Economic Valuation of

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• Economic Valuation of
• Environmental of Impacts
• Session 5
• Nathalie Olsen

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Where are we?
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Aim of the Session

• To introduce economic valuation and to place it
  into context in the IAP process

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Overview of topics for this session

• What is economic valuation?
• Why is economic valuation important?
• Techniques for economic valuation
• Market-based techniques
• Travel Cost Method
• Hedonic Methods
• Contingent Valuation
• Benefit transfer
• Limitations of economic valuation

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What is economic valuation?

• Attempts to quantify and express in monetary
  terms the full value of environmental resources
• For private goods, prices reflect relative
  scarcity and peoples willingness to pay
• Prices for environmental goods do not exist or do
  not reflect full value of resource
• Nature of environmental goods and services
• Not well-defined (ecological functions)
• Unclear property rights (fish stocks,
  groundwater)
• Public goods (clean air)
• Economic values need to be derived

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Why is monetary valuation important?

• Planning process is influenced by economic
  analysis (CBA)
• Goods and services which have quantities and
  prices can be taken into account in
  decision-making process
• Economic valuation helps to bring the environment
  into decision-making process

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Total Economic Value

• Use values
• Direct use (timber, other forest products)
• Indirect use (ecological functions)
• Option value (WTP to conserve for future use)
• Non-use values
• Existence value (WTP to know an asset exists)
• Bequest value (WTP to pass on asset to next
  generation)
• TEV Direct Use Value Indirect Use Value
  Option Value Existence Value

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Some basic concepts for cost-benefit analysis

• Economic versus financial analysis
• Shadow pricing (including externalities)
• Discounting
• Time horizon
• With and without project/policy scenarios

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Steps to link environmental impacts with their
valuation

• Based on an environmental assessment - physical
  indicators
• List all environmental issues to be examined in
  the planning process
• Set priorities based on which issues are most
  important for most stakeholders
• Quantify in physical terms the impact/damage
• Identify which impacts/damages could be valued in
  monetary terms

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Techniques to place monetary values on
environmental impacts

• Market based methods
• Production function approach
• Cost of illness approach
• Cost-based approaches

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Production function approach

• The environment is an input into the production
  of a marketed good
• Based on damage function which relates cause
  (soil erosion) to effect/damage (reduced soil
  fertility)
• Applicability deforestation, wetland and reef
  destruction, water pollution in agricultural and
  fisheries
• Measures use value of resources

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Costs and Benefits of Rainforest Conservation in
Cameroon
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Cost of Illness Approach (1)

• Costs of air/water pollution estimated by looking
  at costs of human health impact
• Dose-response function identifies relationship
  between level of pollutant and degree of health
  effect (water quality and diarrhoea)
• Value health effect based on cost of illness,
  including
• cost of medicine, doctors visits, hospital stays,
  other incidental expenses
• Loss of earnings due to illness

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Cost of Illness Approach (2)

• Applicability
• Value health costs of water and air pollution
• Limitations
• Dose-response functions not available locally
• Does not measure WTP to avoid illness

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Cost-based approaches

• Opportunity cost approach
• Cost effectiveness analysis
• Replacement cost approach
• Defensive expenditure approach
• Limitations
• Costs significantly underestimates benefits
• Use when not possible to quantify benefits
• Applicability
• When benefits are very difficult to value

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Opportunity Cost Approach

• Uses CBA and market prices to estimate benefits
  of alternative use of resource
• Cost of conservation foregone income from
  alternative use of land
• Application resources for which difficult to
  quantify benefits such as
• Tropical forests, wildlife sanctuaries,
  cultural/historical sites

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Replacement Cost Approach

• Estimates the costs required to replace damaged
  resource or to restore damaged resource to
  original state
• Applicability
• When remedial action must be taken to meet a
  standard (air or water quality)
• When environmental effect requires expenditure to
  replace natural asset (roads, dams, soil, water)
• Limitations
• Assumes complete replacement or restoration is
  possible

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Cost-effectiveness analysis

• Choose the most cost-effective means of reaching
  a pre-set target
• Applicability
• Social programmes (health and population)
• Examples
• maximum level of exposure to a waterborne disease
  agent
• emission standard for industrial facilities
• Limitations
• Compares alternative means of reaching target,
  but can not identify whether alternative are all
  too costly

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Defensive/Preventative Expenditure

• People act to pre-empt damage
• Expenditures provide estimate of minimum
  valuation of potential damage to health or
  environment
• Applicability
• Assess demand for public services (water supply,
  electricity, rubbish collection)
• Example
• to assess demand for urban water supply project,
  look at how much people pay for water from other
  sources to avoid exposure to water-borne
  pathogens
• Provides lower-bound estimate of social benefits
  of public services
• Limitations
• There must be no secondary benefits to expenditure

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Travel Cost Method

• Uses expenditures (transport costs and time) to
  reach a site to estimate willingness to pay
• Application
• recreational areas, national parks,
  historic/cultural sites
• time spent collecting fuel wood and water
• Limitations
• Requires survey, skills
• Measures only use value

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Travel cost method Viewing Value of Elephants,
Kenya

• Survey of tourists and expenditures at national
  park
• Results
• tourists were willing to pay an extra 20-24
  million per year to ensure that they saw
  elephants
• Information used to set park admission prices
• Revenue from parks could be far greater than
  revenues from ivory trade and other uses of land

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Hedonic Methods Approach

• Uses market price of a good to estimate the value
  of an environmental attribute which is embedded
  in the price of the marketed good
• Example house (size, construction, location,
  environmental and aesthetic attributes, e.g.
  clean air)
• Application
• property prices and air pollution/aesthetic
  traits and access to water supply and rubbish
  collection
• Job markets and risks to life
• Limitations
• requires survey, lots of data, economic
  theory/econometrics
• Relies on existence of properly functioning
  land/property and labour market

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Contingent valuation

• Ask individuals what they are WTP for a change in
  environmental attribute
• Based on hypothetical market
• Requires that respondents understand well the
  good they are being offered and that they answer
  truthfully
• Application
• Changes in the provision of public services
• Only method to measure existence value
• Limitations
• Requires rigorous survey, economic skills
• Due to hypothetical nature, subject to many biases

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Benefit transfer

• A valuation estimate for the same/similar
  environmental good from another location is used
  as a rough approximation locally
• Application
• Value of recreational and protected areas
• Dose-response functions for impact of air and
  water pollution on health
• Damage functions for agriculture (soil erosion)
• Limitations studies must exist, differences must
  be adjusted for

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Limitations of valuation

• Income distribution
• Intergenerational equity
• Risk and uncertainty (unknown thresholds)
• Irreversibility (unknown future uses)
• Large margin of error

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Choosing Valuation Techniques