The Economic Value of Pneurop’s Green Challenge 2020: The Economic Value of Sustainability Scientific Director CEO Prof. Dr. Phoebe Koundouri Dr. Osiel.

The Economic Value of Pneurop’s Green Challenge 2020: The Economic Value of Sustainability

Scientific Director CEO

Prof. Dr. Phoebe Koundouri Dr. Osiel González Dávila

[email protected] [email protected]

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Prof. Dr. Phoebe Koundouri

Scientific Director, ICRE8: International Centre for Research on the Environment & the Economy

http://www.icre8.org

Professor in Environmental, Natural Resources, Energy Economics & Econometrics, Athens University of Economics & Business, GREECE

http://www.aueb.gr/users/koundouri/resees/

Senior Research Fellow, London School of Economics, UK http://www.lse.ac.uk/GranthamInstitute/profile/phoebe-koundouri/

e-mails: [email protected]; [email protected]

Vice president of the European Association of Environmental and Resource Economistshttp://www.eaere.org/

Session plan

1. The Pneurop Green Challenge 2020.

2. How can ICRE8 help you?

3. The Economic Value of Sustainability.

4. Valuation Methods with Applied Examples.

5. Cost-Recovery Mechanisms and Policies.

6. European Commission: Horizon 2020.

1.The Pneurop Green Challenge 2020

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What is the Pneurop Green Challenge 2020?

To put Compressor and Vacuum technologies on the agenda of sustainable technologies, contributing to meet the overall EU challenge of 2020.

To bring forward the capability of compressors and vacuum pumps as natural, innovative and viable solutions for a large number of process applications.

By confining or increasing efficiency of various processes in reducing usage of harmful chemicals.

By allowing development and manufacture of materials that will allow the meeting of energy efficiency targets.

By enabling the new hydrogen economy.

By allowing the use of a safe energy media compatible with various demanding environments.

Externalities, Public Goods, Total Economic Value

Economic Translation of Pneurop Green Challenge 2020:

1. Reduction of Externalities: Health and Environment

2. Energy Efficiency and Energy Safety

3. Investment in Renewable Energy Resources

External Costs of Energy

Externality: Air pollution from a factory

Quantity of output

Marginal damage from pollution

Pri

ce a

nd

cos

t (€

per

un

it)

Externality: Air pollution from a factoryP

rice

an

d c

ost

(€ p

er u

nit

)

Quantity of output

MSC

MPC

D=MB

Q0Q1

P0

P1

Deadweight loss

MSC = MPC + Marginal Damage from pollution

MSC = Marginal Social Cost

MPC = Marginal Private Cost

Demand curve is the same as the marginal benefit curve: D = MB

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Market Failure

Environmental resource is a Public Good

Not explicitly traded in any market

No market price exists to reveal TEV (Hidden demand).

We need to retrieve TEV via WTP

Non-market Valuation Methods

2. How can ICRE8 help you?

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www.icre8.org

Environment, Energy, Economy, Eco-innovation and e-versions

Environment, Energy, Economy, Eco-innovation and e-versions

ICRE8 MISSION STATEMENT

ICRE8 does interdisciplinary research on environmental, natural resources and energy issues, for a variety of circumstances and stakeholders and across different temporal and spatial scales.

The overreaching goal of ICRE8 is to support the understanding and implementation of Sustainable Development, as the only non-self-destructive path of socio-economic development, and the pursuit of excellence in the conduct and presentation of research.

Define Sustainable/Green Development (SD): Why do we care?

• SD: a pattern of resource use

• that aims to meet human needs

• while preserving the environment

• so that these needs can be met not only in the present, but also for future generations.

• Any other development path puts the society • consumers

• producers

• businesses, including financial institutions

on self-destructing rotations.

Research tools include

financial analysis

socio-economic and econometric analysis

environmental valuation

political and institutional analysis

integrated environmental-economic modeling

cost-benefits analysis

multi-criteria analysis

life cycle analysis

risk analysis

geographical information systems

multi-stakeholder mediations techniques

game theory

information technology decision making tool development

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Completed & Ongoing Projects

Funded Research Projects

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e-LUP - Simulating Land Use Processes

3. The Economic Value of Sustainability

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Total Economic Value

Provides a systematic tool for considering the full range of impacts on the environment and on human welfare.

TEV reflects the preferences of individuals.

Preferences can be studied and estimated by stated preference methods and revealed preference methods

Quantifying the impacts of environmental degradation on human welfare is essential for the development of well-informed investments and policies.

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 Structure & Processes

 Environmental Functions

 HumanBenefits

AnthropocentricValues

Use Non-Use Values Values

Valuation

Total Economic Value

Use Value Non Use Value

Actual Use Value

Option Value

Existence Value

For Others

Direct Use Value

Indirect Use Value

Bequest Value

Altruistic Value

Environment 

Total Economic Value

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4.Valuation Methods with Applied Examples

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Valuation Methods with Applied Examples Relevant to Pneurop’s Green Challenge

The main approaches for environmental impact valuations can be broadly classified into revealed and stated preference techniques.

Revealed preference methods use market data to elicit preferences of a consumer among bundles of goods, given their budget constraint.

Stated preference methods use structured questionnaires to elicit individuals’ preferences for a given change in a natural resource or environmental attribute.

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Hedonic Price Method

Can be used to estimate the demand for air quality improvements.

The most common implementation of hedonic pricing is in the housing markets.

The theoretical structure behind hedonic pricing assumes that households, when making housing choices, consider a vector of characteristics including among others environmental factors as air pollution.

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HPM Example

Koundouri, P., & Kougea, E. (2011). Air Quality Degradation: Can Economics Help in Measuring its Welfare Effects? A Review of Economic Valuation Studies.

Air pollution and environmental degradation can have direct impact on property values. It is expected that properties in areas with severe pollution problems will experience lower prices compared with properties located in areas of high air quality.

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HPM Example

HPM involves the estimation of a hedonic housing value equation with air pollution or other environmental factor as one of the housing attributes.

Econometrical analysis will reveal each household’s willingness to pay for a marginal change in air pollution from the hedonic housing value equation.

A marginal WTP function for all households in the urban area examined is analogous to a demand curve for clean air.

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Results

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Authors Study Area

Valuation Technique

Environmental Impact / Good to be Valued

Results

Kamavora (2009)

MoscowHedonic pricing

Relationship between air pollution and housing prices

Ecological variable had a negative sign while increasing the level of air contamination from carbon monoxide, nitrogen dioxide, sulphur dioxide and particles

Marginal WTP for air quality, $|

Pollution VariablesParticles (TSP)Carbon monoxide (CO)Sulphur dioxide (SO2)Nitrogen oxides (NOX)Hydrocarbons (HC)

Choice Experiment Method

In a CE framework, the good in question is broken down into its component attributes, which are presented to respondents normally as a set of combinations of the attributes.

Respondents are then presented with a sequence of choice sets differentiated by its attributes and levels

CEM Example

Yoo, S. H., Kwak, S. J., & Lee, J. S. (2008). Using a choice experiment to measure the environmental costs of air pollution impacts in Seoul. Journal of environmental management, 86(1), 308-318.

Air pollution, a by-product of economic growth, has been incurring extensive environmental costs in Seoul, Korea.

Air pollution impacts are not treated as a commercial item, and thus it is difficult to measure the environmental costs arising from air pollution.

There is an imminent need to find a way to measure air pollution impacts so that appropriate actions can be taken to control air pollution.

CEM Example

This study applies a choice experiment to quantifying the environmental costs of four air pollution impacts (mortality, morbidity, soiling damage, and poor visibility), using a specific case study of Seoul.

The trade-offs between price and attributes of air pollution impacts for selecting a preferred alternative and derive the marginal willingness to pay (WTP) estimate for each attribute.

According to the results, the households’ monthly WTP for a 10% reduction in the concentrations of major pollutants in Seoul was found to be approximately 5494 Korean won (USD 4.6) and the total annual WTP for the entire population of Seoul was about 203.4 billion Korean won (USD 169.5 million).

Laboratory Experiment Method

Experimental methods provide an important and inexpensive means for weeding out and improving bad theories.

By studying the decisions of individuals motivated by real money within well defined and controlled institutional contexts, one can gain deep insights about valuation of public goods or bads!

LEM Example

Drichoutis, A., Koundouri, P., & Remoundou, K. (2014). A Laboratory Experiment for the Estimation of Health Risks: Policy Recommendations. In Water Resources Management Sustaining Socio-Economic Welfare (pp. 129-137). Springer Netherlands.

In order to assess the social cost from consuming products produced in an area where water resources are not in good condition the authors conducted a lab experimental auction.

Participants were asked to bid to exchange an agricultural product (potatoes) from region A (polluted with heavy metals) with a similar product from a region in a good ecological status, region B.

The aim was to elicit WTP a premium to avoid potential health risks related to heavy metal contamination.

Results

• Consumers are indeed WTP a premium to exchange their agricultural endowment.

• Mean bid is 60 cents per kilo of potatoes.

• Gender, income, households with underage kids and education do not seem to influence bidding behaviour in a statistically significant way.

Contingent Valuation Method

The CVM is based on the development of a hypothetical market or scenario in which the respondents to a survey are given the opportunity to state their Willingness-to-Pay (WTP) or Willingness-to-Accept (WTA) for marginal changes in a non-market good or service.

CVM Example

Koundouri, P., Kountouris, Y. and Remoundou K. (2009).“Valuing a Wind Farm Construction: A Contingent Valuation Study in Greece”. Energy Policy, 37, 1939-1944.

The analysis is based on data from a double-bounded dichotomous choice contingent valuation study implemented to elicit public attitudes towards renewable energy generation and their willingness to pay for the construction of a wind farm in the area of Messanagros in the island of Rhodes, Greece.

CVM results

Significant positive values deriving from the proposed project.

Respondents report a mean willingness to pay a premium in their bi-monthly electric bills of €8.86 for the sole purpose of the construction of the wind farm.

The estimated economic benefits to the local population are weighed against the investment cost in a cost–benefit analysis to inform policy making and implications for EU energy policy are provided.

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Cost - Benefit Analysis

CBA is a technique that assesses the monetary social costs and benefits of an investment project over a time period in comparison to a well-defined baseline alternative.

In a CBA framework, the estimated economic values accrued by the involved stakeholder groups are aggregated over their relevant populations and added to capture the TEV generated by the investment project.

To assess the economic efficiency of the wind farm construction, the aggregate benefits estimated from the contingent valuation application are used to conduct CBA for the construction of the wind farm based on the total economic value.

CBA Future Cash Flows

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Discounting

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Once costs and benefits are expressed in monetary units they should be converted to present value terms by discounting

NPV= NBt[(1+r)-t]

where X= cost or benefitr = discount rate[(1+r)-t] discount factort = time

The higher the value of (t) the lower the discount factor.The higher the discount rate for a given (t) the lower the discount factor.

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Cost-Benefit Analysis

The economic life of the wind farm is 20 years

The construction cost that will be incurred exclusively in the first year is €5,121,000

The maintenance cost is 0.0108 €/KWh/year

NPV of the anticipated benefits appears to be large enough to cover the construction and maintenance costs for the economic life of the project

The wind farm construction results in an increase of the overall social welfare. NPV under the low estimates

NPV under the midpoint estimates

NPV under the high estimates

Discount Rate

Is Discounting so straight forward?

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‘Humanity has the ability to make development sustainable: to ensure that it meets the needs of the present without compromising the ability of future generations to meet their own needs.’ WCED, 1987.

• ‘There is something awkward about discounting benefits that arise a century hence. For even at a modest discount rate, no investment will look worthwhile.’ The Economist (1991), March 23, p 73.

• In the decade since that comment in The Economist, the nature of the problem with long-run discounting has become clearer.

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Constant discount rates (CDRs) s

Time declining discount rates (TDDRs) s(t)

Utility discounting

ρ

Consumption discounting μg

Uncertainty about the

future

Future fairness

Uncertainty about discount rate (s)

Weitzman Koundouri et al.

Uncertainty about

growth (g) Gollier

Chichilnisky Heal

Li & Löfgren

Observed individual

choice

Hyperbolic discounting Cropper et

al

Discounting

Example Climate Change

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0

0.2

0.4

0.6

0.8

1

1.2

2000 2050 2100 2150 2200 2250 2300 2350 2400

Year

An

nu

al

da

ma

ge

= m

itig

ati

on

be

ne

fit

($/t

C)

Time Schedule of 1 tone of CO2 emission

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0

10

20

30

40

50

60

Flat Rate (6%) Flat Rate(3.5%)

GammaDiscounting

Gamma SlidingSchedule

Li and Lofgren HyperbolicDiscounting

Ma

rgin

al

da

ma

ge

(p

res

en

t v

alu

e,

$/t

on

ne

)

NPV (200 years) NPV (400 years)

Example Climate Change

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The main result is that estimates of the social cost of CO2 emissions will at least double if declining discount rates are used!  This will have a huge impact on policies:

(a) Increase the NPV of Kyoto Protocol target achievement.

(b)  Increase the estimate of the social benefit of replacing dirty with clean energy and hence change relevant subsidization.

(c) Increase incentives for green innovation and renewable energy investments.

Example Climate Change

The Need for Time Declining Social Discount Rate…

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There are powerful reasons for choosing a declining social time preference rate. This conclusion is supported by robust recent theoretical work, which has taken several different approaches to the subject.

The data best suited the policy-makers' need were produced by Newell & Prizer (2003) and Koundouri et al (2005).

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Suggested Step Schedule of Discount Rates

Period of Years Discount Rate (%)

0 – 30 3.5

31 – 75 3.0

76-125 2.5

126-200 2.0

201-300 1.5

301 + 1.0

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Effect of shift from flat 3.5% to the step schedule of discount rates

Project Time Horizon Potential Effect on Project NPV0 - 30 years SMALL, generally insignificant

30 - 100 years SIGNIFICANT (± 50%)

100-200 years LARGE (± 100%)

200-400 years MAJOR (± 150%)

Declining Discount Rates have been adopted by:

• UK: 2003: 3.5% for first 30 years, then declining schedule

http://www.aueb.gr/users/koundouri/resees/uploads/socialdiscounting.pdf

• FRANCE: 2005 (reviewed on 5 year cycle) : 4% for t < 30 years, 2% for t > 30 years.

• USA: 2006: 3.0% or 7.0% depending type of cash flow, lower rates for longer-term.

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Meta-Analysis Method

• Meta-analysis is the use of statistical methods to combine results of individual studies.

• This allows the best use of all the information gathered in a systematic review by increasing the power of the analysis.

• By statistically combining the results of similar studies one can improve the precision of our estimates of treatment effect, and assess whether treatment effects are similar in similar situations.

MAM Example

• Delucchi, M. A., Murphy, J. J., & McCubbin, D. R. (2002). The health and visibility cost of air pollution: a comparison of estimation methods. Journal of Environmental Management, 64(2), 139-152.

• Meta-analysis of hedonic pricing studies addressing health risks from air pollution. The WTP estimates in next slide (VAUS) is the total national household WTP for the visibility change from pollution in residential areas of the United States.

• Visibility cost refers to loss in visibility due to anthropogenic emissions. The authors assume that in the absence of anthropogenic air pollution, the visibility range would be 80 to 100 miles.

Results

a Total annualized household WTP to eliminate anthropogenic TSP pollution.b annualized household health cost of anthropogenic emissions, equal to VA multiplied by the assumed health share of total costs.c annualized household visibility cost of anthropogenic emissions, equal to VA multiplied by the assumed visibility share of total costs.d Includes fine PM (less than 2_5 mm) and coarse PM (between 2_5 mm and 10 mm).e Includes NO2 weighted by its relative light-absorption effect, and particulate nitrate weighted by its relative light-scattering effect.f Particulate sulfate weighted by its relative light-scattering effect.g Secondary organic aerosol weighted by its relative lightscattering effect.h The effect of removing all pollutants at once.i The sum of the effects of removing pollutants one by one. This is not the quite the same as the effect of removing all of them at once, because the damage function is nonlinear. The difference, however, is not great.

Benefit Transfers Method

• A practice used to estimate economic values for ecosystem services by transferring information available from studies already completed in one location or context to another.

• This can be done as a unit value transfer or a function transfer.

• Policy-effective because:

- Cheaper in terms of time!

- Cheaper in terms of money!

BTM Example

• Koundouri, P., Papandreou, N., Stithou, M., & Dávila, O. G. (2014). A Value Transfer Approach for the Economic Estimation of Industrial Pollution: Policy Recommendations. In Water Resources Management Sustaining Socio-Economic Welfare (pp. 113-128). Springer Netherlands.

• In order to assess the welfare impacts associated with improvements in water bodies of Asopos basin we are using existing valuation literature and our expertise in transferring values from relevant and comparable projects.

BTM Example

• Only studies with a common environmental stressor (industrial pollution).

• Studies value similar impacts, share similar baseline scenario and the location is as close to policy site as possible.(only studies undertaken in the European territory and Mediterranean were used).

• Value transfer estimate for improvement of the ecology of the river from ‘bad’ to ‘very good’: is €116.94 per household per year.

• Value transfer estimate for a maximum improvement of the ecology of the wetland: €14.45 per household per year.

• Value transfer estimate for improvement of groundwater quality: €0.021 per m3

6.Cost recovery mechanisms and policies

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Construction of a baseline scenario

Date at which sustainable equilibrium is achieved

Cost-recovery mechanisms

• Pricing

• Tradable permits

• Quotas

• Taxes/subsidies

• Charges

• Direct Controls

• Educational/Awareness Campaigns

• Voluntary Agreements

• Legal Instruments

…and GREEN INVESTMENTS IN:

• Pollution Control and Remediation (Air, Hazardous Substances, Waste, Water, Coast, Cultivated Land)

• Resource Conservation and Management (Fisheries, Forest, Historic Sites, Minerals, Oil & Gas, Parks, Biodiversity/Species, Water)

• Planning, Land Use and Infrastructure (Municipal Planning, Land Use, Transportation Infrastructure, Energy infrastructure)

• Renewable Energy Sources (Solar, Wind, Bio-mass, Natural Gas, Bio-fuels, Photovoltaic, fuel cells, geothermal, etc.)

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Needs High Env Awareness

Classification of Economic Instruments

Economic Instrument Advantages Disadvantages

1. Standards and Quotas 

  Not economically efficient

2. Water abstraction charges

Adjustment of price signals to reflect actual resource costs; encourage new technologies; flexibility; generation of revenues

Low charges will have minimal impact on user behavior and will continue in resource over-utilization; Difficult to police

3. Pollution charges Same as water abstraction charges; polluter-pays principle

Same as water abstraction charges

4. Subsidies on water saving measures 

Readily acceptable Financial Constraints

5. Tradable permits 

Quantity based targets that are able to attain least-cost outcome. Allows flexibility.

May entail high transaction costs

6. Voluntary agreements 

Readily acceptable  

7. Liability legislation Assess and recover damages ex-post but can also act as prevention incentives

Require an advanced legal system; high control costs; burden of proof

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Time to IntroduceSustainable Finance (SF)

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SF: Concept & Activities

• Concept: Activities that enhance the financial industry, while improving the environment and the allocation of natural capital promoting sustainable economic growth.

Activities:

• Financing ‘green’ enterprises and technologies, which are essential for a healthy/sustainable economic growth.

• Development of ‘green’ financial products and ‘green’ investors.

• Efficient operation of emissions and other trading markets.

• Consideration of environmental risks in lending decisions.

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Global Trend…

• Indicative of the global trend is the dramatic growth of investment in Clean Energy and Carbon Market.

Source: World Economic Forum

• Growth barely dented by the global economic and financial crisis.

• Trend expected to resume.

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Examples

Retail Finance Corporate Finance Green Mortgage Green Home Equity Loan Green Commercial Building Loan Green Car Loan Green Credit Card

Green Project Finance Green Securitization Green Venture Capital & Private Equity Green Technology Leasing Carbon Finance

Asset Management Insurance Fiscal Fund (Treasury Fund) Eco Fund Carbon Fund Natural Disaster Bond

Auto Insurance Carbon Insurance Catastrophe Insurance Green InsuranceStrengthening Environmental Risk Assessment in Financing (Avoiding Default, Maintaining Collateral Value, Maintaining Good Reputation, Complying with Legal Issues on Environment, Creating Value, …)

What can your company benefit?

• The accurate estimation of the social benefit that can be obtained from reduction of externalities can give your companies the power to negotiate subsidies and favorable policies.

• The existing economic instruments can allow such bargaining.

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6.H2020

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H2020

• Industrial Leadership: This pillar aims to speed up development of the technologies and innovations that will underpin tomorrow's businesses and help innovative European SMEs to grow into world-leading companies.

• It consists of 3 specific policies:

1."Leadership in enabling and industrial technologies"

2. “Access to risk finance"

3. "Innovation in SMEs"

"Leadership in enabling and industrial technologies"

• Will provide dedicated support for research, development and demonstration and, where appropriate, for standardisation and certification, on information and communications technology (ICT), nanotechnology, advanced materials, biotechnology, advanced manufacturing and processing and space.

• Emphasis will be placed on interactions and convergence across and between the different technologies and their relations to societal challenges. User needs will be taken into account in all these fields.

“Access to risk finance"

• Will aim to overcome deficits in the availability of debt and equity finance for R&D and innovation-driven companies and projects at all stages of development.

• Together with the equity instrument of the Programme for the Competitiveness of Enterprises and small and medium-sized enterprises (COSME) (2014‑2020) it will support the development of Union-level venture capital.

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"Innovation in SMEs"

• Will provide SME-tailored support to stimulate all forms of innovation in SMEs, targeting those with the potential to grow and internationalise across the single market and beyond.

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The EU climate and energy package - up to 2020

The way to stay on a path of SD:

(i) set prices to reflect social costs

(ii) set thresholds (targets) for key indicators

(iii) use improved measures of social welfare

(iv) make enterprises adopt sustainability as a corporate goal.

A Project Proposal: Building a SDI at firm/industry level

• Sustainable Development Indicator (SDI) at the firm level which would provide investors in private and public sector projects with a screening tool for their investment choices indicating whether the outcomes of the strategies pursued by the underlying firms are in line with sustainable development.

• The characterization of corporate performance measures as SD compliant recognizes the shift in investors’ attitudes towards more environmentally sustainable investment projects and at the same time identifies and rewards those private and public corporate agents who choose to align their strategies with what consumers and society at large perceive as sustainable and welfare-enhancing.

Published Books