Valuing Water in Watershed in the Absence of Market Prices

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Economic Valuation Methods for Efficient Water Resources Management: Theory and Applications Phoebe KoundouriARID CLUSTER, May 2005

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OutlineIntroduction: Economic Framework for Sustainable Water Resources Management Valuation Methods: Revealed Preference Techniques Stated Preference Techniques Applications to Water Resources: Cyprus EU Water Management Project Choice Experiment to Estimate Non-Use Values of Wetlands

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Key Objectives of Public Policy in Allocation of Water ResourcesEfficiency: organization of production & consumption such that all unambiguous possibilities for increasing economic well-being have been exhausted. For water, this is achieved where the marginal social benefits of water use are equated to the marginal social cost of supply, or for a given source, where the marginal social benefits of water use are equated across users. Equity: fairness of distribution of resources and impacts across society. Equal access to water resources, the distribution of property rights, and the distribution of the costs and benefits of policy interventions Environment and Sustainability: Consideration of intergenerational equity & the critical nature of ecological services provided by water resources provide two rationales for considering sustainability.

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Market and Government Failures Water is a public good (non-rival; non-excludable) - Externalities or missing markets Market Failure Government intervention is necessary. Often however governments lack institutional capacity or behave in myopic manner. Government Failure Together these lead to Inefficient Water Resources Allocation over time and space.

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Absence of Market PricesCOST OF GROUNDWATER ABSTACTIONTOTAL ECONOMIC VALUECAPITAL COSTOPERATION & MAINTENANCE (O&M) COSTRESOURCE ADMIN COSTFORGONE VALUE OF ALTERNATIVE USES (present/future)IN SITU VALUE (Cost of Saline intrusion Land Subsidence Drought Buffer)PAID BY USERSCAPITAL COST (credit often subsidized)O&M COST (energy often subsidized)RES.* ADMIN COST* Frequently not levied or do not cover real costsFINANCIAL COSTSRESOURCE COSTENVIRONMENTAL COST

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Environmental and Resource Costs Environmental costs: Costs of damage that water uses impose on the environment and ecosystems and those who use the environment (e.g. a reduction in the ecological quality of aquatic ecosystems; salinization and degradation of productive soils). Resource costs: Costs of foregone opportunities which other uses suffer due to the depletion of the resource beyond its natural rate of recharge or recovery (e.g. linked to the over-abstraction of groundwater). Source: WATECO glossary

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Environmental & Resource Costs in the WFD- Art. 9: E & R costs in the cost-recovery of water services - Art. 9: Member states shall ensure by 2010 that water pricing policies provide adequate incentives for water users to use water resources efficiently, and thereby contribute to the environmental objectives of the WFD - Annex III and Art. 11: Make judgments about the most cost-effective combination of measures with respect to water uses to be included in the programme of measures Art. 4: Possible economic justification for derogation (including designation of water body status).

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The Optimal Price of Water: Impacts of market and government failureWater resource degradation & depletion €MBsMBMEC L+GMEC L

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An Economic Framework to Measure Value of Environmental Functions  Structure & Processes  Environmental Functions    Human Benefits Anthropocentric Values Watershed                       Use Non-Use Values Values...A crucial component of Cost-Benefit AnalysisNeed for economic efficiency and social equity in WRM over the long-term. Thus, need to incorporate full cost recovery of water services.

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The Total Economic Value of WaterTo estimate benefits, need to obtain the TEV of water resources. This is composed of: Use Values Non-Use Values Direct Indirect Option Existence e.g. e.g. e.g. e.g. Hydropower Flood control Future use Biodiversity Drinking water Salinity control of direct and Cultural Heritage Irrigation Microclimatic indirect values Bequest values Fishing stabilisation Water in production Future value of Recreation information

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Total Economic Value in the WFD1- Characterisation of the groundwater basin- Economic significance of water uses - Trends in key indicators and drivers - Dynamic path of demand and supply of water - Gaps in water status by the agreed date of meeting ‘water balance’?2- Assess current cost-recoveryHow much water services cost and who pays this cost? How much of this cost is recovered? Potential cost-recovery mechanisms3- Identification of measures and economic impactConstruction of a cost-effective programme of measures Cost-effectiveness of potential measures Financial & socio-economic implications of the programme of measures are costs disproportionate? Derogations

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Steps towards Estimating TEV1. Identify Uses and Functions 2. Identify Stakeholders (Focus Groups) 3. Choose Appropriate Valuation Methodologies 4. Estimate Monetary Values of Uses

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Valuation Methods and the TEV Components they can estimateRevealed preference methods (indirect methods): Hedonic Pricing Method Travel Cost Method Averting Behaviour Method Residual Analysis (Production Cost Method) Stated preference methods (direct methods): Contingent Valuation Method Choice Experiment Method Meta-Analysis Method Methods not strictly based on economic welfare: Replacement Cost Methods Restoration Cost Methods Use ValuesUse & Non-Use Values (value of conservation)

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Hedonic Valuation Method (HVM)If environmental resource is not traded in any market, because it is a public good, then no market price exists to reveal WTP. A resource can be defined in terms of services it yields or an `attribute' it embodies. This attribute may be embodied in other goods or assets which are marketed, and which do have observable prices. Using these prices you can derive economic value. E.g: Farm prices in an area with good groundwater are most likely higher than in an area without either ground- or surface water. Comparing differences in farm prices across a region and controlling for other influences, then the difference in prices of these farms would lie in groundwater access. Problems: Only capable of measuring the subset of use values that people are WTP for through the related market. If consumers are not fully informed about the qualities of the attributes being valued, hedonic price estimates are of little relevance.

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Travel Cost Method (TCM)Infers the value of a set of attributes from expenditure (time and money spent on the trip) on outdoor recreational facilities or visits to nature reserves. E.g: Valuing the effects on the demand for recreation of a change in water quality in a river. Problems: - Capable of measuring the subset of values that people are WTP for in the related market. - Very few applications outside resource-based recreational amenities. - Data-intensive. - What value should be assigned to time costs of travel? - Statistical problems.

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Averting Behavior Method (ABM)Use of expenditures undertaken by households that are designated to offset an environmental risk, in order to infer WTP for avoiding environmental degradation. E.g: Use of water filters. Problems: - Limited to cases where households spend money to offset environmental hazards. - Insufficient studies to comment on convergent validity.

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Residual Analysis Method (RAM)Values all inputs for the good produced at their market price – except for the water itself. The remaining value of the good, after all other inputs are accounted for, is then attributed to the water input. E.g: Valuing water as an input in production of different crops. Problems: Only part of use-value of water can be captured. Market imperfections can bias valuation estimates.

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Contingent Valuation Method (CVM)CVM relies on a constructed, hypothetical market to produce monetary estimates of value. The value of an environmental resource to an individual is expressed as: - Maximum Willingness-to-Pay (WTP) Minimum Willingness-to-Accept (WTA, Compensation) E.g: Conduct survey to obtain peoples’ bids (either WTP or WTAC) for a specified change in the quality of water in a river, contingent upon the description of a hypothetical market where water quality is traded. Problems: Interviewing bias - Non-response bias Strategic bias - Yea-saying bias Hypothetical bias - Information bias

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Choice Experiment Method (CEM)CEM is a survey-based technique which can estimate the total economic value of an environmental stock/flow or service and the value of its attributes, as well as the value of more complex changes in several attributes. E.g: Each respondent is presented with a series of alternatives of the environmental stock/flow or service with varying levels of its price and non-price attributes and asked to choose their most preferred option in each set of alternatives. Problems: - Simplified version of reality … but CEM eliminates or minimises several of the CVM problems (e.g. strategic bias, yea-saying bias, embedding effects).

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Operational at the policy level?Question: How can these methods be made operational in the context of the development of groundwater management strategies at the policy level? Answer: Recent years have seen a growing interest in the potential for producing generally applicable models for the valuation of non-market environmental goods and services, which do not rely upon expensive and time-consuming original survey work, but rather extrapolate results from previous studies of similar assets. This approach is called meta-analysis for the use and non-use values generated by environmental resources.

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Meta-Analysis Method (MAM)Meta-analysis is the statistical analysis of the summary of findings of empirical studies: i.e. the statistical analysis of a large collection of results from individual studies for the purpose of integrating the findings. E.g: Freshwater fishing meta-analysis of TC valuation studies (Sturtevant, 1995). Meta-analytical research seems to have been principally triggered by: Increases in the available number of environmental valuation studies. - Seemingly large differences in valuation outcomes as a result of use of different research designs.

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Environmental Benefits-TransferTransposing monetary environmental values estimated at one site (study site) to another (policy site). Values must be adjusted to reflect site specific features. When time or resources are limited, this provides an alternative to conducting a valuation study. Using meta-analysis for benefits transfer has advantages. E.g: Environmental Valuation Reference Inventory (www.evri.ca) Problems - May involve bias - Validity and reliability issues

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Applications to Water ResourcesCase Studies Cyprus EU water management project A Choice Experiment to Estimate the Non-Use Values of the Cheimaditida Wetland in Greece

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The ‘Cyprus’ EU Project -------------------------------------------------------------------------------------------------------------------- Predicted Sectoral Growth (GDP: 6%) • Tourism: 5-10% economic growth. • Agriculture: 2.2% economic growth and expansion of government schemes • Residential: 1% population growth ----------------------------------------------------------------------------------------------------------Water Supply Surface Water Groundwater Diversions Desalination ReuseWater Demand Household Agriculture Tourism Environment Water DeficitThe approach has been applied in Crete. (http://www.arid-research.net) It is now applied in France and Finland.

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Policy Recommendations: Inter-sectoral allocation of groundwater should be based on the marginal value of the resource for each sector: Marginal value higher in residential sector than agricultural sector at current use levels. Policy should be directed towards reducing the appropriation of water by agriculture. Balance demands through efficient pricing: Groundwater: Include resource cost Surface water: Long-run marginal cost (LRMC) With limited supply, PED can guide pricing policy PED of water is higher for residential than for agriculture sector. This means that larger increases in price required for a unit of agricultural demand reduction.

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Last Updated: 8th March 2018

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