Valuation 5: The Contingent Valuation Method Direct and indirect valuation methods Total economic value revised History of CVM Welfare measures with the.

Valuation 5: The Contingent Valuation

Method• Direct and indirect valuation methods • Total economic value revised• History of CVM• Welfare measures with the CVM• CVM study design• Validity, reliability, biases• Example: Seoul water

Last week

• Why econometrics? • What are the tasks?• Specification and estimation• Hypotheses testing• Example study

Direct & Indirect Valuation

• Direct methods – Constructed markets

• Contingent valuation method (CVM)• Choice modelling

Stated preference methods• Indirect methods

– Surrogate market• Hedonic pricing• Travel cost

Revealed preference methods

Geographic Characteristics

71

280

823

1131

41

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1200

Af rica Asia Europe North

America

South

AmericaSource: www.evri.ec.gc.ca

Valuation Technique

324

560

1427

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1200

1400

1600

Actual Revealed Stated

Environmental Assets

221

616

332

576

321

725

0

100

200

300

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500

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800

Air Animals Human Land Plants Water

Source: www.evri.ec.gc.ca

Environmental Goods and Services Valued

159

423

808

380

891

460

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Bui lt

environment

Ecological

f unctions

Extractive

use

Human health Non-

extractive

use

Passive use

Total Economic Value of Nature Goods & Services

Direct Use Values

Indirect Use Values

Option Values

BequestValues

Existence Values

Direct consumption

• Food• Biomass• Recreation• Health

Functional benefits

• Ecological functions• Flood control• Storm protection

Future direct & indirect use values

• Biodiversity• Conserved habitats

• Habitats• Irreversible changes

Value of leavinguse- and non-use values for future generations

Value of knowledge of continued existence

• Habitats• Endangered species

Values decreasingly tangible

Use Values Non-Use Values

Alternative definition of TEV

Direct Use Values

Indirect Use Values

Option Values

BequestValues

Existence Values

Use Values Non-Use Values

Direct consumption

• Food• Biomass• Recreation• Health

Functional benefits

• Ecological functions• Flood control• Storm protection

Future direct & indirect use values

• Biodiversity• Conserved habitats

• Habitats• Irreversible changes

Value of leavinguse- and non-use values for future generations

Value of knowledge of continued existence

• Habitats• Endangered species

Values decreasingly tangible

Classifications of TEV

• TEV of an environmental good and service to an individual can be classified according to– the user (use by self – use by others or not

used at all)– the use (use by self or others - never used by

anybody)– the time of use etc.

• How does this correspond to the classification of direct and indirect valuation?

Contingent valuation

• Revealed preference methods can only estimate the use value of the environment, and only if that value affects behaviour in a measurable and interpretable manner

• For the rest, we have to use either hypothetical markets or experimental markets (together: constructed)

• Experimental markets have delivered little estimates (but a lot of insights), so the contingent valuation method remains – this is a stated preference method

Contingent valuation (2)

• Interview people, ask them for their WTP or WTA for the environmental amenity of interest

• Advantage: Applicable to more than direct use value

• Disadvantage: Hypothetical, people are unfamiliar with the situation, all sorts of biases may occur, interview design is always hard

History• First applications in early 1960s to value outdoor

recreation• 1979 the Water Resource Council recommended CV

as one of 3 methods to determine project benefits• In the mid 1970s the EPA funded a research

program to determine the promise and problems of the method

• The Reagan Executive Order 12291 (1981) – All federal regulations on environmental policy should be

submitted to a Cost-Benefit Analysis

• 1989 governmental decision on legitimacy of non-use values for TEV and equal standing

• 1989 Exxon Valdez oil spill – value loss of non-use values for US citizens

Theoretical foundation• Constructed markets can directly obtain WTP or

WTA, the preferred Hicksian welfare measures– Other techniques obtain measures of the Marshallian

consumer surplus

• Consider an improvement in environmental quality and the WTP for it

• Respondent gives the difference between the two expenditure functions

• WTP is defined as the difference between the two terms

0

0 0 0( , ; , ) ( , ; , )

i

i

M M

e P q U X e P q U X

Estimating WTP and WTA

• For n respondents this produces a set of welfare measures Wi(i=1,…,i,…,n) where Wi is either WTP or WTA

• Estimating the WTP or WTA amount– Based on sample mean for W– Based on sample median for W– Based on -trimmed mean estimators with =0.05 or

=0.10 – Regress responses on income and other socio-

economic characteristics to obtain a bid function

• Aggregate across the total population to derive the total value figure

* * * *( , ) or ( , , )i i i i iB B M S B B q M S

WTP vs WTA• People view gains and losses differently

– WTP is limited to an individual‘s income– WTAC is unbounded

• Confirmed by empirical studies, but not uncontested• Implies that surveys, policies need to be carefully

designed • If an individual has the legal right, WTAC is the

appropriate concept• It can be difficult to determine property rights

(public goods)• Sometimes the current allocation is taken as the

legal entitlement– Improvements = WTP and reductions = WTAC

Design a CV study

• Define a market scenario• Choose an elicitation method• Design market administration• Design sampling• Design of experiment• Estimate WTP-function

Define market scenario

• What is being valued? A day at the beach, a view of the beach? Pollution of a single beach, or all beaches?

• What is being valued is a policy intervention or a change in pollution – these have to be plausible and comprehensible

• What is the payment vehicle? A tax, an entrance fee, a levy on parking – note that people have opinions on these

Choose elicitation method

• Direct question: How much are you willing to pay?

• Bidding game: Are you willing to pay X? If yes, X+d? If no, X-d?

• Payment card: Choose from a list of numbers, including comparisons

• Referendum choice: Are you willing to pay X? for different X, to many people

• (Note: we are looking for the maximum amount)

Example: Payment card

Source: R.T. Carson (1991)

Administration & Sample

• Mail: No feedback or clarification possible

• Telephone: Has to be simple and short, no graphical material

• In-person: Expensive, interviewer bias• Are the people approached a

representative sample? And those who answered? Does the survey itself induce a bias, for example, in knowledge?

Experiment & Estimation

• If one hypothesizes a relationship between WTP and income, then the suggested values (payment card, bidding game, referendum) have to be independent of income

• If one hypothesizes a relationship between WTP and political colour, then one should include a question about the interviewees political opinions

• But sample sizes need to be small, and interviews short!

Validity• Content (face) validity: Does what is

measured and what is supposed to be measured coincide?

• Criterion validity: Do the measured values correspond to other measurements of the same thing?

• Construct/convergent validity: Do the measured values correlate to measurements of similar things?

• Construct/theoretical validity: Do the measurements correspond to predictions?

Reliability

• The more familiar people are with the good and the scale, the more reliable the measured values

• For public goods, referenda and taxes are perhaps best; for (quasi-)private goods, individual questions and entrance fee may be better

• The payment vehicle may distort the measure

• Payment cards and perhaps bidding games give the most reliable results

Potential Biases• Incentive

– Strategic– Compliance

• Implied value– Starting point– Range– Relational– Importance– Position

• Misspecification– Theoretical– Amenity– Context

Incentive Biases

• The interviewee deliberately gives a false answer

• Strategic bias: Influence the outcome• Compliance/sponsor bias: Comply with

presumed expectations• Compliance/interview bias: Try to

please/impress the interviewer• Protest votes: Interviewees may object

to valuation per se, or to being interviewed

Implied Value Biases

• Starting point bias, in the bidding game• Range bias, in the payment card• Relational bias, if examples of other

contributions are mentioned• Importance bias: The fact that the

interviewer bothers to ask ...• Position bias, if multiple goods are

valued

Misspecification Biases -Context

• Misspecification of the market scenario• payment vehicle• property right: WTP/WTA• method of provision: like payment vehicle• budget constraint: ability to pay• elicitation: maximum WTP?• instrument: survey may confuse

interviewees• question order

Other Misspecification Biases

• Theoretical• Amenity/symbolic: The perceived good

is different than intended• Amenity/part-whole: The interviewee

thinks the good is wider or narrower than intended (geographical, issue, policy)

• Amenity/metric: Different measurement• Amenity/probability: Different

assessments of the chance of delivery

Example: Drinking Water in Seoul

• A: Interviewer introduction– Explain the purpose of the survey– Indicate that the interview takes less than 30

minutes

• B: Background– Opinion about current tap water quality (very good,

good, average, bad, very bad)– Measures the household has taken in the last five

years to improve water quality (installed water filter, purchased bottled water, boiled tab water regularly, gone to a spring)

– Monthly household net income (show card if refuses to answer)

Drinking Water in Seoul (2)

• C: Value of water quality– Describe major pollution accident in 1991– If no action, how likely is a repetition?– Describe pollution prevention system– What is the maximum your household would

pay in increased monthly taxes for the goal attainable with the new monitoring system?

• D: Socio-economic characteristics– Age, highest level of education, number of

household members, average monthly water and sewer bill