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Assessing Costs of Waste and Pollution--Environmental Economics

Assessing Costs of Waste and Pollution--Environmental Economics

Author: Kate Eskra

This lesson will explain Assessing Costs of Waste and Pollution--Environmental Economics

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Hi. Welcome to Economics. This is Kate. This tutorial is called "Assessing Costs of Waste and Pollution." It's a look at environmental economics. As always, my key terms will be in red and my example will be in green.

So in this tutorial, we'll be talking about why it's really very difficult to estimate the value of environmental quality. We'll talk about the methods that are currently used, which include cost-benefit analysis, looking at healthcare costs, and then contingent valuation, and hedonic pricing. Finally, you'll understand that, while all of these have their merits, there's also potential issues with each of those methods.

So remember that economies have developed in order to answer three main questions for every society, and those three questions are-- what gets produced, how does it get produced, and then who's going to receive the goods and services? The idea is-- for any economy to actually efficiently produce goods and services, we need to know the costs and benefits of them. And so something like environmental goods are really difficult. They pose a challenge because it's very difficult to estimate their value.

So if we're trying to figure out the value of environmental goods, how could we actually go about finding that out? How could we find out the value that society-- the people in that society-- place on the environment?

Should we survey people? Imagine if someone called you and said, "So how much is the environment worth to you," how would you even go about answering that question? I was thinking about that myself. I don't know how I would answer that question. I certainly value the environment, but how do we quantify it?

So the problem is-- if people know that their responses are going to lead to public policy, then people who really want to see government regulation of the environment will overestimate this value-- or at least they'll tend to. Whereas people who have the opinion that they don't want any more regulation-- and in fact, they want less regulation-- will certainly underestimate the value that they're telling the survey or that they placed on environmental goods.

So these are the four methods that we're going to talk about that environmental economists look in to in order to estimate the value of environmental regulation. The first one is cost-benefit analysis, and then we'll look at healthcare costs, contingent valuation, and hedonic pricing. So the first one's cost-benefit analysis, and we use cost-benefit analysis in all different branches of economics. So the cost side of it, we can certainly determine the costs of cleanup.

We can figure out a dollar amount. How much is it going to cost to cleanup waste sites or clean up pollution in a certain area? But what are the costs of the regulation itself? Are they going to lead to higher prices of the goods? Are they going to lead to higher production costs that the producers will face? So because these kinds of costs might not be completely understood-- and they actually might not even consider the impacts on the overall ecosystem. So the cost side, while we can definitely do this, getting into the cost of the regulation are going to be a little bit more difficult.

And then if we look at the benefit side of it, again, these are based on peoples' opinions. So how do we measure these benefits objectively without a whole lot of bias? And that's going to pose an issue.

All right. So then we get into healthcare costs. We know that pollution in the environment certainly can lead to negative health outcomes. It can have an impact on how people are living and the kind of health that they have, so we can certainly estimate these healthcare costs as a link to, OK. What is this pollution costing us?

But again, this also has its issues. With the pollution, that can take years and years and years to impact peoples' health. Some of it can be short-term and we can measure that right away, but then we don't always know how long it's going to take to see these impacts on peoples' health.

Second, everyone is affected very differently by pollution. Some people may have no health impact by it, and others might have a lot. So because of the diversity here, in terms of how long it can take and how people are affected differently, these issues can really lead to a much lower estimated cost in terms of its impact on healthcare.

All right. Now, we come to "contingent valuation," and this is a key term for you. It's a survey method to extract individual's preferences regarding a non-market resource. And remember, non-market resources are things that aren't bought and sold in the marketplace. So that's why environmental goods are a non-market resource-- because we're looking at valuing the environment.

So we can try to go about estimating the value of environmental goods. For example here, let's talk about national parks using this method. And what economists would do is they would have people surveyed again, and they would ask them to state their preferences and willingness to pay.

So here, it would be more specific than just, "How much do you value the environment?" Here, it would be, "What would you be willing to pay to visit a national park," for example, and people would actually give dollar amounts that they would be willing to pay. If you take their responses and multiply a number of citizens, then we can arrive at a value of that environmental good, like a national park.

Of course, this has its issues because it's relying on surveys again. And so this is very much subject to bias, and it might underestimate. It could also overestimate based on how people are responding. So for example, someone who absolutely loves nature might already have chosen in their life to live near a national park, and so they're not going to have to pay anything to visit it. They already live close to it. So that there are a lot of other examples like that that can cause an underestimation or overestimation on environmental goods.

And then finally, the final method that we'll talk about is "hedonic pricing"-- another key term-- and this is a system created to examine internal and external factors affecting the price of the good. Any time a good has a lot of different factors affecting the price of it, sometimes we can break it down into everything that goes into that price. And this is that method. So it's often used in the real estate market to study property values because so many factors contribute to the value of a home.

So one factor that we know affects property value is waste and pollution in the area. Areas that have less waste and pollution tend to have higher property values, for obvious reasons. So what we could do is we could look at the change in property value where there's a difference in waste or pollution. So if we look at two identical houses, one in an area with little pollution and one in an area with a lot of pollution, then we should be able to look at the change in property value and then that difference would represent the cost of the pollution.

OK. But again, there are going to be some issues with this because this is assuming, like I said, that two houses that seem identical are the same in every other way. That assumes, remember, ceteris paribus-- "everything else held constant." Well, because it's so complex-- what creates a property value for a home-- there might really actually be other differences between the houses that cause the property value to differ and then that would bias the estimate for environmental quality.

So in this tutorial, what we talked about is the difficulty that does arise in estimating the value of environmental quality. The methods that are currently used by environmental economists are a cost-benefit analysis approach, looking at the healthcare costs-- the impact that the environment has on peoples' health, contingent valuation, and hedonic pricing. And while all of them certainly have their merits, they also all have potential issues. Thank you so much for listening. Have a great day.

Terms to Know
Contingent Valuation

Survey method to extract individuals' preferences regarding a non-market resource.

Hedonic Pricing

A system created to examine internal and external factors affecting the price of a good.