Evaluating the environment

1. Evaluating the environment Gauri-Shankar Guha

2. Evaluating the Environment • For the individual, economic values is theoretically measured in terms of utility. Money equivalents are based on welfare economics concepts, approximated by either: • The maximum Willing to Pay to have more of an environmental good, or less of an environmental bad (WTP) • The minimum compensation sum the individual requires to have less of an environmental good, or more of an environmental bad. (WTA) Dr. Gauri-Shankar Guha ASU - Econ 6353

3. Assumptions about property rights • Do people hold rights to the existing level of environmental quality (or improvements) • Example: threat of reduced air quality; • WTP if assume do not have the right to existing level; • WTA if assume do have the right. • Sometimes the decision over WTP/WTA will be implied by legal considerations (eg in Denmark, access to the countryside is guaranteed by law, so no question about WTP for such privileges) Dr. Gauri-Shankar Guha ASU - Econ 6353

4. Anthropocentricity All economic values are utilitarian: have to be traced back to impacts on people. (This means intrinsic values are left out.) Dr. Gauri-Shankar Guha ASU - Econ 6353

5. Theoretical Measures of Welfare: • Standard practice This is a crude measure since it cannot isolate income (wealth) & substitution effects. • Advanced practice more exact measure Dr. Gauri-Shankar Guha ASU - Econ 6353

6. Standard practice Consumer Surplus: Change in consumer welfare as measured by the change in the area under the Marshallian Demand Curve. CS =  D(p, Y) (Using Slutsky, we may separate effects: x/p = h(p,u) / p + x*x / Y ) (substitution) (wealth / income) Dr. Gauri-Shankar Guha ASU - Econ 6353

7. Advanced practice • Compensating Variation - Old level of Utility at New State (or Price) CV = E(po, u0) – E(p1, u0) =  h(p, u0)dp (integrate from p1 to p0) • Equivalent Variation - New level of Utility at Old State (or Price) EV = E(po, u1) – E(p1, u1) =  h(p, u1)dp (integrate from p1 to p0) Dr. Gauri-Shankar Guha ASU - Econ 6353

8. Total Economic Value (TEV): • Use value: for example, the value of the wetland to bird watchers (non-consumptive), fishermen, hunters (consumptive) • Option value: willingness to pay to keep option open for future use, even if don’t use now. • Non-use values: (also called passive use) people who care about the wetlands even if they don’t ever go there. Eg people who are WTP something to protect it because it is rare/ beautiful/ ecologically valuable. (an awkward area of valuation, but very important) • Ecosystem / indirect values: value of wetlands for the market-related service flows it provides e.g flood defence, pollution control, nursery for coastal fisheries. Dr. Gauri-Shankar Guha ASU - Econ 6353

9. Increasing Use of Environmental Valuation • Cost Benefit Analysis in appraising projects/policies which impact on the environment. • Damage assessments/compensation claims • Estimating the value of externalities for calculating eco-taxes Dr. Gauri-Shankar Guha ASU - Econ 6353

10. Environmental Valuation Methods • Direct Methods • Based on surveys • Direct involvement of consumer • Indirect Methods • Based on secondary information • Inferential Dr. Gauri-Shankar Guha ASU - Econ 6353

11. Direct Methods • contingent valuation method (CVM) • contingent ranking • choice experiments Dr. Gauri-Shankar Guha ASU - Econ 6353

12. Indirect Methods • Recreation demand models • travel cost model • random utility model • Hedonic pricing • Production function approaches • dose response • avoided cost • ecosystem value models Dr. Gauri-Shankar Guha ASU - Econ 6353

13. CVM design and definition issues • Population definition • Product description / client education • Appropriate payment vehicle • Posing the CV question: • Bid game / Open ended qs / Payment card / DC • Collection of supplemental data • Analysis methodology Dr. Gauri-Shankar Guha ASU - Econ 6353

14. CV steps 1. Construct hypothetical market (bid vehicle, payment rule, provision rule) 2. Seek bids (WTP/WTA; dichotomous choice/open ended, bidding game) 3. Average bids (identifying of protests; mean vs trimmed mean vs median) 4. Aggregate (how to: relevant population? representativeness of sample?) 5. Perform validity tests (bid curve, test/retest, conformity with design standards) Dr. Gauri-Shankar Guha ASU - Econ 6353

15. NOAA guidelines • Studies show that non-use values are a significant share of TEV • Examples of CVM applications • Controlling acid rain, • Estimating an Appropriate “Conservation Tax” • Value of a Parkland • E.I. of a river valley project • The value of “mosquito control in Jonesboro” Dr. Gauri-Shankar Guha ASU - Econ 6353

16. NOAA Guidelines (1994) 1. Use DC format, face to face interviews 2. Minimum response rate 70% 3. Measure WTP not WTA 4. Test whether WTP varies with scope of environmental damage 5. Calibrate with experimental tests or use 50% discount rule 6. Remind respondents of budget constraint 7. Provide "full information" and check for how well this is understood Dr. Gauri-Shankar Guha ASU - Econ 6353

17. CVM Issues • Strategic biases • Design bias • Hypothetical market bias • Information Effects • WTA vs WTP • Loss Aversion (Kahneman, Knetsch, Thaler) • Substitution effects (Hanemann) Dr. Gauri-Shankar Guha ASU - Econ 6353