# North / South Contractual Design through the REDD+ Scheme

Mireille Chiroleu-Assouline, Jean-Christophe Poudou, Sébastien Roussel

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Mireille Chiroleu-Assouline, Jean-Christophe Poudou, Sébastien Roussel. North / South Contractual Design through the REDD+ Scheme. 2012. halshs-00747405

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North / South Contractual Design through the REDD+ Scheme

Mireille CHIROLEU-ASSOULINE, Jean-Christophe POUDOU,
Sébastien ROUSSEL

2012.59

<figure><img src="image_4.png" /></figure>
North / South Contractual Design through the REDD+
Scheme

Mireille Chiroleu-Assouline*

Jean-Christophe Poudou†

Sébastien Roussel§

First version: January 30, 2012
This version: September 29, 2012

Abstract

In this paper we aim at theoretically grounding the Reducing Emissions from Deforestation and Forest Degradation + (REDD+) scheme as a contractual relationship between countries in the light of the theory of incentives. Considering incomplete information about reference levels of deforestation as well as exogenous implementation and transaction costs, we compare two types of contracts: a deforestation performance-based contract and a conditional avoided deforestation-based contract. Because of the implementation and transaction costs, each kind of REDD+ contract implies a dramat-

<footnote>*Paris School of Economics (PSE) - Université Paris 1 Panthéon-Sorbonne, Centre d'Economie de la Sorbonne, 106-112 Bd de l'Hôpital, 75647 Paris Cedex 13, France, Tel: +33 1 44 07 82 24, E-mail: Mireille.Chiroleu-Assouline@univ-paris1.fr</footnote>

<footnote>†Université Montpellier 1, UMR5474 LAMETA, F-34000 Montpellier, France. Tel: +33 4 34 43 25 06. E-mail: jean-christophe.poudou@univ-montp1.fr</footnote>

<footnote>‡Université Montpellier 3 Paul Valéry & Université Montpellier 1, UMR5474 LAMETA, F-34000 Montpellier, France. Tel: +33 4 34 43 25 49. E-mail: roussel@lameta.univ-montp1.fr</footnote>

<footnote>§Acknowledgements. The authors would like to thank conference, workshop and seminar participants for their useful comments over 2012, at the 19th Annual EAERE Conference (Prague), the 61st Annual AFSE Congress (Paris), the 22nd Annual CREE Conference (Vancouver), the Environmental Economics Meeting - CRESE (Besançon) Workshop, the LAMETA-PERENE Seminar (Montpellier) as well as the TSE-LERNA (Toulouse) Seminar. The usual disclaimers apply.</footnote>
ically different information rent / efficiency trade-off. If the contract is performance-
based (resp. conditionality-based), information rents are awarded to countries with the
*ex ante* lowest (resp. highest) deforestation. In a simple quadratic setting, there is a
reference level threshold in terms of efficiency towards less deforestation. In terms of
expected welfare, conditional avoided deforestation-based schemes are preferred.

JEL classification: D82, O13, Q23, Q54.

Keywords: Conditionality, Contract, Deforestation, Hidden Information, Incentives, Performance, Reducing Emissions from Deforestation and Forest Degradation + (REDD+).

# 1 Introduction

Climate change is a worldwide issue that needs to be tackled regarding human-induced activities and pressure on natural resources. One of the primary sources of carbon emissions is deforestation and forest degradation, which are responsible for anthropogenic GHG emissions of about 12% (Van der Werf *et al.* (2009)) to 15-20% (IPCC (2007a, 2007b)). These emissions are the second highest human-induced source of climate change (Lederer (2011)). More specifically, tropical forest deforestation through land-use change was responsible for about 25% of all carbon emissions in the 1990s (Heal and Conrad (2006)).<fnref n="1" /> There is an urgent need to cope with deforestation as induced climate change costs are estimated to increase to USD 1 Trillion by the 2100 time horizon (Eliasch (2008), cited by Lederer (2011)). Curbing deforestation is not an infeasible task (Kindermann *et al.* (2008)). Eliasch (2008) states that 3.5 Gt CO2 could be saved per year. As a consequence, there is a need to design suitable international institutional arrangements.

To deal with the deforestation and forest degradation issue, the international community
has been promoting the Reducing Emissions from Deforestation and Forest Degradation +
(REDD+) scheme to shape the post-Kyoto architecture.<fnref n="2" /> The REDD+ scheme was first

<footnote n="1">¹This figure is similar to fossil fuel emissions in the US economy, responsible for 27% of all carbon emissions.</footnote>

<footnote n="2">²Hereafter we refer equally to REDD and REDD+, whereas REDD is the original scheme and REDD+
stands for its latest progress including biodiversity or soil erosion. Nevertheless, in this paper we focus our
analysis on deforestation.</footnote>
launched in Bali in 2007 at the 13th Conference Of the Parties (COP13) to the United Nations Framework Convention on Climate Change (UNFCCC) (proposal from Costa-Rica and Papua New Guinea), and was consecrated at the COP16 in Cancun in 2010 and at the COP17 in Durban in December 2011. REDD+ stands as a multi-lateral agreement at the international level. This scheme will take place in three sequential phases (Zarin et al. (2009); Delacote and Simonet (2012)): a readiness phase mainly financed through international funds such as the Forest Carbon Partnership Facility (FCPF) of the World Bank, the UN-REDD Programme, in order to assess state-of-the-art carbon stocks and deforestation levels (Phase 1); an implementation phase based on developing countries' national policies and means (Phase 2); a compensation phase towards the developing countries based on performance achieved in reducing deforestation (Phase 3). The funding countries could choose either to finance successively both the implementation and compensation phases or to fund exclusively one of these phases.

Regarding the relationships between developed and developing countries, the idea of the REDD+ scheme is rather simple and intuitive: developed countries (or Northern countries) pay developing countries (or Southern countries) to implement reductions in carbon emissions from forests, whilst covering their opportunity costs to do so in altering their development paths. This payment occurs either by a direct monetary transfer (through a bilateral relationship or a global fund), or through carbon offsets or credits saleable on the carbon market. The payment-basis lies in per unit reductions of deforestation in comparison to a baseline that needs to be agreed upon (this means the Business-As-Usual (BAU) deforestation level if the REDD+ scheme were not effective or rather the Reference Level (RL), or crediting baseline, which allows compensation to the developing country if emissions are below that level within the REDD+ scheme<fnref n="3" />). Developed countries benefit from climate change mitigation in avoiding taking any action to cope with carbon emissions directly. They delegate the climate change mitigation task to developing countries by rewarding them.

There is an ongoing debate with regards to the REDD+ scheme in terms of rewards given to developing countries. According to Karsenty and Ongolo (2012), the originality of REDD

<footnote n="3">³Hereafter we refer to Reference Level (RL) in favouring the REDD+ requirements.</footnote>
lies in its incentive properties since intrinsically it rewards States for their achievements
in actions against deforestation. They stress that REDD payments are therefore basically
performance-based (through the third phase described above) and this leaves the choice of
policy instruments to the recipient countries. As a consequence, REDD payments are not
related to the adoption of policy measures or changes in the legal or institutional framework
(through the implementation phase described above). In other words, there is no conditional-
ity and REDD is "not encroaching on the sovereign discretion of nations to design acceptable
and adequate policies and measures nationally" (Streck (2010) cited by Karsenty and Ongolo
(2012)).

In the literature, several studies have been interested in climate change mitigation and
low cost policies compared to costly abatement of fossil fuel emissions, in particular regarding
*avoided deforestation* (Heal and Conrad (2006), Murray *et al.* (2009), Figuières *et al.* (2012)).
Linking deforestation and REDD, Combes-Motel *et al.* (2009) sum up the existing proposals
regarding avoided deforestation, and propose to relate avoided deforestation to effective do-
mestic efforts in developing countries (NGO actions, etc.), and to compensate these efforts.
One of our aims is to assess the effectiveness and efficiency of this proposal. According to
Figuières and Midler (2011), the REDD proposal looks like a cost-effectiveness tool, and the
underlying question is how to impose an exogenous limit or any limit on deforestation at
the lowest cost for financing countries. Deforestation is a negative externality that can be
internalized through a modified version of “compensation mechanisms” (Varian (1994)), and
they design fair rules towards REDD. For our part, we distinguish our approach whilst using
the theory of incentives whereas this limitation is embodied in the contract.

The REDD scheme implementation has been considered by Leplay et al. (2011) through:
on the one hand, a bilateral relationship between a developed country and a developing coun-
try; and on the other hand, Payments for Environmental Services (PES) from a developing
country to local communities. But they do not consider any incomplete information issue in
both stages. Karsenty and Ongolo (2012) describe literally how the theory of incentives is at
the core of the REDD+ scheme, and they request conditionalities for carbon payments.

Moreover, some authors and NGOs argue that the methodology currently used to assess
the RL of deforestation rates for the developing countries during the first phase usually overestimates them (Angelsen (2008), Gregersen et al. (2010), Ekins et al. (2011)) because it relies only on the marginal opportunity cost of forest preservation and neglects transaction, implementation and governance costs. Actually, a couple of bilateral contracts have already been signed that appear to suffer from this kind of discrepancy between high *ex ante* reference levels of deforestation and surprisingly low actual deforestation rates leading to significant avoided deforestation and accordingly to large money transfers between the donor country and the developing country (e.g., Norway *versus* Guyana or Indonesia).

The first objective of our article is to theoretically ground the REDD+ scheme as a contractual relationship between countries in the light of the theory of incentives (Laffont and Tirole (1993), Laffont and Martimort (2002)). To our best knowledge, there is no analytical paper of the REDD+ scheme in terms of the theory of incentives with a Principal-Agent relationship with incomplete information and exogenous implementation and transaction costs.<fnref n="4" /> We aim at revealing what is at stake in designing these contracts.

The second objective is to show that two types of contracts are feasible: on the one hand, a performance-based contract corresponding to the current way to consider avoided deforestation; on the other hand, a conditionality-based avoided deforestation contract corresponding to proposals arising in the literature and policy papers.<fnref n="5" /> The conditional approach can be designed through observable actions or effective efforts towards avoided deforestation. Both contracts are incentive feasible and ground the REDD+ scheme in a different manner: the performance-based contract corresponds to the compensation phase of the REDD+ funding, whereas the conditional avoided deforestation-based contract grounds the implementation phase of the REDD+ funding. Asymmetric information indeed prevents policymakers from using first-best economic instruments through information rents with trade-offs between efficiency and information rents.

<footnote n="4">⁴Chiroleu-Assouline and Roussel (2010) already used these theoretical tools to design incentive mechanisms promoting soil carbon sequestration.</footnote>

<footnote n="5">⁵These two contractual relationships are connected to input or output incentive schemes formerly analyzed by Crampes (1983) and Maslin and Riley (1985). These papers point out the superiority of output based schemes in asymmetric informational contexts.</footnote>
The third objective is to discuss what are the menu of contracts a developed country should offer in terms of environmental efficiency regarding a developing country's hidden information and expected welfare. The underlying question within our methodological approach is the following one: how does incomplete information increase the costs of the REDD+ scheme through information rents for each kind of contract?

In our analytical framework, we obtain several important results. Firstly, we can state that, because we take account of implementation and transaction costs, each kind of REDD+ contract implies a different information rent / efficiency trade-off. If the contract is performance-based, information rents are awarded to countries with the *ex ante* lowest deforestation in order to encourage them to induce the highest efficiency whilst coping with deforestation. A puzzling consequence emerges: the resulting avoided deforestation through effective domestic efforts can be decreasing with the baseline announced. If the contract is conditionality-based, then this does play in the opposite way as information rents are awarded to countries with the *ex ante* highest deforestation, and therefore the optimal scheme implies tackling forest areas where deforestation is *per se* the highest. Secondly, whilst comparing these contracts, there is a baseline threshold in terms of environmental effectiveness concerning less deforestation.

The remainder of this paper is organised as follows. In Section 2, we develop a bare-bones example to outline as simply as possible the economics of our analytical arguments and results. In Section 3, we present our theoretical Principal-Agent model. In Section 4, we design and analyse the performance-based contract that we call the deforestation performance (DP) scheme, whereas in Section 5, we design and analyse the conditionality-based effective domestic efforts contract that we call conditional avoided deforestation (CAD) scheme. A full discussion is provided in Section 6 in terms of contract comparisons regarding their efficiency towards lower deforestation, baseline assessment and political economy insights. Section 7 concludes.
## 2 Private information and disclosure within a contract: a bare-bones example

In this section, we compute a simple bare-bones numerical example illustrating the intuitions behind the economics of the REDD+ contracting schemes that we will consider. For the sake of simplicity, we reason in terms of the deforestation rate, the baseline rate and the Reference Level (RL) within a developing country, as well as in USD millions regarding respectively the benefits of deforestation, the costs of avoiding deforestation, and monetary compensation from Northern countries to Southern countries.

### *The Baseline, Reference Level and monetary compensation*

Consider a developing country (say Indonesia or Guyana) which knows exactly what deforestation rate it would expect to achieve per year as a baseline, e.g., 0.25% per year. We suppose that this country specifies its baseline through reports of private experts it has hired as consultants. Consider a developed country as a donor (say Norway) that does not know exactly what the rational base for computing this baseline is. This donor country thinks that this baseline is 0.25% with a probability of 1/2 but 0.36% with a probability of 1/2. Obviously reducing deforestation implies a costly effort (greater than the sole opportunity cost of losing the utility derived from deforestation, because of transaction and implementation costs) for the developing country which must be compensated. Hence the donor country will propose a menu of contracts and expect that announcing a high baseline will yield to initiatives by the developing country that will strongly moderate its deforestation. In turns, the donor country will anticipate that larger costs will have to be reimbursed and so the monetary transfer will increase with the RL that is set. Assume for simplicity that the developing country's net benefit is exactly the effective deforestation level achieved minus the cost to avoid deforestation which differs with regards to the baseline rate. For example, if the effective deforestation rate was 0.09% for a developing country whose RL is 0.25%, then the domestic effort to reduce deforestation is -0.16% and costs USD 80M.<fnref n="6" /> Assuming

<footnote n="6">⁶It is presumed that the cost of avoiding deforestation (in USDM) is $c(RL, D) = (RL-D) \cdot 10^4$. 10 with RL</footnote>
<table><caption>Table 1: Informed contractual proposal</caption><thead><tr><th>RL (%)</th><th>D (%)</th><th>AD (%)</th><th>T (MUSD)</th><th>RL benefits (MUSD)</th><th>Contract benefits (MUSD)</th></tr></thead><tbody><tr><td>0.25</td><td>0.09</td><td>0.16</td><td>160</td><td>200</td><td>200</td></tr><tr><td>0.36</td><td>0.16</td><td>0.20</td><td>180</td><td>240</td><td>240</td></tr></tbody></table>

that in a developing country, the gross benefits are based on the deforestation rate achieved, for example USD 120M in this case for a 0.09% rate,<fnref n="7" /> the developing country's net benefits would be 120 - 80 = USD 40M if avoided deforestation was effective. Hence, there is a need to compensate the net loss (here USD 80M) through a North / South monetary transfer to support a deforestation reduction by the developing country. This is the aim of the REDD+ mechanism which will involve a transfer to genuinely compensate these kinds of losses.

If there is not any private information about RL rates, it is assumed that the contractual arrangement proposed by the donor would be written as summarized in Table 1 (with Reference Level (RL) rate, Deforestation (D) rate, Avoided Deforestation (AD) rate and Transfer (T) in USDM, RL benefits in USDM and contract benefits in USDM).

This example features deforestation and avoided deforestation rates that are correlated to the RL rate set. For a developing country whose RL is 0.25% and effective required deforestation is 0.09%, net benefits through compensation are 120 - 80 + 160 = USD200M which is just equal to the RL benefits outside any contractual arrangement as the REDD+ scheme. RL benefits and contract benefits are respectively USD200M. The same holds for a 0.36% RL and an 0.16% effective deforestation rate at USD240M.

However, as a donor country does not know exactly what the real RL rate is, such a contractual arrangement could be manipulated by a developing country.

### *Unobservable domestic reduction efforts*

Firstly, let us consider that avoided deforestation through domestic reduction efforts is difficult to observe by the donor country implying that only subsequent deforestation is

<footnote>the Reference Level rate and *D* the Deforestation rate.</footnote>

<footnote n="7">⁷It is presumed that the benefit of any deforestation rate per year is (in USDM) is $u(D) = 40.(D \cdot 10^4)^{1/2}$ with *D* the Deforestation rate.</footnote>
<table><caption>Table 2: Asymmetric information on the Deforestation level</caption><thead><tr><th>RL (%)</th><th>D (%)</th><th>AD (%)</th><th>T (MUSD)</th><th>RL ben. (MUSD)</th><th>"Cheating" ben. (MUSD)</th></tr></thead><tbody><tr><td>0.25</td><td>0.16</td><td>0.09 (0.25 - 0.16)</td><td>180</td><td>200</td><td>295</td></tr><tr><td>0.36</td><td>0.16</td><td>0.20</td><td>180</td><td></td><td></td></tr></tbody></table>

observed (ex post). In negotiating with this kind of developing country, the developed country decides to offer a menu of performance-based contracts as <T, D>. Then a developing country with an 0.25% RL that currently chooses the contract set for a developing country with an 0.36% RL will earn some rents from its private information. Indeed, having a higher effective deforestation rate of 0.16% required within this contract (in lieu of 0.09%), its gross benefits will be of USD160M though its real applied effort to avoid deforestation will not be of -0.2% but of -0.09% (0.16% - 0.25%) with 0.25% being its genuine RL which costs only USD45M (unlike the previous cost at USD80M). Hence the so-called rent (benefit) will be of USD95M since the net benefit of "cheating" or "mimicking a higher RL" is 160-45+180 =USD295M whereas its RL real benefit outside any contractual commitment should be USD200M. Hence the developing country whose real RL is 0.25% has an incentive to overstate its RL rate:<fnref n="8" /> this has a detrimental effect on the efficiency of the menu of contracts previously proposed. We sum up this situation in Table 2.

### Observable domestic reduction efforts

Secondly, if we consider that domestic efforts to avoid deforestation are observable and contractable for the donor country, then the developed country decides to offer a menu of contracts based on public policy levers as <T, AD>. Then a developing country whose RL is 0.36% will choose the contract set for a developing country whose RL is 0.25%. This means that a developing country will choose a contract in which the avoided deforestation rate is lower than what is expected under its suitable commitment and then will earn some rents from its private information. Indeed, having a lower domestic effort to avoid deforestation at -0.16% (in lieu of -0.20%), the cost of avoiding deforestation will be set at USD80M but its real benefit will be of USD179M in deforesting at a higher rate at 0.20% (0.36% -

<footnote n="8">⁸One can check that the 0.36% rate country does not have such an incentive since its net benefit whilst "mimicking" a lower RL country is USD155M lower than the RL reward (USD240M).</footnote>
<table><thead><tr><th>RL (%)</th><th>D (%)</th><th>AD (%)</th><th>T (MUSD)</th></tr></thead><tbody><tr><td>0.25</td><td>0.09</td><td>0.16</td><td>160</td></tr><tr><td>0.36</td><td>0.20 (0.36 - 0.16)</td><td>0.16</td><td>160</td></tr></tbody></table>

<table><caption>Table 3: Asymmetric information on the Avoided Deforestation level</caption><thead><tr><th>RL ben. (MUSD)</th><th>"Cheating" ben. (MUSD)</th></tr></thead><tbody><tr><td>240</td><td>259</td></tr></tbody></table>

0.16%) (unlike the previous benefit of USD120M). Hence, the so-called rent (benefit) will be of USD19M since the net benefit of "cheating" this way or "mimicking a lower RL" is $179 - 80 + 160 = USD259M$ whereas the RL real benefit outside any contractual commitment should be USD240M. Hence the developing country whose actual RL is 0.36% RL now has an incentive<fnref n="9" /> to understate its RL rate. This leads also to a detrimental effect on the contract efficiency.

Facing these uncertainties, how can a donor country manage to design an REDD+ scheme with a recipient country? This is exactly the aim of our analysis, in which any developed country can offer a menu of incentive contracts that leads the developing country to choose the suitable contract and therefore to reveal its private information (i.e., regarding its RL, either its real deforestation rate, or its avoided deforestation rate). We sum up this situation in Table 3

*Incentive contract in the case of unobservable domestic reduction efforts: performance-based rewards*

We claim that when developing countries domestic efforts to avoid deforestation are unobservable, the donor country could propose such a deforestation performance incentive contract based on required *ex post* deforestation rates displayed in Table 4.

<table><thead><tr><th>RL (%)</th><th>D (%)</th><th>AD (%)</th><th>T (MUSD)</th></tr></thead><tbody><tr><td>0.25</td><td>0.09</td><td>0.16</td><td>171.5</td></tr><tr><td>0.36</td><td>0.195</td><td>0.165</td><td>62</td></tr></tbody></table>

<table><caption>Table 4: Deforestation Performance incentive contract</caption><thead><tr><th>Inc. cont. ben. (MUSD)</th><th>"Cheating" ben. (MUSD)</th></tr></thead><tbody><tr><td>211.5</td><td>211.5</td></tr></tbody></table>

In this deforestation performance incentive contract, the effective deforestation allowed to any 0.36% RL country is higher than in the initial setting (0.195% in lieu of 0.16%)

<footnote n="9">⁹Conversely one can check that the 0.25% rate country has no such an incentive, as its net benefit to mimic a higher RL country is lower than the RL outside option reward.</footnote>
implying that the induced avoided deforestation is lower (0.165% in lieu of 0.2%), whereas the monetary transfers allowed are henceforth respectively USD171.5M for a 0.25% RL country and USD62M for a 0.36% RL country (in lieu of respectively USD160M and USD180M). Note that in this setting, the transfers are higher at 0.25% RL and are then decreasing, compared to the initial situation. In this contract, the developed country pays a so-called information rent to the 0.25% RL country, valued at USD11.5M (171.5 – 160 = USD11.5M). This is an incentive for the developing country to choose its corresponding contract and to behave accordingly. The incentive contract benefits are therefore set to USD211.5M.

*Incentive contract in case of observable domestic reduction efforts: rewards for public policy levers*

When developing countries' domestic efforts to avoid deforestation are observable, the donor country could propose such a conditional avoided deforestation incentive contract displayed in Table 5.

<table><caption>Table 5: Avoided Deforestation incentive contract</caption><thead><tr><th>RL (%)</th><th>D (%)</th><th>AD (%)</th><th>T (MUSD)</th><th>Inc. cont. ben. (MUSD)</th><th>"Cheating" ben. (MUSD)</th></tr></thead><tbody><tr><td>0.25</td><td>0.10</td><td>0.15</td><td>149</td><td>257</td><td>257</td></tr><tr><td>0.36</td><td>0.16</td><td>0.20</td><td>197</td><td></td><td></td></tr></tbody></table>

In this conditional avoided deforestation incentive contract, the avoided deforestation required to any 0.25% RL country is lower than in the initial setting (0.15% in lieu of 0.16%) implying an higher induced deforestation (0.1% in lieu of 0.09%), whereas the monetary transfers allowed are henceforth respectively USD149M for a 0.25% RL country and USD197M for a 0.36% RL country (in lieu of respectively USD160M and USD180M). Note that in this setting, the transfers are lower at the 0.25% RL and are then increasing as in the initial situation to obtain a higher level at the 0.36% RL. In this contract, the 0.36% RL country earns USD17M (197 – 180 = USD17M) in information rent. This is an incentive for the developing country to choose its corresponding contract and to behave accordingly. The incentive contract benefits are therefore set to USD257M.

This bare-bones numerical example explains exactly the rationale and what has been
currently at stake in the Guyanan “economically-rational” deforestation baseline reporting
for example (with unobservable domestic efforts to avoid deforestation). In the Guyanan
case, the real RL regarding the annual average deforestation rate over the 2000-2009 period is
bound to 0.03% per year while Guyana has obtained a contractual commitment with Norway
on a 0.275% per year basis worth USD250M in compensation transfers.<fnref n="10" /> The Guyanan real
RL has therefore been inflated and Guyana will probably earn some rents from its private
information. Indeed, having a higher effective deforestation rate at 0.275%, its gross benefits
will be higher, though their real applied efforts will be lower and less costly. Hence there is
a net benefit of “mimicking a higher RL” country. This depicts the relevance of our analysis
and how we can enlighten possible incentive contract mechanisms within the REDD+ scheme
to cope with these issues regarding developing countries’ baseline reporting. Furthermore, we
extend this framework towards observable avoided deforestation through public policy levers
in developing countries.

Theoretically speaking, our previous reasoning states the intuitions as if there were only
two types of developing countries that a developed country can make contracts with, and
that a choice has to be made depending on the possibility of observing domestic reduction
efforts. We extend all these intuitions to a continuum of types in the following sections.

3 The model

There is a bilateral relationship via the REDD+ scheme between a developed country and a
developing country, respectively hereafter the Principal denoted as *P* and the Agent denoted
as *A*. The *P* is a developed country, *e.g.*, Norway, or a supranational funding institution
centralizing contributions by developed countries. *A* denotes a developing country, *e.g.*,
Indonesia or Guyana.

Within this relationship, their objectives can be summed up in the following way:

• The aim of P is to reduce deforestation to mitigate climate change whilst delegating

<footnote n="10">¹⁰Guyana did mandate McKinsey & Company to provide reports and economic policy orientation on forest management, as did other developing countries such as Democratic Republic of Congo or Indonesia.</footnote>
this task to A.

* The aim of A is to stimulate its economic growth whilst controlling deforestation according to a set of thresholds regarding its commitment with P.

Implementing the REDD+ scheme requires designing an institutional arrangement between P and A to reduce the occurrence of incomplete information (private information on A's side) and then inefficiency in forest protection. The REDD+ scheme can be described as follows (along the lines of Karsenty and Ongolo (2012)):

* P would like an overall reduction in deforestation (mainly tropical forests). P proposes an institutional arrangement to A which is a priori capable of modifying deforestation levels, but there are also opportunity costs in reducing these levels. The payment from P to cover these costs takes the form of a direct bilateral payment or via an international fund.

* P does not know exactly what are the costs and benefits for A to reduce deforestation. This is the source of incomplete information between parties.

* To create incentives to reduce deforestation, P offers a menu of contracts (take-it or leave-it offer), and if a contract is signed P covers the opportunity cost of A which alters its economic growth and also pays some information rent to A.

Here $\theta \in [\underline{\theta}, \bar{\theta}]$ is a type that represents the intrinsic level of deforestation as a baseline, with $\underline{\theta} > 0$. It is distributed with respect to $F(\theta)$ which is a logconcave common prior,<fnref n="11" /> where associated (inverse) hazard rates are denoted $\varphi(\theta) = F(\theta)/f(\theta)$ and $\bar{\varphi}(\theta) = (1 - F(\theta))/f(\theta)$. Suppose that $\underline{\theta}$ is the least deforesting type, and $\bar{\theta}$ is the most. This informational variable can be viewed as a reduced form of deforestation as a baseline or RL that a given eligible country will privately achieve depending on its economic growth and development, its demographic growth, timber export prices, climatic events, etc. (Combes-Motel et al. (2009)). In some sense, this is an exogenously given proxy of the deforestation baseline which can be found in applied REDD+ schemes.

<footnote n="11">¹¹This standard assumption ensures that $\varphi(\theta) = \frac{F(\theta)}{f(\theta)}$ is increasing and $\bar{\varphi}(\theta) = \frac{1-F(\theta)}{f(\theta)}$ is decreasing in $\theta$.</footnote>
The *ex post* deforestation level *d* (realized and publicly observed) depends on the country's effective effort in avoiding it (*a* ≥ 0) in such a way that *d*(*θ*, *a*) = *θ* − *a*. Hence except for *A*, it is not possible to distinguish between the contribution of the intrinsic type *θ* and the effective effort to avoid deforestation *a*. To separate what is at stake for *θ* and *a*, one can use the following classification (Table 6).
<table><caption>Table 6: Main variables related to deforestation and possible reduction levers (adapted from Combes-Motel et al. (2009))</caption><thead><tr><th></th></tr></thead><tbody><tr><td>Structural or intrinsic variables for any developing country (θ)</td></tr><tr><td>Economic growth (business cycle)</td></tr><tr><td>Economic development</td></tr><tr><td>Demographic growth</td></tr><tr><td>Initial forest area</td></tr><tr><td>Avoided deforestation through domestic policies and measures (a)</td></tr><tr><td>Public policies dedicated to deforestation reduction</td></tr><tr><td>Forest conservation (national parks, etc.)</td></tr><tr><td>Land tenure</td></tr><tr><td>Fight against corruption and illegal logging</td></tr><tr><td>Other public policies with potential effects</td></tr><tr><td>Road infrastructure</td></tr><tr><td>Change in rural employment</td></tr><tr><td>Governance and institutions</td></tr><tr><td>Agricultural policies</td></tr><tr><td>Joint effects of structural factors and domestic policies (θ and a)</td></tr><tr><td>Export agricultural commodity prices</td></tr><tr><td>Timber export prices</td></tr><tr><td>Climatic events</td></tr><tr><td>Foreign debt</td></tr><tr><td>Real Exchange rate</td></tr><tr><td>Trade and financial openness</td></tr><tr><td>Technological change</td></tr></tbody></table>

The avoided deforestation *a* is costly for *A* which incurs not only the opportunity cost of the "lost" deforestation but also implementation and transaction costs. These costs are
assumed here to be exogenous represented by a monetary disutility $\psi(a)$ (whilst altering the country development path) such that $\psi(0) = 0$, $\psi'(a) > 0$ and $\psi''(a) \ge 0$.12 We also assume convexity of the marginal cost of efforts that is $\psi'''(a) \ge 0$.13 Hence A's gross surplus is $u(d) + t - \psi(a)$, where $u(d)$ is the gross utility of deforestation for A assumed to be increasing and concave,14 and $t$ the monetary transfer in the REDD+ scheme. However outside the REDD+ scheme efforts are nil,15 so A's outside option is $u(d(\theta)) = u(\theta)$. The developed country P which offers the REDD+ mechanism derives a net surplus $W = w(d) - (1+\lambda)t$ from deforestation, where $w(d)$ is its gross utility assumed to be strictly decreasing and concave,16 and $\lambda$ is the marginal cost of public funds for P regarding the monetary transfer $t$ towards A. All agents are risk-neutral.

In the following sections, two types of mechanisms are considered:

* a deforestation performance scheme $\langle t, d \rangle$: effective domestic efforts to reduce deforestation are unobservable and cannot be contracted upon, with A's gross surplus as $U = u(d(\theta)) + t(\theta) - \psi(\theta - d(\theta))$.

* a conditional avoided deforestation scheme $\langle t, a \rangle$: effective domestic efforts to avoid deforestation are observable and can be included in the mechanism through conditionality, with A's gross surplus as $V = u(\theta - a(\theta)) + t(\theta) - \psi(a(\theta))$.

As a benchmark and to clarify the issues involved, let us consider what would be the first-best REDD+ mechanism for which information on the RL proxy $\theta$ is common knowledge. Effective efforts are observable and both the deforestation performance based and the conditional avoided deforestation based schemes are equivalent. In such a situation, the Principal P can extract costlessly all the A's net surplus (so $U$ or $V$ are set with $u(\theta)$) and enforce any

<footnote>12These implementation and transaction costs could be in turn endogenized through the theory of incentives at a national level between a government and land-users.</footnote>

<footnote>13This technical assumption avoids non-convexities in the P's optimization problem when information is asymmetric.</footnote>

<footnote>14Again we assume that the technical assumption $u'''(d) \ge 0$ holds, in order to avoid non-convexities when information is asymmetric. This means that marginal utility must be convex.</footnote>

<footnote>15Indeed if $t = 0$ then $-u'(\theta - a) - \psi'(a) < 0$ so that the optimal effective domestic effort $a^* = 0$.</footnote>

<footnote>16As a developed country obtains utility from less deforestation whilst allowing it for example, to get carbon credits (as with a CDM).</footnote>
avoided deforestation $a(\theta)$ which yields to a deforestation level $d = \theta - a(\theta)$ that maximizes:<fnref n="17" />

$$ 
\begin{array}{l}
\max_{a(\theta)} W = w(\theta - a(\theta)) - (1 + \lambda)t(\theta) \\
\text{s.t. } t(\theta) \ge u(\theta) + \psi(a(\theta)) - u(\theta - a(\theta))
\end{array}
$$

As a result, the first best avoided deforestation $a^{FB}(\theta)$ obeys to the marginal condition:

$$ w'(\theta - a^{FB}(\theta)) + (1 + \lambda)(u'(\theta - a^{FB}(\theta)) + \psi'(a^{FB}(\theta))) = 0 $$

so that the deforestation level states at $d^{FB}(\theta) = \theta - a^{FB}(\theta)$.<fnref n="18" /> At the social optimum, avoided deforestation efforts balance the $P$'s marginal cost associated with the deforestation level $d$, i.e., $w'(d)$, and the $A$'s marginal cost or benefit associated with the deforestation level $d$ involved by the REDD+ scheme (which costs $1 + \lambda$ for each dollar transferred), i.e., $(1 + \lambda)[u'(d) + \psi'(\theta - d)]$. By supermodularity<fnref n="19" /> of $W$ in $a$ and $\theta$ (resp. in $d$ and $\theta$) then $a^{FB}(\theta)$ is an increasing function of $\theta$ (so is $d^{FB}(\theta)$).<fnref n="20" /> Concerning the first best transfer, one can see that it is not certainly increasing (or decreasing) with $\theta$:

$$ t^{FB}(\theta) = a^{FB}(\theta)[\psi'(a^{FB}(\theta)) + u'(d^{FB}(\theta))] + u'(\theta) - u'(d^{FB}(\theta)) $$

However, this first-best contract is not optimal if $\theta$ is private information for $A$. Indeed for $A$, reporting to $P$ a baseline $\hat{\theta}$ instead of $\theta$, leads to a net information rent $U(\theta, \hat{\theta})$ depending on whether the deforestation level $d^{FB}(\theta)$ or the domestic efforts to avoid deforestation $a^{FB}(\theta)$ is really applied by the agent once it has signed the contract.

This leads us to state the following result (proof in Appendix 8.1).

**Lemma 1** The first best REDD+ mechanism tends to be manipulated by developing coun-

<footnote n="17">¹⁷As $U = V = u(\theta)$, then $u(\theta) = u(\theta - a(\theta)) + t(\theta) - \psi(a(\theta)) \Leftrightarrow t(\theta) = u(\theta) - u(\theta - a(\theta)) + \psi(a(\theta))$.</footnote>

<footnote n="18">¹⁸Moreover letting $a = \theta - d$, optimizing over $d$ yields the same result in this first best setting.</footnote>

<footnote n="19">¹⁹By concavity of $w(d)$ and $u(d)$ then $\frac{\partial^2 W}{\partial a \partial \theta} = -[w''(\theta - a^{FB}(\theta)) + (1 + \lambda)u''(\theta - a)] > 0$. Moreover simple comparative statics show that $a^{FB'}(\theta) = \frac{w''(\theta - a^{FB}(\theta)) + (1 + \lambda)u''(\theta - a^{FB}(\theta))}{w''(\theta - a^{FB}(\theta)) + (1 + \lambda)(u''(\theta - a^{FB}(\theta)) - \psi''(a^{FB}(\theta)))} \in [0, 1[$.</footnote>

<footnote n="20">²⁰Indeed, when defining $W$ as a function $(d, \theta)$, (with $a = \theta - d$), it is also supermodular as $\frac{\partial^2 W}{\partial d \partial \theta} = (1 + \lambda)\psi''(\theta - d) > 0$.</footnote>
tries. If a first best deforestation performance scheme is proposed, they are encouraged to overstate their baseline announcement; however if a first best conditional avoided deforestation scheme is proposed, they are likely to understate their baseline announcement.

Consequently, a second best REDD+ mechanism has to be designed to counterbalance all these caveats. We consider successively those second best settings in the following sections.

# 4 The deforestation performance scheme

The REDD+ mechanism is built in such a way that when a country A announces a baseline $\hat{\theta}$ then P expects that A must achieve a deforestation level of $d(\hat{\theta})$. The underlying idea is that deforestation reductions are compensated and payments are based on performance.

P offers a menu of contracts to A (take-it-or-leave-it offer) as $<t(\theta), d(\theta)>$ and the timing of the game is summarized in Figure 1.

For a given RL $\hat{\theta}$, the REDD+ mechanism is a transfer $t(\hat{\theta})$ and a deforestation realized $d(\hat{\theta})$ that must verify participation of the country A and incentive compatibility. To this end, we draw on the revelation principle (Myerson (1979)) that ensures that direct mechanisms are sufficient to allow agents to reveal their real types $\theta$. Participation will be ensured if (Participation Constraint (PC))

$$ \begin{array}{l} u(d(\hat{\theta})) + t(\hat{\theta}) - \psi(\theta - d(\hat{\theta})) \geq u(\theta) \\ \Leftrightarrow U(\theta, \hat{\theta}) = u(d(\hat{\theta})) + t(\hat{\theta}) - \psi(\theta - d(\hat{\theta})) - u(\theta) \geq 0 \end{array} $$

Incentive Compatibility Constraints (ICC) state that for all $\theta, \hat{\theta}$ (see Appendix 8.2 for global ICC)

$$ U(\theta) \equiv U(\theta, \theta) \geq U(\theta, \hat{\theta}) $$

Considering only differentiable contracts entails

$$ \left. \frac{\partial U(\theta, \hat{\theta})}{\partial \theta} \right|_{\theta=\hat{\theta}} = -\psi'(\theta - d(\hat{\theta})) - u'(\theta) $$
<figure><img src="image_5.png" /><figcaption>Figure 1. Contracting timing in the deforestation performance scheme</figcaption></figure>

$$IC1: U'(\theta) = -\psi'(\theta - d(\theta)) - u'(\theta) \le 0$$

that is the marginal information rent, and thus rents are not increasing with $\theta$. These incentive constraints are in line with the result in Lemma 1: to tackle RL agreements regarding overstatement incentives ($\hat{\theta} > \theta$) included in deforestation performance schemes, the $P$ will give an information rent to low deforesting countries. As a result, the developing country net rent must decrease with the RL set.

From the marginal information rent, the information rent is for any $\theta$

$$U(\theta) = U(\bar{\theta}) - \int_{\theta}^{\hat{\theta}} U'(\tau)d\tau = U(\bar{\theta}) + \int_{\theta}^{\hat{\theta}} [\psi'(\tau - d(\tau)) + u'(\tau)] d\tau$$
Local second order incentives imply that:<fnref n="21" />

$$IC2 : d'(\theta) \geq 0$$

To set correct incentives for the developing country, the deforestation allowed increases with the RL.<fnref n="22" />

The expected net surplus of P can be written as:

$$E(W) = \int_{\theta}^{\bar{\theta}} [w(d(\theta)) - (1 + \lambda)t(\theta)] f(\theta) d\theta$$

Substituting $t(\theta)$ and including expected information rents lead to write the country's decision program as:

$$\begin{array}{ll}
\max & \displaystyle\int_{\theta}^{\bar{\theta}} \{w(d(\theta)) - (1 + \lambda)[u(\theta) - u(d(\theta)) + \psi(\theta - d(\theta))] \\
& \quad -(1 + \lambda)[(\psi'(\theta - d(\theta)) + u'(\theta))]\varphi(\theta)\} f(\theta) d\theta - (1 + \lambda)U(\bar{\theta}) \\
\text{s.t.} & U(\bar{\theta}) \geq 0 \\
& IC2 : d'(\theta) \geq 0
\end{array}$$

From the following First Order Condition (FOC), one can define the second-best deforestation level $d^*(\theta)$ as the value of d such that:

$$w'(d) + (1 + \lambda)[u'(d) + \psi'(\theta - d)] = -(1 + \lambda)\psi''(\theta - d)\varphi(\theta) \quad (1)$$

Moreover as $-(1 + \lambda)\psi''(\theta - d^*(\theta))\varphi(\theta) < 0$ then $d^*(\theta) \geq d^{FB}(\theta)$ where $d^{FB}(\theta)$ is defined in Section 3.

At the social optimum, our cost-benefit analysis can be explained such that:

$$\int_{\theta}^{\bar{\theta}} U(\theta) f(\theta) d\theta = U(\bar{\theta}) + \int_{\theta}^{\bar{\theta}} (\psi'(\theta - d(\theta)) + u'(\theta)) F(\theta) d\theta$$

<footnote n="21">²¹Since $\psi''(\theta - d(\theta))d'(\theta) \geq 0$.</footnote>

<footnote n="22">²²Expected information rents are given by (after by parts integration)</footnote>
* $w'(d)$ is $P$'s marginal cost or benefit associated with the deforestation level $d$. An increase (respectively a decrease) in $d$ at the margin leads to reducing (resp. enhancing) $P$'s gross utility.

* $(1 + \lambda)[u'(d) + \psi'(\theta - d)]$ is $A$'s marginal cost or benefit associated with the deforestation level $d$. An increase (respectively a decrease) in $d$ at the margin leads to enhancing (resp. reducing) $A$'s gross utility.

* $(1 + \lambda)\psi''(\theta - d)\varphi(\theta)$ is the marginal information cost due to asymmetric information borne by $P$; as a cost, this increases the cost of the REDD+ policy.

The optimal transfer $t_d^*(\theta)$ can be stated as follows:

$$t_d^*(\theta) = U^*(\theta) - u(d^*(\theta)) + \psi(\theta - d^*(\theta)) + u(\theta)$$

This leads to the following proposition (see Appendix 8.3 for analytical results):

**Proposition 2** *The REDD+ incentive compatible deforestation performance scheme entails:*

* More deforestation than the first-best except for the lowest baseline announcement (no distortion at the bottom).

* There is no information rent left to the country responsible for most deforestation.

* $d^*(\theta)$, the optimal deforestation level with incomplete information increases strictly at the margin with the baseline announced; $t_d^*(\theta)$ the REDD+ optimal transfer decreases strictly.

* The avoided deforestation $a(\theta) = \theta - d^*(\theta)$ is not unambiguously increasing with $\theta$. It decreases with $\theta$ if $\varphi(\theta)$ increases highly.

In line with the standard theory of incentives, there is an information rent / efficiency trade-off within the REDD+ deforestation performance scheme. Deforestation levels must be distorted upwards for any developing country having $\theta > \underline{\theta}$ in order to minimize costly
information rents. If the REDD+ scheme promotes deforestation levels, the optimal scheme
implies tackling forest areas where deforestation is *per se* the lowest. Information rents are
awarded to countries with the lowest deforestation ($\theta$) in order to incite them to induce
the highest efficiency whilst coping with deforestation, while leaving other countries tending
towards a higher deforestation level. A puzzling result emerges: the resulting avoided defor-
estation through effective domestic efforts may decrease with the RL announced. Again, this
is due to asymmetric information: if the information cost $\varphi(\theta)$ increases strongly as baselines
are higher announced, it could be optimal to design a deforestation scheme, that yields less
reduction efforts, at least for some high types.

Another question is how the deforestation performance scheme depicted in Proposition 2 can be implemented. As discussed in Appendix 8.4, there exists an associated optimal schedule or menu of choices, which can be offered to the agent and which implements the same equilibrium outcome through decentralization. It can be designed as a decreasing non-linear transfer with respect to the deforestation level performed, $T(d)$. However it is not absolutely sure that it can be decentralized in linear contracts. Following Leplay *et al.* (2011), one could imagine implementing the REDD+ mechanism as a non-linear contract $T(d) = P(d) \cdot E.(\theta - d)$, where $P(d)$ would be a decreasing non-linear unit receipt based upon the observed international carbon price $p$: for example, as $P(d) = p - \gamma d$ with $\gamma$ a scale factor, and $E$ is the proxy carbon emissions factor, which converts deforestation into carbon emissions.

# 5 The conditional avoided deforestation scheme

This REDD+ mechanism is now built in such a way that when $A$ and $P$ agree on a RL $\hat{\theta}$, then $P$ expects that $A$ must carry out an effort to avoid deforestation of $a(\hat{\theta})$. The underlying idea is that deforestation reductions are “real” compensated successful efforts for avoided deforestation (Tacconi (2009), Combes-Motel *et al.* (2009)) or payments regarding conditionalities on the content of policies or measures (Karsenty and Ongolo (2012)). We use here observed avoided deforestation as cost observation (Laffont and Tirole (1986, 1993)) to
regulate developing countries, whilst preserving forests and respecting their commitment.

P offers a menu of contracts to A (take-it-or-leave-it offers) as <t(θ), a(θ)> and the timing of the game is summarized in Figure 2.

<figure><img src="image_6.png" /><figcaption>Figure 2. Contracting timing in the conditional avoided deforestation scheme</figcaption></figure>

For a given RL $\hat{\theta}$, the REDD+ mechanism is a transfer $t(\hat{\theta})$ and an avoided deforestation $a(\hat{\theta})$ that must verify participation of the country and incentive compatibility.

Participation will be ensured if (Participation Constraint (PC))

$$ 
\begin{array}{l}
u(\theta - a(\hat{\theta})) + t(\hat{\theta}) - \psi(a(\hat{\theta})) \geq u(\theta) \\
\Leftrightarrow V(\theta, \hat{\theta}) = u(\theta - a(\hat{\theta})) + t(\hat{\theta}) - \psi(a(\hat{\theta})) - u(\theta) \geq 0
\end{array}
$$

Incentive Compatibility Constraints (ICC) state that for all $\theta, \hat{\theta}$ (see Appendix 8.5 for global
ICC)

$$V(\theta) \equiv V(\theta, \theta) \geq V(\theta, \hat{\theta})$$

Considering only differentiable contracts entails (by concavity of $u$)

$$\left. \frac{\partial V(\theta, \hat{\theta})}{\partial \theta} \right|_{\theta=\hat{\theta}} = u'(\theta - a(\hat{\theta})) - u'(\theta)$$

$$IC1: V'(\theta) = u'(\theta - a(\theta)) - u'(\theta) \geq 0$$

that is the marginal information rent, and thus rents are not decreasing with $\theta$. These incentive constraints are also in line with the result in Lemma 1: to tackle RL agreements regarding understatement incentives ($\hat{\theta} < \theta$) included in conditional avoided deforestation schemes, $P$ will give an information rent to countries with much deforestation. As a result, the developing country's net rent must increase with the RL set.

Information rent is for any $\theta$

$$V(\theta) = V(\underline{\theta}) + \int_{\underline{\theta}}^{\theta} V'(\tau)d\tau = V(\underline{\theta}) + \int_{\underline{\theta}}^{\theta} [u'(\tau - a(\tau)) - u'(\tau)] d\tau$$

Local second order incentives imply that:<fnref n="23" />

$$IC2: a'(\theta) \geq 0$$

Avoided deforestation through effective efforts increases with the RL.<fnref n="24" />

The expected net surplus of $P$ can be written as:

$$E(W) = \int_{\underline{\theta}}^{\bar{\theta}} [w(\theta - a(\theta)) - (1 + \lambda)t(\theta)] f(\theta) d\theta$$

$$\int_{\underline{\theta}}^{\bar{\theta}} V(\theta)f(\theta)d\theta = V(\underline{\theta}) + \int_{\underline{\theta}}^{\bar{\theta}} [u'(\theta - a(\theta)) - u'(\theta)](1 - F(\theta))d\theta$$

<footnote n="23">²³Since $-a'(\theta)u''(\cdot) \geq 0$.</footnote>

<footnote n="24">²⁴Expected information rents are given by (after by parts integration)</footnote>
Substituting $t(\theta)$ and including expected rents leads writing its decision program as

$$ \begin{array}{l} \max_a \int_{\theta}^{\bar{\theta}} \{w(\theta - a(\theta)) - (1+\lambda)[u(\theta) - u(\theta - a(\theta)) + \psi(a(\theta))] \\ \qquad -(1+\lambda)[u'(\theta - a(\theta)) - u'(\theta)]\bar{\varphi}(\theta)\} f(\theta)d\theta - (1+\lambda)V(\theta) \\ \text{s.t.} \quad \begin{cases} V(\theta) \ge 0 \\ \text{IC2: } a'(\theta) \ge 0 \end{cases} \end{array} $$

One can state the optimal avoided deforestation $a^*(\theta)$ from the FOC as the value of a such that:

$$ w'(\theta - a) + (1 + \lambda)[u'(\theta - a) + \psi'(a)] = (1 + \lambda)u''(\theta - a)\bar{\varphi}(\theta) \quad (2) $$

Moreover as $(1 + \lambda)u''(\theta - a^*(\theta))\bar{\varphi}(\theta) < 0$ then $a^*(\theta) \le a^{FB}(\theta)$ where $a^{FB}(\theta)$ is defined in Section 3.

At the social optimum, our cost-benefit analysis can be explained such that:

* $w'(\theta - a(\theta))$ is P's marginal loss or gain associated with the avoided deforestation a to cope with deforestation carried out by A. An increase (respectively decrease) in a at the margin leads to enhancing (resp. reducing) P's gross utility.

* $(1 + \lambda)[u'(\theta - a(\theta)) + \psi'(a(\theta))]$ is A's marginal cost or benefit associated with its avoided deforestation a, to cope with deforestation. An increase (respectively a decrease) in a at the margin leads to reducing (resp. enhancing) A's gross utility.

* $(1 + \lambda)u''(\theta - a(\theta))\bar{\varphi}(\theta)$ is the marginal information cost due to asymmetric information borne by P; as a cost, this increases the cost of the REDD+ policy.

The optimal transfer $t_a^*(\theta)$ can be stated as follows:

$$ t_a^*(\theta) = V^*(\theta) - u(\theta - a^*(\theta)) + \psi(a^*(\theta)) + u(\theta) $$

This leads to the following proposition (see Appendix 8.6 for analytical results):
**Proposition 3** *The REDD+ incentive compatible conditional avoided deforestation scheme entails:*

* Less avoided deforestation than the first-best except for the highest baseline announcement (no distortion at the top).

* There is no information rent left to the least deforesting country.

* $a^*(\theta)$, the optimal avoided deforestation level with incomplete information and $t_a^*(\theta)$ the REDD+ optimal transfer are strictly increasing at the margin with the baseline announced.

* The resulting deforestation level $d(\theta) = \theta - a^*(\theta)$ does not increase unambiguously with $\theta$. It decreases with $\theta$ if $\bar{\varphi}(\theta)$ decreases strongly.

Our main result is thus that the information rent / efficiency trade-off in the REDD+ conditional avoided deforestation scheme does act in the opposite way as in the deforestation performance contract case. Avoided deforestation levels must be distorted downwards for any developing country having $\theta < \bar{\theta}$ ($a(\theta) < a(\bar{\theta})$), in order to minimize costly information rents. If the REDD+ scheme promotes conditional avoided deforestation levels, the optimal scheme implies tackling forest areas where deforestation is *per se* the highest. Information rents are awarded to forest areas with the highest deforestation ($\bar{\theta}$), in order to encourage them to make the greatest effort $a(\bar{\theta})$ and therefore efficiency to cope with deforestation, whilst leaving other countries to move towards higher deforestation.

We show in Appendix 8.7 that there also exists an associated optimal menu of choices which implements the same contract through decentralization. It can be designed as an increasing non-linear transfer with respect to the avoided deforestation level performed, $T(a)$, but again it is not absolutely sure that it can be decentralized with linear contracts. In the line of our discussion in the previous section, one could imagine implementing the REDD+ mechanism as a non-linear contract $T(a) = P(a) \cdot E.a$ where $P(a)$ would be an increasing non-linear unit receipt based upon the observed international carbon price, as $P(a) = p + \eta a$ with
$\eta$ as a scale factor, and $E$ as the proxy carbon emissions factor, which converts deforestation into carbon emissions.

# 6 Discussion

## 6.1 Contract choice, avoided deforestation and welfare

In this sub-section, we assess the environmental effectiveness of both contracts and we compare these contracts in terms of welfare gains and losses in a simple quadratic setting (see Appendix 8.8). The contract effectiveness is considered in the sense that deforestation is minimized. In this quadratic example, we consider that baseline types are uniformly distributed upon the support $\Theta = [1, 2]$, so that $\varphi(\theta) = \theta - 1$ and $\bar{\varphi}(\theta) = 2 - \theta$. Hence relevant variables $d$ and $a$ are defined in $\Theta$. Surpluses are $w(d) = 8 - 3d^2$, $u(d) = (4 - d)d$ and the cost of avoided deforestation is $\psi(a) = \frac{a^2}{2}$. All these specific functions are chosen to obtain interior solutions to all outcomes and we assume also that $\lambda \le \frac{1}{2}$. For clarity, one can see that $w(1) = 5 > \max u(d) = 4$, to illustrate the potential differential in country wealth. This leads to the following proposition:

**Proposition 4** *In this simple uniform quadratic setting:*

1. A baseline threshold $\tilde{\theta}$ exists such that:

* if $\theta < \tilde{\theta}$, that is for countries with low intrinsic deforestation, the deforestation performance schemes are more effective than the conditional avoided deforestation schemes.

* if $\theta > \tilde{\theta}$: for countries with high intrinsic deforestation, the conditional avoided deforestation schemes are more effective than the deforestation performance schemes.

2. A baseline threshold locus $\theta^*(\Lambda)$ exists, which decreases in $\Lambda$ (where $\Lambda = \frac{1}{1+\lambda}$), such that the difference between the welfare obtained through the deforestation performance scheme and the welfare resulting from the conditional deforestation reduction effort scheme is positive if $\theta \ge \theta^*(\Lambda)$ and negative otherwise. Moreover $\theta^*(0) < \tilde{\theta}$.
3. *The conditional avoided deforestation (CAD) reduction effort schemes are preferred to the deforestation performance schemes since expected welfare levels are higher.*

For a given $\theta$, the sign of the difference between the welfare obtained through the deforestation performance (DP) scheme and the welfare resulting from the conditional deforestation reduction effort scheme depends on the level of the marginal cost of public funds in the Northern country (see Appendix 8.8). But as a whole, the expected welfare obtained through the conditional deforestation reduction effort contract is always greater than through the deforestation performance contract.

## 6.2 The political economy regarding States

The REDD+ scheme does not for the time encroach on Nations’ sovereignty (Streck (2010)), and our analysis shows that conditionality for avoided deforestation is feasible and should be promoted. This supports theoretically the arguments of Combes-Motel *et al.* (2009) and Karsenty and Ongolo (2012). Consequently, a choice has to be made by a developed country with regards to the REDD+ phase it would finance, depending on the developing country it is facing. One may indeed stress that the REDD+ scheme achievement depends on a country’s status whilst opposing “solid” *versus* “fragile” or “failed” States (Karsenty and Ongolo (2012)). “Fragile” States can be defined as States with failures regarding the rule of law, weak judiciary systems and limited government. In terms of forest-related policies, failures are the incapacity to carry out harvest limits or park protection, as well as the inability to reach commitments in international agreements on natural resource management (Irland (2008)).

As a consequence, considering environmental efficiency and the “degree of failures” regarding the failures stated above, this may lead to promoting conditionality on public policy levers (phase 2 funding) in order to ground the REDD+ scheme with regards to “Fragile” States. This would provide guidance and practical knowledge from Northern countries, whilst revisiting the relationships with governments in Southern countries to limit policy encroachment. This would also imply that reforms have to be sustained, and that REDD+ payments
have to be combined with other international public aid programs, to alter countries' de-
velopment and induce structural changes. One may add that conditionality in development
economics involves mainly five criteria with consequences: inducement; selectivity; paternal-
ism; restraint; and, signalling (Collier et al. (1997)). It can be stressed that the inducement
criterion does apply for our both incentive contracts, even though there is no altruism by the
donor country in our setting, compared to a standard aid program for development (Collier
et al. (1997), Ohler et al. (2012)).

Last, the RL is critical whilst dealing with a menu of contracts situation for a developed
country, either on the deforestation level, or on the avoided deforestation level when this is
observable. *A priori* the negotiation stage could reveal some information for the developed
country. In Appendix 8.9 we develop a more realistic extension of our analysis in order to
take into account the negotiated setting of the RL.

7 Conclusion

In this paper, we have demonstrated how the REDD+ scheme can be designed either through
a performance-based contract or a conditionality-based contract to help avoid deforesta-
tion. Incomplete information as hidden information creates information rents on behalf of
developing countries side that renders the REDD+ policy more costly and involves trade-
offs, between the struggle over deforestation and information rents left to the developing
countries. Our main results are that limiting deforestation and forest degradation should be
incentive-based, whilst controlling effective domestic efforts in developing countries. Also
taking implementation costs into account instead of only opportunity costs, explains why in-
centives and rents can act in opposite directions for each kind of contract. However discussion
arises with regard to the political stability of the developing countries involved in REDD+
schemes. We can assert that conditionality is a principle that needs to be at the core of the
REDD+ scheme's design with respect to developing countries to avoid deforestation, and we
have shown that conditional avoided deforestation contracts are feasible and suitable when
avoided deforestation is observable. Moreover, States have to be assessed by the international
community to propose the most suitable way to implement the REDD+ scheme.

Last, several methodological aspects have to be solved for an effective REDD+ imple-
mentation and to allow conditionality: the permanence of any achieved storage has to be
ensured; there is a need for Monitoring, Reporting and Verification (MRV) systems to in-
crease the building of capacity; and, there is a need of credible carbon accounting (Lederer
(2011)). Furthermore, development and environmental issues have to be taken into account,
as there are trade-offs between poverty alleviation and climate mitigation. We may add that
local projects through Payments for Environmental Services (PES) have to be enhanced with
direct relationships between developed countries, local populations and NGOs. This local
level of application would be suitable in these States even though initial projects have expe-
rienced corruption, nepotism and pressure on local populations (Lederer (2011)). Moreover,
a disintermediation of current players in the tropical timber market has to be accepted in
order to protect forests, to increase populations' standards of living and to alleviate poverty
(Heal and Conrad (2006)).

8 Appendix

8.1 Proof of Lemma 1

Starting from the FB contract menu of (equivalent) contracts $\langle d^{FB}(\hat{\theta}), t^{FB}(\hat{\theta}) \rangle_{\hat{\theta} \in \Theta}$ or $\langle a^{FB}(\hat{\theta}), t^{FB}(\hat{\theta}) \rangle_{\hat{\theta} \in \Theta}$ if the agent chooses to apply $d^{FB}(\hat{\theta})$ in the contract (that is the real effort will be $a(\theta, \hat{\theta}) = \theta - d^{FB}(\hat{\theta})$) then

$$
\mathcal{U}(\theta, \hat{\theta}) = u(d^{FB}(\hat{\theta})) - \psi(\theta - d^{FB}(\hat{\theta})) - u(\theta) + \psi(a^{FB}(\hat{\theta})) + u(\hat{\theta}) - u(d^{FB}(\hat{\theta}))
$$

which is increasing if $\hat{\theta} = \theta$ as

$$
\mathcal{U}'_{\hat{\theta}}(\theta, \hat{\theta}) = d^{FB'}(\hat{\theta})\psi'(\theta - d^{FB}(\hat{\theta})) + a^{FB'}(\hat{\theta})\psi'(a^{FB}(\hat{\theta})) + u'(\hat{\theta})
$$
so $\mathcal{U}'_{\hat{\theta}}(\theta, \theta) = \psi'(a^{FB}(\theta)) + u'(\theta) > 0$. As a result, deforesting agents are likely to overstate their baseline announcement ($\hat{\theta} > \theta$).

However if the agent chooses to apply $a^{FB}(\hat{\theta})$ (then $d(\theta, \hat{\theta}) = \theta - a^{FB}(\hat{\theta})$) then

$$ \mathcal{U}(\theta, \hat{\theta}) = u(\theta - a^{FB}(\hat{\theta})) - \psi(a^{FB}(\hat{\theta})) - u(\theta) + \psi(a^{FB}(\hat{\theta})) + u(\hat{\theta}) - u(d^{FB}(\hat{\theta})) $$

which is decreasing if $\hat{\theta} = \theta$ as

$$ \mathcal{U}'_{\hat{\theta}}(\theta, \hat{\theta}) = -a^{FB'}(\hat{\theta}) [u(\theta - a^{FB}(\hat{\theta})) - u'(d^{FB}(\hat{\theta}))] + u'(\hat{\theta}) - u'(d^{FB}(\hat{\theta})) $$

so $\mathcal{U}'_{\hat{\theta}}(\theta, \theta) = u'(\theta) - u'(d^{FB}(\theta)) < 0$ since $u'(\cdot)$ is decreasing and $\theta \ge d^{FB}(\theta)$. As a result, agents are likely to understate their baseline announcement ($\hat{\theta} < \theta$).

## 8.2 Global Incentive Compatibility Constraint (ICC) with the deforestation performance scheme

Using a standard revealed preference argument, this leads to the global ICC:

$$ u(d(\theta)) + t(\theta) - \psi(\theta - d(\theta)) - u(\theta) \ge u(d(\hat{\theta})) + t(\hat{\theta}) - \psi(\theta - d(\hat{\theta})) - u(\hat{\theta}) $$

$$ u(d(\hat{\theta})) + t(\hat{\theta}) - \psi(\hat{\theta} - d(\hat{\theta})) - u(\hat{\theta}) \ge u(d(\theta)) + t(\theta) - \psi(\theta - d(\theta)) - u(\theta) $$

add up and yields

$$ \psi(\hat{\theta} - d(\theta)) - \psi(\theta - d(\theta)) \ge \psi(\hat{\theta} - d(\hat{\theta})) - \psi(\theta - d(\hat{\theta})) \Leftrightarrow \int_{\theta}^{\hat{\theta}} \int_{d(\theta)}^{d(\hat{\theta})} \psi''(x - y) dy dx \ge 0 $$

Hence $\psi''(\cdot) \ge 0$ if $\hat{\theta} > \theta$ then $d(\hat{\theta}) > d(\theta)$: $d(\cdot)$ is a non decreasing function of $\theta$.

## 8.3 Optimal contract with the deforestation performance scheme

Proof of Proposition 1.

Following the FOC, the REDD+ incentive compatible deforestation scheme entails:
* There is no information rent left to the country with most deforestation as $U(\bar{\theta}) = 0$ at the optimum.

* $d^*(\theta)$ is the solution in $d$ of (1) so that $d^*(\theta) \ge d^{FB}(\theta)$ as the marginal information cost is $(1 + \lambda)\psi''(\theta - d)\varphi(\theta) > 0$.

* There is no distortion at the bottom as $d^*(\underline{\theta}) = d^{FB}(\underline{\theta})$ (as $\varphi(\underline{\theta}) = 0$).

* $d^*(\theta)$ is strictly increasing at the margin (as $\psi''' > 0$) with the baseline announced. Indeed from (1), one can differentiate and show that

$$d^*(\theta) = \frac{\psi''(\theta - d)[1 + \varphi'(\theta)] + \psi'''(\theta - d)\varphi(\theta)}{\psi''(\theta - d) + \psi'''(\theta - d)\varphi(\theta) - \frac{w''(d)}{1+\lambda} - u''(d)} > 0$$

However one cannot exclude the case for which $d^*(\theta) \ge 1$, so $a(\theta)$ is not unambiguously increasing. This is not the case if

$$\psi''(\theta - d^*(\theta))\varphi'(\theta) + \frac{w''(d^*(\theta))}{1 + \lambda} + u''(d^*(\theta)) \ge 0$$

that is if $\varphi(\theta)$ is highly increasing (or $w$ and $u$ slightly concave).

* REDD+ optimal transfer $t_d^*$ is decreasing at the margin with the baseline announced. The optimal transfer $t_d^*(\theta)$ can be stated as follows:

$$t_d^*(\theta) = U^*(\theta) - u(d^*) + \psi(\theta - d^*(\theta)) + u(\theta)$$

so that

$$t_d^{*'}(\theta) = -[u'(d^*) + \psi'(\theta - d^*(\theta))]d'(\theta) < 0$$

## 8.4 Implementation of the deforestation performance scheme

Using an equivalent of the taxation principle (Hammond (1979), Guesnerie (1981, 1995)), then for any truth-telling, direct-revelation scheme, there exists an associated schedule or menu of choices which can be offered to the agent and which implements the same equilibrium
outcome through decentralization. One can see that the deforestation performance transfer can be implemented as with a decreasing contract. Indeed inverting $d^*(\theta)$, as an increasing function, yields $\theta^*(d)$ and substituting in $t_d^*(\theta)$:

$$t_d^*(\theta^*(d)) = U^*(\theta^*(d)) - u(d) + \psi(\theta^*(d) - d) + u(\theta^*(d)) \equiv T(d)$$

where $T(d)$ is then the optimal transfer as a function of the observed deforestation level. It is a decreasing function of $d$ but this is not certainly convex, as the corresponding effort $a$ is does not increases unambiguously. Indeed $T'(d) = t_d^*(\theta) \theta^{*'}(d) = -[u'(d) + \psi'(\theta - d)] < 0$ and $T''(d) = -u''(d) - \psi''(\theta - d) [\theta^{*'}(d) - 1]$ does not have a constant sign.

## 8.5 Global Incentive Compatibility Constraint (ICC) with the conditional avoided deforestation scheme

Using a standard revealed preference argument, this leads to the global ICC:

$$u(\theta - a(\theta)) + t(\theta) - \psi(a(\theta)) - u(\theta) \geq u(\theta - a(\hat{\theta})) + t(\hat{\theta}) - \psi(a(\hat{\theta})) - u(\hat{\theta})$$

$$u(\hat{\theta} - a(\hat{\theta})) + t(\hat{\theta}) - \psi(a(\hat{\theta})) - u(\hat{\theta}) \geq u(\hat{\theta} - a(\theta)) + t(\theta) - \psi(a(\theta)) - u(\theta)$$

and by summing yields

$$u(\theta - a(\theta)) - u(\hat{\theta} - a(\theta)) \geq u(\theta - a(\hat{\theta})) - u(\hat{\theta} - a(\hat{\theta})) \Leftrightarrow - \int_{\theta}^{\hat{\theta}} \int_{d(\theta)}^{d(\hat{\theta})} u''(x - y)dxdy \geq 0$$

Hence since $u''(\cdot) \leq 0$ if $\hat{\theta} > \theta$ then $a(\hat{\theta}) > a(\theta)$: $a(\theta)$ is a non-decreasing function of $\theta$.

## 8.6 Optimal contracts with the conditional avoided deforestation scheme

Proof of Proposition 2.

Following the FOC, the REDD+ incentive compatible conditional deforestation reducing
effort scheme entails:

* There is no information rent left to the country with least deforestation as $V(\theta) = 0$ at the optimum.

* $a^*(\theta)$ is the solution in $a$ of (2) so that $a^*(\theta) \le a^{FB}(\theta)$ as the marginal information cost is $(1 + \lambda)u''(\theta - a(\theta))\bar{\varphi}(\theta) < 0$.

* There is no distortion at the top as $a^*(\bar{\theta}) = a^{FB}(\bar{\theta})$ (as $\bar{\varphi}(\bar{\theta}) = 0$).

* $a^*(\theta)$ is strictly increasing at the margin with the baseline announced. Indeed differentiating (2) leads to

$$a^*(\theta) = \frac{\frac{w''(\theta-a)}{1+\lambda} + u''(\theta-a)(1-\bar{\varphi}'(\theta)) - u'''(\theta-a)\bar{\varphi}(\theta)}{\frac{w''(\theta-a)}{1+\lambda} + u''(\theta-a) - \psi''(a) - u'''(\theta-a)\bar{\varphi}(\theta)} > 0$$

Again one cannot exclude the case for which $a^*(\theta) \ge 1$, so $d(\theta)$ is not unambiguously increasing. This is not the case if

$$u''(\theta - a^*(\theta))\bar{\varphi}'(\theta) - \psi''(a^*(\theta)) \ge 0$$

that is if $\bar{\varphi}'(\theta)$ is highly decreasing.

* REDD+ optimal transfer $t_a^*$ is increasing at the margin with the baseline announced. The optimal transfer $t_a^*$ can be stated as follows:

$$t_a^*(\theta) = V^*(\theta) - u(\theta - a^*(\theta)) + \psi(a^*(\theta)) + u(\theta)$$

and

$$t_a^*(\theta) = [u'(\theta - a^*(\theta)) + \psi'(a^*(\theta))] a'(\theta) > 0$$
## 8.7 Implementation of the conditional avoided deforestation scheme

As in Appendix 8.4, inverting $a^*(\theta)$ as an increasing function yields $\theta^*(a)$, and substituting in $t_a^*(\theta)$ yields

$$t_a^*(\theta^*(a)) = V^*(\theta^*(a)) - u(\theta^*(a) - a) + \psi(a) + u(\theta^*(a)) \equiv T(a)$$

It is an increasing function of $a$ but this is not certainly convex as the corresponding deforestation level $d$ does not increase unambiguously. Indeed $T'(a) = t_a^*(\theta)\theta^*(a) = u'(\theta - a) + \psi'(a) > 0$ and $T''(a) = [\theta^*(a) - 1]u''(\theta - a) + \psi''(a)$ does not have a constant sign as $\theta^*(a)$ is not unambiguously greater or less than 1.

## 8.8 Contract comparison in a specific setting

Consider that baseline types are distributed upon the support $[1, 2]$ according to a uniform law, so that $\varphi(\theta) = \theta - 1$ and $\bar{\varphi}(\theta) = 2 - \theta$, surplus are $w(d) = 8 - 3d^2$, $u(d) = (4 - d)d$ and $\psi(a) = \frac{a^2}{2}$. Hence for the First-Best, we have with $\Lambda = \frac{1}{1+\lambda} \in [0, 1]$, $a^{FB}(\theta) = \frac{2}{3} \frac{(3\Lambda+1)\theta-2}{2\Lambda+1}$ and $d^{FB}(\theta) = \frac{1}{3} \frac{\theta+4}{2\Lambda+1}$. The deforestation performance scheme yields $d^*(\theta) = \frac{1}{3} \frac{2\theta+3}{2\Lambda+1}$ so avoided deforestation is $\hat{a}^*(\theta) = \frac{1}{3} \frac{(6\Lambda+1)\theta-3}{2\Lambda+1}$. Finally the conditional avoided deforestation scheme is $a^*(\theta) = \frac{2}{3} \frac{(3\Lambda+2)\theta-4}{2\Lambda+1} \ge 0$, for all $\theta$ if $\Lambda \ge \frac{2}{3}$ that is $\lambda \le \frac{1}{2}$; the resulting deforestation level (or rate) is $\hat{d}^*(\theta) = \frac{1}{3} \frac{8-\theta}{2\Lambda+1}$. An example where $\hat{d}^*(\theta)$ is decreasing.

Hence it exists a baseline threshold $\tilde{\theta}$ exists with $\tilde{\theta} = \frac{5}{3} : d^*(\tilde{\theta}) = \hat{d}^*(\tilde{\theta})$ and $a^*(\tilde{\theta}) = \hat{a}^*(\tilde{\theta})$ and:

* if $\theta < \tilde{\theta} : d^*(\theta) < \hat{d}^*(\theta)$ and $\hat{a}^*(\theta) > a^*(\theta)$ : Deforestation performance schemes are more effective

* if $\theta > \tilde{\theta} : \hat{d}^*(\theta) < d^*(\theta)$ and $\hat{a}^*(\theta) < a^*(\theta)$ : Conditional avoided deforestation schemes are more effective

The following figures illustrate under our three situations, i.e., First-Best Scheme (FBS), the Deforestation Performance Scheme (DPS), the Conditional Avoided Deforestation Scheme
(CADS) respectively: the deforestation evolution $d(\theta)$ (Figure 3), the avoided deforestation evolution $a(\theta)$ (Figure 4) and the transfer evolution $t(\theta)$ (Figure 5) [$\theta$ on the X axis; red: FBS, black = DPS, and blue = CADS on the Y axis]

<figure><img src="image_7.png" /><figcaption>Figure 3: Deforestation evolution $d(\theta)$</figcaption></figure>

<figure><img src="image_8.png" /><figcaption>Figure 4: Avoided deforestation $a(\theta)$</figcaption></figure>

Let us compute the first-best welfare and the second-best welfare for each scheme and each type, respectively the deforestation performance and the conditional avoided deforestation
<figure><img src="image_9.png" /><figcaption>Figure 5: Transfer evolvement $t(\theta)$</figcaption></figure>

schemes :

$$W^{FB}(\theta) = \frac{1}{3(2\Lambda + 1)\Lambda} \left[ (3\Lambda + 2)\theta^2 - (8 + 24\Lambda)\theta + 48\Lambda^2 + 24\Lambda + 8 \right]$$

$$W^{DP}(\theta) = \frac{1}{6(2\Lambda + 1)\Lambda} \left[ (18\Lambda + 13)\theta^2 - (42 + 108\Lambda)\theta + 96\Lambda^2 + 96\Lambda + 33 \right]$$

$$W^{CA}(\theta) = \frac{1}{3(2\Lambda + 1)\Lambda} \left[ (15\Lambda + 8)\theta^2 - (48\Lambda + 32)\theta + 48\Lambda^2 + 24\Lambda + 32 \right]$$

Instead of computing the welfare loss in each case and comparing these losses, we directly compute the difference between the two second-best welfare levels. Let:

$$\Delta W(\theta) = W^{DP}(\theta) - W^{CA}(\theta) = \frac{1}{6(2\Lambda + 1)\Lambda} \left[ (12\Lambda + 3)\theta^2 + (22 - 12\Lambda)\theta + 48\Lambda - 31 \right]$$

This difference is zero for a given $\theta^*(\Lambda) = \frac{11-6\Lambda-2\sqrt{153\Lambda^2-90\Lambda+7}}{3(4\Lambda+1)}$ which is in $\Theta$ for $\Lambda \ge \frac{2}{3}$.25 Hence as a concave second order polynomial function of $\theta$, $\Delta W(\theta) \ge 0$ if $\theta \ge \theta^*(\Lambda)$ and negative otherwise. Moreover $\theta^*(\frac{2}{3}) = \frac{7+2\sqrt{15}}{11} \approx 1.34 < \frac{5}{3}$. One can compute expected welfare

<footnote>25The other (negative) root is less than $\bar{\theta} = 1$ for $\Lambda \ge \frac{2}{3}$.</footnote>
levels, they are simply determined by

$$E(W^{FB}(\theta)) = \frac{144\Lambda^2 - 15\Lambda + 2}{9(2\Lambda + 1)\Lambda}$$

$$E(W^{DP}(\theta)) = \frac{288\Lambda^2 - 12\Lambda + 1}{18(2\Lambda + 1)\Lambda}$$

$$E(W^{CA}(\theta)) = \frac{144\Lambda^2 - 39\Lambda + 8}{9(2\Lambda + 1)\Lambda}$$

then here $E(W^{DP}(\theta)) \le E(W^{CA}(\theta))$ as $E(\Delta W(\theta)) = \frac{2\Lambda - 5}{9(2\Lambda + 1)\Lambda}$ which is negative for admissible values of $\Lambda$.

## 8.9 Assessing the deforestation baseline

Most of the time, REDD+ schemes assume that a prior bargaining process is engaged between the North and the South to determine what is the deforestation baseline for a given country. Figuières et al. (2012) analyze this process in a game-theoretic bargaining model and show some caveats of the REDD mechanisms in a context of perfect information. Of course, this negotiation stage will reveal some information for the North and could be considered as a solution to the adverse selection problem (hidden information) we have studied. However, it has been shown in the case of the Guyanan “economically-rational” deforestation baseline that countries are ready to invest in some falsification strategies of forest core information (Karsenty and Ongolo (2012)). Following Maggi and Rodriguez (1995), it is assumed that a prior stage can take place between P and A, in order to decide what the RL entering in the REDD+ scheme would be, so that now the ex post deforestation level d is defined as $d(b, a) = b - a$ where b is the RL negotiated. Hence REDD+ might now be designed as $<t(b), d(b)>$ for deforestation performance schemes and $<t(b), a(b)>$ for conditional avoided deforestation schemes. For a given country with baseline $\theta \in \Theta$ whose realization is observed before signing the contract within the negotiation meeting, P observes a signal of the RL, $b = \theta + \alpha$ where $\alpha \in \mathbb{R}$ is an unobservable action that A can take to distort the RL signalled, in either direction. The cost of falsification associated $\alpha$ is $\phi(\alpha)$ is a convex function. With $\alpha = b - \theta$, A's utility can be written as $U = u(d) + t - \psi(\theta - d) - \phi(b - \theta)$
for deforestation performance schemes and $V = u(\theta - a) + t - \psi(a) - \phi(b - \theta)$ for conditional avoided deforestation schemes.

By the revelation principle we can derive optimal contracts as an allocation $<t(\theta), d(\theta), b(\theta)>$ and for the deforestation performance schemes case, ICC entails both

$$IC1: U'(\theta) = -\psi'(\theta - d(\theta)) - u'(\theta) + \phi'(b(\theta) - \theta) \le 0$$

$$IC2: d'(\theta) \ge 0 \text{ and } b'(\theta) \ge 0.$$

For conditional avoided deforestation schemes, ICC implies both

$$IC1: V'(\theta) = u'(\theta - a(\theta)) - u'(\theta) + \phi'(b(\theta) - \theta) \le 0$$

$$IC2: a'(\theta) \ge 0 \text{ and } b'(\theta) \ge 0.$$

Without deriving the exact optimal allocations, one can highlight several features of RL falsification. Incentives are clearly affected by the falsification abilities; consequently optimal schemes are expected to be modified because of the cost of disinformation. Rents do not then decrease unambiguously and monotonically for all schemes. Some countervailing incentives may appear: because of costly falsification, for some RL levels it may be the case that developing countries have some incentives to understate their RL rate in deforestation performance schemes. Similarly, they might be compelled to overstate their types in conditional avoided deforestation schemes. As a result, it might be possible that pooling contracts arise: it could be optimal for the donor to propose the same contract for a set of countries with different RL levels.

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