valuation of ecosystem services iii&iv

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Valuation of ecosystem services III&IV

Charit tingsabadh

25 September 2007

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Lecture No./date Topic Remarks/readigns

1st, 17-9-2007 Natural systems: coral reefs and other marine ecosystems

Udomsak’s Phi Phi Study

2nd , 18-9-2007 Natural Systems: Forest ecosystems - Direk’s Khao Yai Study

3rd , 19-9-2007(cancelled) Natural Systems Biodiversity (TBA) Simpson

4th , 20-9-2007 Practical work: survey design: case based on Bangkok

TBA

5th , 25-9-2007 Environmental resource: air quality and health impacts

Class discussion and group work

6th , 26-9-2007 Environmental resource: water quality-health and recreational values

7th , 28-9-2007 Revision exercises: Assignment presentation 1: air and water quality cases

8th , 24-9-2007(cancelled)

Revision exercises: Assignment presentation 2(TBA)

Open book

Revised Schedule, 25/9/07

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outline

• Environmental attributes

• Price as sum of values of attributes

• Hedonic price method

• Implicit price from price function

• Examples

• House price and environmental attributes

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Environmental attributes

• Goods seen as a bundle of attributes, including environmental ones

• Give examples:– House near airport-– House near garbage dump site– House near park with good view– House near BTS – Etc.

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Price as sum of values of attributes

• When we buy a house, we buy the whole bundle• But how does each attribute give value to the

total price• Think of a computer- specifications differentiate

cheap and expensive computers• Imagine a price function for a cimputer• Same with other goods, involving environmental

attributes

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Hedonic price method

• Price function called Hedonic price function

• Can have various specifications (forms)

• See example:

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valuation with hedonic price model

• From price function, derive implicit price function

• Use this to derive demand curve

• Apply standard demand theory to find consumer surplus

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Valuation 5: Hedonic Pricing

• A partial equilibrium model of prices, wages and pollution

• The hedonic price equation• From hedonic prices to welfare• Applications: Forests and

earthquakes

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Last week we looked at

• The travel cost method, which assumes that certain observable behaviour is a complement (e.g., travel to recreate) or substitute (e.g., airbag for road safety) to unobservable consumption of an environmental good or service

• Before that, we looked at restricted demand theory and welfare measures, and contingent valuation: stated preferences

• This week: The other revealed preference method, looking at household consumption

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The Price of Land

• The asset price equals the value of the stream of services that the parcel can be expected to provide in the future, netted back to the present

• The rental price of land is the value of renting for a short period, e.g., for agricultural land, the difference between expected yield times prices minus the costs of labour, seeds, pesticides etc

• Pollution degrades value and thus price

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Starters

• Consider agricultural land in a valley, half of which is upwind a polluting plant, the other half downwind – the difference between land value is only an indication of the value of pollution if this is a small valley in a large market

• Consider an open city, with free mobility – utility must be the same everywhere, so land prices exactly compensate for pollution; in a closed city, reducing non-uniform pollution would affect property values as well as utility

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Wages, Land Prices and Pollution

• Arguably, pollution should suppress land prices – but we see that urban land is worth more than rural land

• Urban wages are also higher than rural wages – do wages compensate for pollution?

• We will construct a model of urban land prices, wages and pollution -- first, analytically and then we‘ll derive a function that can be estimated

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Wages, Land Prices and Pollution -2

• Consider a number of cities that have different levels of pollution p; firms produce a composite good X (at price 1) and move about freely; the wage rate is w and the land rent r vary between cities

• Consumers are identical, purchase X and land for housing L

• Assuming free movement, utility is the same everywhere: V(w,r,p)=k

,max ( , , ) s.t.

X LU X L p w X rL

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• In a constant cost industry, average production costs equal marginal production costs equal price, so that for all cities c(w,r,p)=1

• Pollution may affect costs in different ways– Unproductive (pollution hinders production)– Productive (pollution regulation hinders prod.)– Neutral (but wages and rents affect prod.)

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• Higher pollution must be compensated by either higher wages or lower land rents

• V=k, p w, r• If pollution is productive, pollution raises

wages but has an ambiguous effect on land rents c=1, p w, r

• If pollution is unproductive, pollution depresses land prices but has an ambiguous effect on wages c=1, p w, r

• If pollution is neutral, pollution decreases land prices and increases wages

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Hedonic Price Theory

• Consider an homogenous area that can be considered a single market from the point of view of, say, houses

• Each house is characterised by a single characteristic, z, say, air pollution

• We are interested in the relation between price and air quality, p = p(z)

• We look at the partial equilibrium, and assume that the market is perfect

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Hedonic Price Theory -2

• The consumer buys exactly one house as well as other goods x

• Alternatively, we consider the budget for buying the house, guaranteeing a certain level of utility

• This is known as the bid function – it tells you the maximum amount a consumer is willing to pay as a function of income and air pollution

,max ( , ) s.t. ( )

x zU x z x p z y

ˆ ˆ( , ) ( , , )U y z U y z U

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• The producer maximises profits

• This is known as the offer function – it tells you the minimum amount a producer is willing to accept as a function of costs and air pollution

• In the equilibrium, the marginal bid, the marginal offer, and the house price are identical – all parties in the market value the house the same, at the margin

ˆ( , ) ( , , )c r z r z

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• The hedonic price function tells you how price varies with environmental quality and other factors (income)

• Take the derivative of the price to environmental quality – this gives the price of environmental quality

• Do this for various income levels• This gives the price of env. quality as a

function of income – that is, an inverse demand function

• Sometimes direct, sometimes statistical

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Theory and practice

• Theory and practice differ substantially• Niceties such as the difference between

compensated and uncompensated demand functions are typically ignored

• Only one market (housing) is analysed• Market distortions are ignored• The reason: data; although wages and house

prices are known, it is hard to get data because of privacy – one can readily get ask prices for houses that are currently on offer, but not actual prices

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Application: Earthquakes

• Does earthquake risk affect house prices?• California designated Special Study Zones

(SSZs) which are risky; house owners know and tell potential buyers

• The price of house in these zones is $4650 ($2490) lower than that of identical house outside those zones in Los Angelos (San Francisco)

• This is half the price of a swimming pool, a third of a view

• Before notification, risks were irrelevant

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Ln(home sale price)

LA SF

Age of home -.002 .0005

Size .00003 .00005

# Bathrooms .098 .260

Pool .093 .067

View .143 .128

SSZ -.056 -.033

School quality .020 .012

Percent black -.00004 -.006

Air pollution -.001 -.004

Distance to work -2.313 -.401

Distance to beach -.016 -

R2 .79 .69

# Obs 4865 5438

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Application: Forests

• Do green areas affect house prices?• The city of Salo, 32,000 inhabitants, in

Finland• About 10% of the area is green• 590 appartments in terraced houses were

sold between 1984-1986• The sale price was regressed on size,

distance to city centre, distance to Nokia, age, forest view, type of house, and distance to nearest green area (based on satellite images)

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example

Leggett&Bockstael,1998:

Evidence of the Effects of Water Quality on Residential land Prices

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Another Example

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Lecture IV: Green GDP

• From valuing ecosystems to including them into GDP accounts

• What to do?

• Green GDP: Concept MeasurementResults

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Green GDP: Concept

• GDP measures flow of value-added from

activities• Capital measured for GDP as investment (+/-

change in capital stock) on expenditure side• Green GDP should measure what?• Flow: ecosystem services• Stock: change in the stock of natural capital that

produces the ecosystem services

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Measurement (1)

• For flows, may be already accounted for as part of operating surplus, overstating the rate of profit if natural capital is used

• This can be considered resource rent

• Example: raw water is not costed for production of tap water, so profit of water company includes rent from use of raw water

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Measurement (2)

• For Stock: value of change in stock of natural capital is not included in GDP estimate

• Example: conversion of forest land to farm land counts as +investment for land, but as –investment for forest

• Water quality deterioration implies loss of amenity values, but cost is not counted

• MANY PROBLEMS!! • See SEEA by the UNSNA• Also paper on ENRAP

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Results

• This will be an interesting class assignment, for someone to present in the presentation

sessions.

Thank you

valuation of ecosystem services iii&iv

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