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Environmental Vauation

Cost-Benefit Analysis

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Cost-Benefit Analysis● Social appraisal of investment projects● Attempts to appraise investment projects in

ways that correct for market failure● Accounts for consequences stretching over

future time:- Future market benefits

- Future market costs

- Future positive externalities

- Future negative externalities

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Intertemporal Welfare Economics● Socially optimal (Pareto efficient) decision

sought after (Kaldor-Hicks)● Must achieve efficient allocation of resources

over time● Utility not measurable, but a function of

consumption- How is total consumption divided between the individuals during the time period?- Total consumption levels in each period

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The “standard case”

● Development vs Conservation● Development has well defined societal benefits

(B) and costs (C)● Conservation has a number of benefits not

priced in markets – loss is a cost (EC)● Project given “go-ahead” if

∑(B) > ∑(C)

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Method (1)

2.Calculate the Present Value of Market-Based Costs (Ct):

PVC = ∑(C

t/(1+r)t)

3.Calculate the Present Value of Market-Based Benefits (Bt):

PVB = ∑(B

t/(1+r)t)

1.Choose a discount rate (real rates, adj. for inflation)● Marginal rate of return on the investment● Consumption discount rate● Some “standardized” social discount rate

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Method (2)4.Determine the value of foregone, Non-Market Environmental

Benefits – Environmental Cost of the Project (ECt)

TC, HP, CV

NOTE - EC depends of time as well (Krutilla-Fisher model):● Substitution possibilities of extracted goods●Technical progress● Income elasticity of demand for environmental goods

5.Calculate NPVNPV = B

t – C

t – EC

t

6.Decision RuleNPV > 0 – proceed with development

NPV < 0 – don't develop (conservation)

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Final Considerations● Time frame: when calculating costs, the time

variable must translate the period of impact, not of operation

● Sensitivity analysis: re-test for different discount rates, to see how robust is the analysis outcome

● Magnitude of result: due to uncertainty, a barely positive or barely negative CBA can't be trusted to decide whether to develop or not.

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Example

The e c o no m ic s o f b io d iv e r s ity c o ns e r va tio n: a s tudy o fa c o ffe e g ro w ing re g io n in the We s te r n G ha ts o f Ind ia

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The problem● Economic forces drive are driving down

ecosystems and biodiversity● Tropical forests are being converted quickly,

especially into agricultural land (66.8% of the total between 1981 and 2002)

● Biodiversity's value to society is not accounted for by market price – externalities

● Valuing the costs and benefits of conservation will allow appropriate policies to be enacted in order to conserve biodiversity

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Objectives

1.To estimate the opportunity cost of biodiversity conservation in terms of the coffee benefits foregone.

2.To assess the external costs borne by the local community due to wildlife conservation.

3.To analyse the local community’s willingness to pay for participatory biodiversity conservation and the socio-economic and other factors influencing the same.

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Method, sample, data● CV study● 125 respondents, living in a village in the vicinity of

a reserve forest, coffee plantation dominant activity● Stratifies sample, according to size of owned land● Discrete choice, “yes”/”no” to bids● Opportunity cost of conservation● Measure of damages caused by wildlife● Measure of transaction costs in claiming

compensation for wildlife-caused damages

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Opportunity Cost of Biodiversity Conservation

● Coffee is the main competitor for land use

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NPV of Cultivating Coffee

● 2 types of coffee (Arabica vs Robusta)- grown in different areas- very different yields- very different market prices

● “Internal” costs of agriculture: establishment, recurring

● “External” costs of defence from wildlife● Life-span: 50 years● Discount rates: 8%, 10% and 12%

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Costs faced by farmers

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NPV of Cultivating Coffee

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Sensitivity Analysis

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External Costs

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Transaction Costs of Claiming Compensation for Wildlife Attacks

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WTP for Conservation

Reasons (general)● Future generations (36%)● Livelihood function (26%)● Ecosystem functions (25%)

Reasons (elephants)● Existence value● Aesthetic value● Livelihood function● Option value

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Conclusions● Authors don't compute benefits of conservation● They take the high benefits of coffee and compare it to its costs● Opportunity cost of conservation is high...● … since the benefits of coffee are very high...● … even considering external costs and transaction costs

involved in compensation● The cost of conservation is directly linked to the market price of

coffee.● Policy-wise, changing the rules for obtaining compensation

might help conservation● It is possible to have a reasonable WTP but be disincentivized

towards it at the same time

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References

● Ninan, K. N., Sathyapalan, J. (2005). The economics of biodiversity conservation: a study of a coffee growing region in the Western Ghats of India. Ecological Economics, 55, pp. 61-72.

● Perman, R., Ma, Y., McGilvray, J., Common, M. (2003). Natural Resource and Environmental Economics. Essex: Pearson Addison-Wesley.