Practice Problem 2

Question 1

Hoteling’s Rule

Answer 1

For non-renewable resources, the price rises at the rate of interest over time, reflecting scarcity.

Question 2

Define Strong Sustainability

Answer 2

Emphasizes maintaining the total stock of natural capital and there is little or no substitutability between natural and physical capital.

Question 3

Define Weak Sustainability

Answer 3

Allows substitution between natural and physical capital, as long as the total value of capital (natural + physical) does not decline.

Question 4

List challenges of benefit cost analysis

Answer 4

1. Primary and secondary effects
2. Whose costs and benefits to account
3. Issues with estimation methods
4. With/without principle - ignores benefits that would have accrued anyway
5. Tangible vs intangible benefits
6. Choosing the discount rate - what is the lifetime of the project, who is financing, and level of risk
7. Distribution of benefits and costs - may need equity and economic impact analysis

Question 5

What is the concept of benefit cost analysis

Answer 5

To assess whether the benefits of a project or policy outweigh its costs. Both market and non-market factors are considered.

Key principles are with/without and before/after principles. The decision rule supports the project when total benefits > total costs and marginal benefits > marginal costs.

Question 6

List non-market valuation methods

Answer 6

1. Revealed preferences method: Based on actual behavior and market data. Includes market based which uses real world prices (eg timber) and travel costs or hedonic pricing.
2. Stated preferences method: Based on hypothetical scenarios. Includes contingent valuation, choice experiments, and contingent ranking.

Question 7

What is the decision rule

Answer 7

Used in benefit-cost analysis to support or reject projects/policies. The decision rule supports projects when total benefits > total costs.

Question 8

What is Total Economic Value

Answer 8

Comprises Use Value and Non-Use Value.

Use Value: direct, indirect, and option use
Non-Use Value: existence, bequest, and altruistic values

Question 9

Why is it difficult to value natural resources

Answer 9

1. How are they assessed/variation in methods
2. What is the value to an individual vs society
3. Whose valuation counts
4. Discrepancies in WTP which depends on tastes, preferences’, and a persons wealth.
5. Many aren’t traded on markets
6. Hard to aggregate data

Question 10

What is the two-period model?

Answer 10

Used to allocate resources between two time periods. The goal is to ensure that the present value of marginal net benefits (PVNB) in both periods is equal.

Question 11

What are the implications of discount rate (r)

Answer 11

Discount rate reflects the opportunity cost of waiting for future benefits. A higher discount rate means future benefits are worth less in present terms and a lower discount rate means they are worth more.

The implication is that the present value of future benefits are reduced when the discount rate is high. It assesses the value of resources or environmental benefits over time and may lead to increased extraction today.

Question 12

How is dynamic efficiency different from static efficiency

Answer 12

An allocation of resources across n time periods satisfies the dynamic efficiency criterion if it maximizes the present value of net benefits that could be received from all the possible ways of allocating those resources over the n periods.