia of the well-being of the Australian community should be paramount in its import decisionmaking process. Implementing measures to reduce quarantine risk, although yielding benefits, is not cost-free. In the context of IRA, priority attention should be given to incorporating some form of CBA (or cost-effectiveness analysis), issuing general guidelines on the 'acceptable level of risk' (or at least expressing its meaning more clearly in particular IRA reports) and avoiding a double accounting of risk attitudes in IRAs.

238 Part III Adding more economics to risk analysis

#### **References**

AQIS (1998) *The AQIS import risk analysis handbook,* Canberra: Australian Quarantine and Inspection Service.

AQIS (2000) *Importation of crocodile meat from Zimbabwe into Australia, import risk analysis paper*, Canberra: Australian Quarantine and Inspection Service.

AQIS (1999) 'National risk management and the SPS Agreement', Conference on Accounting for Risk in International Agreements, Melbourne Business School, Melbourne, 10-11 February.

DPIE (Department of Primary Industries and Energy) (1996) *Report of the National Task Force on Imported Fish and Fish Products*, Canberra: Australian Government Printing Service.

DPIE (1997) A*ustralian quarantine — shared responsibility, the Government response*, Canberra: Department of Primary Industries and Energy.

Gascoine, D., D. Wilson, and C. McRae (2000) 'Quarantine policy in the World Trade Organization environment', pp. 171–8 in *Outlook 2000, vol. 2, Agriculture and Regional Australia*, Proceedings of the National Outlook Conference, Canberra, 29 February–2 March.

Hinchy, M.D. and B.S. Fisher (1991*) A cost-benefit analysis of quarantine. Technical Paper 91.3,* Canberra: Australian Bureau of Agricultural and Resource Economics.

IPPC (1996) *Guidelines for pest risk analysis*, Rome: International Plant Protection Convention Secretariat.

IPPC (1999) *Pest risk analysis for quarantine pests*, Draft Standard for Country Consultation, Rome: International Plant Protection Convention Secretariat, September.

Nairn M, G. Allen, A. Inglis and C. Tanner (1996) *Australian quarantine: a shared responsibility*, Canberra: Department of Primary Industries and Energy.

OIE (1999) *International Animal Health Code — 1999 Edition, Section 1.4, Import Risk Analysis*, Paris: Office of International Epizootics. http://www.oie.int/Norms/Mcode/A\_00008.htmm

Office of Regulatory Review (1998) *A guide to regulation* (2nd ed.), Canberra: Productivity Commission, December.

Senate Rural and Regional Affairs and Transport Legislation Committee (2000) *An appropriate level of protection? the importation of salmon products: a case study of the administration of Australian quarantine and the impact of international trade arrangements*, Canberra: Parliament of the Commonwealth of Australia.

Sinner J. (1999) 'Cost benefit analysis and the SPS Agreement', paper presented at the pre-AARES Conference Workshop on Border Security and Risk Analysis, Lincoln, New Zealand, 19 January.

World Trade Organization (2000) *Guidelines to further the practical implementation of Article 5.5*, Committee on Sanitary and Phytosanitary Measures, G/SPS/15, Geneva: WTO Secretariat.

# 13 **Quarantine reform: Australia's recent experience**

CAROLYN TANNER\*

Three years after the Australian government announced major changes to Australia's quarantine system, quarantine-related issues continue to elicit strong interest from the media, some industries and foreign governments, and quarantine remains high on the policy agenda. It is therefore time to ask: what have been the major outcomes of reforming the Australian quarantine system and what now are the key issues from an economic perspective?

This chapter addresses these questions by first briefly reviewing the background to and major tenets of the report of the Australian Quarantine Review Committee (Nairn *et al.* 1996) which formed the basis for the government's fundamental reforms to the quarantine system announced in August 1997 (DPIE 1997). The chapter examines the broad outcomes resulting from the government's reforms before focusing on the key issues of managed risk (in particular, import risk analysis) and the continuum of quarantine (that is, expanding the scope of quarantine to include pre-border, border and post-border activities that assist in achieving the quarantine objective). Finally some comments are made about the performance of quarantine delivery and the goal of quarantine from an economic perspective.

\* The author wishes to thank Mal Nairn, Andrew Inglis, Mike Nunn and Warren Vant for helpful comments and Mark Kethro, Warren Vant and Neil McWaters for assistance with the tables.

#### **Australian quarantine reform**

The efficacy of the Australian Quarantine and Inspection Service (AQIS) — the organisation responsible for the development of Australia's quarantine policy and programs — was called into question in the early 1990s by the entry into Australia of a succession of exotic pests and diseases that attracted wide media attention1. Concern about the adequacy of Australia's quarantine system was exacerbated by a highly politicised and public debate concerning the entry conditions for a number of products on which AQIS and industry representatives were unable to reach common ground for deciding issues on their scientific merit. As Nairn *et al.* (1996, p.3) observed, the debate was 'resource-intensive and timeconsuming' and led to 'community concern about Australia's quarantine services'.

Coincident with the controversy concerning the Australian quarantine system, major developments were occurring in world trade and other areas relating to quarantine, including:

1 With the restructuring of Agriculture, Fisheries and Forestry — Australia (AFFA) which occurred in mid-2000, these activities have been relocated in the Market Access and Biosecurity group of AFFA, but the same staff are involved. To avoid confusion and for consistency with the *Handbook*, staff conducting IRAs will be referred to as AQIS staff throughout this chapter.

242 Part III Adding more economics to risk analysis

In response to mounting criticism of the Australian quarantine system from primary producer groups, the scientific community and the general public, the then government set up an independent review of Australia's plant and animal quarantine policies and procedures in December 1995, chaired by Professor Malcolm Nairn. Following a general election in March 1996, the review was endorsed by the Coalition Government and the Review Committee's report was presented to the new Minister for Primary Industries and Energy (the Hon. John Anderson MP) in November 1996.

The report - *Australian Quarantine: A Shared Responsibility* - proposed fundamental changes to the culture of the quarantine service and the way quarantine policies are developed and put into effect. Central to the Nairn Review's recommendations was the need to develop a 'partnership approach' that embraced industry, governments and the wider community. The basic tenets of the Nairn Review can be summarised as follows:

In its response (DPIE 1997), the government accepted the basic principles and recommendations of the Nairn Review — with the exception of the recommendations to set up a statutory authority to be responsible for quarantine policy and programs, and to establish a key centre for quarantine-related risk analysis — and provided funding in the order of A\$76 million over a four-year period.2

#### **Key outcomes**

In its response to the Nairn Review, the government stressed the importance of Australia's quarantine system for potential agricultural exports and the need for 'a credible quarantine policy that is consistent with international rules and standards' (DPIE 1997, p. 8). The government emphasised the need to 'accept the international rules with which we expect our trading partners to comply' and to base quarantine decisions 'on the weight of scientific evidence and judgement' (DPIE 1997, p. 8). In providing additional funds to enhance the quarantine system, the government placed particular emphasis on increasing community awareness, applying the principle of 'manageable risk' (based on science) to quarantine decisions, protection of Australia's unique environment and recognition of the continuum of quarantine (that is, quarantine needs to be seen as a continuum of pre-border, border and postborder measures). Greater emphasis was also to be given to improved consultation in import risk analysis, increased monitoring

2 The government's response was a joint response to the Nairn Review and to the National Task Force on Imported Fish and Fish Products (DPIE 1996).

for pests and diseases, and enhanced national preparedness and response capacity (especially for plants and aquatic animals).3

In providing significant funding for quarantine - at a time of overall budgetary stringency - the government demonstrated its commitment to maintaining a strong quarantine system (Tanner and Nunn 1998). Consistent with the government's endorsement of the underlying rationale of the Nairn Review of a 'shared responsibility', two-thirds of the funding has been provided by government, with the remainder being contributed by industry through the application of AQIS's existing full cost-recovery policy.

The Government's endorsement of the partnership approach established a framework for a change in the culture of quarantine that recognises that quarantine is not the sole responsibility of government but that all members of the community as well as industry and governments need to be involved. Overall, the reforms that have been made to the Australian quarantine system have led to greater transparency, which is consistent with Australia's international obligations and trade objectives as a major agricultural exporter and leader of the Cairns Group. At the same time, the quarantine system has been strengthened and its focus extended beyond the border. Strengthening the pre-border and post-border elements of the continuum of quarantine is particularly important in managing the quarantine threats inherent in increasing volumes of trade and numbers of tourists (Tanner and Nunn 1998).

In its response to the Nairn Review, the government indicated that it had been guided by 'seven key quarantine themes':

consultative decision-making;

3 For the allocation of additional funds to major functional areas, see DPIE (1997, p. 10).

The seven quarantine themes set out above are clearly inter-related and have led to a suite of reforms. Arguably, the first two are of greater significance and will be discussed in more detail.

#### *Managed risk*

At the time of the Nairn Review, import risk analysis (IRA) was a highly controversial issue, and addressed in many submissions. Despite the changes that have been made to the IRA process, Australia's quarantine risk analyses continue to attract criticism from Australia's major trading partners, some domestic stakeholders — particularly those whose economic interests are affected by the IRAs — and the media. In addition to the scrutiny of the WTO Panels, the IRAs carried out by the then AQIS for uncooked Pacific salmon products have been the subject of a recent Senate Committee inquiry (Senate 2000).4

Each of Australia's quadrilateral partners has expressed concerns about Australia's quarantine regime — for example, New Zealand with respect to apples, Canada with respect to salmonids and pigmeat, and the United States with respect to chicken meat, pigmeat, salmonids and table grapes — as have the ASEAN countries, notably Thailand (on durian and chicken meat) and the Philippines (on tropical fruits). The European Union (EU) has long held and expressed concerns about Australia's quarantine policies as they affect EU plant and animal exports. It is well recognised in international trade circles that such concerns about Australia's quarantine policies can have an adverse impact on market access for Australian export products, as recent events in the Philippines

4 It should be noted that the 1996 IRA on salmon was undertaken prior to the new IRA process being implemented and the 1999 IRA was conducted under an accelerated procedure due to time constraints arising from the WTO proceedings.

246 Part III Adding more economics to risk analysis

clearly demonstrated. Recently, Australia's quarantine goals have also come under scrutiny by economists (see, for example, James and Anderson (1998) and Rodriguez *et al.* (2000) - the particular issues raised by economists are addressed in the next section).

The Nairn Review endorsed the government's 'managed risk' approach to quarantine. This is the only appropriate approach in view of the increasing levels of international trade and tourism and the finite resources available to AQIS to prevent establishment of pests and diseases. There is also the constant threat of pests and diseases entering through 'the natural movement of wildlife, such as migratory birds, or [being] borne long distances on wind or sea currents' (Nairn *et al.* 1996, p. 21). The community therefore needs to accept a pragmatic approach to quarantine that is consistent with increasing trade and tourism and the threat of disease and pathogen entry through natural pathways.

The Nairn Review identified a number of fundamental principles that should apply to import risk analysis, similar to those that apply in other disciplines such as food safety (ANZFA 1996) and environmental sciences (Norton, Beer and Dovers 1996). In summary, risk analysis should be:

These six principles were endorsed in the government's response and incorporated into the new IRA process that came into effect in 1997 (DPIE 1997 p. 21). The major differences between the new IRA processes and the previous practice adopted by AQIS is in the

'duration, timing and consultative requirement, and the provision for an appeal mechanism' (Tanner and Nunn, 1998 p. 450). *The AQIS Import Risk Analysis Process Handbook*, which was published in August 1998, sets out — for stakeholders and other interested parties — the process that Biosecurity Australia follows in

**Table 13.1: Plant and animal quarantine decisions, 1993/1994 to**

a. Caution should be used in comparing activity before and after the new IRA process (which was introduced in September 1997). The new process is more extensive, thorough, consultative, transparent and significantly more resource intensive. Before the new process, all the animal quarantine decisions followed a period of stakeholder consultation while for plant issues a large percentage (50%) were based on pre-existing policy and required minimal consultation. Those included above as 'IRAs' are ones that involved new policy and more extensive analysis than those counted as reviews.

Source: Biosecurity Australia.

conducting an IRA. As shown in Table 13.1, many of the import requests received by Biosecurity Australia can be addressed relatively quickly without the need for a formal IRA process. Those requests that involve significant variations in established policy require an IRA to be carried out. For the period 1993/94 to 1999/2000, 174 plant and animal quarantine decisions were made in response to requests to import products or material not previously permitted. Of these decisions, more than half could be dealt with using the less formal review process, whilst the remainder - some 82 decisions - involved more complex issues, requiring a full IRA. Although caution needs to be exercised in comparing data before and after the introduction of the new IRA process, Table 13.1 indicates that the proportion of requests being addressed via IRAs has increased. This is largely a function of the increased funding of risk analysis that has allowed a greater number of IRAs to be undertaken simultaneously.

An IRA may be conducted on a 'routine' or 'non-routine' basis, depending on the complexity of the issues involved, but either way there is opportunity for extensive consultation with stakeholders who may lodge appeals if not satisfied that the process — as set out in the AQIS *Handbook* — has been followed. Routine IRAs are handled 'in-house' by Biosecurity Australia, with scientists and other experts both within Biosecurity Australia and outside being consulted, as required. More complex proposals (non-routine risk analyses) involve the establishment of an expert panel (called a risk analysis panel or RAP) to conduct the IRA. Staff of Biosecurity Australia's Plant and Animal Quarantine Policy Branches are responsible for assigning priorities to import requests, conducting IRAs, developing risk management options and making recommendations to the Director of Quarantine as to which option meets Australia's appropriate level of protection (ALOP) or level of manageable risk in the least trade-restrictive way.5 These staff are also responsible for arranging stakeholder consultations and the negotiation of the final import protocol with the exporting country's relevant agency.

The process is designed to ensure that the risks of entry, establishment and spread of pests and diseases, and their potential

5 With the restructuring of Agriculture, Fisheries and Forestry — Australia (AFFA) which occurred in mid-2000, these activities have been relocated in the Market Access and Biosecurity group of AFFA, but the same staff are involved. To avoid confusion and for consistency with the *Handbook*, staff conducting IRAs will be referred to as AQIS staff throughout this chapter.

impacts are fully evaluated. Imports are only permitted where such risks can be managed in a way that is consistent with Australia's very conservative approach to quarantine risk management. The ALOP is essentially Australia's quarantine goal and the import decisions and quarantine protocols are the means of achieving that goal. The concept of ALOP is discussed in detail above in Chapters 6 to 10 of this volume. Suffice to say here that Australia's ALOP is not quantified (nor is any other country's). Despite being relatively straightforward in concept, ALOP is not easy to define and is often not well understood by stakeholders. Consistency in the application of the concept is 'achieved by reference to existing Australian policies and procedures, by reference to relevant international standards, guidelines and recommendations, and through the contribution of experienced risk analysts' (Tanner and Nunn 1998, p.451).6 The additional funding for risk analysis provided by the government has allowed additional scientific staff to be hired by AQIS and outside expertise to be contracted, as appropriate.

The transparency of the overall process has increased since the publication of the *Handbook.* In addition, Biosecurity Australia maintains public files for all IRAs (accessible to all parties), a register of stakeholders is established for each IRA, and registered stakeholders receive progress reports on the IRAs.7 As of mid-2000, 26 IRAs had been completed under the new procedures that were implemented in 1997. A further 46 IRAs are in process and over 150 requests for import market access — some dating from the early 1990s — await consideration.

6 As discussed in AQIS (1999a), while Australia's ALOP is illustrated by the body of quarantine decisions, inevitably 'outliers' will occur. This is particularly the case with older decisions or in cases where new scientific evidence has emerged or new technologies have been developed. Review of such decisions is an on-going process.

7 Biosecurity Australia is developing a publication on the technical guidelines used in undertaking an IRA and developing risk management procedures to complement the *Handbook* and to make the overall process more transparent. The method of analysis used by Biosecurity Australia is based on the international standards produced by the Office International des Epizooties (OIE) and the International Plant Protection Convention (IPPC) and are consistent with the requirements of the SPS Agreement.

Experience with the new IRA process suggests that the majority of IRAs — particularly those involving products that do not compete directly with Australian industry or provide new genetic material are not controversial. Criticism of AQIS and the new IRA process has often come from industries that perceive their economic interests are threatened by entry of competing product from overseas if quarantine restrictions were lessened or removed. Of the IRAs completed under the new process, the IRAs on table grapes and durians have been particularly contentious. Since the right to appeal was introduced, there have been appeals in 12 IRAs, with the stakeholder concerns ranging from the priority accorded the IRA and the composition of the Risk Analysis Panel to criticisms of the risk analysis itself (see Table 13.2 for details of appeals and their outcome). Major criticisms by stakeholders include claims that the then AQIS:

The two Import Risk Analysis Appeal Panels that considered the appeals on durians and table grapes each concluded that the then AQIS did not fail to consider significant bodies of relevant scientific evidence but that AQIS had failed to provide sufficient transparency in respect to certain technical matters. Notwithstanding these criticisms, the process exhibits a higher degree of transparency and stakeholder involvement, compared with the earlier process used by the then AQIS and the IRAs conducted by major trading partners. Notwithstanding, there is still room for greater understanding by stakeholders of the underlying principles of the IRA process and the international framework within which Australia operates, greater transparency in the risk analysis itself and more consultation with stakeholders in the early stages.

Overall, the changes that have been made to the IRA process, together with additional funding, have enhanced the technical capacity of Biosecurity Australia to undertake IRAs and ensured that the six fundamental principles of risk analysis are met. The process is clearly structured, transparent and consultative. It is common practice to involve outside experts in both routine and non-routine IRAs, thus ensuring a strong scientific and technical basis for risk analysis and quarantine decisions. While continuing to maintain a very conservative quarantine policy, recent decisions clearly indicate that Biosecurity Australia is implementing a managed risk approach (based on science), consistent with Australia's international obligations. In commenting on the effectiveness of Australia's quarantine protocols, Gascoine *et al.* (2000, p. 177) note that Australia's import protocols '… are among the most stringent in the world' and that 'no pest or disease incursions have been attributed to import decisions by the then AQIS'.8

8 See AQIS (1999b) for a list of pest and disease incursions since 1997 and likely source of introduction.

252 Part III Adding more economics to risk analysis

**Table 13.2: Summary of appeals received in Australia**

Source: AFFA

#### *Continuum of quarantine*

Putting into effect the concept of a continuum of quarantine involving pre-border measures to reduce the threat of entry, welltargeted border controls and post-border measures such as monitoring and surveillance to detect incursions at an early stage, backed up by emergency response plans to contain, control or eradicate pests and diseases when incursions occur — is one of the major outcomes of the quarantine reform. Although border activities continue to be central to the quarantine system, greater emphasis is now placed on pre-border and post-border activities than was the case in the past.

#### *Pre-border measures*

Pre-border measures are essentially a means of managing the quarantine risks off-shore. Measures include the identification, surveillance and monitoring of quarantine threats off-shore and managing these risks through co-operative programs of training, research and education; pre-clearance of goods off-shore; and promotion of quarantine awareness among Australian and overseas travelling and trading communities. Major initiatives include accrediting fumigation treatment providers, establishing timber certification standards for Canada and the United States, and extensive awareness promotions in the travel industry and with national Olympic committees in the period leading up to the Olympic Games in Sydney. The Northern Australia Quarantine Strategy (NAQS) has achieved considerable success in looking for and identifying threats in Papua New Guinea and Indonesia.

The government has endorsed the expansion of pre-clearance activities as part of the pre-border phase of importation. Pre-border activities, which are monitored at the border, include pre-cleared fruit and vegetables from a number of countries including New Zealand and Japan, pre-cleared military and agricultural equipment, and inspection of athletes' personal effects and equipment before their return to Australia (used for the Olympic Games in Atlanta and the Commonwealth Games in Malaysia). Since Australian troops were deployed in East Timor, Biosecurity Australia staff have 254 Part III Adding more economics to risk analysis

been stationed in East Timor and additional staff have been stationed in Darwin to mitigate the threat posed by the frequent movement of personnel and equipment between East Timor and Australia.

#### *Border measures*

The implementation of the government's response to the Nairn Review has seen the deployment of additional staff and other resources aimed at improving border integrity. The focus of the Nairn Review's recommendations was that there should be better targeting of border activities to focus on paths identified as involving high risk of pest and disease incursion. As a result there has been significant data collection and analysis in a number of areas (including air passengers, air couriers and international mail exchanges, and external container inspections) to assist in risk profiling. In addition, performance indicators have been identified and a number of border activities have been reviewed and documented to achieve national consistency and to ensure appropriate risk management. A priority area for border programs is to continue to work with industry towards co-regulatory arrangements that are designed to outsource low-risk quarantine functions to industry, thus freeing AQIS resources to concentrate on higher risk areas.

#### *Post-border measures*

Effective monitoring and surveillance for pests and diseases are essential if Australia is to fulfil its international obligations under the SPS Agreement. Article 6.3 requires countries to establish scientifically that they are free from pests and diseases, rather than simply claiming such freedom. The Nairn Review identified deficiencies in the post-border area of quarantine, particularly in relation to plants and aquatic animals. The establishment of the position of Chief Plant Protection Officer (analogous to the Chief Veterinary Officer) and of Plant Health Australia (analogous to Animal Health Australia) has enhanced Australia's plant health infrastructure and ability to respond to disease incursions. Aquatic animal health capacity has been increased through the appointment of experts to a special Fish Health Unit in AFFA (and additional experts to Biosecurity Australia to carry out IRAs). An emergency response plan - AQUAPLAN - has been developed for aquatic animals along the lines of the AUSVETPLAN which has proved very effective for livestock diseases. The benefits of regular monitoring and early detection of pests and diseases were clearly demonstrated by the detection and subsequent eradication of blackstriped mussels in Darwin harbour in 1998. This pest has the potential to impose significant costs on shipping through the fouling of hulls.

Notwithstanding the improvements made in the post-border area as a result of the additional funding following the Nairn Review, the 1999 Australian National Audit Office report - *Managing Pest and Disease Emergencies* - identified the need to further enhance emergency planning for and response to animal and plant pest and disease incursions. Under a new program, the government will allocate \$22.3 million over the next four years to enhance Australia's emergency management capacity for animal (including aquatic animals) and plant diseases and pest emergencies and secure a national approach to animal and plant health infrastructure.

#### **Economic considerations**

#### *Performance of quarantine delivery*

A key question in any analysis of Australia's quarantine reforms is how effective and efficient have the reforms been in achieving their goal? The goal of Australia's quarantine policy (the ALOP) is clearly articulated in Recommendations 1 and 2 of Nairn *et al.* (1996):

256 Part III Adding more economics to risk analysis

deleterious effect on humans, animals, plants or the natural environment.

Australia's ALOP - which can best be described as 'very conservative' (AQIS 1999a) - is achieved through a managed risk approach to quarantine.

As previously indicated, analysis of incursion data shows that there has been no increase in the rate of pest and disease incursions since the time of the Nairn Review and - more importantly - no increase in the rate of establishment (AQIS 1999b). Of the 19 incursions reported to the National Office of Animal and Plant Health in the period 1997 to 1999, 10 have been eradicated (or are in the process of being eradicated), three were of no economic significance, one is controlled by normal management procedures, two are still being evaluated, and three have established, for which management programs are in progress. This result has been achieved at a time of increases in the number of international visitors, aircraft movements and entry of vessels, and the amount of international mail and cargo entering the country. Enhancement of pre-border and post-border quarantine, together with increased use of risk profiling to target resources in areas of highest risk in all parts of the quarantine continuum have contributed to the improved effectiveness and efficiency of the system. Greater quarantine awareness and the development of a partnership approach with industry (involving coregulatory arrangements) have contributed to the improved performance of the quarantine system.

A good example of how risk profiling and better targeting of resources can improve effectiveness and efficiency of the system is the international mail program. More than 160 million articles of mail enter Australia each year, many containing items of high-risk quarantine concern such as foodstuffs, plant material, seeds and animal products. The increased funding provided to the international mail program has been used for extra staff and detector dogs and the introduction of scanning equipment. In conjunction with the Australian Customs Service, AQIS has refined its approach to targeting mail items of quarantine concern. The number of high-risk items seized has increased as has the number of seizures per officer and the number of seizures compared with the number of items of quarantine interest referred for closer examination (AQIS 1999c).

Consistency in the application of quarantine protocols is an important aspect of performance from a National Competition Policy perspective and one that attracted considerable comment at the time of the Nairn Review. The differences in the delivery of quarantine services reported by the Nairn Review were an inevitable outcome of the changes that have occurred in quarantine delivery nationally. Before 1994, all Commonwealth quarantine services were delivered under agency arrangements by State quarantine services, on behalf of the Commonwealth. In October 1994, a meeting of the Agriculture and Resource Management Council of Australia and New Zealand (ARMCANZ) resolved to transfer delivery of quarantine services to the Commonwealth. However, failure by the Ministers from Northern Territory, Western Australia and Tasmania to agree to such a transfer has resulted in a situation where AQIS officers perform Commonwealth quarantine services in most States while State officers appointed as Quarantine Officers by the Commonwealth perform the border functions in Northern Territory, Western Australia and Tasmania (Nairn *et al.* 1996, p. 121).

Differences in delivery of quarantine services between States have the potential to be anti-competitive and to encourage the undesirable practice of 'port shopping'. AQIS has expended considerable effort in developing a nationally consistent quarantine service through documenting various procedures, increased staff training, introduction of performance indicators and regular program reviews. Although the 'mix' of service delivery persists, differences in service delivery no longer appear to be a major issue for stakeholders.

Regular oversight of AQIS and now Biosecurity Australia's performance is undertaken by the Quarantine and Exports Advisory Council (QEAC) which was established as part of the government's response to the Nairn Review. Its terms of reference include, *inter alia*, to oversee the implementation of the Nairn Review and Fish 258 Part III Adding more economics to risk analysis

Task Force Reports, to provide advice on AQIS's program delivery and to help AQIS to evaluate its performance. The regular reports that have been made to QEAC during its three years of operation demonstrate improved levels of effectiveness and efficiency, supported by the use of performance indicators and regular surveys of client satisfaction. Overall, the reforms to the quarantine service have led to a better allocation of resources through the use of risk profiling and targeting resources to areas of highest quarantine risk.

#### *The goal of quarantine*

As already indicated, Australia's goal of quarantine (ALOP) is set at a 'very conservative' level that is consistent with Australia's trade profile as a major exporter of agricultural products and the trade benefits that flow from maintaining Australia's relative freedom from pests and diseases. Under the SPS Agreement, it is up to the Member Countries of the WTO to determine their appropriate level of sanitary and phytosanitary protection. To achieve this level of protection, Member s can apply quarantine measures that protect against potential pests and diseases provided such measures are:

The methods currently used by Biosecurity Australia for undertaking IRAs and determining quarantine protocols are consistent with the SPS Agreement.

Not surprisingly, if the ALOP is changed, the range of products that can be imported — and the associated trade flows — will change. This has been demonstrated by a recent ABARE study by Heaney, Rodriguez and Abdalla (1999), who use an iso-risk approach developed by Bigsby and Whyte (1999) to define the boundary between commodities with acceptable risks and those with unacceptable risks. Heaney *et al.* (1999) show that for the six commodities studied (apples, bananas, chicken, pilchards, salmon and wheat), none would be imported at a very conservative ALOP (of \$700 per year) except for chicken meat from the United States. If the ALOP is raised to \$24.5 million per year, imports of pilchards and bananas, as well as chicken meat from the United States, would be permitted. At an ALOP of \$33 million per year, all of the casestudy commodities would have unrestricted access.

One might expect that the debate would now be focused on quantifying the ALOP for Australia but — at least amongst economists — the debate seems to have shifted to whether the current approach used by Biosecurity Australia, which is clearly consistent with the SPS Agreement, should be replaced by a cost/benefit approach to quarantine policy (James and Anderson 1998; Rodriguez *et al.* 2000). From a purely economic perspective, a cost/benefit approach is preferable because it allows all the costs and benefits associated with the import decision to be considered.9 The Biosecurity Australia approach, which is focused on scientifically based risk analysis, considers only the following economic factors:

The Biosecurity Australia approach excludes from any analysis important trade-related benefits resulting from consumers gaining access to imported product at competitive prices and agricultural producers obtaining access to superior genetic material. The

9 See Rodriguez *et al.* (2000) for a discussion of the various costs and benefits associated with a quarantine decision.

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omission of these benefits may lead to a sub-optimal outcome for society as a whole.

Although a cost/benefit approach to quarantine decision-making has considerable appeal to economists, some fundamental factors need to be taken into account, including:

The question of compatibility with the SPS Agreement is something that will probably have to be tested legally before a definitive answer is possible. Certainly there are those such as Roberts (1998) who argue that there is scope to include welfare impacts on consumers within 'relevant economic factors' (Article 5.3 of the SPS Agreement). However, the inclusion of benefits to consumers is likely to lead to violation of the consistency requirement. Article 5.5 ensures that Members apply measures consistently to different commodities that pose a similar risk of introducing the same diseases. Where different commodities pose similar risks, allowing imports of one commodity (based on higher net benefits from imports), while banning the other, would contravene the SPS consistency provision. Violation of this provision was one of the key issues in the WTO *Australia—Salmon* case. Whilst renegotiation of the SPS Agreement to accommodate cost/benefit analysis is always an option, it would not seem prudent to do so at this time as some countries may wish to weaken the current provisions.

Much of the wording of the SPS Agreement is fairly general and imprecise but its meaning is being clarified through the legal dispute settlement process.10 The SPS Agreement is still relatively new and many countries are still coming to grips with the changes necessary to make their quarantine decision-making processes consistent with the agreement. Although minor changes to the way quarantine decisions are made in Australia are likely to occur indeed, some changes will be required by the recent restructuring of AFFA — major changes to the framework would be undesirable while the recently introduced reforms are still settling down.

The idea of applying cost/benefit analysis to quarantine, while gaining support in recent years, is not particularly new. Hinchy and Fisher (1991) argued very persuasively for the use of cost/benefit analysis in quarantine almost a decade ago. The desirability of applying cost/benefit analysis to quarantine decision-making to justify the allocation of resources to the quarantine services was clear to the Nairn Review. However, the approach proved infeasible due to data limitations. One suspects that little has changed in the intervening period. Many developing countries are finding it difficult to undertake the necessary scientific and technical analysis to meet the current requirements of the SPS Agreement and to comply with quarantine protocols. Any change to the current SPS Agreement that increases its complexity would disadvantage developing countries in particular and is likely to lead to an increase in trade disputes.

From a trade perspective, the application of the current SPS rules is leading to greater market access and increased trade. Market access for Australian animal, plant and food products has been opened up or maintained in no less than 640 cases since 1993/94. In 1998/99, 44 new markets were opened and over 100 existing markets were protected from market disruption or closure. On the import side, the number of products for which entry is permitted is increasing. The additional resources allocated to risk analysis through the government's reforms have increased the number of IRAs being

10 See Pauwelyn (1999) for an excellent discussion of how the first three SPS disputes have clarified the SPS Agreement.

262 Part III Adding more economics to risk analysis

conducted simultaneously but a backlog of requests still exists, creating some trade tensions.

#### **Conclusion**

The reforms that have been made to the Australian quarantine system have improved the effectiveness and efficiency of quarantine delivery. This has been achieved through increased use of risk profiling to target resources to areas of highest risk and greater focus on pre-border and post-border activities. Fundamental to the changes to the quarantine system has been the development of a partnership approach between the general public, industry and governments. This is being developed through initiatives to increase quarantine awareness, enhanced consultation and the development of co-regulatory agreements with industry.

Despite the changes that have been made to the risk analysis process to make it more transparent, consultative, structured and independent, to ensure it is based on sound science and to make the process appealable, IRAs continue to attract controversy. While there is scope for further enhancing the transparency of the risk analysis itself and the amount of consultation involved, the greatest deficiency at present appears to be the lack of clarity of the ALOP and the level at which it is set. Economists have a role in contributing to this debate. The current very conservative level effectively takes no account of the significant trade-related benefits that result from importation of many products. Shifting to a higher but still conservative - ALOP would be tantamount to recognition of those benefits. Cost/benefit analysis has a useful role to play in quantifying those benefits to ensure a more informed debate on the level at which Australia sets its ALOP.

#### **References**

ANAO (1999) *Managing pest and disease emergencies: agriculture, fisheries and forestry - Australia*, Audit Report No. 9 1999–2000, Canberra: Australian National Audit Office.

ANZFA (1996) *Framework for the assessment and management of foodrelated risks*, Canberra: Australia New Zealand Food Authority.

AQIS (1998) *The AQIS import risk analysis process handbook*, Canberra: Quarantine Development Unit, AQIS.

AQIS (1999a) *Animal quarantine policy memorandum 1999/26: Australia's appropriate level of protection and AQIS's import risk analysis (IRA) Process*, Canberra: Animal Quarantine Policy Branch, AQIS, 22 April.

AQIS (1999b) 'Quarantine interceptions, seizures and incursions', *AQIS Outcomes* 1, December.

AQIS (1999c) 'International mail program', *AQIS Outcomes* 2, December.

Bigsby, H. and C. Whyte (1999) 'Quantifying phytosanitary barriers to trade', Paper presented at the 43rd annual Australian Agricultural and Resource Economics Society conference, Christchurch, 20–22 January.

DPIE (1996) *Report of the national task force on imported fish and fish products: a report into the implications arising from aquatic animal imports*, Canberra: Department of Primary Industries and Energy.

DPIE (1997) *Australian quarantine: A shared responsibility: the Government response*, Canberra: Department of Primary Industries and Energy.

Gascoine, D., D. Wilson, and C. McRae (2000) 'Quarantine policy in the World Trade Organization environment', pp. 171–8 in *Outlook 2000, vol. 2, Agriculture and Regional Australia*, Proceedings of the National Outlook Conference, Canberra, 29 February–2 March.

Heaney, A., G. Rodriguez, and A. Abdalla (1999) *Establishing an acceptable level of protection under the WTO Agreement on the Application of Sanitary and Phytosanitary Measures*, ABARE report to the Australian Quarantine and Inspection Service, Canberra: ABARE, November.

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Hinchy, M. and B. Fisher (1991) *A cost–benefit analysis of quarantine*, ABARE Technical Paper 91.3, Australian Bureau of Agricultural and Resource Economics, Canberra.

James, S. and K. Anderson (1998) 'On the need for more economic assessment of quarantine/SPS policies', *Australian Journal of Agricultural and Resource Economics* 42(4): 425–44, December.

Nairn, M.E., P.G. Allen, A.R. Inglis, and C. Tanner (1996) *Australian quarantine: a shared responsibility*, Canberra: Department of Primary Industries and Energy.

Norton, T.W., T. Beer, and S.R. Dovers (eds) (1996) *Risk and uncertainty in environmental management: Proceedings of the 1995 Australian Academy of Science Fenner Conference on the Environment*, Canberra: Centre for Resource and Environmental Studies, Australian National University.

Pauwelyn, J. (1999) 'The WTO Agreement on Sanitary and Phytosanitary (SPS) Measures as applied in the first three SPS disputes', *Journal of International Economic Law* 2(4): 641–64.

Roberts, D. (1998) 'Implementation of the WTO Agreement on the Application of Sanitary and Phytosanitary Measures: the first two years', Working Paper No.94–4, St Paul, MN: International Agricultural Trade Research Consortium.

Rodriguez, G., A. Heaney, A. Abdalla, and R. Threadwell (2000) 'Quarantine: The role of cost–benefit analysis', *Outlook 2000*, vol. 2, *Agriculture and Regional Australia*, Proceedings of the National Outlook Conference, Canberra, 29 February–2 March 2000, pp. 163– 9.

Senate (2000) *An Appropriate Level of Protection? Report of the Senate Rural and Regional Affairs and Transport Legislation Committee*, Canberra: Parliament of the Commonwealth of Australia.

Tanner, C. and M. Nunn (1998) 'Australian quarantine post the Nairn Review', *Australian Journal of Agricultural and Resource Economics* 42(4): 445–58, December.

# **Evaluating economic consequences of livestock diseases: a US perspective**

KENNETH W. FORSYTHE JR.

This chapter provides an overview of selected approaches to evaluating the economic consequences of livestock diseases. The presentation focuses on general types of analysis that may be needed, some examples of analytical tools, and discusses the linkages between some of the available tools. While the context of this discussion is primarily in the area of livestock diseases, these same concepts apply broadly and may be useful in the phytosanitary area as well.

Also discussed in the chapter is the international context for applying these analytical tools in terms of the World Trade Organization's *Agreement on Sanitary and Phytosanitary Measures* (the SPS Agreement) and the Office International des Epizooties (OIE) International Animal Health Code (OIE, 1999). In addition, the practicalities of consequence evaluation in regulatory environments are discussed as well as potential analysis trade-offs in the face of very limited resources.

Economic analysis is essential to understanding the risks of livestock diseases. As discussed in a recent workshop conducted by the US Department of Agriculture, "when decision-making is complex, economic analysis is often useful for putting probabilistic outcomes,

The views expressed herein are those of the author and do not necessarily represent the position of the US Department of Agriculture.

266 Part III Adding more economics to risk analysis

which are the results of risk assessment, in perspective. For example, economics can translate the impacts of a disease outbreak termed 'serious' by veterinarians into economic losses to the livestock sector, which might then be compared to total livestock revenues. Thus, economic analysis can provide a basis for comparing different sources or types of risks. For example, two diseases could be equally likely to occur and take hold in a livestock population, but in terms of economic impacts one could be devastating and the other relatively benign." (USDA 1998, p.4)

#### **The SPS Agreement**

Economic evaluation of risk is recognised as necessary part of the overall risk assessment process defined by the SPS Agreement. This agreement defines risk assessment as "the evaluation of the likelihood of entry, establishment or spread of a pest or disease...according to the sanitary or phytosanitary measures which might be applied, and of the associated potential biological and economic consequences…". It is clear from this definition that consequence analysis is intended as part of the risk assessment process and that it consists of at least two major elements, a biological element and an economic element.

How information about economic consequences of disease introduction is to be used in decision-making and establishing appropriate levels of protection, however, has been the subject of considerable debate. Two provisions of the SPS Agreement give some indication of the role of economic analysis in the risk assessment process. These provisions are contained in Articles 5.3 and 5.4.

Article 5.3 states that "In assessing the risk to animal or plant life or health and determining the measure to be applied for achieving the appropriate level of sanitary and phytosanitary protection from such risk, Members shall take into account as relevant economic factors:

 the potential damage in terms of loss of production or sales in the event of entry, establishment or spread of a pest or disease;

Chapter 14 Evaluating economic consequences of livestock diseases 267

Article 5.4 states that "Members should, when determining the appropriate level of sanitary or phytosanitary protection, take into account the objective of minimizing negative trade effects." This statement recognises the fact that pest or disease risk mitigation measures can have negative economic consequences on the benefits that both the importing country and exporting country obtain when engaging in trade. It instructs Members to minimise these negative consequences. The need to determine whether such consequences are minimised by the selected measures implies a need to evaluate the consequences that these measures and alternative measures may have on the potential benefits of trade.

At a recent workshop conducted by the US Department of Agriculture it was stated that "Formulating guidelines for international trade in animals, plants, and animal, plant, and food products continues to pose special challenges. Traded animals, plants, and animal and plant products can carry with them diseases (or disease-causing additives, contaminants, toxins, or organisms) and pests that can threaten the health of native plants and animals, cultivated crops, livestock populations, or humans. It is therefore widely accepted in the international community that, despite the benefits of trade, nations must be allowed to provide protections against legitimate pest and disease threats. The Uruguay Round's *Agreement on the Application of Sanitary and Phytosanitary Measures* (the WTO/SPS Agreement) reflects that consensus. It recognises the sovereign rights of nations to provide these protections while, at the same time, it delineates a set of principles designed to ensure that SPS measures do not pose 'a disguised restriction on international trade' and, when SPS measures are imposed, 'to minimise their negative effects on trade.' Thus, the SPS Agreement strives for balance between the desirable benefits and undesirable risks of international trade" (USDA 1998, p.3).

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In same workshop, however, it was also discussed that the word "benefits" does not appear in the SPS Agreement. Considerable controversy surrounds the question of how consumer benefits might be used in combination with disease consequence information to decide on the appropriate level of protection and the application of SPS measures (USDA 1998, p.10).

There appears to be general agreement that the economic consequences of entry may be considered in a risk assessment. Many also argue, however, that explicit calculation of the benefits of trade and comparison of these benefits to the estimated consequences to determine the acceptable level of risk would be a violation of not only Article 5, but also of Article 2 of the SPS Agreement requiring measures to be based on scientific principles. If the expected costs of the trade (defined as the product of the likelihood of entry and establishment and the associated biological and economic consequences) were equivalent in two separate instances, but the welfare benefits were unequal, then from this perspective it would be economics, and not science, that determined the SPS measure chosen.

Roberts (1998) uses an example to illustrate the complex debate over using trade benefits in conjunction with economic consequences as part of determining what an acceptable level of risk might be. She illustrates a hypothetical case where the expected costs of an animal disease introduction are identical for two different decisions. One decision is regarding a poultry import, the other a beef import.

In the example, based on objective analysis, there is a greater benefit to the beef importation than to the poultry importation. In fact, the difference in benefit is such that the analysis shows that for the beef importation the benefits exceed the risk and consequence-based costs, but for the poultry importation they do not. From an objective economic efficiency standpoint, a sensible decision by regulators may be to allow the beef importation, but disallow the poultry importation.

Both decisions in the example involve legitimate disease hazards with substantive probabilities of disease-based production and

#### Chapter 14 Evaluating economic consequences of livestock diseases 269

economic losses. If the importing country is publicly and transparently presenting the basis for its decision, there is no issue regarding whether any action taken on either decision involves a disguised protectionist barrier. In each case there is a real and recognised disease threat present. The question that remains is, what is the importing country permitted to do under its SPS obligations in making its own decisions regarding how much risk it is willing to accept in each case?

One viewpoint is that the country whose import request for poultry is turned down, given that the beef import is accepted, would be justified in arguing that this decision is evidence of arbitrary and unjustifiable discrimination that is prohibited by SPS Article 2. This is despite the objective analysis and rationale presented for the decision.

An opposing viewpoint is based on the SPS Agreement's commitment to the principle of sovereignty. From this perspective, the importing country is justified in its decision that takes into account the benefits derived from the trade. It is justified provided that the benefits information was used in a scientifically sound and transparent manner and that the same approach to decision-making is applied consistently to all SPS-related decisions; including those decisions relating to domestic disease and pest control. From this viewpoint, the importing country would be in compliance with Article 2.

A third viewpoint, positioned somewhat between the other two, is that benefits information can be used to help guide the establishment of a country's overall acceptable level of protection (ALOP). From this perspective, a country sets a single ALOP for all SPS decision-making strictly in terms of the expected costs of the trade (defined again as the product of the likelihood of entry and establishment and the associated biological and economic consequences). In other words, a threshold (representing the ALOP) is set and defined as a level of expected costs that would be accepted for all SPS-related decisions. The benefits of trade could also be estimated, but only for the purpose of informing policymakers about the efficiency, or lack thereof, of the existing ALOP threshold. 270 Part III Adding more economics to risk analysis

Policymakers might then take this benefits information into account for the purpose of considering periodic revisions to the overall ALOP.

This latter approach avoids the discriminatory problems suggested in Roberts' example above because the individual decisions do not depend on the benefits associated with the different commodities. Instead, since each individual decision from the beef and poultry trade example is evaluated against the current overall ALOP, and since the expected costs for each were identical, if the beef trade was viewed as acceptable, then the poultry trade would be accepted as well. Or, if the expected costs of the poultry trade were viewed as being unacceptably high, then the beef trade would be refused as well. Over time, by accumulating information about benefits gained and foregone over many individual decisions, policymakers might publicly and transparently adjust the overall ALOP on a periodic basis to attempt to maximise the gains and minimise the foregone opportunities.

From an economic efficiency standpoint, this latter approach seems likely to present a second-best solution when compared to the alternative of basing each individual decision on a balancing of the benefits of trade versus the expected costs. However, policymakers may deem this efficiency loss to be an acceptable cost of complying with SPS non-discrimination requirements. Obviously, variations on all of the above themes are possible.

The question ultimately comes down to, what information can an importing country take into consideration, and in what manner, in determining its appropriate level of protection or acceptable level of risk? Clearly, it would be inappropriate to set SPS restrictions in place based on benefits information when there is no legitimate pest or disease risk (no pest or disease-based consequences). The less obvious issue is if or how benefits information can be combined with pest or disease-based consequence information in deciding on the appropriate level of protection once a legitimate risk of disease introduction has been established. None of the formal challenges handled through the SPS dispute resolution process has yet addressed this question, so the answer remains elusive.

Chapter 14 Evaluating economic consequences of livestock diseases 271

Recognition of the need to balance the benefits of trade against riskbased disease consequences and costs is given in the International Animal Health Code published by the Office International des Epizooties (OIE 1999). OIE is the animal health standard setting body recognised in the SPS Agreement Article 3.4. In describing the accepted principles of risk management, the OIE states "the objective is to manage risk appropriately to ensure that a balance is achieved between a country's desire to minimise the likelihood or frequency of disease incursions and their consequences and its desire to import goods and fulfil it obligations under international trade agreements." While the word "benefits" is not explicitly used by OIE, the concept of balancing risk and disease-based consequences against trade benefits in decision-making is evident in the Code.

#### **The International Animal Health Code**

The overall framework for risk analysis described in the Code consists of hazard identification, risk assessment, risk management, and risk communication. The definitions for these four components are as follows (OIE 1999):

*Hazard identification* – "identifying the pathogenic agents which could potentially produce adverse consequences associated with the importation *of a commodity."*

*Risk assessment* - the Code describes four interrelated steps for risk assessment: release assessment, exposure assessment, consequence assessment, and risk estimation.

*(a) release assessment* – describes the biological pathways necessary for an importation activity to introduce pathogenic agents into a particular environment, and estimates the probability of that complete process occurring.

*(b) exposure assessment* – describes the biological pathways necessary for exposure of animals and humans in the importing country to the pathogenic agents and estimates the probability of exposure.

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*(c) consequence assessment* – describes the relationship between specified exposures to a biological agent and the consequences of those exposures. Examples of consequences include: (1) animal infection, disease, and production losses, (2) public health consequences, (3) surveillance and control costs, (4) compensation costs, (5) potential trade losses, (6) adverse consequences to the environment.

*(d) risk estimation* – integrates the results from the release, exposure, and consequence assessments to produce overall measures of risk.

*Risk management* – the process of deciding upon and implementing measures to achieve the Member Country's appropriate level of protection, whilst at the same time ensuring that negative effects on trade are minimised. The objective is to manage risk appropriately to ensure that a balance is achieved between a country's desire to minimise the likelihood or frequency of disease incursions and their consequences and its desire to import goods and fulfill its obligations under international trade agreements. Risk management includes an evaluation of the degree to which a [measure] reduces the likelihood and/or magnitude of adverse biological and economic consequences.

*Risk communication* - the process by which information and opinions regarding hazards and risks are gathered from potentially interested and affected parties and by which the results of the risk assessment and proposed risk management measures are communicated to decision makers and interested parties in the importing and exporting countries.

The evaluation of consequences is therefore specified as a part of risk assessment in both the SPS Agreement and in the OIE Code. In both cases, this evaluation is to consist of both biological and economic components. Leaving aside the issue of how the economic consequence information is to be used in decision-making, let us turn now to the issue of how these consequences can be evaluated.

#### **Biological/epidemiological consequences**

The evaluation of economic consequences of a pest or disease introduction cannot take place in isolation. It must be conducted in concert with a biological/epidemiological evaluation of the potential spread and impacts of the pest or disease. The tools for conducting these different types of analysis must therefore be compatible with one another so that they can be linked in some logical way.

There are a variety of different analytical tools available that can assist with the biological and epidemiological aspects of consequence modelling. A few that are commonly used include state-transition models, Markov Chains, Reed-Frost models, SEIR models (Susceptible, Exposed, Infectious, and Removed), and various spatial analysis tools (Haining 1998; Martin *et al.* 1987; Olsen and Schaffer 1990; Miller *et al.* 1994; Miller *et al.* 1997).

Ultimately, the objectives of using these tools include determining the number, type, and temporal distribution of herds, flocks, fields, groves, etc. of animals, birds, plants, trees, etc. that may be affected if the pest or disease agent were introduced into the importing region. This information, combined with information about the biological and physiological effect of the pest or disease agent on the individual susceptible host (for example the individual animal or plant), provides the linkage to the economic evaluation of consequences.

It is important to keep in mind that, in general, these tools would be used to evaluate pest or disease events that have not actually occurred. The purpose of the evaluation is usually to support decision-making about whether or not to take a certain pest or disease risk by importing a commodity under certain conditions. It may therefore be necessary to use epidemiological investigations into past events in the same or similar circumstances to generate estimates of various model values for a variety of possible scenarios.

There is, however, always a great deal of uncertainty and variability about the way that a pest or disease agent may interact with susceptible hosts and their environment. This uncertainty and variability must be addressed and then also reflected in the resulting economic values. Dealing with this uncertainty and variability is an extremely challenging aspect of estimating potential biological and epidemiological consequences before they occur*.*

#### **Economic consequences**

Armed with information obtained about the potential biological and epidemiological consequences of a pest or disease agent, the evaluation of economic consequences may begin. The evaluation of economic consequences must take place at two broad levels. These are the microeconomic level and the macroeconomic level.

The microeconomic level of evaluation takes into account the firmlevel effects or effects on individual herds, flocks, etc. This can be done using an economic tool known as partial budgeting. Partial budgeting looks at only those aspects of a firm's budget that are affected by the change being analysed. In this part of a disease consequence analysis, for example, the biological and physiological effects that a disease has on individual animals, as well as the costs of veterinary care, vaccines, etc. are translated into a monetary impact to the firm. Because there are many different types of firms that may be affected by the pest or disease agent, partial budget impacts would have to be estimated for each different type. The partial budget impacts on firms that are not necessarily directly affected by the disease but that are indirectly affected by quarantines or other control measures should also be included.

In a broader context, although not microeconomic in nature, the budget impacts to the government of control, eradication, monitoring and surveillance that result from the introduction of exotic pests and diseases must also be assessed. Although a separate process, the estimation of government budget impacts at the macroeconomic level is similar from a procedural standpoint to the estimation of partial budget impacts at the microeconomic level.

The combination of the information about the biological and epidemiological consequences of pest or disease spread and the information about partial budget impacts provide a basis to begin a macroeconomic analysis. The macroeconomic analysis evaluates the industry-level or regional-level impacts of the pest or disease introduction. The biological/epidemiological and partial budget information can be linked to the macroeconomic evaluation by using it to estimate the magnitude and temporal distribution of shifts in the industry's supply function during and in the wake of the pest or disease epidemic.

Impacts on consumers' demand functions are possible as well. In the event that the pest or disease introduction has a public health impact through the consumption of a particular commodity, consumers are likely to avoid this commodity and consume one or more unaffected substitute commodities. Even if there is no real public health impact, the simple perception of such an impact could lead to similar consumption behaviour.

The discussion below will focus primarily on the evaluation of shifts in the industry's supply function that directly result from a pest or disease incursion. These concepts, however, can also be applied to shifts in consumers' demand functions.

Once the magnitude and temporal distribution of the pest or disease induced industry supply shifts have been estimated, they can be used as input in determining the effects of the incursion on economic welfare. The economic welfare analysis specifically evaluates how: (i) market prices and quantities adjust as the pest or disease spreads through the domesticated livestock population, and (ii) consumers and producers are affected by the adjustments in market prices and quantities.

These effects on consumers and producers are measured in terms of changes in the difference between what consumers are willing to pay and what they actually pay for products (a measure of utility known as consumer surplus), and in producers' revenue beyond their variable costs (a measure of returns to fixed investment known as producer surplus) (Houck 1986; Just *et al.* 1982). These welfare effects can be modelled over time to capture the effects as the pest or disease spreads.

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Economic welfare analysis is a standard tool that has been used widely for public policy analysis as well as the analysis of the impacts of various animal and plant health programs (Ebel *et al.*  1992; Forsythe and Corso 1994; Forsythe and Evangelou 1993; Haley and Dixit 1988; Lichtenberg *et al.* 1988; Miller *et al.* 1994; Ott *et al.* 1995; Roberts *et al.* 1997).

#### *Single market impacts*

The most straightforward application of economic welfare analysis is to examine only those economic impacts in the single market that is directly affected by the disease. Even if the disease in question affects multiple species, these impacts could be measured separately and independently of one another. This approach would not, of course, account for any interaction effects between markets that are simultaneously affected by a multi-species disease such as foot-andmouth disease. This type of modeling is known as partial price equilibrium modeling.