Willingness to Pay (WTP) is one method that we can use to determine the price of a good. This is useful in cases where price is not known, e.g. noise pollution or timely forecasts from the national meteorological service. This method tries to determine the price that people are willing to pay for the good. In this session, there are three main concepts. First, we must identify the private costs and benefits versus the social costs and benefits. As seen in M4s1 on CostBenefit Analysis, the social costs and benefits are often spread out across society, rather than being paid or accrued directly to the company or organization that is undertaking a project. The social costs are therefore externalities; they must be included in the decisionmaking process to ensure greatest efficiency. The second key concept is that in decisionmaking, we must find the option where benefits are greatest and costs are least. Therefore, it is important to correctly measure costs and benefits.
Asian Climate Training (ACT) Willingness to Pay (WTP) Sitanon Jesdapipat Centre for Ecological Economics Chulalongkorn University, Phayathai Road Bangkok 10330, Thailand Learning objectives • To understand the concept of willingness to pay and how it can be used • To understand what WTP can and can not accomplish • To become familiar with methods for discovering a group’s WTP for a good or service Keywords and phrases Net benefits Marginal costs and benefits Use value Non-use value Contingent Valuation Key Concepts Willingness to Pay (WTP) is one method that we can use to determine the price of a good This is useful in cases where price is not known, e.g noise pollution or timely forecasts from the national meteorological service This method tries to determine the price that people are willing to pay for the good In this session, there are three main concepts First, we must identify the private costs and benefits versus the social costs and benefits As seen in M4s1 on CostBenefit Analysis, the social costs and benefits are often spread out across society, rather than being paid or accrued directly to the company or organization that is undertaking a project The social costs are therefore externalities; they must be included in the decision-making process to ensure greatest efficiency The second key concept is that in decision-making, we must find the option where benefits are greatest and costs are least Therefore, it is important to correctly measure costs and benefits Calculating net benefits The outcomes of this calculation (maximizing costs minus benefits) depends on the following: • What is included in the categories of costs and benefits • How each of the goods/services are valued 4.2 Willingness to Pay • The discount rate(s) • Risks and uncertainty • Choice of “prices”: Current/real/shadow In calculating costs and benefits, it is important to note that varying amounts of the good or service results in a different price (or willingness to pay) There will be a marginal cost and marginal benefit for each unit & KEY WORDS & Marginal Costs and Benefits Marginal cost (benefit) is the incremental price (level of utility) of a good or service For example, Glenn has been walking in the desert all day He reaches an oasis, and comes upon a lemonade stand Candyce offers him glass a lemonade He is very thirsty, so the benefit of this first glass is 10 units of utility He drinks a second glass of lemonade, but since he is not as thirsty anymore, this glass gives him only units of utility Another important concept was introduced in M4s1 in the description of opportunity costs These are the avoided costs and foregone benefits of choosing one option over another What are we evaluating and how are we doing it? When we buy something, we are evaluating the specific characteristics of that good This includes the amount, its newness, its function, etc When there is a market for the good, that price reflects the Willingness to Pay For goods such as environmental improvements, there often is not a market For that, we must try to evaluate the total economic value This can be done by estimating the following: • Use value (both direct and indirect uses) • Non-use value (eg knowledge of the existence of a species) • Option value Total Value = Use Value + Non-use Value + Option Value In a situation where there is no market, the Contingent Valuation Method (CVM) technique can be used to measure the value of environmental services or improvement This can be done through questionnaires, interviews about scenarios, or through focus group discussions Asian Climate Training (ACT) & KEY CONCEPT & Contingent Valuation Method (CVM) Contingent valuation is a method, often employing questionnaires, to help discover a person’s willingness to pay for a particular environmental good or service CVM uses the following: • Open-ended question • Close-ended question (single bid/ 2-bounded) • Contingent ranking approach (many projects) • Bidding game • Contingent activity question Beware!!! Some of the caveats in using this method include: • Scenario misspecification • Implied value cues • Incentives to misrepresent value References Dixon, J.A., L.F Scura, R.A Carpenter, and P.B Sherman, 1994 Economic Analysis of Environmental Impacts Earthscan, London Hanemann, W.M., 1994 “Valuing the environment through contingent valuation” Journal of Economic Perspectives, Vol 8, No 4, pp 19-43 Kohlin, G., 2001.”Contingent valuation in project planning: the case of social forestry in Orissa, India” Environment and Development Economics, Vol 6, No 2, pp 237258 O’Connor, D., 1999 “Applying economic instruments in developing countries: from theory to application,” Environment and Development Economics, Vol 4, No 1, pp 91-110