Lecture Note
For Undergraduate Students
Contents:
CHAPTER – 4: Environment Valuation
4.1. The Need to Value Resources
4.2. The Economic Concept and Nature of Value
Meaning of Value for Economist and Ecologist
4.3. Types of Economics Value
Use Value Vs. Non-use Value
4.4. Valuation Techniques
Revealed Vs. Stated Preference
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4.1. The Need to Value the Environment
While env’tal resources provide a nearly limitless set of valuable
attributes, many of their services remain un-priced by the market.
In other words, these env’tal assets do not have the right value
(price) for their services.
Measures of value are what economists would like to estimate so
that env’tal services and other non-marketed goods can be included in
policy decisions on how to prioritize and allocate public monies.
These measures are very helpful to make cost-benefit analysis and
to guide policies.
Hence, the original and the principal motivation for env’tal valuation
is to enable env’tal impacts to be included in cost–benefit
analysis.
In-facts, impacts can be favorable or unfavorable.
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. . . Con’d
Taking the latter first, suppose that there is a proposed development – a
mine or a tourist resort – in a wilderness area.
The argument for valuing the services provided by the wilderness area,
which would be reduced and perhaps totally lost if the development
goes ahead, is that they be compared with the standard costs and benefits
of the project so that a proper decision on it can be made.
As far as conventional economic theory is concerned, the value of
all env’tal assets can be measured by the preferences of
individuals for the conservation/utilization of these
commodities.
Given their existing preferences and tastes, individuals will hold a
number of values which, in turn, results in objects being given various
assigned values.
In order to arrive at an aggregate measure of value (total economic
value), however, the use values and non-use values from these env’tal
services must be considered.
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4.2. The Economic Concept and Nature of Value
What is the meaning of Value?
For the ecologist: “that which is desirable or worthy of esteem for its
own sake; a thing or quality having intrinsic worth”.
This corresponds to the philosophers’ use of “intrinsic value” of something
which is “valuable in and for itself – if its value is not derived from its
utility”.
Intrinsic value is said to be an “end-in-itself”, “not just a means” to
another’s ends.
For the economist: value corresponds to the philosophers’ use of
“instrumental value” of something which is value that serves as a
means to some other end purpose.
This implies that the value of something lies in its contribution to some
other goal. In economics, the goal is increased human well-being.
The economic theory of value is based on the ability of things to increase
the well-being or utility of individuals who make up the society.
Hence, the economic value of a resource-environment system is a measure
of its contribution to human well-being.
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4.3. Types of economics values
Many scholars classify the economic benefits of natural resources into
several categories making distinctions between use values and non-
use values.
There are two types of values: Use Value and Non-use Value.
A) Use Value: Satisfaction/utility that consumers obtain by directly
consuming the goods. There are three types of use values: direct
use value, indirect use value, and option use value.
i) Direct Use: the outputs of the resource that can be directly consumed:
a forest may yield annually a certain amount of wood that can be sold or
used for heating and construction; a lake provides fish to fisherman;
Enjoying nature (recreation) are some example of direct use value
ii) Indirect use: relates to functional benefits, the outputs provide a social
benefit from ecosystem functioning
For example, water purification, erosion protection, carbon
sequestration
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. . . Con’d
iii) Option use value: is a value a resource where individuals are willing to
use in the future use of the resource. In other words, option value refers
to a sort of insurance premium individuals may be willing to pay to
retain the option of possible future use.
For example, people will be willing to pay some amount of money for the
preservation of wilderness or the protection of a unique site not
because they are currently using them, but because they want to reserve
an option that would guarantee their future access to these resources.
B) Non-use Value: It’s a gain in person’s utility without the person actually
using the good directly. Non-use values are of two kinds: bequest value
and existence value.
i) Bequest values: This reflects the publics’ WTP to ensure future
generations to enjoy the same env’tal benefit in the years to come. In
other words, it refers to the satisfaction that people gain from the
knowledge that a natural resource endowment is being preserved for
future generations.
Basically, bequest demand exists to the extent that the present generation
is willing to pay for preserving natural resources for the use of future
generations.
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. . . Cont’d
ii) Existence value: it refers to the satisfaction that some people derive
from the preservation of natural resources so that there remains a
habitat for fish, plants, wildlife and so on.
This non-use value reflects the “moral” or philosophical reasons for
environmental protection, unrelated to any current or future use.
It is related to the for example the scientific society and the value from
knowledge of continued existence of species, habitats and ecosystems.
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4.4. Valuation techniques
Valuation methods are usually divided into two approaches: Stated
Preference (direct methods) and revealed preference (indirect
methods).
4.4.1) Stated preference (direct methods) seek to infer individuals’
preferences for env’tal quality directly, by asking them to state their
preferences for the environment.
It basically involves asking people how much an environmental good is
worth. This information is collected through surveys
The stated preference technique relies on respondents making
choices over hypothetical scenarios (constructed market/arteficial
market).
Respondents are asked to choose the ‘best’ alternative from among a
set of hypothetical scenarios, which are completely described by a set
of attributes generated from an experimental design.
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. . . Cont’d
4.4.2) Revealed preference (indirect methods) seek to recover
estimates of individuals’ WTP for environmental quality by
observing their behavior in related markets.
Hence, the techniques use observations on actual choices made by
people to measure preferences on surrogate (substitute) market.
The primary advantage of the Revealed Preference technique is the
reliance on actual choices, avoiding the potential problems associated
with hypothetical responses such as strategic responses or a failure to
properly consider behavioral constraints.
However, all of the methods attempt to express consumer demand (or
preferences) in monetary terms, i.e.
the willingness to pay (WTP) of consumers for a particular non-
marketed benefit, or
their willingness to accept (WTA) monetary compensation for the loss
of the same.
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. . . Cont’d
4.2.1. Stated preference
In this approach, information on the value of an env’tal benefit is
obtained by posing direct questions to consumers in a
hypothetical market about their:
willingness to pay (WTP) for it, or,
willingness to accept (WTA) cash compensation for losing the benefit.
The objective is to estimate the population WTP for a particular
env’tal quality from the responses of a sample group.
A) The contingent valuation method (CVM): The CVM involves the
use of survey questionnaires to elicit hypothetical
willingness- to-pay information.
The CVM requires that individuals express their preferences for some
env’tal resources or change in resource status, by answering question
about hypothetical choices.
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. . . Cont’d
The respondents to a CVM questionnaire will be asked a variety of
questions about
how much they would be willing to pay (WTP) to ensure a welfare gain
from a change in the provision of a non-market env’tal commodity; or
how much they would be willing to accept (WTA) in compensation to
endure a welfare loss from a reduced level of provision.
It is called “contingent” valuation, because people are asked to state their
WTP or WTA, contingent on a specific hypothetical scenario and
description of the env’tal good or service.
Examples of CVM applications include:
improvements in water quality for fishing or swimming
improvements in visibility from reduced pollution
preservation of endangered species
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. . . Cont’d
The key elements of a CVM survey are:
a description of the good to be valued (hypothetical market)
a method of hypothetical payment: the “payment vehicle”. The
most common payment vehicles are user fees and tax increases.
a set of questions to obtain data on preference and socioeconomic
factors those are likely to affect valuation (including interest in
nature, income, education, age, etc.)
a “value elicitation” method - this refers to the procedure by which a
stated value is elicited from the respondent.
The main distinction between d/nt types of CVM surveys is the
value elicitation method used.
Generally, there are two main elicitation methods: open-ended
and closed-ended (discrete choice).
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. . . Cont’d
A) An open-ended survey asks the respondent to state his/her maximum
WTP (or less commonly, minimum WTA) for a change in
environmental quality.
It is “open-ended” in the sense that there is no limit imposed on the
amount that a respondent could potentially state.
B) A closed-ended survey provides the respondent with less freedom:
the respondent is asked to choose from a discrete set of possible values.
(Hence often called “discrete choice surveys”).
There are two types of closed-ended approaches: a payment card
format and a referendum format.
i) The payment card format provides the respondent with a card with a list
of possible payment amounts. The respondent is then asked to circle the
maximum amount he/she would be WTP.
ii) The referendum format asks the respondent to state “yes or no” as to
whether he/she is WTP a particular amount, the “bid value”. So, under this
approach a WTP figure is offered to the respondent who is asked if s/he
would be WTP that amount, ‘yes’ or ‘no’
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. . . Cont’d
Issues and shortcomings with contingent valuation:
The major concern with the use of the CVM is the potential for
survey respondents to give biased answers. Some of the biases are: -
a) Strategic bias: it is a situation in which people may inflate their
stated values because they do not have to “put their money where their
mouth is.”
In other words, it arises when the respondent provides a biased answer in
order to influence a particular outcome.
(b) Hypothetical bias: hypothetical bias can enter the picture because
the respondent is being confronted by a artificial, rather than an actual,
set of choices.
So, as s/he will not actually have to pay the estimated value, the
respondent may treat the survey casually, providing ill-considered
answers.
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. . . Cont’d
(c) Information bias: the survey result is dependent of the information
provided to respondents. Thus, what people are WTP for env’tal assets
depends on the quantity and quality of the information provided to
them, including the way questions are constructed.
Information bias may arise whenever respondents are forced to value
attributes with which they have little or no experience.
(d) Payment vehicle bias: WTP varies depending on whether an income
tax increase or an entrance fee is used as a method of payment for the
good.
(e) Aggregation bias: Problems in aggregating individual valuation
responses; and it arises from sampling errors (a non-random sample
selection) and insufficient sample size.
The characteristics of the sample will not be representative of the general
population.
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. . . Cont’d
B) Choice Modeling Approach (CM): The choice experiment
method adopts a particular view on how the demand for the env’t
goods is best pictured, known as the characteristics theory of
value.
This states that the value of, say, a forest is best explained in terms of the
characteristics (called attributes) of that forest.
Means, different forests actually have different ‘bundles’ of attributes,
and what people value are these bundles.
As a result, the value of any particular forest then can be broken down
into the value of its different attributes.
Accordingly, using observations of people’s choices b/n different
bundles of attributes, the researcher can conclude
(i) which attributes significantly influence their choices;
(ii) assuming price or cost is included as one attribute, what they are WTP for an
increase in any other attribute;
(iii) what they would be WTP for a policy that changed several attributes
simultaneously.
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. . . Cont’d
Hence, as a procedure, each respondent in a CM survey is presented:
with several choice sets, each of which requires the respondent to select their preferred
alternative from among the three or four offered in a single choice set.
each respondent gets the same no of choice sets, but the composition of the set of
choice sets presented varies across respondents; and
each choice set must include the status quo as one alternative.
In the hypothetical case being considered, a choice set could be presented
to the respondent as follows:
Choice Set:
Option A: Forest A with attribute X, attribute Y, and attribute Z.
Option B: Forest B with attribute X, attribute Y, and attribute Z.
Option C: Forest C with attribute X, attribute Y, and attribute Z.
Option D: Status quo (current situation).
The respondent would be asked to select their preferred alternative from
among the four options. The attributes (X, Y, and Z) represent different
characteristics of the forests, and the respondent's choices will help
determine the value they place on these attributes.
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. . . Cont’d
The generated data in the CM survey is analyzed on the assumption
that respondents have chosen between alternatives on the basis of
selecting the one from among those available which converses the
highest utility.
Most often, the choices that individuals make are analyzed using a
multinomial logit model.
The three main sorts of information that can be extracted from the
response data are:
the trade-offs between attributes – for example how much access they
would give up for more bird species;
given that one of the attributes is a money cost, such trade-offs can be
expressed in WTP terms – an implicit price can be estimated for each
non-monetary attribute;
It is then possible to estimate WTP for movement from the status quo to
an alternative comprising any bundle of attribute levels
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. . . Cont’d
Advantage:
The CVM gets the required answer for just one alternative (to the status
quo), the CM can generate answers about a range of alternatives. This is
seen by many of its supporters as the key advantage of CM over CVM.
It is also claimed that it enables the analyst to better control the frame
that respondents will use to form their preferences, thus, for example,
greatly reducing the CVM scope insensitivity problem.
Disadvantages
The main widely recognized problem with CM as compared with CVM is
that it places greater strain on respondents’ cognitive capacities.
There is the danger that respondents adopt rules of thumb to choose
between the alternatives presented.
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. . . Cont’d
4.4.2. Revealed Preference techniques
It is to infer the value that individuals place on the env’t from
their behavior in related markets.
For example, the value an individual places on a recreational
site may be revealed by what that individual spends to get to
the area.
There are several such revealed preference (indirect) approaches to
env’tal valuation, such as the Travel Cost Method, Hedonic Pricing
Method, Dose-Response Approaches, and Averting Expenditure
(Avoided Cost Approach).
Yet, in this level we will see only both the Travel Cost Method (TCM),
and Hedonic Pricing Method (HPM).
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. . . Cont’d
A) Travel Cost Method (TCM): This method measures the benefit
(WTP) stemming from a recreational experience, by looking at
households’ expenditures on the cost of travel to a desired
recreational site.
To put it differently, the TCM is used to estimate the value of
recreational benefits generated by ecosystems.
TCM may infer the value of an outdoor recreational resource (such
as a sport fishery, a park, or a wildlife preserve where visitors hunt
with a camera) by using information on how much the visitors
spent in getting to the site to construct a demand curve for WTP
for a “visitor day.”
The travel cost method is based on the assumption that the cost
that people incur to visit a site is the payment or the “price” of
access to the site and its environmental services.
Hence, it may be measured in the money value of time as well as the
cost of journey.
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. . . Cont’d
The basic idea behind this approach is that the services of a recreation
site, for example a national park, cannot be adequately measured
by the gate price, which is usually very low, yet users of this park come
from various locations.
Therefore, instead of the gate price, the price or the WTP of each user can
be approximated by her or his travel cost.
So, the fundamental principle of TCM is that the value people attach to a
location of env’tal significance can be inferred from the cost they incur in
travelling to it.
As a result, the hypothesis in TCM is that the costs in money and
time spent traveling to a free or nominally priced recreational site
could be used to approximate consumers’ willingness to pay for the
site.
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. . . Cont’d
To apply the TCM, information must be collected (survey) about:
distance from origin (which is focus of the TCM),
number of visits from each origin zone,
demographic (socio-economic) information about people from each
zone,
round-trip mileage from each zone and travel costs per mile, and
the value of time spent traveling or the opportunity cost of travel time.
Advantages of the TCM:
Closely approximates the more conventional empirical techniques used
by economists to estimate economic values based on market prices.
The method is based on actual behavior rather than what people say
they would do in a hypothetical situation.
The method is relatively inexpensive to apply.
On-site surveys provide opportunities for large sample sizes, as visitors
tend to be interested in participating.
The results are relatively easy to interpret and explain.
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. . . Cont’d
Disadvantages of the TCM include:
The simplest models assume that individuals take a trip for a single
purpose – to visit a specific recreational site. Thus, if a trip has more
than one purpose, the value of the site may be overestimated and it can
be difficult to apportion the travel costs among the various purposes.
Defining and measuring the opportunity cost of time, or the value of
time spent traveling, can be difficult.
Interviewing visitors on site can introduce sampling biases to the
analysis.
The method is not well suited for sites near major population
centers where many visitors may be from "origin zones" that are quite
close to one another. If this is the case, they will have low travel costs, but
high values for the site will not be captured by this method.
The method assumes that people perceive and respond to changes in
travel costs the same way that they would respond to changes in
admission price.
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. . . Cont’d
B) Hedonic Pricing Method (HPM):
Env’tal features can increase land and house values if they are
viewed as attractive or they can reduce values if they are viewed as
nuisances.
Therefore, HPM is used to estimate the value of env’ntal amenities
that affect prices of marketed goods.
So, the HPM infers the value of env’tal features from the prices of
traded goods.
It is applicable in those cases where the price of a good is directly
influenced by env’tal factors.
The most frequently used example is the housing market, where
the value of two otherwise comparable properties/apartments
will differ depending on the env’tal amenities in the vicinity of each
site.
Thus, if the proximity to a hazardous waste site leads to a measurable
drop in the property price (compared to equivalent houses in other
locations), this difference in prices gives an indication of the external cost
of the waste site.
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. . . Cont’d
In this way, then, people are implicitly revealing their WTP for avoiding
the hazardous waste by paying higher prices for houses located further
away from such a site.
Hedonic pricing can also be applied to the valuation of external
benefits, e.g. if properties in the vicinity of an undisturbed river or lake
command a higher price than comparable properties elsewhere.
Thus, the HPM may be used to estimate economic benefits or costs
associated with:
environmental amenities (such as aesthetic views or proximity to
recreational sites) or,
environmental quality (including the effects of air, water pollution, or
noise pollution).
The method is based on the assumption that the prices people pay for
goods are influenced by the set of characteristics that they consider
important when purchasing the good.
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. . . Cont’d
Some specific hedonic-type techniques include the
property value approach and the wage differential approach.
A) Property value approach: this is based on the general land value
approach and on a competitive real estate market.
Most HPM applications use residential housing prices to estimate
the value of env’tal amenities assuming that the functions are fully
reflected in land prices.
In-fact, the price of a house is related to the cxcs of the house and
property (size, number of rooms, age, structure), the cxcs of the
neighborhood and community, and environmental quality.
So, if the non-env’ntal factors are controlled for, then any
remaining differences in price can be attributed to differences in
env’tal quality.
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. . . Cont’d
B) Wage Differential: this method is based on the theory that in a
competitive market the demand for labor equals the value of its
marginal product and that the supply of labor varies with
working and living conditions in an area.
Therefore, a higher wage is necessary to attract workers to locate
in polluted areas or to undertake more risky occupations.
Yet, this method can only be used if the labor market is perfectly
competitive.
The impacts of the env’t is worked out after accounting for the
effects of factors other than the env’t (skill level, job responsibility,
alternative jobs available in the area, etc.) that might influence
wages.
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. . . Cont’d
To apply the HPM:
A measure or index of the env’tal amenity of interest must be
developed (for example, distance to a park or open space from a
house).
Cross-section and or time-series data must be obtained concerning
property values and property, and household characteristics for a
well-defined market area.
The data set must include homes with different levels of env’tal
quality, or different distances to an env’tal amenity.
The data are typically analyzed using regression analysis, which
relates the price of the property to its characteristics and the
environmental characteristic(s) of interest.
Advantage and Disadvantage of HPM
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. . . Cont’d
Advantages of the HPM include:
It can be used to estimate values based on actual market
transactions.
Property markets are relatively efficient in responding to
information, so can be good indications of value.
Data on property sales and characteristics are readily available
through many sources, and can be related to other secondary data
sources to obtain descriptive variables for the analysis.
The method can be adapted to consider several possible
interactions between market goods and environmental
quality.
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. . . Cont’d
Disadvantages of the HPM include:
The scope of env’tal benefits that can be measured is limited to things
that are related primarily to housing prices. For example, it is
inapplicable to measuring national parks benefits, endangered species,
ozone depletion, and so on.
The method only captures people’s WTP for perceived d/ces in
env’ntal attributes and their direct consequences. If people aren’t aware
of the linkages (lack of perfect information), the value will not be
reflected in home prices.
The method assumes that people have the opportunity to select the
combination of features they prefer, given their income. However,
the housing market may be affected by outside influences, like taxes,
interest rates, or other factors.
Problem of multicollinearity: some env’ntal variables (such as
alternative air pollution indicators) may be highly collinear. This means
that separate equations for each may need to be estimated; otherwise the
implicit prices will be difficult to entangle.
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End of . . .
. . . Chapter -4
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