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CHAPTER 5: ECONOMIC ASPECTS OF EUTROPHICATION

5.5. Economic Evaluation of Eutrophication

5.5.2. Valuation Methodologies

Measurement of the benefits and costs of an improvement in water quality are often difficult. First, for a complete analysis, all relevant benefits and costs have to be measured. The effects on all parties concerned have to be taken into account, which might involve studying a local region or an entire country. Second, the physical benefits and costs have to be measured in monetary units. Some environmental goods and services are marketed and thus have prices associated with them, for example, commercial fishing. There are market-based methods for estimating costs and benefits in such cases. These methods involve tallying the payments that consumers actually make for better water, better recreational sites, more desirable fish species, or other attributes of a cleaner water body. Also, the cost savings to consumers due to fewer illnesses and lower use of water filters, for example, have to be accounted for. However, there are other values associated with improved water quality, such as aesthetic values and species diversity, which have no connections to markets. These values must be measured by experimental means, through hypothetical markets. The willingness to pay (WTP) expressed in hypothetical markets is a measure of the value people place on the particular good or service flow. The WTP can be thought of as a non-market equivalent to market prices.

Some of the economic effects of eutrophication and the types of benefits derived from reducing eutrophication are outlined in Table 5.7. Some of the common economic methods used to measure the different types of benefits outlined in the table are discussed below. More complete discussions of valuation methods are available in Braden and Kolstad (1991) and Freeman (1993).

Table 5.7. Economic effects of eutrophication and benefits of reducing eutrophication.

Some of the most commonly used valuation techniques are described below.

Market-based Methods

Market-based methods are used when people make choices in the market place among goods or services that have some characteristics related to the environment. The observed market choices can be used to estimate the value consumer's place on the environmental factors. For example, when people buy property, some of the characteristics they may consider include water quality in the area. The price they pay for a particular property will reflect the value they place on the environmental qualities, as well as other characteristics of property.

"Hedonic models" use statistical techniques applied to market prices to estimate peoples' WTP for particular environmental qualities apart from characteristics of the property, such as lot size, location etc.

A second method that uses market information is the travel cost method, which is typically used to estimate value of recreation sites. Visitors to such sites incur time and travel expenses, which is a proxy for price and reflects the willingness to pay for the characteristics of the site. The method uses data on the type and number of recreation trips that people make to different sites at varying levels of expenses. Econometric analysis is used to estimate the relationship between the attributes of the trips and travel costs. This is a useful method when trying to understand the benefits of improving environmental quality at particular sites, for example the benefits of reducing eutrophication at one lake versus another.

A third type of market-based valuation relies on input costs. For example, if a particular environmental improvement promises to reduce illnesses in a population, there should be fewer doctor visits, workdays missed, and medication prescribed. The savings from fewer visits to doctors, the income that results from more days worked, and the reduced expenditures on medication together might be used to assign value to the environmental improvement. This will be a lower-bound estimate of value, because people probably value the freedom from illness at more than they actually spend on remedies or lose in wages.

All of these market-based approaches are more realistic and meaningful where markets are the predominate places where goods and services are exchanged and where prices are freely determined, not administered. These circumstances more closely describe the economies of developed nations than developing nations. In developing nations, analysts may be forced to compensate for various types of distortions and to seek non-market alternatives for assigning values.

Methods Based on Hypothetical Markets

Often, the value of environmental quality cannot be estimated from market information. In such cases, methods based on hypothetical markets are often used. These methods typically involve survey research to solicit verbal willingness to pay for specified environmental amenities. These are also known as the contingent valuation method. People are surveyed, through mail, phone, or personal interview, and asked to state their preference for alternate scenarios of the environment. They are also asked to specify their willingness to pay for the scenario as if it were available to them. For example, the survey may ask the willingness to pay to reduce eutrophication such that water clarity increases by a specified amount or that fish species increase by a certain number. The contingent valuation method allows the estimation of value directly from survey responses.

The method is very flexible and statistically less challenging than many market methods, but may also be subject to inaccuracy due to the hypothetical nature of the investigation. It has been strongly criticised when governments have used the results to formulate policy. The major criticism of the contingent valuation method has centred on its hypothetical nature. The method is very useful for extracting information relevant to a particular issue but the financial numbers are purely hypothetical and non-replicable. The aim when applying the method has been to determine the benefits of a particular policy. It is important to note that searching for accurate data and carrying out interviews for contingent valuation incur costs. These costs can be substantial and prohibitive for developing countries. If the decision has bee made by government that eutrophication is a problem then the questions arises, "Do we need to know the benefits (financial and or economic) given eutrophication has been established as an environmental problem?" Rather than invest in contingent valuation it may be more appropriate to implement a policy and invest in monitoring activities thus dealing with the problem directly. Policies can be implemented at low cost and scarce funds can be used to monitor (in most cases scientifically) the impact.

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