Module 6: Valuing Impacts from Observed Behavior: Indirect Market Methods

Question 1

What are the qualities of a perfectly competitive market?

Answer 1

• Demand curves measure marginal social benefit
• Supply curves measure marginal social cost
• EQ when price and quantity are efficient
• EQ price is where MSB = MSC

Question 2

When do we need to use a shadow price?

Answer 2

When no q or p observed or when the price != MSB = MSC
(occurs with market failures, market does not exist, or government intervention)

Question 3

Define shadow price.

Answer 3

An estimate of what the price would be if the good/service were traded in a perfectly competitive market.

Based on observed behavior and revealed preferences

Question 4

What are the shadow price estimation methods?

Answer 4

• Market analogy
• Trade off (time saved and value of a statistical life)
• Intermediate good
• Asset Valuation
• Hedonic pricing

Question 5

What is the market analogy?

Answer 5

When you use the EQ price and quantity of a private good to deduce the true EQ price of he publically provided good.

Used when there is a good provided publically and privately (at comparible qualities), there is no excess demand, and the public price is lower than the market price.

Key assumption: the goods represent two points on the same demand curve

Question 6

What is the formula for consumer surplus?

Answer 6

0.5(base)(height)

aka area of a triangle

Graphically, the area under the demand curve up to the quantiy purchased

Question 7

What is the formula for total benefit?

Answer 7

Total benefit = CS + Total consumer expenditure

Question 8

Define consumer surplus.

Answer 8

The net benefit a consumer gains from consuming a ceratin quantity of a good.

The difference between the amount willing to pay and the amount they actually pay.

Question 9

Imagine a local government project that provides housing for 50 families and chargers a nominal rate of $200 per month. Suppose comparible units in the private sector charge $500 per month. What is the estimated total monthly benefits of the publically provided houses.

Answer 9

$25000

public quantity* private price = (50)(500)

Question 10

T/F: Using the market analogy method, we assume the public and privately provided good are on the same demand curve.

Answer 10

True

Question 11

Define trade-off: value of time.

Answer 11

• wage vs. leisure time
• Can be lost productivity at work, reduced commute time, and time saved on the job

Question 12

What are the caveats of the trade-off: value of time?

Answer 12

Does not include benefits, taxes, or lack of flexibility in hours.

Question 13

Define the trade off of the value of a statistical life.

Answer 13

The local tradeoff rate between fatality risk and money.
Serves as a measure of willingness to pay for risk reduction

Question 14

T/F: The value of a statistical life is meant to be applied to the value of saving the life of an identified person.

Answer 14

False: meant for unidentified.

Question 15

What is the human capital approach to the value of a statistical life?

Answer 15

The value of a life is equal to the market value of the output produced by an individual during his/her expected life.

Question 16

What is the pure human capital approach?

Answer 16

• The value of a year is worth the annual salary
• The value of an hour is worth the hourly wage
• Leisure time is often valued at approx. 50% of the wage.

Question 17

Define the willingness to pay approach for the value of a statistical life.

Answer 17

The value of life is equal to the amount an individual is willing to pay to avoid death.
VSL = willingness to pay/ reduction in mortatlity risk

Question 18

Example: Willingness to Pay

Supppose a new food safety regulation reduces the annual risk of dying of foodborne illness by 0.00001. In a population of 100,000, the regulation is expected, in a statistical sense, to result in 1 fewer death from foodborne illness each year. If each person in that population is willing to pay $20 a year for the reduction in mortality risks, what is the total willingness to pay? The value of a statistical life?

Answer 18

1)WTP:(100,000)($2) =$2 million
2)VSL: $20/0.00001 = $2 million

In this case, the VSL is the same as the willingness to pay.

Question 19

T/F: VSLs calculated via the human capital approach are less than via the willingness to pay approach

Answer 19

True

Question 20

T/F: The human capital approach is commonly used to value time (on the job or leisure) of identified individuals.

Answer 20

True

Question 21

Define the intermediate good approach.

Answer 21

Estimates the gross benefit of a project based on its value added to the downstream activity
Annual Benefit = Income(with project) - Income(without project)
Then discount annual benefits over time.

Question 22

What are the caveats to the intermediate good approach?

Answer 22

• Education can have intrinsic consumption value
• Often, educ/trained programs served as signals of some already held unobservable

Question 23

Define the asset valuation approach.

Answer 23

Observed increases(decreases) in asset values can be used to estimate the benefits(costs) of projects

Question 24

What are the caveats to the asset valuation?

Answer 24

Often assumes impacts are immediately and thoroughly capitalized

Question 25

Define the hedonic pricing approach.

Answer 25

Use a regression to value an aribute when it is capitalized into the price of an asset such as houses or salary.

Question 26

T/F: The value of the attribute is a coefficient estimated within the regression, not the dependent variable.

Answer 26

True

Question 27

Define a generic hedonic pricing model.

Ex. y = x1 + x2 + u

Answer 27

ln(wage/price) = B0 + B1fatality_risk + B2injury_risk + B3experience + B4educ + Bnx

aka: ln(wage/price) + B0 +B1risk + B2other_variables