Concluding Comments on Methods of Valuing Environmental Benefits

We have used throughout the text the notion of willingness to pay as a measure of the net benefits of improving environmental quality, and hence measuring the change in total damages (the area under the MD curve). Willingness to pay, besides reflecting a person’s tastes and preferences, also reflects one’s income level. Another way of approaching the problem of valuing environmental improvements is to ask people how much they would be willing to accept to give up some environmental amenity. To value better air quality we could ask either how much people would be willing to pay for a small improvement or how much they would have to receive to compensate them for a small reduction in air quality. Suppose public authorities are contemplating locating a hazardous waste incinerator in a particular community. As a measure of the potential damages suffered by the community, we could take the amount of money required to get the community willingly to accept the incinerator (rather than, in other words, the amount they would be willing to pay to keep it out).

Clearly, willingness to accept (WTA) is not constrained by one’s income, as is willingness to pay. So it may be no surprise that when people are asked willingness-to-accept questions, their answers are usually higher than their willingness-to-pay responses for the same item. To some extent it may depend on what they are asked. For a small change we would expect the two measures to be close. Consider a single cantaloupe. If a person is willing to pay $1.49 for one more cantaloupe, that amount is also probably close to what it would take to compensate for his or her loss of a single cantaloupe. But even in cases involving small changes, researchers have found that willingness to accept exceeds willingness to pay. In surveys and experimental work, people are found to compare gains and losses relative to a reference point. They value losses from this reference point much more than gains. The minimum compensation demanded is typically several times larger than the maximum amount they are willing to pay.²² Canadian students participated in a number of experiments measuring willingness to pay versus compensation demanded. The commodities exchanged were chocolate bars and coffee mugs. These are not goods for which we would expect people to have strong divergences between willingness to pay and willingness to accept, but they do!

^22. See the work done by Jack Knetsch and others; for example, “Environmental Policy Implications of Disparities between Willingness to Pay and Compensation Demanded Measures of Values,” Journal of Environmental Economics and Management 18 (1990): 227–237, and the references in that article.

For large changes (what are called “non-marginal” changes) the divergences may be even more substantial. If we are talking, for example, of large changes in air pollution in a neighbourhood or the loss of a natural area , one’s welfare will change substantially and the two measures will be quite different.

Economists have taken several approaches to resolving this problem. One is to look closely at the questionnaire and the way questions are asked of respondents. Experience has shown that responses will differ according to how questions are phrased, so one possibility is that the differences between willingness to pay and willingness to accept are traceable primarily to the way questions are being framed. The other approach is to use the approach that best fits the real world problem in question. If environmental quality is being degraded, willingness to accept is likely a better measure. If people are being asked to indicate how much investment in improving environmental quality they wish, the willingness to pay can be used. In general, it is good practice to estimate both measures to provide a range of estimates.

Summary

Benefit measurement is a major focus of study within environmental economics. New techniques are being developed to uncover values that previously were hidden from view. These values are useful not only in benefit–cost analysis; they also find their way into damage awards in court cases and legal settlements. Public environmental agencies have devoted considerable time and effort to generating benefits estimates to justify their policy rulings. We list and describe in detail the main techniques environmental economists use to measure the benefits of improving environmental quality/reducing the damages from pollution. We covered direct damage techniques for health impacts, production losses, and materials damages and found they are often not a good representation of WTP. The indirect techniques that are based on people’s willingness to pay for environmental quality include defensive expenditures, hedonic techniques, the surrogate market approach of travel-cost studies, and, finally, contingent valuation methods. These too have difficulties, because many are proxies for underlying WTP (or willingness to accept) or have to present hypothetical scenarios to elicit WTP. Examples of each technique illustrate how it can be used in benefit–cost analysis. Critiques of the techniques indicate that no method is “perfect,” but many environmental economists feel strongly that efforts to measure benefits are worthwhile. If these are not done, only the cost side of benefit–cost analysis remains, making it very difficult to assess the tradeoffs among projects or policies that generate quite different benefits.

Bequest value, 153

Capitalized (assets), 143

Consumer surplus, 135

Contingent valuation method, 148

Dose–response function, 129

Existence value, 153

Hedonic estimation, 142

Morbidity, 129

Mortality, 129

Option value, 153

Preventive or mitigating expenditures, 140

Producer surplus, 133

Productivity-study approach, 134

Surrogate markets, 145

Travel-cost approach, 145