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Economic Valuation methods

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Definition & Objectives

Economic Valuation Methods (EVM) represent a range of economic techniques to compare the costs and benefits associated with ecosystems functions and services, by attempting to measure them and expressing them typically in a monetary unit. This is of particular relevance since environmental impacts are often not considered in monetary assessments of policies, programs or projects. The reasons for the neglect of environmental impacts are, firstly, that environmental goods and services are often not traded in markets and, secondly, the complexity of ecosystems is difficult to capture in analytical and, thus, monetary terms (Hanley and Spash 1993). Economic valuation of ecosystems’ services has experienced growing attention through the recent TEEB initiative (Van der Ploeg et al. 2008)

Suitability

Applying monetary values to environmental goods and services can help in weighing the potential economic gains of increased trade against the potential costs of related economic changes and their environmental implications. It might also help compare the costs and benefits of different trade strategies by considering the net impact or value of different product categories or infrastructure development options. Moreover, valuation methods may help support decisions on the adoption of relevant flanking measures aimed at environmental protection by providing a basis for comparing the value of the relevant environmental goods to the cost of the proposed measure.

Resource Requirements and Experts

Primary valuation studies are fairly resource demanding, regarding time and financial resources. Benefit transfer requires considerably less time and resources. Although they might be less accurate, decision-makers might accept this in exchange for achieving quicker results (UNEP 2010). Economic Valuation is an advanced technique in the field of environmental economics and requires corresponding expertise in the field of economics.

Specific Valuation Techniques

Specific approaches for valuation can be distinguished as revealed preference methods and stated preference method. The former builds on observed economic behavior of individuals to infer values for an environmental good or service. The latter uses questionnaires to elicit individuals’ preferences for a change in an environmental good or service.

Main techniques for monetarisation as revealed preferences include:

Combination with other methods

EVMs are oftentimes used for CBAs.

Strengths & weaknesses

 (+) Enables benefits of ecosystem functions to be expressed in the same units (monetary) and to be compared directly to other benefits of a proposed measure.

(+) Enables costs and benefits of different usage types of environmental resources to be compared and weighed against each other.

(+) Valuation results can easily be integrated into standard assessment methods such as CBA

( - ) Economic valuation is a challenging task, and there is a risk of over- or undervaluing environmental goods and services.

( - )  There is a risk of applying benefit transfer values inappropriately.

( - ) The prevailing socio-economic situation (status quo) can influence the value placed on an environmental function or service.

( - ) Economic valuation is resource intensive and requires advanced economic expertise.

References

Hanley and Spash 1993

UNEP 2010

Van der Ploeg et al. 2008

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Quotation: Ferretti, J., Guske, A-L., Jacob, K. et al. 2012: Introduction to Economic Valuation Methods for Impact Assessment. LIAISE Toolbox.

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Travel Costs method

This text is based on Alberini, A. (2006). Travel costs. SustainabilityA-Test. http://www.ivm.vu.nl/en/projects/Archive/SustainabailityA-test/index.asp (29 November 2013).

Introduction

The travel cost method is well suited for placing a value on natural resources, amenities, natural parks, hunting, fishing, and wildlife  watching sites, and cultural heritage sites. It is based on the concept that if people travel to a site, then their willingness to pay for visiting this site must be at least as large as the travelcost incurred. The travel cost is comprised of the out−of−pocket expenditures incurred to travel to and at thesite, plus the opportunity cost of time.

Methodology

The travel cost method relies on the weak complementarity assumption: An improvement in the quality of the site does not affect the  utility of people that do not visit that site, and for visitors, the demand for trips to the site increases as the quality of the site is improved.

The travel cost method captures use values, but, unlike contingent valuation, cannot capture non−use values. The travel cost method is an example of revealed preference studies, because it relies on choices and behaviors that were actually made by individuals.

Process

There are two main approaches to the travel cost method. In both cases, information about the number of trips, the travel costs, any alternative sites to the one visited, and the “price” of visiting substitute sites is gathered.In both cases, it is essential that different visitors face a different travel cost to the site (because they live at a different distance from the site, choose different modes of transportation, etc.).

The first approach is termed the “single site model.” This approach uses regression models to estimate the individual demand for visits to the site as a function of the “price” of a visit (i.e., the travel cost), other individual characteristics, and, if possible, the price of visiting substitute sites. Depending on thedata, linear regression models, tobit, poisson and negative binomial equations are possible models for single−site travel cost data.

The second approach models the choice of one site among a number of possible candidate sites as a function of the attributes of all alternative sites, such as the price of a visit to each site and measures of the quality of the site. The latter include, for example, measures of water quality, catch rates, and the presence or absence of certain types of facilities, such as boating ramps, toilets, campsites, etc.

The model of choice among alternatives is motivated by the Random Utility Model, and assumes that individuals choose the alternative that gives them the highest indirect utility. Indirect utility is the sum of two components: (i) a deterministic component, which depends on the attributes of the alternative,including residual income (the individual income minus the price of a visit), and (ii) a random error.

Both single−site models and models of discrete choice among alternatives allow the researcher to calculate the consumer surplus, which is an approximation to the welfare experienced by an individual at the current conditions of the site, when the price of accessing the site is changed as a consequence of a policy, when the quality of the site is changed by a policy, and when a candidate site is eliminated or added (for example byrestricting access to a site or opening a new site).

Individual welfare changes are then added over the affected population, and combined with information about participation rates in the population to see how changes in quality or access fees or conditions at the site of interest will attract new visitors, or discourage current visitors.

Combination with other methods

The tool provides input for: Cost−benefit Analysis, regulatory impact analysis, multicriteria analysis, management of natural resources. The tool can be used with other non−market methods. Alternative tools are other non−market methods.

Strengths and weaknesses

Strengths:

  • use actual behaviors
  • users generally report reliable data

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Averting expenditures

Introduction

Averting expenditure methods are sometimes used to estimate the benefits of the human health effects of certain policies. The averting expenditure method simply measures the costs incurred by individuals to protect themselves from human health risks.

For example, if drinking water were contaminated, individuals would turn to drinking bottled water. The cost of bottled water is thus used to measure the benefits of eliminating pollution in the drinking water. Similarly, if individuals installed soundproofing materials in their homes to offset the noise from nearby traffic, the cost

of purchasing and installing these materials would be interpreted as a measure of the benefits of a noise−reducing policy or of re−routing traffic. It should be kept in mind, however, that these measures underestimate the true benefits of the policy, because the averting expenditure method does not capture the value of the disutility (discomfort) associated with any sickness caused by drinking polluted water or by the noise.

Combination with other methods

The tool provides input for Cost−benefit Analysis.The tool can be used with Cost−benefit Analysis, regulatory impact analysis and multi−criteria analysis. Alternative tools are other non−market valuation methods.

Strengths & Weaknesses

+ based on observed behaviors and market data

+ relatively simple to do

- underestimation of the true benefits of the policy

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Hedonic Pricing

Wikipedia Hedonic regression.

 

Market Method

 

Contingent Valuation

Wikipedia (2013). Contingent valuation.

 

Choice experiments

Other content using this term