Environmental EconomicsEnvironmental Economics

Sedef AkgüngörSedef Akgüngör

Lecture 4Lecture 4

Measuring BenefitsMeasuring Benefits

Efficiency framework.Efficiency framework.Are we polluting too much?Are we polluting too much?The answer depends on the MB of The answer depends on the MB of pollution reduction and MC of pollution pollution reduction and MC of pollution reduction.reduction.Determining the level of optimal pollution Determining the level of optimal pollution level.level.Accurate measures of benefits and costs Accurate measures of benefits and costs of pollution reduction.of pollution reduction.

How much would you be willing to pay to How much would you be willing to pay to save the snow leopard from extinction? save the snow leopard from extinction? It may surprise you to know that asking It may surprise you to know that asking questions like this is one of the best ways questions like this is one of the best ways economists have for working out what the economists have for working out what the environment is worth. environment is worth. The spontaneous answer you and others The spontaneous answer you and others give to such a question may determine give to such a question may determine whether a forest is protected.whether a forest is protected.

The whole project of integrating The whole project of integrating environmental and economic goals seems environmental and economic goals seems to depend on one proposition: that it is to depend on one proposition: that it is possible and desirable to attach monetary possible and desirable to attach monetary values to separate parts of the values to separate parts of the environment environment

This proposition is being promoted by a This proposition is being promoted by a group of economists, who call themselves group of economists, who call themselves environmental economists. environmental economists. Responding to environmental crises that Responding to environmental crises that have emerged in recent years they have have emerged in recent years they have adapted traditional economic models and adapted traditional economic models and theories to take account of the theories to take account of the environment. environment.

They believe that giving the environment a They believe that giving the environment a monetary value is the only way to ensure monetary value is the only way to ensure that decision-makers in government and that decision-makers in government and business consider the environment when business consider the environment when they made their decisions.they made their decisions.

These environmental economists of the These environmental economists of the neoclassical school argue that the market neoclassical school argue that the market would protect the environment if everyone would protect the environment if everyone had to take account of these "externalities" had to take account of these "externalities" or environmental costs. And what is the or environmental costs. And what is the best way to do that? best way to do that? By putting a price on the environment. By putting a price on the environment.

They say that unless the environment is valued They say that unless the environment is valued in monetary terms it will be neglected. in monetary terms it will be neglected. Managers and politicians are used to dealing Managers and politicians are used to dealing with monetary values and can more easily relate with monetary values and can more easily relate to them. to them. For instance, the benefits from preserving a For instance, the benefits from preserving a wetland can be compared with the benefits of wetland can be compared with the benefits of filling it in and building a housing estate if each filling it in and building a housing estate if each option is given a monetary value. option is given a monetary value.

Once the various parts of the environment Once the various parts of the environment are given a price then all sorts of decisions are given a price then all sorts of decisions are affected. are affected. National accounts can be adjusted to take National accounts can be adjusted to take account of environmental resources lost in account of environmental resources lost in the process of generating wealth. the process of generating wealth. In this way measures such as GNP and In this way measures such as GNP and GDP will give a better indication of the true GDP will give a better indication of the true wealth of a nation. wealth of a nation.

Similarly cost-benefit analyses used to Similarly cost-benefit analyses used to decide whether government projects decide whether government projects should go ahead can include quantified should go ahead can include quantified environmental costs and this means that environmental costs and this means that governments will give more weight to governments will give more weight to environmental considerations when they environmental considerations when they decide if the project should go ahead. decide if the project should go ahead.

http://homepage.mac.com/herinst/sbeder/ValuingEnviron.html

Brundtland Comission (1987) and the Rio Brundtland Comission (1987) and the Rio Convention Agenda 21 have focused on Convention Agenda 21 have focused on sustainable development issues and sustainable development issues and putting value on environmental putting value on environmental improvements.improvements.

BenefitsBenefits

Market benefitsMarket benefits– Cleaning up a river: Market benefits: increases in fish Cleaning up a river: Market benefits: increases in fish

harvest, greater number of tourists, fewer medical harvest, greater number of tourists, fewer medical expensesexpenses

Nonmarket benefitsNonmarket benefits– Recreational use of the river; enjoyment of the Recreational use of the river; enjoyment of the

diversity in the river.diversity in the river.The question is: How much money would the The question is: How much money would the people be willing to pay?people be willing to pay?

Putting a Monetary Value on Putting a Monetary Value on Environmental GoodsEnvironmental Goods

Is one value better than no value?Is one value better than no value?Is some number better than no number?Is some number better than no number?

Example: Brasil Water Sanitation Example: Brasil Water Sanitation ExampleExample

A study in Brasil used a valuation A study in Brasil used a valuation approach that focused on asking people approach that focused on asking people either directly what they are willing to pay, either directly what they are willing to pay, or less directly what their choices would be or less directly what their choices would be if they were faced with certain prices for if they were faced with certain prices for the service in question.the service in question.The question: “if you are required to pay X, The question: “if you are required to pay X, would yu connect to the new suppy or use would yu connect to the new suppy or use an alternative supply?”an alternative supply?”

Example: Korup National Park in Example: Korup National Park in CameroonCameroon

Africa’s oldest rainforest. Over 1000 Africa’s oldest rainforest. Over 1000 species of plant, 1300 animal species (60 species of plant, 1300 animal species (60 occur in nowhere else and 170 are occur in nowhere else and 170 are currently listed as endangered).currently listed as endangered).WWF initiated a programme for WWF initiated a programme for conservationconservation

Korup Project: Benefits and CostsKorup Project: Benefits and CostsCost of conservation Project:Cost of conservation Project:– Resource costs Resource costs : -4475: -4475– Foregone forest costsForegone forest costs

TimberTimber : -353: -353Forest productsForest products : -223: -223

Total costs:Total costs: : -5051: -5051

Benefits of Conservation ProjectBenefits of Conservation Project– Direct use benefitsDirect use benefits

Use of forest productsUse of forest products : 354: 354TourismTourism : 680: 680

– Indirect use benefitsIndirect use benefitsProtection of fisheriesProtection of fisheries : 1770: 1770Flood controlFlood control : 265: 265Soil productivitySoil productivity : 130: 130

Total benefitsTotal benefits : 3199: 3199Net benefits: Net benefits: -1852 -1852 Net benefits when the discount rate is 6% : $ 319 Net benefits when the discount rate is 6% : $ 319

Valuing Benefits for Risk Valuing Benefits for Risk ManagementManagement

The difficulties in estimating physical The difficulties in estimating physical damagesdamagesIf they can be estimated, the next step is If they can be estimated, the next step is to try to place a monetary value on them.to try to place a monetary value on them.The complexities of assigning monetary The complexities of assigning monetary valuevalue

Types of ValuesTypes of Values

1. Use value1. Use value2. Option value2. Option value3. Non use value3. Non use value

Total WTPTotal WTP

Use ValueUse Value: Use value reflects the willingness to pay : Use value reflects the willingness to pay for direct use of the environmental resource. for direct use of the environmental resource. to to useuse something simply requires one of the senses to something simply requires one of the senses to be active (sight, sound, touch, taste or smell). be active (sight, sound, touch, taste or smell). Hearing noise pollution, seeing a grizzly bear, eating Hearing noise pollution, seeing a grizzly bear, eating freshly caught fish, consuming water for drinking or freshly caught fish, consuming water for drinking or swimming, taking in a vista while hiking and touching swimming, taking in a vista while hiking and touching your feet to the trail, smelling flowers or smelling foul your feet to the trail, smelling flowers or smelling foul air. air. All of these constitute some kind of use of natural All of these constitute some kind of use of natural resources and the environment. Distinguishing resources and the environment. Distinguishing between active use (consumptive) and passive use between active use (consumptive) and passive use (nonconsumptive)(nonconsumptive)

Option ValueOption Value: Option value is the willingness : Option value is the willingness to pay for the to pay for the future future ability to ability to useuse the the environment. environment. This is the value people place on having This is the value people place on having the the option to useoption to use or ensuring something exists for or ensuring something exists for potential future use. potential future use. Do Do youyou plan to go to Yellowstone National plan to go to Yellowstone National Park next summer? Park next summer? NO??NO??WWouldould you you ever like to go ever like to go? Yes??? Yes??PPlace a value on the park to ensure it will still lace a value on the park to ensure it will still exist when exist when one one dodoeses want to go. want to go.

Nonuse ValueNonuse Value: Nonuse value represents an : Nonuse value represents an individuals’ willingness to pay to preserve a individuals’ willingness to pay to preserve a resource that he or she will never use. resource that he or she will never use. These values are often called These values are often called existenceexistence values. This is a very different category of values. This is a very different category of value and, of course, represents the most value and, of course, represents the most problematic as well as controversial to problematic as well as controversial to monetize. monetize. These are less tangible values, but can be These are less tangible values, but can be quite large.quite large.

Total Willingness to Pay (TWP)Total Willingness to Pay (TWP): Total : Total Willingness to Pay = Use Value + Option Willingness to Pay = Use Value + Option Value + Nonuse Value. Value + Nonuse Value.

The Concept of Consumer SurplusThe Concept of Consumer Surplus

Consumer surplus: Difference between Consumer surplus: Difference between what is one willing to pay and what one what is one willing to pay and what one actually pays.actually pays.Willingness to pay for one extra unit of Willingness to pay for one extra unit of pollution reductionpollution reductionDivergence between willingness to pay Divergence between willingness to pay and willingness to accept.and willingness to accept.

People are more willing to sacrifice to People are more willing to sacrifice to maintaion the existing quality of the maintaion the existing quality of the environment than they are to improve environment than they are to improve environmental quality.environmental quality.– Prospect theoryProspect theory

Risk assessment and perceptionRisk assessment and perception

Contingent ValuationContingent Valuation

Asking people their WTP or WTAAsking people their WTP or WTASurvey responses are contingent upon the Survey responses are contingent upon the questions askequestions askeSources of possible errors:Sources of possible errors:– Potential for free ridingPotential for free riding– Strategic biasStrategic bias– Hypothetical natureHypothetical nature– Embedding biasEmbedding bias

CV: A Sample SurveyCV: A Sample Survey““This research is designed to more closely examine This research is designed to more closely examine some of the trade-offs between industrial development, some of the trade-offs between industrial development, recreation, and the environment in the Lake Powell area. recreation, and the environment in the Lake Powell area. In connection with these objectives, I would like to ask In connection with these objectives, I would like to ask you a few questions to see how you feel about you a few questions to see how you feel about environmental quality and its future in this area.environmental quality and its future in this area.There are plans to construct a large electric generating There are plans to construct a large electric generating plant north of Lake Powell. This plant is expected to be plant north of Lake Powell. This plant is expected to be at least as large as the Navajo Plant on the south side of at least as large as the Navajo Plant on the south side of the lake.the lake.Have you noticed the Navajo Plant or its smokestacks? Have you noticed the Navajo Plant or its smokestacks? _____ Yes ____No_____ Yes ____No

Depending on exactly where and how a new Depending on exactly where and how a new plant is constructed, it could have a significant plant is constructed, it could have a significant effect on the quality of the environment. effect on the quality of the environment. If the plant is built near the lake, it could be If the plant is built near the lake, it could be visible for many miles up and down the lake. If visible for many miles up and down the lake. If air pollution is not strictly controlled, visibility in air pollution is not strictly controlled, visibility in the area may be significantly affected. the area may be significantly affected. These photographs (interviewer shows These photographs (interviewer shows photographs) are designed to show how a new photographs) are designed to show how a new powerplant on the north side of the lake might powerplant on the north side of the lake might appear. appear.

Situation A shows a possible plant site but Situation A shows a possible plant site but assumes that the powerplant would be built at assumes that the powerplant would be built at some distant location, not visible from the lake some distant location, not visible from the lake area. area. In situation B the powerplant is easily seen from In situation B the powerplant is easily seen from the lake, but emits very little smoke; visibility is the lake, but emits very little smoke; visibility is virtually unaffected. virtually unaffected. Situation C is intended to show the situation with Situation C is intended to show the situation with the greatest impact on the environment of the greatest impact on the environment of recreationists in the area. It is easily seen from recreationists in the area. It is easily seen from the lake, and the smoke substantially reduces the lake, and the smoke substantially reduces visibility.visibility.

Vacationers, of course, spend Vacationers, of course, spend considerable amounts of money and time considerable amounts of money and time and effort to equip themselves with and effort to equip themselves with vehicles, boats, camping, and fishing gear, vehicles, boats, camping, and fishing gear, and for traveling to the destination of their and for traveling to the destination of their choice. It is reasonable to assume that the choice. It is reasonable to assume that the amount of money you are willing to spend amount of money you are willing to spend for a recreational experience depends, for a recreational experience depends, among other things, on the quality of the among other things, on the quality of the experience you expect. experience you expect.

An improved experience would be An improved experience would be expected to be of greater value to you expected to be of greater value to you than a degraded one. Since it does cost than a degraded one. Since it does cost money to improve the environment, we money to improve the environment, we would like to get an estimate of how much would like to get an estimate of how much a better environment is worth to you.a better environment is worth to you.

First, let’s assume that visitors to the Glen First, let’s assume that visitors to the Glen Canyon National Recreation Area are to finance Canyon National Recreation Area are to finance environmental improvements by paying an environmental improvements by paying an entrance fee to be admitted into the recreation entrance fee to be admitted into the recreation area. This will be the only way to finance such area. This will be the only way to finance such improvements in the area. Let’s also assume improvements in the area. Let’s also assume that all visitors to the area will pay the same that all visitors to the area will pay the same daily fee as you, and all the money collected will daily fee as you, and all the money collected will be used to finance the environmental be used to finance the environmental improvements shown in the photos.improvements shown in the photos.

Would you be willing to pay a $1.00 per Would you be willing to pay a $1.00 per day fee to prevent Situation C from day fee to prevent Situation C from occurring, thus preserving Situation A? occurring, thus preserving Situation A? $2.00 per day? (increment by $1.00 per $2.00 per day? (increment by $1.00 per day until a negative response is obtained, day until a negative response is obtained, then decrease the bid by 25 cents per day then decrease the bid by 25 cents per day until a positive response is obtained, and until a positive response is obtained, and record the amount.) _________$/dayrecord the amount.) _________$/day

Would you be willing to pay a $1.00 per day fee Would you be willing to pay a $1.00 per day fee to prevent Situation B from occurring, thus to prevent Situation B from occurring, thus preserving Situation A? (repeat bidding preserving Situation A? (repeat bidding procedure)procedure)(Answer only if a zero bid was recorded for (Answer only if a zero bid was recorded for either question above.) Did you bid zero either question above.) Did you bid zero because you believe that:because you believe that:________ the damage is not significant________ the damage is not significant________ it is unfair or immoral to expect the ________ it is unfair or immoral to expect the victim of the damage to have to pay the costs of victim of the damage to have to pay the costs of preventing the damagepreventing the damage________ other________ other

http://web.mit.edu/urbanupgrading/urbanenvironment/tools/contingent-valuation.html

Travel CostTravel Cost

Measure the benefits associated with Measure the benefits associated with recreational resourcesrecreational resources

ExampleExample

A site used mainly for recreational fishing is A site used mainly for recreational fishing is threatened by development in the surrounding threatened by development in the surrounding area.  Pollution and other impacts from this area.  Pollution and other impacts from this development could destroy the fish habitat at the development could destroy the fish habitat at the site, resulting in a serious decline in, or total loss site, resulting in a serious decline in, or total loss of, the site’s ability to provide recreational fishing of, the site’s ability to provide recreational fishing services.  services.  Resource agency staff want to determine the Resource agency staff want to determine the value of programs or actions to protect fish value of programs or actions to protect fish habitat at the site. habitat at the site.

The first step involved with the TCM is the The first step involved with the TCM is the creation of a trip generating function. In an creation of a trip generating function. In an actual travel cost study, this stage could actual travel cost study, this stage could not take place before a certain amount of not take place before a certain amount of thought and research concerning the goals thought and research concerning the goals and form of the study, and a significant and form of the study, and a significant amount of data collection work. amount of data collection work.

Hedonic Regression Hedonic Regression

Changes in prices of related goods to infer Changes in prices of related goods to infer the WTP for healthier environment.the WTP for healthier environment.

Take, for example, the housing market in Take, for example, the housing market in two cities with different levels of air quality. two cities with different levels of air quality. Demand 1 represents the dirty air city and Demand 1 represents the dirty air city and demand 2 represents the clean air city. demand 2 represents the clean air city. The price differential, dP, is the marginal The price differential, dP, is the marginal willingness to pay (in higher housing willingness to pay (in higher housing prices) for the difference in air quality. prices) for the difference in air quality.

These price differentials can be estimated These price differentials can be estimated using regression methods. Imagine that using regression methods. Imagine that you collect data on housing prices in a you collect data on housing prices in a local market (these are recorded in the local market (these are recorded in the courthouse after the sale) and the courthouse after the sale) and the characteristics of the house (square characteristics of the house (square footage, lot size, etc.). You are also able to footage, lot size, etc.). You are also able to merge in other variables such as school merge in other variables such as school district, local tax rates, and other district, local tax rates, and other “neighborhood” characteristics.“neighborhood” characteristics.

Risk AssessmentRisk Assessment

The purpose of risk assessment is to The purpose of risk assessment is to determine if a substance is harmful to a determine if a substance is harmful to a given population and at what degree of given population and at what degree of exposure or concentration.exposure or concentration.

In the context of In the context of publicpublic healthhealth, risk assessment , risk assessment is the process of quantifying the probability of a is the process of quantifying the probability of a harmful effect to individuals or populations from harmful effect to individuals or populations from certain human activities. In most countries, the certain human activities. In most countries, the use of specific chemicals, or the operations of use of specific chemicals, or the operations of specific facilities (e.g. power plants, specific facilities (e.g. power plants, manufacturing plants) is not allowed unless it manufacturing plants) is not allowed unless it can be shown that they do not increase the risk can be shown that they do not increase the risk of death or illness above a specific threshold. of death or illness above a specific threshold.

The most typical four components in risk assessment The most typical four components in risk assessment are:are:

1. 1. Hazard identificationHazard identification: does human or ecological : does human or ecological exposure cause harm?exposure cause harm?

2. 2. Dose-response assessmentDose-response assessment: what is the : what is the relationship between the strength and duration of relationship between the strength and duration of exposure and the detrimental health effect. Age, gender exposure and the detrimental health effect. Age, gender and lifestyle are factored in at this stage as well as and lifestyle are factored in at this stage as well as information on animal exposure.information on animal exposure.

3. 3. Exposure assessmentExposure assessment: at what intensity is the : at what intensity is the population exposed to the agent and at what duration population exposed to the agent and at what duration and frequency? and frequency?

4. 4. Risk characterizationRisk characterization: what is the overall effect of an : what is the overall effect of an agent on a given population based on 1-3 above. agent on a given population based on 1-3 above.