| Valuing Environmental Resources: A Survey and Appraisal of Approaches by: P.O. Lee polee@rocketmail.com November 1993 Draft Only. Please Do Not Quote Without Permission. Outline 1. Introduction 2. The Hedonic Price Approach 2.1 Empirical Studies 2.2 Discussion and Appraisal of Model 3. The Travel Cost Methodology 3.1 Empirical Studies 3.2 Theoretical Developments 3.3 Discussion and Appraisal of the Model 4. The Contingent Valuation Method 4.1 Empirical Studies 4.2 Theoretical Developments 4.3 Discussion and Appraisal of the Model 5. Institutional Approaches 5.1 Brief Discussion and Appraisal 6. Valuation, Benefit-Cost Analysis, and Cost-Effectiveness Analysis: Discussion 7. Summary |
1. Introduction
Economic decisions are made daily with regards to the use of all types of resources. The use of resources have opportunity costs attached to them and market forces ensure that they are placed to its highest valued alternative. In allocative decisions, prices act as a signalling device. Demand and supply forces interact within the market and the prices are indicative of the type of decisions to be made. In short, prices reveal the preferences of the community.
However, the use of some resources does not fall under the ambit of the market. These are referred to as non-marketed resources: these resources are not bought and sold in the market place and, as a result, are unpriced. Non-marketed resources take the form of wildlife, scenic areas, landscape, parks, forests, recreational activities, clean air and water: all of which can be put under the umbrella of "environmental amenities/goods". It is in this domain where conflicts of use cannot be easily resolved. Why are environmental amenities unpriced? How can alternative uses be decided against the other? What can be used as a value basis for decision making? In the absence of prices (and clear market signals), what are the main types of approaches which have been advocated to address these shortcomings?
Environmental goods basically share the characteristics of public goods in that they are collective non-excludable and non-rivalrous goods. In simple words, these characteristics describe goods that provide benefits that no one can be excluded from enjoying; and also where the additional consumption of this good by one more individual does not impose additional marginal costs to its production. By having the same characteristics as a public good, it is extremely difficult to price the use of an environmental good. It is this that is the root of all problems in pricing environmental amenities and goods.
With the rise of environmentalism and the concept of sustainable development, the valuation of environmental resources and its inclusion in benefit-cost analysis of projects have gained centre stage (Munasinghe, 1992). Thus the increasing concern for the environment has brought about a greater emphasis on the opportunity costs of environmental amenities which are not "traded" or priced by the market. On a welfare perspective, a proper valuation of the environmental amenities would allow for a proper estimation used in Benefit-Cost Analysis to measure changes in individual welfare from alternative uses of these resources.1
The Hedonic Price Approach, the Transport Cost Methodology, the Contingent Valuation Method, and the Institutionalist Approach form the focus of this paper. Do these approaches come up with the "correct" valuation of environmental goods? Are these techniques useful in revealing the preferences of the community? Are these methodologies coherent in their approach? Do they conflict with economic rationality? Are other types of non-economic or quasi-economic approaches available? Is benefit cost analysis justified in using some of these approaches in its decision making? If all these approaches do not accurately value an environmental good, then the benefit-cost analysis of environmental amenities will not be reflective of the true social benefits and costs to society. If the benefits cannot or should not be valued in monetary terms, is there an alternative to benefit-cost analysis? A brief survey of each of the valuation models outlining its main features and the relevant criticisms pertaining to each will be presented. The methodology used by these approaches involve comparative, deductive, and as well as survey methods. In the absence of existing markets to determine the prices of these environmental resources, an artificial demand is inferred from indirect methods or hypothetical questions aimed at pricing environmental amenities/resources.
The outline of this paper is as follows. Section 2 discusses the hedonic approach of pricing environmental impacts and resources. This will then be followed by a examination of the travel cost methodology in Section 3. Section 4 discusses the contingent valuation method. The institutionalist approach towards environmental valuation is then presented in Section 5. Section 6 ties in the valuation controversy to Benefit-Cost Analysis and suggests that the Cost-Effectiveness Approach be used as an alternative solution. A summary then follows in the last section.
2. The Hedonic Price Approach
2.1 Empirical Studies
In the 1970s, the hedonic price approach derived from property values was a popular as a measure of the price of environmental differences (Freeman, 1979). Abelson (1979) provides a case study done on the evaluation of the effects of aircraft noise, road traffic, railway noise, a good view, spacious streets, and a good neighbourhood on house prices in Sydney, Australia.2 Pearce, et al., (1989) provides results of the impact of air pollution, aircraft noise, and traffic noise on property values (in the United States, Canada, United Kingdom and Australia); thus providing the implicit values of these environmental impacts. Both studies highlight the negative impact of air pollution, noise pollution, and traffic congestion on land values; thus revealing the indirect price of environmental differences.
2.2 Discussion and Appraisal of Model
Basically, this approach works in the following manner. Take the case of a house which is close to a scenic landscape or beach. The proximity of this house to a scenic view or beach increases its relative value to a similar house in another less favourable location. This in turn allows for a indirect determination of the value of the environmental amenity itself by comparing the different prices attached to the two houses. Alternatively, a house in a noisy area would be worth much less than a house in a quiet area. The determination of the price of the environmental amenity or environmental difference can usually be determined using econometric methods. The implicit prices are estimated by first step regression analysis where house prices are regressed on different characteristics. With the use of statistical techniques, this approach attempts to identify how much price differentials in houses can be attributed to environmental differences, and from there infer how much people are willing to pay for this environmental difference: be it an environmental amenity (beach, park) or an environmental impact like pollution.
There are strong criticisms of this method (Mäler, 1979; Munasinghe, 1992; Pearce, et al., 1989). Some of these criticisms take the form of its unrealistic assumptions of equilibrium in the housing market, of zero transaction costs in relocating, of identical preferences of all households in certain demand characteristics, of perfect information of house buyers with regard to the housing market, of no segmentation between areas,3 and of the ability to perceive accurately the impact of the environmental difference. Freeman (1979) attempts to defend this approach.
Freeman provides a simple outline of this approach from a microeconomic perspective.4 This technique involves two separate and conceptually distinct steps. First, it involves the use of a hedonic equation to estimate marginal implicit price characteristics. Second, an inverse demand function or marginal willingness to pay functions is derived from these characteristics. This is done by regressing the implicit price against observed samples and other variables to estimate the demand function itself. As many hedonic price studies have pointed out, differences in residential properties can be attributed to physical quality of the accommodation (property types, year of construction, construction materials used), accessibility to the central business district, availability of public facilities, proximity to shops and other local amenities, and environmental characteristics. This is expressed by Freeman in the following manner:
Phi = Ph (Si1,...,Sij; Ni1,...,Nik; Qi1,...,Qim) ... (1)
where Sj represents the vectors of site (quality);
Nj represents the vectors of neighbourhood (location and support services);
Qj represents environmental variables;
Phi represents the price of house "i";
Ph represents the hedonic or implicit price function for the house.
The marginal implicit price of a characteristic can be found by differentiating the implicit price function with respect to a particular characteristic, in this case, a specific environmental factor:
¹Ph/¹Qm = PQM(QM) ... (2)
A household maximises its utility when its marginal willingness to pay for a unit of the environmental characteristic is equal to the marginal implicit price of that characteristic (equation 2). Equation 2 is used to identify the inverse demand function. As Freeman states, the "theory is logical and consistent, but it involves a substantial simplification and abstraction from complex reality."5 However, it is from this substantial simplification and abstraction that the many criticisms emerge. Some of the criticisms have been briefly discussed above. The criticisms here will be directed towards the postulated relationships as expressed in equations 1 and 2.6 First, equation 1 assumes that the researcher has identified all the pertinent variables that are important in influencing house values. Should any variable be overlooked, then the results would be biased. For example, the location of a house in a good area has positive external benefits which may not be taken into account by the household: the location of a house near a park may have health benefits which are easily overlooked. Second, equation 2 suggests that each of the above characteristic is a separable function. However, in the real world, it is very hard to have separability among variables in an objective function as substitutability and complementarity are very common phenomena in consumption. For example, a household may be willing to accept a higher level of air pollution given that the area is very close to the central business district; hence weakening the regression link between the environmental difference and land values.
An indepth study of the usefulness of the hedonic price model has been done by Mäler (1977) who comes up with very negative conclusions. Besides pointing out some of the general criticisms which have been outlined above, Mäler points out that it is not very accurate to estimate the value of housing from historical environmental data which may no relation at all to current property values. Also, the assumption of weak complementarity [that is, the environmental good (quietness) and some private good (housing) are complementary in a sense because the individual is only concerned with the environmental quality if he is purchasing the house] is not realistic. This assumption means that the individual does not care for environmental quality except in the situation where they are residing. All in all, Mäler comes up with the following conclusion that it is difficult to estimate the value of the environment due to imperfect information, moving costs, specification of the empirical relation (regression and data base), use of empirical data and
econometric difficulties.7
To balance out Mäler's criticism, the view by Freeman (1979) should also be presented. Freeman defends this model by stating that although not all the assumptions are entirely realistic, it is applicable to most other economic models. In his words:
It is the nature of models in economics that their assumptions are to some extent unrealistic. The data are inadequate; variables are measured with error; and the definitions of empirical variables seldom correspond precisely to theoretical constructs. But all of these criticisms can be raised against virtually any empirical work in economics.8
Freeman concludes that this model has substantial explanatory power with respect the use of housing prices for pricing environmental differences or amenities. However, he also points out that market segmentation and the identification of causation variables present a problem for this model.9
All in all, it can be said that this model is not perfect and there are some prominent flaws which cannot seem to be overcome. However, in spite of all these flaws, it has been used by economists to estimate the value of environmental differences and it does provide some rough estimate for valuing the environment. The next approach is the travel cost methodology; another indirect approach at estimating values for recreation and environmental amenities.
3. The Travel Cost Methodology
3.1 Empirical Studies
Harold Hotelling was the originator of this approach; although it was in 1959 that Clawson, and Clawson and Knetsch (1966) who developed this concept into a formal approach. Clawson and Knetsch apply their model to many recreational areas; among some are the Clark Lake in South Dakota, Swanson Lake in Nebraska, Kerr Reservoir in North Carolina, the Grand Canyon, Glacier and Shenandoah.10 Studies have also been done on the valuation of urban recreational areas in Nigeria (Durojaiye and Ikpi, 1988) on wildlife (six sites) in Pennsylvania (Shafer, et al., 1993), recreational boating in East Texas (Seller, et al., 1985), water-based recreational activities in Pittsburgh (Smith and Kaoru, 1987), and pink salmon angling in Willow Creek, Alaska (Larson 1993). Munasinghe's overview of the different approaches towards valuation has demonstrated how the travel cost approach has been used to estimate the value of safaris in Kenya11.
3.2 Theoretical Developments
Wetzel (1977) adds to the theoretical construct of the travel cost methodology by discussing the role of congestion and how the non-consideration of congestion will result in the mis-estimation of the total benefits as the demand curve will not be reflective of congestion.12 Smith and Kaoru (1987) extend the travel cost methodology to price the different characteristics present in each recreational site. Specifically, they focus on attributes like shore miles, access points and water purity in their study. Larson (1993) considers recreation choices from both the valuation of a trip and as well as the total amount of time spent at the area. Larson does not assume that the time spent at the site is fixed like that of most other studies. Adamowicz and Graham-Tomasi (1991) show that this approach is consistent with revealed preference theory and is therefore meets rationality requirements.
3.3 Discussion and Appraisal of Model
The travel cost methodology has been used extensively in the measure of recreational amenities. As mentioned earlier, the basic idea of the travel cost methodology has its roots from Harold Hotelling. Hotelling's idea is best expressed by what he wrote:
Let concentric zones be defined around each park so that the cost of travel to the park from all points in one of these zones is approximately constant. The persons entering the park in a year, or suitably chosen sample of them, are to be listed according to the zone from which they come. The fact that they come means that the service of the park is at least worth the cost and this cost can presumably be estimated with fair accuracy. If we assume that the benefits are the same no matter the distance, we have, for all those living near the park, a consumer's surplus consisting of the differences in transportation costs...13
In brief, a demand curve and the concurrent consumer surplus (or welfare) can be estimated for the environmental amenity using travel costs as a surrogate for the demand for the site. By obtaining the demand curve, the value of this environmental amenity can be calculated. In short, travel costs are used to estimate the value of an environmental good or amenity.
This approach has been formally developed by Clawson and Knetsch (1966). The estimated demand curve is derived in the following manner by measuring the number of visits and the cost per visit from different distances or zones.14 As a simple example, a hypothetical table incorporating distance zones and travel costs would look like the following:
Visits to a Recreational Area by Distance Zones
| Distance Zone (1) |
Visits per 1,000 Base Population (2) |
Average One-Way Distance (Miles) (3) |
Estimated Cost Per Visit (4) |
| 1. Less than 50 miles 2. 50 to 100 miles 3. 100 to 150 miles 4. 150 to 200 miles 5. Over 200 miles in survey area |
4,000 1,000 700 300 100 |
20 80 120 180 230 |
$ 3.70 $13.00 $27.00 $38.00 $45.00 |
The demand curve would then be drawn by plotting column 4 (cost per visit) on the vertical axis and column 2 (visit rates) on the horizontal axis. Clawson and Knetsch also point out that the interrelationship of factors may affect the demand curve: changes in income, road conditions, leisure styles, management of the area, and availability of substitute areas. These factors should be taken into account and allowances should be made to make the empirical data useful.15
The following assumptions are made in deriving the demand curve.
i) Costs of outdoor recreation is based on travel costs alone but in reality is also based on time costs and money as well.
ii) Travel to and from the environmental amenity may involve positive external benefits as well; like a pleasant route, etc.. Thus the surplus measured by the demand curve above will be an underestimation of the overall true benefits.
iii) This method aims to only measure the willingness to pay for a single amenity and cannot be used to indicate the willingness to pay for other similar environmental amenities.
iv) It is assumed that all households have equal tastes and preferences.
The travel cost methodology for environmental valuation has been expressed in a formal and more sophisticated manner by the following function:16
Vij = f(TCij, Dij, Dik, Si, Aj, PFij, Wij)
where Vij represents the number of recreation trips taken by the household "i" to recreation centre "j" during the year of survey;
TCij represents average recreation expenditure (transportation costs, entry fees, and miscellaneous expenses) incurred by this household to the centre;
Dij represents the two-way distance from the household "i" to centre "j";
Dik represents the two-way distance from the household "i" to alternative centre "k";
Si represents the socioeconomic status of the head of household "i", defined by age, education in years, occupation, place of residence, and income bracket;
Aj represents the attraction index of centre "j", defined as the percentage of recreational activities offered by a centre relative to total activities offered by all centres, to reflect imperfect substitutability among centres;
PFij represents the preference for centre "j" by household "i", defined as the percentage of trips taken to the centre relative to all recreation trips;
Wij represents the maximum amount of money household "i" would be willing to spend per annum on the type of recreation offered by centre "j".
The recreation demand equation above is statistically estimated with data gathered from a field survey. It should be noted that this equation captures much more than the simple model initially developed by Clawson and Knetsch. Besides capturing travel costs, other variables which are important in capturing demand like income levels, socioeconomic status, alternative sites, and preferences are all reflected in the above equation. Once again, the inclusion or exclusion of variables will affect the final result. It is therefore vitally important that all the relevant variables for a given situation be chosen.
In the next stage, the estimation of the demand schedules for individual households is then done by using the estimated expenditure coefficients (from the above equation) as measures of a household's sensitivity to an increase in the entry fees, that is to say, the demand schedule is obtained by testing the response of the above demand equation against various entry rates.
Criticisms have also been laid on this model. For example, utility may not be entirely dependent on travel costs but also time costs as well. Hence, the opportunity costs of time need to be taken into account in estimating the demand schedule. Second, if joint sites are visited at the same time, it is difficult to apportion the costs between sites. Also, this method cannot compute the non-use (option and existence) values. This is the benefit accruing to those not currently using an environmental amenity but who either intend to use it at a later date or to those who derive a benefit from knowing that the amenity exists even if they are never going to use it. Finally, this method is only suitable for site-specific studies; the results obtained should not generalised for other similar environmental amenities.
As an illustration of the practical difficulties involved in using this methodology, the study by Shafer et al. (1993) is quite representative of some of the problems involved. Before statistical analyses were carried out, all data were transformed into log10 in order to help reduce the effects of heterogenous variances. Also, the demand curves derived under this methodology were not normal. This was attributed to the mathematical properties of the variables used to describe each visitor. These variables
did not satisfy many of the underlying theoretical assumptions for multiple regression analysis: the data for the dependent variables were not normally distributed and their variances were small and not homogenous.17 Other problems involved the problem of zoning and the definition of the "visitor day". Cameron (1992) also presents some problems associated with the travel cost methodology. Questions like: how to value time costs when they differ between travel time and on-site time, how to assess the per-trip user cost of capital equipment, how to treat guide services, and how to define a site and its potential substitutes add to the complexity of this methodology.18
The approaches so far described are referred to as indirect approaches for valuing environmental goods. They rely on comparison and deductive reasoning rather than through direct valuation methods. The next method relies on survey questions to derive the demand for an environmental service or environmental good. In other words, it seeks to ascertain through surveys and questioning how much people are willing to pay for an environmental difference or much they would be compensated for an environmental loss. This is known as the Contingent Valuation Method.
4. Contingent Valuation Method
The Contingent Valuation Method has been well summarised by Munasinghe:
... the Contingent valuation method tries to obtain information on consumers' preferences by posing direct questions about willingness to pay. It basically asks people what they are willing to pay for a benefit, and/or what they are willing to accept by way of compensation to tolerate a cost. This process of "asking" may be either through a direct questionnaire/survey, or by experimental techniques in which subjects respond to various stimuli in "laboratory" conditions. What is sought are personal valuations of the respondent for increases or decreases in the quantity of some good, contingent upon a hypothetical market.19
4.1 Empirical Studies
The Contingent Valuation Method has been used on valuing wildlife species in Kenya (Munasinghe, 1992); water services in Haiti (Munasinghe, 1992); user value of watchable wildlife at the McNeil River (Clayton and Mendelsohn, 1993); Queen Elizabeth Forest Park in Central Scotland (Hanley, 1989); the physical characteristics of British forests (Hanley and Ruffell, 1993); the economic value of the Atlantic salmon restoration program in Massachusetts and the value of Bald Eagles, wild turkeys, and coyotes in New England, USA (Stevens, et al., 1991); the amenity values of wildlife in Pennsylvania (Shafer, et al., 1993); option value of South Platte River Basin in Colorado (Greenley, et al., 1981); the existence value of tropical forests (Pearce, 1991); the Kakadu Conservation Zone in Australia (Imber, et al., 1991); and recreational boating in East Texas (Seller, et al., 1985).
4.2 Theoretical Developments
On a theoretical level, the Contingent Valuation Method has been questioned because of the discrepancy which exists between the willingness to pay (WTP) and the willingness to accept (WTA). Gregory (1986) has done an in-depth
study of this and, concludes that, contrary to economic theory which implies that both WTP and WTA are the same (in the absence of income or wealth effects), psychological perceptions result in valuation differences between payment made and compensation received by the same individual. Gregory even provides a simple example where an individual who has paid $10 for a theater ticket would refuse to sell the ticket for $25 on the night of the performance but would never pay $25 for a ticket if it had not been bought.20 Alternatively, Ng has suggested that differences between compensation variation and equivalent variation is partly due to the diminishing marginal utility of income.21 Gordon and Knetsch (1979) attribute this difference to the aversion of risks.
Tests have also been done to see if the Contingent Valuation Method provides a better valuation for a private good rather than a public good (Kealy, et al., 1990). The result was in the negative, that is, participants performed equally well for both goods. The Contingent Valuation Method has been shown to be consistent with economic rationality and revealed preference theory (Adamowicz and Graham-Tomasi, 1991). Comparative studies have also been done to see if the Travel Cost Methodology and the Contingent Valuation Method yields similar outcomes. The study by Hanley (1989) showed that the outcomes were roughly similar. Seller et al. (1985) also showed that the close-ended format of the Contingent Valuation Method yielded a similar surplus to that of the Travel Cost Methodology. Kerry's (1993) review of studies adopting the various valuation approaches suggests that the Contingent Valuation Method is basically comparable in terms of performance with other these approaches. Cameron (1992), on the other hand, used the Travel Cost Methodology as a complementary approach to the Contingent Valuation Method utilising the strengths of each demand information and combining them into a coherent valuation approach. The valuation of the existence value by the Contingent Valuation Method has also been a discussed by several authors (Stevens, et al., 1991; Bishop and Welsh, 1992; Edwards, 1992; Pearce, 1991). Bishop and Welsh come up with an interesting suggestion that the concept of "existence values" parallels that of a public good. In their own words, "[e]xistence is a public good, which means that one fish can simultaneously satisfy the demands of many people. The average price of $10,000 per fish only seems preposterous because we are used to thinking of fish in their role as private goods."22 In other words, existence is a non-rivalrous good where the presence of one fish can simultaneously satisfy the demands of everyone.
4.3 Discussion and Appraisal of Model
There are certain cases where the contingent valuation method is the only approach available. This may be the case for sites or areas which are inaccessible to the public but which nevertheless have some value. The Contingent Valuation Method therefore seeks to impute values which would otherwise be non-existent for this site. As the contingent valuation method is not dependent on indirect links with the market to value a commodity like the hedonic price approach and travel cost method, it can be used on a wider range of amenities which have user values and non-use values.23 The Contingent Valuation Method may consist of open-ended or close-ended questions. Open-ended questions allow the participants to specify their own monetary value for a particular environmental amenity. On the other hand, the close-ended questions typically involves a "yes" or "no" answer to the various questions, some of which may involve a specified monetary value on an environmental amenity. When comparing the travel cost methodology with the Contingent Valuation Method, research has shown that the open-ended format has tended to result in underestimation and even negative values of the consumer surplus (Seller, et al., 1985) whereas the close-ended format of the Contingent Valuation Method tended to yield more plausible results. This is also supported by Hanley (1989), and Cropper and Oates (1992).
The contingent valuation method has other problems. As Rose points out:
Although much work has been done to make the decision processes faced by survey respondents imitate those faced in real markets, contingent valuations are still based on hypothetical choices. No respondent has to bear the consequences by paying the price offered, in responding to the survey questions. That raises the possibility of a number of errors or biases.24
The following is a description of the various types of biases which distorts the true value of an environmental good (Pearce, et al., 1989; Rose, 1990; Seller, et al., 1985). The "starting point" bias occurs where the price mentioned in the survey influences the answers in which a participant may give. This occurs as the consumer is not really aware of the price of the environmental good. "Strategic bias", on the other hand, is used to describe the incentive which participants have in providing distorted answers. This is especially so when participants believe that the survey may influence real choice; in this case, participants will have strong incentive to adjust price in a manner which is favourable to them (free riding). "Vehicle or payment" bias refers to how participants adjust their answers according to the way the project is going to be financed. For example, if the project for the preservation of a species was to be financed by local taxes, participants would adjust their valuation downwards while if it was financed from the federal government, they would tend to state a more correct answer. "Hypothetical" bias points to the fact that if hypothetical questions are asked, then only hypothetical answers could be expected.
To reduce the incentive for people to behave strategically (strategic bias), to allow for open-ended questions, and to make the participant report truthfully, Prince (1992) has advocated that the contribution game mechanism which is incentive-compatible be used. Basically, the contribution game is similar to Clarke-Groves mechanism described in Ng (1983).25 Although the Clarke-Groves mechanism has only been applied in the context of the provision of a public good, it could be used to determine accurately the amount of contributions each individual is willing to make to preserve an environmental site. But there is one problem. It would be necessary for the authorities to determine the total value of the environmental site before allocating cost shares to the various parties that are involved.
The contingent valuation method has the ability to measure non-use values which the other valuation methods are unable to do so (Rose, 1990; Imber, et al., 1991); although the results generated so far have not been very promising. These non-use value provide benefits to individuals even when they are not directly using these resources and may add to a significant proportion of the benefits. The various categories of non-use values are:26
i) existence value: where a value is derived from the knowledge that this environmental good exists,27
ii) option value: a value attributable to the option of using this resource some time in the future,28
iii) bequest value: valuation based on the assurance that future generations will have access to this environmental good.
iv) quasi-option value: the value of obtaining better information by delaying a decision that may result in irreversible environmental loss.
The aim of the Contingent Valuation Method is to reveal the maximum price that an individual is willing to pay for an environmental good or service or the minimum compensation that will be accepted for a particular environmental degradation or the loss of an environmental amenity. Any Contingent Valuation Method should roughly have the following procedures:29
i) a comprehensive description of the commodity to be valued and the hypothetical market under which the amenity is made available to the participant;
ii) questions (direct valuation questions, take it or leave it questions, bidding questions) designed to elicit the dollar values attached to the respondent's preferences for different levels of amenity provision;
iii) questions on demographic variables (age, income, education);
iv) a set of focus statements designed to frame the respondent's valuation decision. These statements would serve to remind the participant explicitly of their budget constraints and the alternative uses of their
incomes.
In summary, the Contingent Valuation Approach allows for the pricing of an environmental good which the other two previous approaches are unable to do. The weakness of this approach, however, is in the various biases discussed. On the whole, the correction of these biases would lead to a very promising future for the Contingent Valuation Method.
5. Institutional Approaches
5.1 Brief Discussion and Appraisal
The Institutional Approach has mainly arisen out of the critique of traditional valuation approaches. As a result, it offers solutions which are different: holistic approaches which cover the role of institutions, actors, power relationship, and multidisciplinarity (Söderbaum, 1987). This section will not explore the institutional approach in deep detail but rather point out that its solution is not really viable.30
Eberle and Hayden (1991) criticise the contingent valuation approach and the travel cost method in the context of its neoclassical paradigm. They argue that it is difficult to formulate a utility function to value non-marketed goods in rank order; and therefore both the Contingent Valuation Method and the Transport Cost Methodology (which can be used to derive a utility function) cannot be used to empirically identify the value rankings of non-marketed goods.31 They also criticise neoclassical economics as being highly axiomatic: it describes behaviour according to classical mathematical logic. Any failure to conform to any of its axioms would mean that the neoclassical model is no longer valid.32 Rational behaviour is also seen in terms of axiomatic definitions. Again, if any axiom is violated, rationality no longer holds.33 Hence, no concrete valuation can be obtained by the traditional valuation approaches which operate in the neoclassical paradigm. Psychometric Theory is used by Eberle and Hayden to critique the Contingent Valuation Method.34 Generally, psychometric theory refers to a set method of ascertaining that questionnaire development and evaluation stick to a specific standard; that is, these questionnaires measures what it purports to measure. The two standards that are important in any questionnaire are reliability and validity. Eberle and Hayden point out that the Contingent Valuation Method does not pay much attention to these measures. They conclude by comparing the difference between psychometrics and econometrics and in short criticising the traditional neo-classical economic approach:
In psychometrics, when the hypothesis is rejected, the researchers must consider whether the model is misspecified, the data is biased, or whether the construct is invalid. In econometrics, the construct (neoclassical foundation) is not questioned. The model may be misspecified, the data may be biased, or the sample may be inadequate. But hypothesis testing does not refute theory.35
Eberle and Hayden also use General Systems Analysis (GSA) principles to criticise the Travel Cost Methodology and the Contingent Valuation Method. The GSA principles basically states that all systems have inter-related functions: it is wrong to separate a system and categorise it into one particular function. When a demand function is estimated for non-marketed goods, Eberle and Hayden state that this implies that the environment only has value for human beings. "These valuation techniques ignore that ecosystems, or particular flora and fauna, have functions other than human demand for them."36 Hence, an interactive system (environment-ecology-economy-social-geographical) which considers all factors is suggested as a solution.37
Institutionalists like Eberle and Hayden share a common weakness with most other institutionalist who are against the neoclassical paradigm and the reductionist approach: they have not been able to come up with a useful model which is a simplification of reality and, at the same time, which allows for predictions and hypotheses to be tested. In trying to encompass a holistic approach, they have tried to incorporate too many variables and have made their approaches very narrative and not explicative at all. Also, they have not really come up with a challenge to the traditional valuation approaches by offering a coherent alternative approach towards valuing the environment. They have been more effective in providing a critique rather than offering a new approach.
6. Valuation, Benefit-Cost Analysis, and the Cost-Effectiveness Analysis: Discussion
The functional role of values in economics is to enable choices to be made which yield the highest gain for the least sacrifice of resources, where resources are seen as intrinsically limited.38
Can economic values attached to environmental amenities/goods? Has economics been able to capture the value of an environmental good? If so, have these values been truly reflective of the actual value of these resources? In short, has economics been able to address the valuation problem inherent in environmental resources?
It has been seen from this survey that there are inherent theoretical limitations within traditional economic methodologies that have not allowed for the true valuation of most environmental goods. However, this should not lead to the conclusion that economics be replaced by some new discipline or approach. Rather refinements and new avenues need to explored which may enable some new theoretical economic construct that would allow for the pricing of environmental goods. Basically, environmental goods are public goods. As Green and Tunstall point out: "Economic analysis has developed on the analysis of demand for private goods: theory about the demand for public goods has, to date, simply been extrapolation from that of existing theory".39 Perhaps new axioms (individual preferences, utility etc.) that are relevant to public goods should be explored and developed: the area of experimental and behaviourial economics offers promise with regards to this.
Going back to the traditional valuation approaches, it should be noted that there is no one straight cut valuation methodology which is useful in all environmental contexts. From the survey, it has been seen that different methodologies are useful for different types of environmental amenities or situations. The strength of the Transport Cost Methodology lies in its ability to price site-specific areas well like parks and scenic areas. But it would not be useful for looking at a migratory species of wildlife. However, there are also certain circumstances in which only the Contingent Valuation Method can be used; for example, in pricing non-use values. In other situations, it may be advisable to use both methodologies for valuing environmental goods. On a practical side, it should be emphasised that research in these valuation models has tended to be very technical and indeed some of its practical relevance can be questioned. Also, some of the studies looked more like mere econometric exercises rather than a study of the practical difficulties which exists in pricing environmental goods. As Winpenny (1991a) points out, mismatching has occurred between the effort going into the methodological literature and methods used in practice. Some balance therefore needs to be achieved.
Nevertheless, the need to accurately value these resources is of vital importance: it would allow for the internalising of the costs and benefits of using these resources which in turn would allow for the correct economic decisions to be made to improve general welfare using Benefit-Cost Analysis. The role of benefit-cost analysis has been well pointed out by Krutilla (1961):
Benefit-cost analysis ... seeks to take account of such divergences as a basis for guiding public action either when market prices do not accurately reflect social value or when, by virtue of the indivisible nature of collective goods, no market exists from which to observe directly objective evidence of the community's valuation of the social marginal product.40
However, in a situation where valuation is difficult, very unclear or there are strong political objections to putting monetary equivalents on environmental amenities, the cost-effectiveness approach is suggested as a viable alternative to that of benefit-cost analysis.
The cost-effectiveness approach differs from that of benefit-cost analysis in that it does not attempt to price benefits:41 instead benefits are expressed in physical units. Cost-effectiveness approach is a form of analysis which compares alternatives in terms of both its effectiveness and costs. Take the example where a bridge needs to be built across a river. In terms of effectiveness or benefits, the goal may be defined as that of the protection of the environment or wildlife along the river. With that in mind, sites for building the bridge would be the one where there is least destruction to wildlife (meeting a given environmental objective) as well as one that is the lowest in terms of cost. In short, the cost-effectiveness approach is one where there is an aim of improving resource allocation within the framework of a policy objective or objectives. Also, the cost-effectiveness approach can be applied to circumstances where the least cost method needs to be designed to meet an environmental objective (achieving a certain pollution target), determining the best use of a fixed budget (maximising the use of a fixed budget for conservation), or assessing the costs of meeting alternative goals.42 Cost-effectiveness differs from benefit-cost analysis in a sense that it can never provide an absolute criterion for accepting or rejecting a project. However, it can be a powerful tool when there are a range of alternatives available within a fixed set of constraints (like environmental preservation and the like). In practice, the main problems associated with the cost-effectiveness approach are an agreement and definition of the objective to be achieved.
7. Summary
This paper began with the discussion of environmental amenities/goods which could take the form of a physical geographical area or provision of some service or an atmospheric difference. The study also pointed out that environmental amenities share the characteristics of a public good. Hence, it was very difficult for the market to price an environmental good or an environmental difference. The Hedonic Price Approach, the Transport Cost Methodology, the Contingent Valuation Method, and the Institutional Approach were discussed as possibilities for pricing environmental goods. As it was possible that valuation may not be accurate (and this would in turn affect the benefit-cost calculations), the cost-effectiveness approach was suggested as an alternative.
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1 Seller, C., Stoll, J.R., Chavas, J.-P., "Valuation of Empirical Measures of Welfare Change: A Comparison of Nonmarket Techniques", Land Economics 61, No. 2 (May 1985), p. 157.
2 Abelson, P., Cost Benefit Analysis and Environmental Problems. England: Saxon House, 1979, chap. 8.
3 If segmentation exists, a separate objective function must be established for each market.
4 Freeman, A.M. III, "Hedonic Prices, Property Values and Measuring Environmental Benefits: A Survey of the Issues", Scandinavian Journal of Economics 81, (1979), pp. 155-158. For further discussions, see Cropper, M.L., and Oates, W.A., "Environmental Economics: A Survey", Journal of Economic Literature XXX, No. 1 (June 1992), pp. 706-708.
5 Freeman, op. cit., p. 155.
6 These criticisms are not new and have been expressed by many of the critics of the hedonic price approach.
7 Mäler, K.-G., "A Note on the Use of Property Values in Estimating Marginal Willingness to Pay for Environmental Quality", Journal of Environmental Economics and Management 4, No. 4 (December 1977), p. 368.
8 Freeman, op. cit., p. 155.
9 ibid., p. 171.
10 Clawson, M., and Knetsch, J.L., Economics of Outdoor Recreation. Baltimore: The John Hopkins Press, 1966, chapter 2.
11 Munasinghe, M., Environmental Economics and Valuation in Development Decisionmaking. Environment Working Paper No. 51, Washington: The World Bank, February 1992, pp. 63-64.
12 From this, it can be gathered that recreation areas with a low level of congestion have a higher total benefit compared to similar areas with higher levels of congestion.
13 Cited in Gibson, J., "Recreational Land Use", in Pearce, D.W., (editor), The Valuation of Social Cost. London: George Allen and Unwin Ltd., 1978, p. 73.
14 Clawson and Knetsch, op. cit., pp. 64-65.
15 Clawson and Knetsch, op. cit., p. 90.
16 Taken from Durojaiye, B.O., and Ikpi, A.E., "The Monetary Value of Recreational Facilities in a Developing Economy: A Case Study of Three Centres in Nigeria", Natural Resources Journal 28, No. 2, (Spring 1988), pp. 317-319. Alternatively, see Hanley (1988).
17 Shafer, E.L., Carline, R., Guldin, R.W., and Corddell, H.K., "Economic Amenity Values of Wildlife: Six Case Studies in Pennsylvania", Environmental Management 17, No. 5 (September/October 1993), p. 674 and pp. 677-679.
18 Cameron, T.A., "Combining Contingent Valuation and Travel Cost Data for the Valuation of Nonmarket Goods", Land Economics 68, No. 3 (August 1992), p. 303.
19 Munasinghe, op. cit., pp. 20-21.
20 Gregory, R., "Interpreting Measures of Economic Loss: Evidence from Contingent Valuation and Experimental Studies", Journal of Environmental Economics and Management 13, No. 4 (December 1986), p. 335.
21 Ng, Y.-K., Welfare Economics: Introduction and Development of Basic Concepts (Revised Edition). London: Macmillan Press, 1983, pp. 105-110.
22 Bishop, R.C., Welsh, M.P. "Existence Values in Benefit-Cost Analysis and Damage Assessment", Land Economics 68, No. 4 (November 1992), p. 415.
23 User values refer to the benefits derived from using a good; for example, deriving pleasure from visiting a site. Non-use values will be discussed below.
24 Rose, R., "Valuing Environmental Resources", Agriculture and Resources Quarterly 2, No. 3 (September 1990), p. 301.
Ng, op. cit., pp. 199-207. In the Clarke-Groves mechanism, each consumer is allocated and has to pay a percentage share of the total cost (cost share) of providing the public good. Consumers are asked to report their marginal valuation of this public good which is summed up to give the total marginal valuation of all individuals. They are then required to pay an additional amount of tax (Clarke-Groves tax) which is determined by their stated marginal valuation curve. The level of the public good provided would be at the point where the marginal valuation curve (of all individuals involved) intersects the marginal cost of supplying this public good. If an individual were to report a marginal valuation greater than his cost share, this would increase the amount of the public good supplied. This individual would be motivated not to attempt to increase the supply of the public good unless if the gain in the increase of the supply of the public good offsets the additional tax which he/she has to pay.
26 See also Krutilla (1967) for a detailed discussion of some of these values.
27 The study by Stevens, et al., (1991), examines the validity of the Contingent Valuation Method for estimating the existence value of wildlife species. It does not support the use of this method for valuing the existence values of wildlife and suggests that the safe minimum standard which focuses on the costs of avoiding extinction be used instead.
28 A study by Greenley, et al., (1981) has attempted to measure the option value of recreation and water quality.
29 Taken from Imber, D., Stevenson, G., and Wilks, L., A Contingent Valuation Survey of the Kakadu Conservation Zone (Volume One). Resource Assessment Commission, Australia: RAC Research Paper No. 3, February 1991, pp. 8-9.
30 It should be pointed out that the Institutionalist Approach discussed here pertains to that of the radical school of thought. There is a class of institutionalists who operate within the neoclassical paradigm which is not covered in this section here.
31 Eberle, W.D., and Hayden, F.G., "Critique of Contingent Valuation and Travel Cost for Valuing Natural Resources and Ecosystems", Journal of Economic Issues XXV, No. 3 (September 1991), p. 650.
32 ibid., p. 653.
33 ibid., p. 654.
34 ibid., p. 658.
35 ibid., p. 662.
36 Eberle and Hayden, op. cit., p. 682.
37 This is an extreme simplification of the GSA presented by Eberle and Hayden.
38 Green, C.H., and Tunstall, S.M., "Is the Economic Evaluation of Environmental Resources Possible?", Journal Of Environmental Management 33, No. 2 (September 1991), p. 126.
39 ibid., p. 126.
40 Krutilla, J.V., "Welfare Aspects of Benefit-Cost Analysis", The Journal of Political Economy LXIX, No. 3 (June 1961), p. 226.
41 This following is drawn from the Handbook of Cost-Benefit Analysis. Canberra: Australian Government Publishing Service, 1991, chapter 11.
42 Winpenny, J.T., Values for the Environment: A Guide to Economic Appraisal, London: Overseas Development Institute, 1991c, pp. 43-44.