Valuing Impacts from

Observed Behaviour: Indirect

Market Methods
Revealed Preference Method
Market Analogy Method
• Both government and private may provide the good
• Education
• Health
• Housing
• Basic services
• What is the value of government good or service?
• Price asked by government may not reflect the value of the product
• Will it be possible to obtain estimate of the shadow price from similar
good provided by the private sector?
Market Price of Analogous Good as Shadow Price
• Government school
• Government school fees = Rs 0/month
• Beneficiaries / student = 20
• What is the value of education?
• Private school fees = Rs. 5000/ month
• Value of education
• 5000 x 20 = Rs 100000 ?
• Depends on condition
Condition when Market Price is shadow price of public good
• Using the market price would be an appropriate estimate of the value
of the publicly provided good if
• It equals the average amount that users of the publicly provided good would
be willing to pay
• Works only when those who are using public and private are same set of individuals
• But the beneficiaries of public education may be willing to pay less than Rs.
2000/ month but more than Rs. 0/month
• underestimating
• Poorly targeted: rich get public education and poor get more private
education
• Underestimation
• market price would be a lower bound for their willingness to pay (WTP)
Government wants to measure gross benefits of
proposed free education Consumer surplus of beneficiaries of government school
Government education charge 0 = (10000 x 20 )/2 = Rs 100000

Consumer value by Indirect Market Method

Fees (Rs/month)
= 5000 x 10 = Rs. 50000
10000

• Underestimation
• People would be willing to more than
5000
Rs. 5000 / month
• People would be willing to more than
0 but less than Rs. 5000/ month

10 20 students
When we may use the private expenditure as measure of value of
government service?
• Public and private school’s facilities and quality same
• Communities using public and private schools are similar with regard to
income and tastes
• Otherwise,
• Lower limit of shadow price / value of government education
• Hedonic pricing method
Trade-off method: Value of Time Saved
• Government projects saves people’s time
• Time of commuting
• Travel time
• Waiting time for government services
• How would you value time saved? What is the shadow price of time saved?
• Time saved used in leisure
• Marginal social value of product / output
• Shadow price of leisure?
• Wage rate
• Pre-tax or post tax?
• People make decision on post-tax wages
• Post tax + other benefits
Problem of estimation

• People multitask
• Overestimation if wage rate is used as shadow price
• People love traveling
• Overestimation if wage rate is used as shadow price
• 0.45 of after tax wage rate
• Farms may not pay marginal social value of output
• May not take account of externalities
• Overexploit workers
• Work many not be available
Trade-off method: Value of Statistical Life
• Value of a person to society for the rest of his/her lifetime equals present
value of his/her future earnings
• Young vis-à-vis old
• Rich vis-à-vis poor
• Foregone Earnings Method
• Assumes
• Full employment
• Workers paid their marginal social product
• Statistical life saved as against individual life saved (Thomas Schelling)
• Safety measures does not save life of few identified individuals, rather reduces risk of
death to all users
Value of Safety Measures
• How much people are willing to pay to pay for reductions in their risk
of death that are of the same magnitude of the reduced risk that
would result from proposed safety improvements
• Indifferent after paying
• Determine Value of a statistical life
Value of Public Safety Measures: Airbag V (life)
w)
p +
ive(
L
Die (1
- p - w)
g 0
i rba
u ya C
B - V (life)
indifferent
(p)
e
Not
buy Liv
airb If w = 1/10000 and 10000 people buy
ag Die Then 1 statistical life is saved
(1 - p)

Indifferent 0
(p + w)V – C = pV

V = C/w
Problems
• People may not have cognitive ability to judge w
• p and w may be different for different beneficiaries
• Self-selection bias of risk seeker – if not corrected underestimation
• Diminishing utility for safety
Intermediate Good Method
• Value of education
• Value of education = Income (with education) – income (without
education)
• If education has some other value than increase in income then it
underestimates
• If higher education is outcome of higher motivation or ability then it
underestimates
 Asset Valuation Method
• Event studies
• Event window
• Abnormal returns (to a security) = returns (to security) in the
presence of an event – expected return (to security) in the absence of
the event
• Cumulative abnormal return during event window - total return to
the shareholders that can be attributable to the event
 Hedonic Pricing Method
• Price of asset may increase/decrease due to positive/ negative externality
• Problems of omitted variables and self-selection bias tackled by estimating
hedonic price (implicit price) function
• Price of housing depends on view
• What is the shadow price of view?

• VIEW = scenic view (measured in 1 to 10 scale)

• CBD = distance from central business district
• SIZE = size
• NBHD = neighbourhood
• Estimation of function

• Hedonic price of scenic view

Hedonic Price Method
• Regress

• Y household income
• Z household characteristics
• estimated from previous equation

• Form present equation Change in consumer surplus due to change in VIEW

• Sum over all consumers to get total
• Implicit price scenic beauty
Hedonic Models to Determine Value of
Statistical Life