Willingness to pay and ecological economics

Willingness (and ability) to pay is the foundation of the economic theory of value. The idea is, if something is worth having, then it is worth paying for. The idea extends to environmental resources like water quality and natural resources like trees. The key assumption is that environmental values are anthropogenic. Whatever people think the environment is worth is what it is worth. Economic methods can be used to attach estimates of willingness to pay to changes in the level of environmental quality and natural resource use.

Environmentalists and natural scientists tend to dislike this idea since people are ugly, dirty, crass and never satisfied (an assumption of the neoclassical theory of value is "more is better"). About a decade ago a group of ecological economics challenged this concept of value in their paper The Value of the World's Ecosystem Services and Natural Capital.

Here is the abstract:

The services of ecological systems and the natural capital stocks that produce them are critical to the functioning of the Earth's life-support system. They contribute to human welfare, both directly and indirectly, and therefore represent part of the total economic value of the planet. We have estimated the current economic value of 17 ecosystem services for 16 biomes, based on published studies and a few original calculations. For the entire biosphere, the value (most of which is outside the market) is estimated to be in the range of US$16-54 trillion (1012) per year, with an average of US$33 trillion per year. Because of the nature of the uncertainties, this must be considered a minimum estimate. Global gross national product total is around US$18 trillion per year.

The key concern among environmental economists is that the annual value of the environment is estimated to be about twice that of annual income. In other words, the value of the environment is priceless. [update: underlined words]

Neoclassical economists had a conniption. How in the world is the world's value greater than income? The study's methodology failed to consider substitution possibilities, etc, etc.

Update: Also, environmental values needed for policy analysis are marginal values (i.e., additional). The total value of national forest lands is irrelevant to a decision of whether to allow clearcuts in national forest X.

In a press release from the University of Vermont,

Now, Costanza and his colleagues at UVM’s Gund Institute for Ecological Economics have launched a project to solve a central problem that this young science faces: creating a fast way for policy-makers to understand the specific ecosystem services in their area—and the impacts of different land use decisions—whether looking at a local watershed or whole continent.

Here is what they'll be doing:

To build the new models, Costanza’s team will gather experts on a range of ecosystems to two extended meetings in Burlington, one this fall and another next spring. In small teams, they’ll link together the latest understandings of how forests, grasslands, wetlands, open ocean, and other ecosystem types function with detailed maps of where these natural communities occur and other geographic information.

Next, these models will be informed by new methods of estimating the value of ecosystems. Conventional economics has relied on the rather clunky notion of “willingness to pay” to determine how much a product is worth. This approach doesn’t apply well to many ecosystem services that are either indispensable—like air to breathe—or exceedingly subtle—like global climate regulation.

"Instead, we’re looking for effects of ecosystems of human welfare, whether people perceive them or not—rather than just asking them how much they’d pay for this service," Costanza said.

In other words, the experts will decide what the environment is worth and regular folks, those who make economic decisions about the environment, can deal with it. And by the way, the environment is priceless.

I hate to sound like a great big jerk, but I don't think these are the correct dollar environmental benefits to compare to the costs of policies and projects. For instance on average, consider a policy that would generate economic benefits of $100 million annually. Given the methods of the ecological economists, on average, the environmental cost will be twice that and there will be no economic policy implemented. Maybe ever. Maybe that is a good thing. Maybe it isn't.

Comments

[Joe Otten]

I don't see any problem with the world's value being greater than cash income.

We receive ecosystem services on a plate, as it were, therefore they contribute the same value to our income (in kind) and our expenditure.

The apparent contradiction results from a failure to measure this income.

[Mr. Nobody]

A few simple questions:

Could you be endowed with an noncash asset that you could never afford?

Could this noncash asset value exceed the discounted expected value of your lifetime income? (If you want to consider it in annual terms, think of the corresponding annuity.)

How do you use WTP to have this person evaluate this asset value?

[Tim Haab]

It's about time John had a 'can of worms' post.

[John Whitehead]

Mr. Nobody,

Suppose the asset value is $10 million and you were asked how much you were willing to pay to avoid an annual reduction $X. You can't afford to pay $X given your current annual income.

If the noncash asset could be liquidated, eg, a forest, then you could borrow against its market value and pay to avoid its loss. At some point you'd have to cut down some trees and pay back the loan.

Suppose the noncash asset could not be liquidated ... there are no buyers ... how do you know it is worth $10 million? The bank would refuse to make you the loan and you can't afford to pay to avoid a loss in value that is simply your subjective assessment of the worth of the asset.

In a market economy trade, or potential trade, creates value.

Now, what about public goods that don't have assigned property rights? In this case implicit markets (hedonic property, averting behavior, travel cost) form that allow people, through their behavior, to reveal their values about the asset. These too, are income constrained.

Assigning values to the environment that are not income constrained is to reject the notion of value based on trades.

I think,

John

[allen claxton]

I'm not sure I like either method. I see your point, or at least something similar to it, that a group of people huddled in a room with a bottomless pot of coffee is an unrealistic way of valuing ... everything.

On the other hand, I don't think it's unreasonable to see willingness to pay as too limited for valuing ... everything. If you see people as at all fallible--and I don't know anyone who doesn't--then surely hidden benign processes are going to be tough to value.

That said, this:

How in the world is the world's value greater than income?

just seems silly. The world isn't an economy, and I don't know why you'd expect tools from one to apply easily to the other.

Assigning values to the environment that are not income constrained is to reject the notion of value based on trades.

I must be missing something. Why should value-based-on-trades be something that can easily be applied to nature, or to all human-nature interactions?

[John Whitehead]

Allen,

I think a distinction should be drawn between environmental values that are useful for environmental policy analysis and environmental values that are useful in and of themselves (but have little policy relevance). For the former, I prefer environmental values based on willingness to pay. For the latter, take your pick.

Also, you said:

The world isn't an economy, and I don't know why you'd expect tools from one to apply easily to the other.

The only place where dollar values appear is in an economy. If the world isn't an economy then you can't assign economic values to it. Economic values can only be assigned to the use of the world's resources.

If you don't think that the world's resources should be used, go ahead and say that. I don't believe an exercise to show that the world's resources have infinite, or double the income, or whatever, economic value in order to justify a screeching halt to the use of the world's resources makes sense. You're better off using a good ethical argument than a bad economic argument.

Thanks,

John

[Mr. Nobody]

John,

"Assigning values to the environment that are not income constrained is to reject the notion of value based on trades."

A bit of overgeneralization, eh?

Mr. Nobody

I don't like the ecological economics stuff much myself- I find it strangely disturbing that most of them proudly reject economics, yet call themselves economists, and then do mostly poor economic analysis.

J.S.

[John Whitehead]

Mr. Nobody,

Substitute "income, broadly defined," for "income"?

John

[John Whitehead]

I'm on the phone with Mr. Nobody and we figure out that the value of statistical lives are worth more than the future income stream (VOSL = $6m > 40 years @ $50k/per year) since the value of consumption is greater than income.

I say: "lives are different."

So, are ecosystems different? Only if we are considering an ecological armegeddon. Again, I think, for marginal changes in the environment (i.e., policy purposes) annual economic value is less than annual income.

-- John

[mr. nobody]

Hey, no fair! No posting while on the phone! Senator Stevens prohibits this; it causes problems with the internet and phone tubes.(see http://www.env-econ.net/2006/07/an_update_on_th.html).

[Dave Iverson]

Looks like Costanza has another big cash cow to milk. I suspect his nemesis, Mark Sagoff, is apoplectic. See, for example, Sagoff's new book Price, Principle, and The Environment. A book I ought to get and read soon. Here is a review. PS.. I consider myself an ecological economist, and side with Sagoff.

[Dave Iverson]

Damn. My Mark Sagoff, Price, Principle, and The Environment "book review" hyperlink didn't work. Sagoff book review here: http://ndpr.nd.edu/review.cfm?id=1961

[Dano]

Given the methods of the ecological economists, on average, the environmental cost will be twice that and there will be no economic policy implemented.

Yes.

That's the danger. That's why some have their panties in a twist about accurately valuing ecosystem services.

Malthusian scenarios at small scales, such as in Somalia and Ethiopia (and in the past such as the Maya) show us that there are limits, but we don't want to hear that. Throwing numbers around (oooh! Numbers!) clarifies the issue for some. This will affect society's ability to continue to exploit resources without consequence.

Best,

D

[Adam]

Just a thought, and I am most probably wrong, but drawing on what John said when you mention *annual* income, wouldn't it be possible to rationalise having a world/ecological value greater than income if we use a more dynamic analysis? I would have thought since the world value must be calculated with utility of future generations in mind, we must also incorporate future income? It just seems that the discussion seems to be very static. Thanks.

[Eli Fishpaw]

The problem of using currency to assess value to ecological assets, is that we must
consider who we could sell those assets to. Many issues of sustainability have long term
survivability value. Liquidating those assets can give some short term value. However,
the net value of the whole is reduced. This leads to through put consumption and
depletion. The real economic value of avoiding externalities is the reduced monetary and
other measured cost of living in sympathy with the environment.

A sustainable economy is one where economic benefit (goods and services)are produced
in such a way as to preserve, maintain or enhance the value of the resources from which to
generate future economic benefit.

Though implementing a sustainable economy will be highly complex and nuanced, I would
like to see the above statement be considered by the mainstream in evaluating if we have a
sustainable or depletion economy.

[Ray]

We did not pay for the Environment to begin with, therefore I also agree that the Env can be worth more than annual income. We pay to preserve the environment that is already there (Abatement), not to build it.

[garhane]

I was wondering, are those the same guys who figured out that a USA life was worth 1.5 million and an African life was worth 100,000. If anyone needed to be told that was also BS. I mean look at all those millionaires jumping up and down on the rooftops in New Orleans. They died by the hundreds though they had all this value? And look at the lives that were not lost in Cuba, where they are supposed to have these third world values. Gosh golly, could it be that western economists are just a little tangled up in ideology, and since the ice floes are melting fast you can have these incommensurate floes kind of bumping into each other. Do you think it is safe to allow economists to come near environmental issues?