Scottish Aggregates Levy: evidence review and policy options

Appendix 3: Phase 2 Modelling

Scenario Specification

We have modelled 4 scenarios, which include different rates of the Aggregates Levy as well as a scenario which models the impacts of a new 'Aggregates' landfill tax category with a higher rate than the current inert waste rate. The tax rate under the BaU scenario and the illustrative policy options are set out in Table 5.

Table 5: Modelled Aggregates Levy and Landfill Tax Rates

	Tax rate, £ per tonne (2020 real terms)
	Aggregates Levy	Landfill Tax
No-change (BaU)	£2.00	£2.90
Tax increase (Option 1)	£2.50	£2.90
Tax decrease (Option 2)	£1.50	£2.90
No tax (Option 3)	-	£2.90
New landfill tax band (Option 4)	£2.00	£3.80*

*New 'aggregates' tax category created - the rate for non-aggregates inert material remains at £2.90

It is assumed that all changes to tax rates were implemented in 2020.

Approach to Scenario Modelling

The approach to estimating the effect of changing levy rates is conducted in three steps. First, the change in demand for aggregates in Scotland and exports is calculated based on elasticities of demand for aggregates, and the Aggregates Levy rates chosen for each of our scenarios (described below). Then, a simplified approach is taken to calculating any change in secondary aggregates put on the market i.e. recycling (described below). Assumptions regarding the change in primary production and imports are then applied (described below). In principle, it would be useful to have a set of own- and cross-price elasticities to cover both of these steps. In practice, such a matrix is difficult to obtain, whilst empirical evidence from other countries suggests that the effects prompted by landfill levies are apt to change in the context of non-marginal price changes.

Applying Price Elasticities

As set out in the Scotland Act 2016, which devolved further powers to Scotland, the Aggregates Levy is charged:

"On aggregate when it is subjected to commercial exploitation in Scotland"^[67]

An equal rate of tax is therefore levied on both material produced and commercially exploited within Scotland, and imports that are commercially exploited within Scotland. Tax relief is available on aggregates sent to export.^[68]

It is assumed in some of the modelling that, as the Levy rate changes, this will impact on the overall demand for aggregates in Scotland and on the quantity exported (as well as secondary material recycling rates which are discussed below). For example, as the levy rate increases, the cost of aggregate production will also increase, driving a decrease in demand. Exports are exempt from the aggregates tax, and so if the levy increases this will incentivise increased exports. This is due to reduced demand from consumers (if some or all of the levy increase is incorporated into the sale price) and/or increased incentive to Scottish producers of aggregates to look for external markets for their material, as the differential in potential profits between these and domestic markets is now greater. Conversely, if the aggregates tax were decreased or abolished this would be expected to increase domestic demand for aggregates and decrease exports.

In modelling the change in demand and exports due to changes in the levy, we have based this on the price elasticity of demand for hard rock and sand and gravel. Price elasticities of demand (commonly known as simply 'price elasticities') measure the relative change in demand (in this case, the demand for aggregates) due to a price change, in this case the price of aggregates which includes the levy, the base price for the material and transport costs. The higher the elasticity, the greater is the response to price when the cost of aggregates increases (so the change in demand falls more sharply). The formula for the Price Elasticity of Demand (PED) is:

PED = (% Change in Quantity Demanded) / (% Change in Price)

After selecting the demand elasticity, the % change in the quantity (of aggregates) demanded at the chosen levy rate can be calculated. The change in exports is calculated by applying the inverse PED (i.e. compared to changes in demand, an equal but opposite % change in exports is expected).

The elasticity values were estimated econometrically using the aggregates price indices provided in the monthly bulletin of building materials and components produced by the ONS.^[69] As crushed rock and sand and gravel are somewhat complementary goods (both are needed for construction, production of concrete, etc.), it is expected that the individual demand for each of these products will depend on prices of both products. Given the interdependency of the demand functions, econometrically estimating each demand function independently will result in biased estimates of elasticity. Thus, the elasticities were estimated using the Seemingly Unrelated Regression Equations (SURE) modelling technique. The estimated elasticities are presented in Table 6. Here, own price elasticity refers to the percentage change in quantity of a product demanded for a one percent change in own price, while the cross price elasticity refers to the percentage change in quantity demanded of a product for one percent change in the price of a related product.

Table 6: Aggregates Price Elasticity of Demand Estimates

	Own Price Elasticity	Cross Price Elasticity
Crushed Rock	-0.974760	-0.165369
Sand and gravel	-0.677728	-0.782544

Impacts on Aggregates Recycling

As detailed in Appendix 2, the overall recycling rate based on the most recent data (2017) is estimated at 87.2%. In modelling changes in recycling, an elasticity-based approach (as used for primary aggregates) was considered. However, given that recycling rates are high already (and thus the scope for further increase is relatively small), and furthermore taking into consideration the significant uncertainties in any elasticities that could be applied, a simplified approach was used instead.

Any increase in Aggregates Levy rate will increase demand for secondary aggregates - no tax is applied to these materials. It is assumed that this increased demand will drive increased recycling of secondary aggregates to a maximum recycling rate. This maximum is set (arbitrarily) at 95% as it is not clear whether rates higher than this are feasibly possible given current recycling collection and sorting methods. We assume this impact will not occur when a decrease in the levy rate is modelled, i.e. recycling activity will not drop as a result of lower cost primary material becoming available.

In the landfill tax scenario it is also assumed that aggregates recycling will increase up to this maximum rate. As the alternative disposal option i.e. landfill increase in cost, this is likely to drive a shift towards increased recycling.

It is assumed that any increase in the availability of recycled aggregates will reduce the total demand for primary aggregates. This effect is incorporated into our modelling. This calculation requires an understanding of the composition of secondary aggregates, i.e. are they classified as hard rock or sand and gravel. As there is little published data to help with this estimate we have assumed a 50/50 split of these two aggregates types in secondary material.

Redistribution of Material to Production and Imports

The formula below demonstrates how total demand for aggregates is calculated.

Total demand = Primary Production + Imports - Exports

As outlined above, the application of price elasticities allows the change in total demand and exports to be estimated. To balance this equation, it is necessary that the change in quantity of primary aggregates produced in Scotland (primary production) and imports to Scotland are calculated. The total change is equivalent to the sum of total demand and exports. This change is distributed across primary production and imports based on the assumption that the current quantity of production relative to imports will stay constant (i.e. the ratio between these two variables is fixed). The assumptions used are based on tonnages reported in the 2012 Scottish Aggregates Survey (SAS) and are shown in Table 7

Table 7: Assumptions used for Distributing the Impact of Changes in Total Demand and Exports to Production and Imports

	Production	Imports
Hard Rock	98.8%	1.2%
Sand and gravel	97.7%	2.3%

Cost Assumptions

There are no official data on aggregates prices or production costs due to confidentiality concerns. According to the BGS 2008 report on the need for aggregates production in England, a typical 'ex-quarry' price of crushed rock and sand and gravel in the East Midlands region in 2005 were approximately £10-12 and £6-8 per tonne, respectively.^[70] It was assumed that the average prices of crushed rock and sand and gravel in Scotland in 2005 were the same as these - £11 per tonne for crushed rock, and £7 per tonne of sand and gravel. These prices were converted to 2018 prices using aggregates price indices provided in the monthly bulletin of building materials and components produced by the ONS,^[71] which amount to £13.87 per tonne for crushed rock and £8.38 per tonne for sand and gravel.

The majority of the recycled aggregates are used for own consumption, and not directly sold in the market. Therefore it is difficult to establish an average market price for recycled aggregates. Moreover, it can be argued that the cost of recovery for C&D waste will be lower than the cost of disposal in a landfill as inert waste for recovery of recycled aggregates to be economically viable. Thus, it was assumed that the implicit price of recycled aggregates is £2.50 per tonne, lower than the landfill tax of £2.90 per tonne (2019 prices) of lower rate waste.

Average transport costs for type of HGVs that are typically used for transporting aggregates by road is assumed to be 8 pence per tonne per kilometre according to a Truck Expert report.^[72] According to the MPA, average transport distance by road for aggregates is around 50km.^[73] Combining these estimates, the average transport cost for aggregates was assumed to be £4 per tonne (2018 prices) for the average journey by road of 50km.

Environmental Impacts

Environmental impacts are calculated in the model based on the total primary production of aggregates in all geographical areas, this includes both domestic production and imports from England (i.e. primary production of aggregates in England). Two types of externalities are included in our calculations, these are:

• Disamenity - this is an attempt to quantify, in monetary terms, the 'welfare loss' - i.e. the extent to which citizens are negatively impacted - from the existence of aggregates extraction in their local neighbourhood. Studies which seek to place a monetary value on this amenity impact through determining the amount that respondents would be willing to pay for a marginal improvement from the current situation, in terms of a proportional reduction in the quantity of aggregates extraction.
• Climate Change Impacts (CO₂ Emissions) - Greenhouse gas valuation is based on estimates of the unit carbon emissions from the production and transport of aggregates. This is combined with assumptions for the cost of carbon per tonne to calculate the overall value of climate impacts.

The sources and assumptions used to calculate the unit externalities used in these calculations are described below.

Table 8 presents various estimates of disamenity costs of aggregates production in the UK using willingness to accept (WTA) and willingness to pay (WTP) approaches in different studies.

Table 8: Disamenity costs of production of different types of aggregates (£ per tonne, 1998 and 1999 prices)

	Average environmental cost WTA 1998[74]	Estate agents' estimate WTA 1998[63]	Average environmental cost WTP 1999[75]	Average environmental cost WTA 1999[76]
Sand and gravel	9.00	1.06	1.93
Marine aggregates	4.67	0.22
Hard rock	2.62	0.55	0.47	0.41-1.05
Recycling of aggregates	0.61
Coastal super-quarry	0.18	0.00
Average: all aggregates	4.63

For this research, we have used the WTP estimates from the London Economics study - £1.93 per tonne of sand and gravel production, and £0.47 per tonne of crushed rock (1999 prices). These estimates were converted to 2018 prices using consumer price index from ONS. We have also uplifted the WTP values for each year by 50% of GDP growth, as people's willingness to pay increases with income. The resulting WTP estimates for disamenity costs of aggregates production are presented in Table 9.

Table 9: Disamenity costs of aggregates production (£/tonne, 2018 prices)

	Sand and gravel	Crushed Rock
2018	3.66	0.89
2019	3.70	0.90
2020	3.74	0.91
2021	3.77	0.92
2022	3.80	0.93
2023	3.84	0.93
2024	3.87	0.94
2025	3.91	0.95
2026	3.94	0.96
2027	3.98	0.97
2028	4.01	0.98
2029	4.05	0.99
2030	4.09	1.00

Brown et al. (2011) estimated the total climate change impacts in terms of CO₂ emissions from production and transportation of aggregates in the UK for 2005.^[77] Using the aggregates production data for 2005 in the UK, we have estimated the average CO₂ emissions for land based aggregates production and transportation as 8.7 kilograms per tonne. The estimated CO₂ emissions per tonne of aggregates production and transportation was monetised using the estimated shadow price of CO₂ emissions from BEIS, which are presented in Table 10.

Table 10: Costs of CO₂ emissions (2018 prices)

	Shadow price of CO2 emissions (£/tCO2e)	CO2 emissions costs for aggregates production and transportation (£/tonne)
2018	4.29	0.04
2019	4.47	0.04
2020	4.67	0.04
2021	12.33	0.11
2022	19.98	0.17
2023	27.62	0.24
2024	35.25	0.31
2025	42.87	0.37
2026	50.48	0.44
2027	58.09	0.51
2028	65.69	0.57
2029	73.28	0.64
2030	81.27	0.71