Professional Documents
Culture Documents
P522
Environmental Valuation:
Theory, Techniques and Application
SOAS | 3737
P522 Environmental Valuation: Theory, Techniques and Application Introduction
MODULE INTRODUCTION
The module first contrasts the ways in which the environment is viewed by
environmentalists, by ecologists and by economists within different economic
paradigms. The justifications for attempting to put a value on the environment are
put forward, and the place of environmental valuation within the core concept of
sustainable development is discussed. Neoclassical economics is then used to provide
a theoretical basis for environmental valuation and introduce the different ways of
measuring welfare change, using the concepts of consumer surplus, willingness to
pay and willingness to accept. The components of environmental value are analysed,
with distinctions made between use values and non-use values, including option
values and existence values.
Later units introduce the techniques of environmental valuation and their policy
applications. There are many techniques available for valuing the environment, some
of which are demand curve approaches and some non-demand curve approaches.
The main demand curve approaches examined include the travel cost method,
hedonic pricing methods, contingent valuation methods and choice experiments. The
non-demand curve techniques reviewed are the effect on productivity method,
opportunity cost measures, human capital measures, the replacement cost method,
and averting behaviour approaches. The benefit transfer approach is also reviewed
and assessed.
SOAS CeDEP 2
P522 Environmental Valuation: Theory, Techniques and Application Introduction
Part I
Part I introduces the reader to the main concepts, ideas and theory of environmental
valuation. This part of the module provides an understanding of how environmental
valuation emerges from a particular view (ie neoclassical) of how the economy and
environment relate to each other. Based on this view many economists accept the
justification of pricing the environment, and the role of money as a common
measuring tool to weigh up the costs and benefits of environmental change is
therefore discussed. We then develop the key theoretical concepts that underpin the
economics of environmental valuation. Specifically, the theory develops various
measures of economic welfare that are the focus of applied environmental valuation
research.
Part II
Part II covers the main approaches to environmental valuation. The material in this
part of the module covers a wide array of methods that draw on the theory
developed in Part I. We consider environmental valuation methods that can be used
very rapidly and those which require far more work on the part of the researcher to
collect and analyse data. An important aspect of the material covered in this part of
the module is that many of the statistical techniques employed in the research
literature will take the reader beyond the methods they will typically cover in basic
econometrics courses. Advice on appropriate methods will be provided.
Part III
Part III of the module provides an insight into how the results of environmental
valuation can be used in practice. We also consider various criticisms of
environmental valuation as well as suggested alternatives that are implemented in
practice.
SOAS CeDEP 3
P522 Environmental Valuation: Theory, Techniques and Application Introduction
Module Aims
To compare critically and contrast different perspectives on valuing the
environment.
The examination for this module will focus on these learning outcomes. In the
module some detailed mathematical derivations relating to theory and to valuation
estimates are provided, and some guidance on selection of econometric estimation
methods appropriate for specific valuation techniques. This more advanced
quantitative material is provided for students with the appropriate prior study of
quantitative methods as guidance for application of certain valuation methods in
practice. Detailed mathematical derivations and econometric estimation techniques
will not normally be the subject of examination questions for this module.
SOAS CeDEP 4
P522 Environmental Valuation: Theory, Techniques and Application Introduction
ASSESSMENT
This module is assessed by:
Since the EA is an element of the formal examination process, please note the
following:
(a) The EA questions and submission date will be available on the Virtual Learning
Environment.
(c) The EA is marked by the module tutor and students will receive a percentage
mark and feedback.
(d) Answers submitted must be entirely the students own work and not a product
of collaboration. For this reason, the Virtual Learning Environment is not an
appropriate forum for queries about the EA.
STUDY MATERIALS
There are two textbooks accompanying this module.
(a) Champs, P.A., Boyle, K.J. & Brown, T.C. (Eds.) (2003) A Primer on Nonmarket
Valuation. Netherlands, Kluwer Academic Publishers.
(b) Pearce, D., Atkinson, G. & Mourato, S. (Eds.) (2006) CostBenefit Analysis and
the Environment Recent Developments. Paris, Organisation for Economic Co-
operation and Development (OECD) Publishing.
This book takes a slightly less technical approach to the issue of environmental
valuation. The strength of this text is the link it makes with the many uses of the
results which are generated by environmental valuation. It also covers various
SOAS CeDEP 5
P522 Environmental Valuation: Theory, Techniques and Application Introduction
For each of the ten units some Key Readings are also provided. These Key Readings
are drawn mainly from relevant academic journals and agency reports, and provide
applied research examples and applications of the key concepts covered. The Key
Readings are intended to extend the material covered in the units to provide a
broader and more thorough treatment of the material being covered, and their
content is examinable.
A large number of Further Readings and References are also listed. These texts are
not provided but many are available on the Internet. All references cited in the unit
text are listed here. Students are not expected to follow up each and every further
reading, but can follow up specific points of interest.
Further Readings
For each of the ten units, Further Readings and References are also listed. These
texts are not provided but many are available on the internet. Students are not
expected to follow up each and every Further Reading, but can follow up specific
points of interest. They aim to provide a range of perspectives and more depth on
the unit subject matter.
At the end of each unit you are provided with a list of Key Terms and Concepts which
have been introduced in the unit. The first time these appear in the text guide they
are Bold Italicised.
As you progress through the module you may need to check unfamiliar acronyms
that are used. A full list of these is provided for you at the end of the introduction.
SOAS CeDEP 6
P522 Environmental Valuation: Theory, Techniques and Application Introduction
Examined Assignment 15
Check the Virtual Learning Environment for submission deadline
SOAS CeDEP 7
P522 Environmental Valuation: Theory, Techniques and Application Introduction
BT benefit transfer
CE choice experiment
CM choice modelling
CR contingent ranking
CS consumer surplus
CV compensatory variation
DO dissolved oxygen
EV equivalent variation
FV future value
MD marginal damage
SOAS CeDEP 8
P522 Environmental Valuation: Theory, Techniques and Application Introduction
PV property value
SP stated preference
TE transfer error
WD wage differentials
SOAS CeDEP 9
Unit One: The Economy, Environment and Valuation
Unit Information 2
Unit Overview 2
Unit Aims 2
Unit Learning Outcomes 2
Unit Interdependencies 3
Key Readings 4
Further Readings 5
References 5
Section Overview 6
Section Learning Outcomes 6
1.1 The demand for environmental values 6
1.2 Environmental valuation remains controversial 8
Section 1 Self Assessment Questions 11
UNIT INFORMATION
Unit Overview
This unit begins by introducing the main motivation for undertaking environmental
valuation. To understand the approach to environmental valuation in practice we
then explain the links between the economy and the environment, and the different
points of view of economists, environmentalists and ecologists. The need to do this
stems from the fact that environmental valuation emerges from a particular view (ie
neoclassical) of how the economy and environment relate to each other. Based on
this view, many economists accept the justification of pricing the environment.
Finally, the role of money as a common measuring tool to weigh up the costs and
benefits of environmental change is therefore discussed.
Unit Aims
To review the main differences between neoclassical, ecological and
institutional economics and their perspectives on valuing the environment.
SOAS CeDEP 2
P522 Environmental Valuation: Theory, Techniques and Application Unit 1
Unit Interdependencies
Unit 2
In Unit 2 we introduce and explain the key aspects of economic theory that underpin
non-market valuation. These build upon the relationship between the economy and
the environment, examined in this unit.
Unit 3
In Unit 3 we describe and explain the main non-demand curve approaches to non-
market valuation. These methods are based on specific aspects of the physical
relationship between the economy and the environment.
Unit 4
In Unit 4 we introduce and explain the travel cost method. This approach to non-
market valuation takes behaviour observed in an existing market and infers values
about the environment. This approach is based on a specific view of the relationship
between environmental goods and services and the wider economy.
Unit 5
In Unit 5 we introduce and explain the hedonic pricing method. This approach to
non-market valuation takes behaviour observed in an existing market and infers
values about the environment. This approach is based on a specific view of the
relationship between environmental goods and services and the wider economy.
Unit 6
In Unit 6 we introduce and explain the contingent valuation method. This approach to
non-market valuation produces non-market valuation estimates based upon a
hypothetical market context. This method allows us to place economic values on
another aspect of the economy-environment relationship: non-use values.
Unit 7
In Unit 7 we introduce and explain the choice experiment method. This approach to
non-market valuation produces non-market valuation estimates based upon a
hypothetical market context. This method allows us to place economic values on
another aspect of the economy-environment relationship: non-use values.
Unit 8
In Unit 8 we introduce and explain the various approaches to benefit transfer. Benefit
transfer takes non-market valuation estimates from existing studies and employs
these in similar decision-making contexts. As with all the valuation methods
examined, benefit transfer allows us to place economic values on the environment.
Unit 9
In Unit 9 we examine how estimates of economic value of the environment are
employed in costbenefit analysis. This is an important activity as it frequently
motivates the generation of economic values using the various methods considered
in this module.
Unit 10
SOAS CeDEP 3
P522 Environmental Valuation: Theory, Techniques and Application Unit 1
KEY READINGS
Farber, S., Costanza, R., Childers, D.L. Erickson, J., Gross, K., Grove, M.,
Hopkinson, C.S., Kahn, J., Pincetl, S., Troy, A., Warren, P. & Wilson, M. (2006)
Linking ecology and economics for ecosystem management. BioScience, 56 (2),
121133.
This paper provides a very neat overview of how economics and the environment are linked and
how, in turn, this relates to environmental valuation. Specifically, the paper uses a very
comprehensive example (agricultural landscape management options) to show how
environmental valuation can be linked to environmental resource management that is informed
by understanding the links between the components of the system. The need to understand
these links arises because the ecosystem service approach explicitly links ecology and
economics so that policies that impact an ecosystem are understood in terms of their impact on
society and the environment.
Freeman, A.M. (2003) Economic valuation: what and why. In: Champs, P.A.,
Boyle, K.J. & Brown, T.C. (Eds.) A Primer on Nonmarket Valuation. London,
Kluwer Academic Publishers. pp. 125.
This chapter provides a very nice introduction to the relationship between the economy and the
environment. It also places the overall topic covered in this module economic valuation
within its broader context.
SOAS CeDEP 4
P522 Environmental Valuation: Theory, Techniques and Application Unit 1
FURTHER READINGS
Freeman III, A.M. (2003) The Measurement of Environmental and Resource Values:
Theory and Methods. 2nd edition. Resources for the Future, Washington DC.
Stavins, R.N. (Ed.) (2012) Economics of the Environment: Selected Readings. 6th
edition. Norton.
REFERENCES
Arrow, K., Solow, R., Portney, P.R., Leamer, E.E., Radner, R. & Schuman, H. (1993)
Report of the NOAA Panel on contingent valuation. Federal Register, 58, 46014614.
Hanley, N., Shogren, J.F. & White, B. (2007) Environmental Economics in Theory and
Practice. 2nd edition. UK, Palgrave Macmillan.
SOAS CeDEP 5
P522 Environmental Valuation: Theory, Techniques and Application Unit 1
Section Overview
In this section we examine the motivation and reasons why economists advocate the
placing of economic values on environmental goods and services. Specifically, we
consider how the demand for environmental valuation has driven the need to devise,
improve and refine the approaches employed to undertake such valuation. This
demand also helps to explain some of the inherent tensions that exist in terms of
employing environmental values in policy analysis and decision-making in general.
understand and assess critically the motivation driving the demand for the
generation of environmental values
outline for themselves the main points in the debate about the merits of
environmental valuation.
SOAS CeDEP 6
P522 Environmental Valuation: Theory, Techniques and Application Unit 1
The key issue here is that the vast majority of environmental goods and services are
not traded in markets. Indeed, many of the concerns expressed about the state and
use of the environment are a result of the lack of prices, with which society can
express their preferences about and for the environment. It is inevitable that goods
which are not priced may be overused and degraded. An example of this is the use of
the atmosphere to dispose of waste gases. In response to this demand for prices that
accurately reflect societys preferences, economists have devised an array of
techniques and methods for putting economic values on environmental goods and
services that are not marketed. These non-market values can then be incorporated
into decision-making frameworks such as costbenefit analysis (CBA), which remains
a key economic decision-making tool. There is also a view that considers that
environmental concerns have not been adequately addressed in the past because
they have been ignored in CBA and, consequently, not taken into account when
decisions were made and development planning formulated. The approach is
reflected in the following statement:
The result of these changes in societal awareness, in policy priorities and in valuation
methods is a large and growing demand for all forms of environmental valuation. It
is also the case that this demand will grow and that this in turn will drive the
development of new and improved methods. This is explicitly reflected, at least in
part, in the leading environmental economics journals which publish an ever
increasing number of papers that develop, implement and evaluate alternative
environmental valuation techniques. Furthermore, the wider acceptance of the utility
and validity of environmental valuation methods by researchers other than
economists has led to frequent publication of environmental valuation study results
in environmental science and management journals, and also in interdisciplinary
sector and problem-focused journals.
SOAS CeDEP 7
P522 Environmental Valuation: Theory, Techniques and Application Unit 1
Obstacles to the further use of CBA (within UK government and regulatory agencies).
there continue to be doubts about the reliability of CBA studies, and especially about
benefit estimation.
CBA has developed from a mix of studies prepared unilaterally by academics for
research interest, and by academics and consultancies for individual agencies and
government departments. While the number of studies is surprisingly large, it is not
large enough to provide a statistical base for benefits transfer. Combined with the fact
that the science of economic valuation has evolved and still is evolving, uncertainty is
endemic in the estimates. This uncertainty presents government with several problems.
First, if policy were directly related to benefit estimates, then it is conceivable that the
policy could be subject to legal challenge. This prospect is discounted by some experts
because policy is, ultimately, whatever politicians decide it is. Only judicial review
relating to unreasonable behaviour could challenge it. None the less, there is some
explanation here for the distancing of policy from CBA results.
there is outright hostility within some parts of government to some aspects of CBA,
whatever the official guidance. Some of the traditional arguments against monetization
are often emotive and irrational, but some coherence is afforded to these views from
the belief that environmental assets are somehow different and should not be subject
to trade-offs.
it is often argued that CBA is not transparent. Highly varied and different costs and
benefits are reduced to single numbers, giving the impression of a black box
approach to policy.
CBA crowds out flexibility by presenting a clear cut result subject to the
uncertainty of the estimates. At its worst this view says that politicians will do whatever
they want, and that they do not want to be troubled by costbenefit studies that might
produce the opposite answer.
CBA works best when the goal of policy is economic efficiency. Other goals such as
distributional issues, employment creation, protection of competitive position, and the
desirability of the process of decision-making, tend to be omitted from CBA studies.
the science of benefit estimation changes very rapidly. Understandable ignorance
of the literature does account for some continuing hostility to monetization.
CBA is practised with varying degrees of sophistication. If it is poorly executed, critics
will use poor practice as a basis for criticising the technique per se. The risk of poor
practice are highest in benefits transfer since the temptation of use existing studies to
provide estimates for new sites is a strong one: it saves the cost of an original study
and is highly suited to approaches based on guidelines and manuals of practice.
Source: Pearce (1998) pp. 92, 94, 95.
SOAS CeDEP 8
P522 Environmental Valuation: Theory, Techniques and Application Unit 1
The issues raised by Pearce (1998) in 1.2.1 are still important. There are still many
environmentalists and politicians who are uncomfortable, if not openly hostile, to the
methods employed by economists to undertake environmental valuation. Some of
the criticisms are based on sound observations about limitations that exist with the
methods currently employed. Even for those who accept environmental valuation and
stated preference techniques, there are technical issues. These relate to eliciting
individuals' true values using survey-based methods as there are many biases that
can influence responses.
However, some of the criticisms stem from a rejection of the use of economic value
as a means with which to inform and undertake resource management. Critics
question the ethics of placing monetary values on the environment for what they see
as a purely selfish, human-centered motivation (the neoclassical economics rationale
which assumes that individuals are self-interested in their motives and that social
decisions should reflect what individuals want). The controversy could be lessened by
understanding that it is not the environment itself that is being valued, but individual
preferences for environmental goods and services, these being a measure of the
well-being (or utility) that those affected attach to these goods or services. These
preferences can be motivated by any number of factors, including altruism and
concern for the rights of non-human species. Individuals may include in their non-
market valuation an element of intrinsic value, as they perceive an obligation on
society to protect the environment for its own sake and to conserve it for the future.
Valuation is also said by some to debase the environment by setting it on a par with
goods such as a cup of coffee or a piece of furniture. However, environmental
conservation is not without cost and any cost is a forgone benefit, as the resources
making up that cost could have been put to alternate use. Opportunity costs include
opportunities (and even rights) to generate a livelihood, or to obtain clean water and
health care. Thus it can be argued that far from debasing the environment the
correct ethical framing is one of trade-offs, whether expressed in terms of monetary
values or competing ethical priorities.
Only if the environment has some higher order moral status than, say,
helping the poor or the elderly, can there be a moral justification for
ignoring cost.
Arguably, use of non-market valuation and CBA gives weight to the interests of
groups in society who may otherwise be excluded from decision-making processes;
since not everyone has a well-organised lobby or access to legal and technical
advisors.
These issues will continue to remain controversial. We shall explore them further in
this introductory unit and will return to them later. What is important to understand
is that the economics profession, and environmental economists in particular, view
environmental valuation as an ever-evolving activity. Indeed, much of the literature
is concerned with improving the methods employed such that the criticisms made
about environmental valuation can be overcome. There is, therefore, a growing
understanding of how to design, conduct and evaluate data collected so that the
criticisms of the inaccuracy of environmental valuation are not endlessly repeated,
SOAS CeDEP 9
P522 Environmental Valuation: Theory, Techniques and Application Unit 1
Furthermore, economists have been prepared to listen and learn from other
academic disciplines, especially psychology, marketing and sociology, about how to
conduct, engage and frame issues that are the subject of environmental valuation.
This means that the current state of environmental valuation has strong
methodological and philosophical links with these other disciplines, and it is highly
likely that these links will only get stronger in future.
SOAS CeDEP 10
P522 Environmental Valuation: Theory, Techniques and Application Unit 1
Q uestion 1
True or false?
Q uestion 2
Q uestion 3
True or false?
Q uestion 4
How can the criticism that CBA and environmental valuation are non-transparent,
black-box approaches be addressed?
SOAS CeDEP 11
P522 Environmental Valuation: Theory, Techniques and Application Unit 1
Section Overview
In this section we begin by outlining the field of economics, environmental economics
and the role of this module within environmental economics. Specifically we develop
a conceptual model of the relationship between the economy and the environment
that places in context many of the activities undertaken by environmental
economists, in particular, environmental policy design and implementation. The
model we develop draws attention to some of the key relationships between the
economy and the environment and the varying importance attached to these
relationships by the environmental economics profession.
SOAS CeDEP 12
P522 Environmental Valuation: Theory, Techniques and Application Unit 1
programs, such as those in the EU, North America and Australia, did not require
farmers to take account of the environmental consequences of their actions.
Using the environment in one of these ways may affect the other uses, as will
become clear in the following discussion.
Land, water and stocks of raw materials are important inputs to production. These
resources frequently vary between countries and so will affect the countrys
economy. Some countries will have large stocks of minerals, while others have good
arable land.
Natural resources are either renewable (eg trees) or non-renewable (eg crude oil).
This distinction is important as it influences the way the resources have to be
managed in production.
These resources are used by the production sector to create goods and services for
use by consumers, or as inputs for another part of the production sector, but in the
process waste products will also be produced.
Economic benefits (ie increased utility) may be directly derived from the consumption
of the flow of services that are forthcoming from a stock of environmental goods.
There are many examples of where the environment provides amenity benefits for
society. For example, some countries enjoy beautiful landscapes and the public
benefit from these via their associated recreational services and tourism.
Environmental stocks of trees can offer global services such as climatic regulation
SOAS CeDEP 13
P522 Environmental Valuation: Theory, Techniques and Application Unit 1
because the trees absorb carbon dioxide, which might otherwise contribute to climate
change.
Many people get enjoyment from the biodiversity that exists in the world, and this
can also be considered as a form of public consumption of environmental good.
C B
Damages
(physical units) A
Threshold Pollution
SOAS CeDEP 14
P522 Environmental Valuation: Theory, Techniques and Application Unit 1
In the figure in 2.2.1 we have drawn three damage functions. Function A shows a
simple linear damage function, function B an exponential damage function, and
function C a damage function with a threshold. The important issue captured by
function C is that there is point beyond which a pollutant has a significantly increased
impact on the environment. An example is the level of oxygen in water which if it
falls below a particular level becomes extremely dangerous for fish.
S ta = Ft At
Stock of cumulative pollutant ( S tc ) at time is given by
t =t*
S = Ft
c
t*
ti
The first law states that whenever energy is converted in form, its total quantity
remains unchanged. In other words, energy (or matter) can be neither created nor
destroyed.
Common and Stagl (2005) use the example of a coal-fired electricity generating
plant. The coal is heated, which produces electricity. A by-product of this process is
waste heat that is transported away as cooling water or gases. In addition, various
waste gases are emitted into the atmosphere, which cause pollution, such as acid
rain.
SOAS CeDEP 15
P522 Environmental Valuation: Theory, Techniques and Application Unit 1
This law states that in a closed system, entropy does not decrease.
The key points to remember from the above are that, because of these natural laws:
The importance of these two laws relates to the use, re-use and recycling of the
environment after interactions with the economy.
Let us look more closely at the subject of recycling, as this would seem to offer a
chance for the economy to retain the use of scarce resources.
Recycling
There is a hierarchy of resource use that includes recycling. This is referred to as the
three Rs reduce, re-use, and recycle. The final and least appealing option after
resource use is to dispose of any remaining waste.
There are now many materials which are routinely recycled and re-used. For
example, glass bottles have been collected and re-used by a number of drinks
companies for many years. In various countries this practice is encouraged by the
use of deposit-refund schemes. Other examples include paper, metal, glass, plastic,
textiles, and garden waste.
For instance, in the Netherlands, household waste that can be composted is collected
separately from other household waste and is composted by the local authorities. To
encourage citizens to participate in this scheme, householders received some free
compost soon after the scheme was set up. However, there are clearly costs involved
in such a scheme:
SOAS CeDEP 16
P522 Environmental Valuation: Theory, Techniques and Application Unit 1
There are clearly limits to what resources can be re-used and recycled. These limits
are not only dictated by the laws of thermodynamics, but also the costs associated
with re-using and recycling many items.
SOAS CeDEP 17
P522 Environmental Valuation: Theory, Techniques and Application Unit 1
Q uestion 5
Q uestion 6
What are the three ways in which society uses the environment?
Q uestion 7
True or false?
(b) The three Rs of resource use are reduce, re-use, and recycle.
SOAS CeDEP 18
P522 Environmental Valuation: Theory, Techniques and Application Unit 1
Section Overview
In this section we explain that the need to value the environment can be motivated
by efforts to achieve sustainable development. We also examine why environmental
valuation can be a multifaceted activity.
Social equity: a commitment to meeting at least the basic needs of the poor
of the present generation (as well as equity between generations).
SOAS CeDEP 19
P522 Environmental Valuation: Theory, Techniques and Application Unit 1
How the five concepts are interpreted yields different interpretations of sustainability.
The most common distinction is between weak and strong sustainability.
What this difference in interpretation implies for each of the concepts is outlined in
the table in 3.1.1, below.
SOAS CeDEP 20
P522 Environmental Valuation: Theory, Techniques and Application Unit 1
Quality of life. Economic growth is seen as Quality of life. Rejects the notion that
the main route to achieve improved quality economic growth can be taken as a proxy
of life. Less weak versions of sustainability for quality of life. Includes a wide range
would support gross national product (GNP) of socioeconomic, environmental and
adjustments to take account of political factors.
undervalued environmental resources.
SOAS CeDEP 21
P522 Environmental Valuation: Theory, Techniques and Application Unit 1
The tools and methods that are of use when putting sustainability into practice are
summarised in the table in 3.1.2, below. Sustainable development involves not only
economic efficiency (as is often assumed) but also a number of other aspects; for
example, social equity, ecological integrity, and the participation and quality of life.
The various academic disciplines concerned with sustainable development have
developed their own sets of tools for putting sustainable development into practice.
Some of these tools are illustrated in 3.1.2, and this module will focus on the tools
developed by economists economic efficiency-based concepts of environmental
valuation and costbenefit analysis. Although we will not examine many of these
methods and tools in this module, the table gives you an idea of how the economic
tools of environmental valuation and costbenefit analysis (and cost-effectiveness
analysis) form part of the whole range of techniques applicable to sustainable
development.
I II III IV
Economic Social equity Ecological integrity Participation and
efficiency quality of life
environmental distributional environmental stakeholder analysis
valuation weights impact participatory
methods discounting assessment appraisal methods
costbenefit adjustments cost-effectiveness citizenship juries
analysis social impact analysis multi-criteria analysis
assessment sustainability
constraints
environmental
shadow projects
risk/uncertainty
adjustments
Source: previous module
Once we have estimated our environmental values these are then typically
incorporated into CBA a key economic decision-making tool employed by
economists. The underlying rationale for this approach is the premise that
environmental concerns have not been adequately addressed in the past because
they have been ignored in CBA and, consequently, not taken into account when
decisions were made and development planning formulated that would result in
sustainable outcomes. Essentially, placing economic (monetary) values on
environmental goods and services which are not traded in markets, as we will
explain, is far from a perfect science. However, valuation exercises which are
transparent and provide information for policy-makers and the public are frequently
a valuable approach to resource and environmental management.
SOAS CeDEP 22
P522 Environmental Valuation: Theory, Techniques and Application Unit 1
SOAS CeDEP 23
P522 Environmental Valuation: Theory, Techniques and Application Unit 1
the realisation of all possible markets working and existing. This is only likely to
occur when a complete and effective system of property rights exist, including
property rights to environmental goods such as clean air.
When either condition is not satisfied, markets fail, and this can, deliberately or
unintentionally, bring about undesirable consequences.
Let us work through the argument for a negative externality. In this case, the
marginal private cost (MPC) is less than the marginal social cost (MSC). The marginal
private cost represents the short-run market supply curve. Hence, with a negative
externality, the short-run market supply curve is lower than would be societys short-
run supply curve. The difference between the MSC and MPC are the marginal
damages (MD). MDs are the amount of the negative externality which, as the
quantity of output increases, increase as well. These are damages being inflicted on
society as a result of the private producer not taking account of the costs that result
from production, such as air or water pollution. This situation is illustrated in 3.2.1.
Price
MSC = MPC + MD
MPC = supply
B
P*
P A
demand
Q* Q Quantity
A shows the equilibrium position with a negative externality. Price is and quantity
supplied is . shows the point of allocative efficiency or Pareto optimum, where
price is and quantity supplied is . Hence, with a negative externality, too much
of the externality-producing good is supplied at too low a price (relative to the Pareto
optimum). This is an example of market failure. It results from the absence of
property rights and a market for the MDs produced by this activity.
As we will see, there are many criticisms associated with the use of the various non-
market valuation methods. How can we value the ozone layer? Many would also
observe that many environmental goods and services have value in their own right.
As a result, environmental valuation as practised by economists is not without its
critics and it still remains a controversial activity.
However, the economics profession has developed a wide array of techniques to
measure environmental value. Methods have been developed to measure the use
SOAS CeDEP 24
P522 Environmental Valuation: Theory, Techniques and Application Unit 1
value associated with the direct use of a resource such as walking or bird watching
in forests. There are also a set of methods that allow non-use values to be
estimated. Non-use values would be if somebody values the continued existence of
the birds in the forest without actually ever visiting the forest. To estimate these
values economists frequently employ a wide range of survey methods that ask the
public what they might be willing to pay for a benefit (seeing the birds), or what they
would accept in compensation for its loss (cutting down of the forest). The use of
these methods has entered mainstream environmental and resource management.
This can partly be traced to the NOAA Panel (Arrow et al, 1993), which published a
highly influential report on the use of contingent valuation for non-market valuation.
The NOAA Panel report came about as a result of the 1989 Exxon Valdez oil spill in
Alaskas Prince William Sound. In the resulting legal case that followed the oil spill
extensive use was made of Contingent Valuation in an effort to determine the
magnitude of the various fines to be paid for the spill. As a result of the huge time
and effort expended on the various Contingent Valuation exercises the NOAA Panel
provided important guidance on how to implement Contingent Valuation in practice
so as to minimise many of the problems and issues associated with these methods.
What are the main differences between neoclassical and ecological economics?
SOAS CeDEP 25
P522 Environmental Valuation: Theory, Techniques and Application Unit 1
SOAS CeDEP 26
P522 Environmental Valuation: Theory, Techniques and Application Unit 1
resources are not revealed in actual market prices, surrogate market prices can be
imputed using environmental valuation techniques. These values can then be used to
guide rates of environmental taxation (such as carbon taxes on fossil fuels), or can
be used to guide project decisions through their integration into costbenefit
analysis. This approach has been effectively used in order to advance environmental
ends, and has been supported by many environmental NGOs. However, there are
many loud objections to this approach on the grounds that normative issues of wide
public significance should be open to broader public debate and negotiation. This
involves developing the institutions of social choice beyond the marketplace to allow
greater public participation in environmental and economic decision-making.
Ecological economics also embraces a more pluralistic approach to decision-making,
drawing on an array of tools and methodological approaches from a range of
disciplines. As the issues are multidimensional, so must be the policy framework,
allowing case-specific, tailor-made approaches to decision-making.
Although natural resource limits have not caused the crises predicted by the Limits
to Growth adherents in the 1970s, the issue of physical constraints plays a central
role in ecology, whereas economists are more preoccupied with the concept of
relative scarcity. The scale argument has now been refined to stress the real scale
constraints on economic activity posed by energy sources and critical natural stocks
essential for life support.
Environmental valuation is seen as the best way to reflect natural resource scarcity
by the neoclassical economist. Putting a price on natural resources and
environmental resources, and thus integrating them into the market economy, is
more sustainable than letting natural resources remain free, and thus over-exploited,
resources. Ecologists are less supportive of this approach, preferring more traditional
conservation measures and environmental standards as environmental management
tools.
SOAS CeDEP 27
P522 Environmental Valuation: Theory, Techniques and Application Unit 1
The key difference between economists and ecologists is not about whether
irreversible change occurs, but whether it matters or not. For the economist, it is
okay to kill the goose that lays the golden eggs so long as the benefits exceed the
costs. This is why economists may ask whether it is optimal to make a species
extinct; whereas to an ecologist such a question would not make sense within the
context of an integrated ecosystem. For an economist, natural resources are
divisible, whereas ecologists are more interested in the relationships and connections
between different elements of the ecosystem. The assumption of divisibility is crucial
for environmental valuation methods which break down the different aspects of an
ecosystem into its component parts. Various environmental valuation methods can
then be used to assign monetary values to different aspects of the ecosystem.
Neoclassical economists apply discount rates to future costs and benefits. Discounted
costs and benefits can then be presented in present value terms. The practice of
discounting future costs and benefits has important implications for inter-
generational equity. Many people have called for adjustments to the discount rate
either for it to be lowered, adjusted to zero, or in some cases to be made negative.
Others call for the explicit incorporation of sustainability constraints (or safe
minimum standards) into economic appraisal as a means to protect the interests of
future generations.
Intrinsic values
SOAS CeDEP 28
P522 Environmental Valuation: Theory, Techniques and Application Unit 1
Q uestion 8
Q uestion 9
What happens to the level of output produced when there is a discrepancy between
private and social costs?
SOAS CeDEP 29
P522 Environmental Valuation: Theory, Techniques and Application Unit 1
UNIT SUMMARY
In this unit, we began by introducing and placing environmental valuation within its
current policy context. That is, we explained that there is an increasing demand for
environmental valuation as an important component of policy analysis and
implementation. We then briefly examined some of the main issues surrounding
environmental valuation and why environmental valuation remains a controversial
topic.
We then looked at the links between the environment and the economy. We defined
the environment as including the atmosphere, all flora and fauna, and energy and
material resources, and stated its main uses for the economy as:
a waste sink.
We looked at the difference between degradable and cumulative pollution and noted
that, in mathematical terms, stock of degradable pollutant at time is given by
S ta = Ft At
stock of cumulative pollutant at time is given by
t =t *
S = Ft
c
t*
ti
The natural laws (that is, the first two laws of thermodynamics) which the
environment obeys mean that increased extraction of minerals leads to an increase
in wastes; there is a limit on the substitutability of inputs; and, since production and
consumption lead to the dissipation of matter, scarce energy is needed for recycling.
The unit then considered the scope of environmental economics. It examines the
links between economics, ecology and the environment and places environmental
valuation within a pluralistic and multidisciplinary approach to incorporating
sustainability issues into decisions that affect the environment.
SOAS CeDEP 30
P522 Environmental Valuation: Theory, Techniques and Application Unit 1
Next, the unit considered why neoclassical and ecological economics have different
perspectives on: the relationship between the economy and the environment; the
relationship between humankind and nature; the rights of future generations; and
the role of the market in environmental resource allocations. These different
perspectives have important implications for the role of environmental valuation in
environmental management at the project level.
SOAS CeDEP 31
P522 Environmental Valuation: Theory, Techniques and Application Unit 1
Q uestion 1
From your reading of this section and using your imagination sketch a diagram that
captures the three functions that the environment provides when interacting with the
economy.
Q uestion 2
To what extent are the concepts of weak and strong sustainability associated with
the different schools of thought (neoclassical and ecological)?
Q uestion 3
Can you think of examples of environmental goods and services for which there are
no markets, or, if there is a market, the price does not reflect the full social value?
Q uestion 4
Draw a diagram to show the effect on prices and quantities, relative to the Pareto
optimum, of a positive externality.
SOAS CeDEP 32
P522 Environmental Valuation: Theory, Techniques and Application Unit 1
option value The value associated with preserving the option to use a good or
service in the future.
Pareto A policy change that makes society better off and nobody worse
optimality/criterion off is referred to as a Pareto improvement. The Pareto optimum
is achieved when we reach an allocation of resources such that
any change must make somebody worse off.
use value A measure of value that stems from the actual use, planned use
or possible use of a good or service.
SOAS CeDEP 33