Estimating Value

For Dam Construction Case

• Economists use various techniques to
estimate different kinds of values.
2.1. Types of value
 Value
• The term value is used in many ways in studies on
the economic valuation of goods and services,
including use values and non-use values.

• It is important to clarify the meanings of the

different types of values, as the term can have
distinct meanings. The working definitions and
discussions of non-market values.
 Use values
 Use value refers to the benefit a user obtains,
either directly or indirectly, from participating in
an activity.
Consumptive use can be described as participation
in activities that utilize and possibly deplete the
resources (e.g. hunting, fishing and tree cutting);
while
non-consumptive uses are those uses or activities
that do not affect the resource (e.g. bird-watching
in a national park, appreciating a view at a look-
out).
 Non-use values
 Non-use values do not involve any actual physical
consumption of the forest goods and services.
– Examples of non-use values include increases in
productivity, wellbeing, health, longevity (long life), and
feelings of peace and tranquility and a decrease in stress
levels.
– They are further classified as existence, option, quasi-
option, bequest and vicarious values
1. Existence values are those benefits that are
derived from the knowledge that non-timber
amenities and resources will continue to exist
regardless of the fact that the amenity or the
resource may never be used, seen or visited.
2. Option value relates to the willingness to
pay for an option to have the resources or
services available in future when there is
uncertainty attached to its supply.

In simple terms, the option value has been

defined as “the value of the opportunity for
obtaining better information by delaying a
decision that may cause irreversible
changes” .
3. Quasi -option value is slightly complicated, it
relates to the willingness to pay to avoid an
irreversible development given an expectation that
knowledge about the impact is in the offing.
If you choose not to decide, You still have made a
choice
Quasi-option value = Value of the development
opportunity including delay option - Expected net
present value .
4. Bequest value is the value assigned
to preserving a resource for use by
future generations.
In a forestry context, a bequest value
could occur if an individual is willing
and able to pay for the preservation of
a forest resource so that his children
and grandchildren find the resource in
an intact state
5. Vicarious value deals with the value placed on
a resource that may have never been used or
planned to be used, but

benefit may be derived from mere pictures,

descriptions and other representations of the
resource.

Vicarious values may include the information

that certain rare species of animals like spotted
owls, pine Martens, peregrine falcons, red fox,
chilada baboons, Waliya Ibex, etc.
 2.2.VALUATION METHODS
The methods adopted for the economic valuation
of natural resource goods and services generally
include
•direct methods, which determine the value a
person is willing to pay for the products or goods
through a resource survey instrument.
•Indirect methods are also used to determine the
value of natural resource goods and services.
VALUATION METHODS
 Indirect Use Value – The Value of Ecological
Services

• Ecological services include nutrient cycling,

atmospheric processes, carbon cycling, clean air,
clean water, and biodiversity.
• Since people do not always understand the link
between ecological services and their well-being,
it makes the valuation process more difficult.
 Techniques for Measuring the Value of Non-
market Goods
• 2. major categories for measuring the value of non-
market goods include:
– Revealed preference techniques, which look
at decisions people make in reaction to
changes in environmental quality.
– Stated preference techniques, which elicit
values directly through survey methods.
 1. Revealed Preference Approaches-
1. Hedonic Pricing Technique
• Hedonic wage/ property value- eg. Assume two
houses A & B with the same quality but in different
location.
• House A (in polluted area) - costs 400 birr rent
• House B (in clean area) – costs 500 birr rent
• Then 100 birr difference is the cost of pollution
 Hedonic Pricing Technique
• Two types of variables have traditionally been included
as explanatory variables in the hedonic housing price
functions.
– Characteristics of the house itself (number of bedrooms,
sq.ft., swimming pool, fireplace…)
– Characteristics of the neighborhood (quality of schools,
crime rate, average income, etc.)
• Control of non-environmental variables – remaining
differences in price attributed to differences in env.
quality
 Hedonic Wage Approach
• The hedonic wage approach is based on the idea
that an individual will choose the city in which he
or she resides in order to maximize his/her utility.
• The individual will consider wages and a host of
other positive (educational or recreation
opportunities) and negative (crime, pollution)
factors.
• Wages adjust to compensate people for different
city characteristics.
 Hedonic Wage Studies
• Suppose a person has two job offers, one in a cold
weather city and the other in a warm weather city.
• Suppose each job offers the same salary.
• If the person chooses the warm weather job, and
others do too, the labor pool will increase in the
warm weather city and wages will fall.
• The reverse happens in the cold weather city.
 Hedonic Wage Studies

• The difference between the wages in the

warm weather city and the cold weather city
compensates people for the disutility of
living in the cold weather.
• This compensating differential can be used
to look at value placed on environmental
amenities or risk.
 Revealed Preference Approaches-
2. Travel Cost Model
• The travel cost model is a method for valuing
environmental resources associated with
recreational activity and was first proposed by
Harold Hotelling in 1947.
• The basic premise is that travel cost to a site can
be regarded as the price of access to the site.
• Multiple observations on travel cost and quantity
of visits can be used to estimate a demand curve.
 Travel Cost Model

• In order to measure how the travel cost

demand curve shifts as environmental
quality shifts, the travel cost demand curve
must be estimated with quality as an
explanatory variable.
 Travel Cost Model
• There are methodological issues which remain
unresolved concerning the appropriateness of the travel
cost model. These include:
1. How to incorporate the opportunity cost of travel time.
2. How to properly account for substitutes (multiple sites).
3. How to account for a variety of sampling biases (over-
response by frequent visitors, under-response by
infrequent visitors)
4. How to properly measure recreational quality and relate
this to environmental quality.
 2. Stated Preference
Techniques
• Stated preference techniques solicit values
directly by asking individuals hypothetical
questions.
• Contingent valuation is the most widely used
stated preference valuation technique.
• This method ascertains value by asking people
their WTP for a change in environmental
quality.
 Stated Preference Techniques-
1. Contingent Valuation
• The questions used in contingent valuation can take both
open-ended and close-ended form.
• In open-ended questions, respondents are asked to state
their maximum WTP.
• In close-ended questions, respondents are asked to say
whether or not they would be WTP a particular amount.
• The questions must also specify the mechanism by
which payment will be made.
 Contingent Valuation
• Information is provided about cause and
effect.
• The payment vehicle is clearly stated and is
appropriate to the particular problem.
• Care must be taken so that the contingent
valuation exercise does not become a
referendum on the payment vehicle, for
example the choice to raise taxes.
Contingent Valuation: WTP vs. WTA

• Which measure to use?

• If one believes people have right to clean
air, WTA compensation may make more
sense than WTP for improved air
• But, WTP – constrained by income, while
WTA potentially unconstrained
Contingent valuation is a direct way of
capturing consumer surplus by means of
eliciting the willingness to pay value for the
preservation of a resource or opportunity in a
simulated market.

This method comprises a number of techniques

to elicit valuation responses including a
bidding game, the payment card, open-ended
Questions and close-ended questions
Another value that can be elicited through contingent
valuation is a willingness to accept value.

A willingness to accept provides an estimate of the

amount of money an individual would like to be
compensated for to forgo an opportunity.

This value is estimated based on the fact that the

payment is equal to the benefits that an individual
would enjoy through salvaging that opportunity
In economic theory, the willingness to pay and
willingness to accept values are similar, but in
reality it has been demonstrated beyond doubt that
willingness to accept values can be four times
higher than willingness to pay
 Contingent Valuation: problems

• Although the contingent valuation method has

been widely used for 2 decades, there is
considerable controversy over whether it
adequately measures people’s WTP.
• These arguments are based on informational issues
and on the fact that people may be indicating their
value of something other than the particular
environmental issue.
 Contingent Valuation: problems
• The informational issue revolves around the fact
that people do not have practice valuing
environmental issues so they are not certain what
they are WTP.
• A 2nd issue revolves around the fact that the
expressed WTP may be biased because the
respondent wants to feel good, be thought of as a
good person, or signal importance of the issue but
not actual WTP.
 Contingent Valuation: problems
• A different problem is the potential link the
respondent makes between the question and other
issues, for example WTP for improved visibility
(reduced air pollution) – respondent may also
factor in reduced health risks. This may result in
double counting.
• Finally, some researchers believe there is a
fundamental difference between hypothetical
decisions and actual decisions.