1. Environmental of Impacts
Economic Valuation of
Environmental of Impacts
Session 5
Nathalie Olsen

2. Where are we?

3. Aim of the Session
To introduce economic valuation and to place it into context in the IAP process

4. Overview of topics for this session
What is economic valuation?
Why is economic valuation important?
Techniques for economic valuation
Market-based techniques
Travel Cost Method
Hedonic Methods
Contingent Valuation
Benefit transfer
Limitations of economic valuation
Why is it important to place monetary values on environmental impacts?
Much resource degradation and over-exploitation is rooted in the fact that environmental impacts are not taken into account in the decision-making process. This is due to the nature of environmental goods and services which are difficult to identify, have unclear property rights, and whose value does not appear fully, or at all, in markets.
The concept of total economic value helps us to identify and quantify the different types of economic value a resource may have.
Some basics of CBA- CBA is a common decision-framework in which environmental impacts may be incorporated.
Techniques – market-based techniques. The most commonly applied techniques are those which use market prices to derive monetary values for environmental goods and services.
Surrogate market techniques – if no markets exists for environmental goods and their products, it may be possible to use prices in surrogate markets, which are markets for related goods.
Contingent valuation – if there are no markets in which the environmental good enters in some form, it is necessary to directly ask people for their willingness to pay for a good or service.
Case-studies will be presented for the most important techniques
Guidelines for choosing between techniques will be discussed – both theoretical and practical considerations.

5. What is economic valuation?
Attempts to quantify and express in monetary terms the full value of environmental resources
For private goods, prices reflect relative scarcity and people’s willingness to pay
Prices for environmental goods do not exist or do not reflect full value of resource
Nature of environmental goods and services
Not well-defined (ecological functions)
Unclear property rights (fish stocks, groundwater)
Public goods (clean air)
Economic values need to be derived
Economic valuation attempts to quantify and express in monetary terms the full value of an environmental resource to society.

6. Why is monetary valuation important?
Planning process is influenced by economic analysis (CBA)
Goods and services which have quantities and prices can be taken into account in decision-making process
Economic valuation helps to bring the environment into decision-making process
Ask participants to give other examples of environmental goods and services which do not have market prices (from their planning process)

7. Total Economic Value Use values Non-use values
Direct use (timber, other forest products)
Indirect use (ecological functions)
Option value (WTP to conserve for future use)
Non-use values
Existence value (WTP to know an asset exists)
Bequest value (WTP to pass on asset to next generation)
TEV = Direct Use Value + Indirect Use Value + Option Value + Existence Value
Resources generally have different types of value to different people. A useful approach to assessing value is Total Economic Value.
Ask participants to name some things they have existence value for, and to explain why.

8. Some basic concepts for cost-benefit analysis
Economic versus financial analysis
Shadow pricing (including externalities)
Discounting
Time horizon
With and without project/policy scenarios
Maybe use table instead with how economic and financial analysis treat each variable differently
Before starting on CBA, ask participants how familiar they are with the technique.

9. Steps to link environmental impacts with their valuation
Based on an environmental assessment - physical indicators
List all environmental issues to be examined in the planning process
Set priorities based on which issues are most important for most stakeholders
Quantify in physical terms the impact/damage
Identify which impacts/damages could be valued in monetary terms

10. Techniques to place monetary values on environmental impacts
Market based methods
Production function approach
Cost of illness approach
Cost-based approaches

11. Production function approach
The environment is an input into the production of a marketed good
Based on damage function which relates cause (soil erosion) to effect/damage (reduced soil fertility)
Applicability: deforestation, wetland and reef destruction, water pollution in agricultural and fisheries
Measures ‘use’ value of resources
The production function approach treats the environment as an input into the production function of a marketed good. Production function approaches are based on an implicit damage function. This function specifies the relationship between a cause (soil erosion) and an effect, namely the environmental damage (reduced soil fertility). The resulting changes in production are valued based on market prices for inputs and outputs. If price distortions exist, market prices can be adjusted.
Example: crop yield depends on level of inputs (labour, material inputs, soil quality). Can value reductions in soil fertility due to soil erosion by looking at changes in output, and value these at market prices for crop.
Trees in agro-forestry systems acted as wind-breaks, resulting in raised crop productivity. However, there are no markets for wind-breaks. The economic value of these trees was therefore estimated based on the increased productivity of crops, i.e. the economic value of trees as inputs into the production process is valued by looking at changes in crop output.

12. Costs and Benefits of Rainforest Conservation in Cameroon
Cost of conservation project
Present values, million CFA (1989 prices)
Resource costs
-4,475
Foregone forest benefits –
Timber
-353
forest products
-223
Total costs
-5,051
Benefits of conservation project
Direct use
Use of forest products
+354
Tourism
+680
Indirect use
Protection of fisheries
+1,770
Flood control
+265
Soil productivity
+130
Total benefits
+3,199
Net benefits to Cameroon at 8% discount rate
-1,852
Economic rate of return
6.2%
Net benefits to Cameroon at 6% discount rate
+319
Fisheries production. Establishment of a national park would have significant benefits for downstream fisheries. Rainfall in the forest supplies several rivers which feed into large mangrove areas producing fish. The mangrove ecosystem relies on freshwater inundation in high water periods and saltwater inundation in low water periods. Deforestation would cause increased peak freshwater flows, increased sedimentation and lower salinity levels, severely disrupting the ecosystem and the on- and off-shore fisheries. Because there is less known about the link between the offshore fishery and the rainforest than the link between the inshore fishery and the rainforest, only damage to the inshore fishery was estimated. Damage was estimated as the change in the output of fish valued at market prices (the production function approach).
Soil fertility benefits were calculated by on the assumption that cash crop yields would fall by ten percent if deforestation continued (production function approach with an assumed, not calculated, damage function).
Tourist revenues to the park were calculated by predicting 1000 visitors per year by the year 2000, with expected expenditures adjusted by the shadow wage rate.
Flood alleviation benefits were estimated based on the expected value of income losses if a flood were to occur.

13. Cost of Illness Approach (1)
Costs of air/water pollution estimated by looking at costs of human health impact
Dose-response function identifies relationship between level of pollutant and degree of health effect (water quality and diarrhoea)
Value health effect based on cost of illness, including
cost of medicine, doctors visits, hospital stays, other incidental expenses
Loss of earnings due to illness

14. Cost of Illness Approach (2)
Applicability:
Value health costs of water and air pollution
Limitations
Dose-response functions not available locally
Does not measure WTP to avoid illness

15. Cost-based approaches
Opportunity cost approach
Cost effectiveness analysis
Replacement cost approach
Defensive expenditure approach
Limitations:
Costs significantly underestimates benefits
Use when not possible to quantify benefits
Applicability
When benefits are very difficult to value

16. Opportunity Cost Approach
Uses CBA and market prices to estimate benefits of alternative use of resource
Cost of conservation = foregone income from alternative use of land
Application: resources for which difficult to quantify benefits such as
Tropical forests, wildlife sanctuaries, cultural/historical sites

17. Replacement Cost Approach
Estimates the costs required to replace damaged resource or to restore damaged resource to original state
Applicability:
When remedial action must be taken to meet a standard (air or water quality)
When environmental effect requires expenditure to replace natural asset (roads, dams, soil, water)
Limitations:
Assumes complete replacement or restoration is possible

18. Cost-effectiveness analysis
Choose the most cost-effective means of reaching a pre-set target
Applicability:
Social programmes (health and population)
Examples:
maximum level of exposure to a waterborne disease agent
emission standard for industrial facilities
Limitations:
Compares alternative means of reaching target, but can not identify whether alternative are all too costly

19. Defensive/Preventative Expenditure
People act to pre-empt damage
Expenditures provide estimate of minimum valuation of potential damage to health or environment
Applicability:
Assess demand for public services (water supply, electricity, rubbish collection)
Example:
to assess demand for urban water supply project, look at how much people pay for water from other sources to avoid exposure to water-borne pathogens
Provides lower-bound estimate of social benefits of public services
Limitations:
There must be no secondary benefits to expenditure

20. Travel Cost Method
Uses expenditures (transport costs and time) to reach a site to estimate willingness to pay
Application:
recreational areas, national parks, historic/cultural sites
time spent collecting fuel wood and water
Limitations:
Requires survey, skills
Measures only use value

21. Travel cost method – Viewing Value of Elephants, Kenya
Survey of tourists and expenditures at national park
Results:
tourists were willing to pay an extra $20-24 million per year to ensure that they saw elephants
Information used to set park admission prices
Revenue from parks could be far greater than revenues from ivory trade and other uses of land

22. Hedonic Methods Approach
Uses market price of a good to estimate the value of an environmental attribute which is embedded in the price of the marketed good
Example: house (size, construction, location, environmental and aesthetic attributes, e.g. clean air)
Application
property prices and air pollution/aesthetic traits and access to water supply and rubbish collection
Job markets and risks to life
Limitations:
requires survey, lots of data, economic theory/econometrics
Relies on existence of properly functioning land/property and labour market

23. Contingent valuation
Ask individuals what they are WTP for a change in environmental attribute
Based on hypothetical market
Requires that respondents understand well the good they are being offered and that they answer truthfully
Application:
Changes in the provision of public services
Only method to measure existence value
Limitations
Requires rigorous survey, economic skills
Due to hypothetical nature, subject to many biases

24. Benefit transfer
A valuation estimate for the same/similar environmental good from another location is used as a rough approximation locally
Application:
Value of recreational and protected areas
Dose-response functions for impact of air and water pollution on health
Damage functions for agriculture (soil erosion)
Limitations: studies must exist, differences must be adjusted for

25. Limitations of valuation
Income distribution
Intergenerational equity
Risk and uncertainty (unknown thresholds)
Irreversibility (unknown future uses)
Large margin of error

26. Choosing Valuation Techniques