Block 5: Analytical tools for the environment-economic interaction

Question 1

Benefits Transfer

Answer 1

A method that estimates economic values by transferring existing benefit estimates from studies already completed for another location or issue

Question 2

Contingent Valuation

Answer 2

A technique assigning monetary values to environmental assets using questions about hypothetical markets.

Question 3

Cost-benefit analysis (CBA)

Answer 3

the process used to measure the benefits of a decision or taking action minus the costs associated with taking that action.

In a situation where the marginal social cost is above its marginal social benefit (with both the social costs and
benefits calculated to include non-market effects, so called ‘externalities’) CBA seeks to identify the point at which abatement of the environmental damage contributing to the social cost would be such that the marginal abatement cost is equal to the marginal social cost. This is the ‘optimal’ point, below which further abatement could increase welfare, while above it further abatement would cost more than it is worth.

Question 4

Cost-effectiveness analysis (CEA)

Answer 4

A model determining how to meet a given objective at the lowest cost

steps:

• determine objective
• analyse various ways to reach objective
• cost reduction curve
• apply lowest cost methods first untill the ‘sustainability standard’ (the goal) has been met
• next level of complexity: apply measures to the whole sector (partial equilibrium analysis)
• another level: all sectors are connected to each other, moddelling how they would react to the changes made isl called a “general equilibrium analysis”

Question 5

Cost Reduction Curve

Answer 5

A curve linking the marginal cost of different technologies to the amount of environmental improvement

((In economics, the marginal cost is the change in the total cost that arises when the quantity produced is incremented, the cost of producing additional quantity.))

Question 6

Depletion

Answer 6

The exhaustion of natural resources as a result of their use beyond their rate of replacement.

Question 7

Environmental Degradation

Answer 7

The deterioration of the environment, often in the form of pollution.

Question 8

Environmental Functions

Answer 8

(same as ecosystem services)

These comprise the generation by the environment of resources for human activities, the absorption of waste from such activities, the provision of macro-scale services such as climate stability and the opportunities in terms of amenity and recreation.

Question 9

Environmental Sustainability

Answer 9

The maintenance of important environmental functions into the indefinite future.

Question 10

Existence Values

Answer 10

Values derived from the appreciation of the existence of the environment.

Question 11

General Equilibrium Analysis

Answer 11

An analysis modelling all sectors as integral parts of the overall economy and allowing for interlinkages across sectors.

Question 12

Maintenance Costs

Answer 12

The abatement/avoidance/restoration costs required to achieve a certain standard of emissions or maintain/restore certain standards of environmental quality.

Question 13

Multi-Criteria Mapping

Answer 13

Looks at more than just financial side

quantitative map of different perspectives, priorities and criteria for different policy options

visualises what different perspective agree/disagree on

Question 14

Option Values

Answer 14

Values derived from the potential use of the environment

Question 15

Partial Equilibrium Analysis

Answer 15

An analysis that treats sectors in isolation

Using appropriate models for each sector, CEA would seek to determine the least-cost mix of carbon reduction from each sector that would reach the overall carbon reduction target that had been set.

Question 16

Porter Hypothesis

Answer 16

A hypothesis suggesting that environmental policies can stimulate innovation and create long-term competitive advantage in economic sectors

Question 17

Pure Rate of Time Preference

Answer 17

The part of the discount rate that relates to the way current generations value the welfare of future generation, as well as the inherent impatience in preferring current consumption over future consumption.

Question 18

Rebound Effect

Answer 18

Cost-effective investments in energy efficiency allow us to set aside income that can be subsequently spent in alternative energy-intensive sectors (hence with minimal improvements in overall energy use).

Question 19

Risk Aversion

Answer 19

The psychological aversion to uncertainty, which often translates into placing higher weights on situations of potentially large costs than on those of moderate costs

Question 20

Stern Review

Answer 20

A cost-benefit analysis of the economics of climate change

Question 21

Sustainability Gap

Answer 21

The difference between the current level of environmental impact and the sustainable level of impact

This can be made into a monetary indicator by calculating the cost to reduce the SGAP to zero.

Question 22

Sustainability Standard

Answer 22

A target identified as consistent with the overall goal of environmental sustainability.

Question 23

Time Discounting

Answer 23

The phenomenon that a desired result in the future is perceived as less valuable compared to the same result now.

Question 24

Use values

Answer 24

Values derived from current use of the environment

Question 25

Utilitarianism

Answer 25

A philosophical theory suggesting that the proper course of action is one that maximises happiness (‘utility’).

Question 26

Economists, when looking at environmental issues, will tend to look at it in terms of costs and benefits. Seeking to keep the ration from benefit/cost above. The use of cost-benefit analysis is based on the philosophical assumption of utilitarianism.

What are some other possible values?

Answer 26

§ Sentimentalism, ‘stressing the need to achieve a certain harmony between man and nature’

		§ Ethical argument, ‘based on the perception that all living beings have an equal right to exist’

		§ Educative argument, based on the view that nature is necessary to humans’ discovery of their identity and their place in the universe

§ Survival argument, ‘that the continued functioning of natural processes is essential to human existence on earth’

Question 27

Name 4 points on the economic rationality spectrum when performing costs and benefits analysis

Answer 27

§ Cost-oblivious model
* achieving environmental goal is all that matters, costs be damned

§ Cost-effective model

• achieve environmental goal at minimal costs
• the costs and benefits does not influence the environmental goal set

§ Cost-sensitive model

• the costs and benefits does influence the environmental goal set
• This approach is exemplified, for example, in the prescription of BATNEEC (Best Available Technology Not Entailing Excessive Cost)

§ Strict-cost benefit analysis

• strikt comparison of the financial costs and benefits
• The attraction, and power, of this technique is that it offers unambiguous recommendations based on quantitative results. What is not always kept in mind is that the seemingly unambiguous outcome is entirely dependent on the assumptions and methodologies on which CBA is based

Question 28

identify different ways of valuating environmental change

Answer 28

§ According to the cost of the damage incurred.
Where the damage is to marketed goods (e.g. crops, fish), then the economic damage can be valued in principle as the loss of production and income resulting from the damage.

		§ According to the abatement/avoidance/restoration
		Cost that would be required to achieve a certain standard of emissions, or maintain or restore certain standards of environmental quality. Sometimes collectively called ‘maintenance costs’

	○ How could we compare these figures with macroeconomic aggregates?
		§ The basic equation of environmental adjustment:
			□ GDP – Consumption of fixed capital = NDP (NDP= indicator of welfare or net production)
			□ NDP – (Imputed) environmental costs = EDP (where EDP = Eco, or Environmentally-adjusted, Domestic Product.) Sadly neither approach for calculating environmental costs can be used in practise to calculate EDP. The damage cost cannot be estimated sufficiently.

Question 29

recognise, explain and discuss cost-effectiveness analysis (CEA) and cost-benefit analysis (CBA) and their differences, and interpret results from these analyses

Answer 29

Need to study notes for this one

Question 30

recognise, explain and discuss multi-criteria mapping (MCM) and multi-criteria analysis (MCA), and their differences, and interpret results from these analyses

Answer 30

Need to study notes for this one

Question 31

select the appropriate evaluation method (CEA, CBA, MCM, MCA) for specific economy–environment questions.

Answer 31

Need to study notes for this one

Question 32

The imputed value of environmental degradation is calculated in monetary terms
A according to the market price of the depleted resources and according to the costs of cumulative health damage incurred;
B according to the sustainability gap and according to the indirect costs;
C according to the cost of the damage incurred and according to maintenance or abatement costs for certain standards of environmental quality;
D according to diminished production and according to scarcity of commodities

Answer 32

C

Question 33

Which of the hypothetical costs below, associated with global warming,
could be termed maintenance costs, and which are damage costs?

1 Costs of carbon capture after combustion of fossil fuels, and
subsequent underground Co2 storage.
2 Costs of crop failure.
3 Costs of flooding due to higher sea levels.
4 Costs of planting forests that convert Co2 to organic molecules.

Answer 33

Maintenance costs: 1, 4

Damage costs: 2, 3

Question 34

question 5.3 & 5.7 & 5.8

Answer 34

see book

Question 35

Different approaches to environmental decision-making (cost-
effectiveness approach or CEA, cost-benefit analysis or CBA, multi-criteria analysis or MCA) require different information. For which of these methodological approach(es) would one need each of the following pieces of information?
A) A discount rate.
B) The monetised benefits of a policy.
C) The objective of the policy (e.g. a specific level of carbon dioxide
emissions).
D) Appraisal criteria for options.

Answer 35

a) CBA; b) CBA; c) CEA; d) MCA

Question 36

According to the late British environmental economist David Pearce,
one of the reasons for the widespread use of cost-benefit analysis (CBA) in decision support has been ‘a fundamental attraction of reducing a complex problem to something less complex and more manageable’. Nevertheless, CBA remains controversial for several reasons. Discuss the main reasons and argue for what type of decision problems CBA is most suitable

Answer 36

I Valuation issues – many ecosystem services have no market value, so that use values, option values and xistence values must be estimated by – sometimes controversial – valuation techniques.

II Time discounting – time preference is a major issue in CBAs with environmental issues, because environmental benefits are often gained in the long term. With high discount rates, such benefits represent low present value.

III Risk aversion – societies are perceived to be risk-aversive, but there
is no agreement on how to deal with the potentially large costs associated with risk aversion.

IV Distributional effects – the costs and benefits of certain measures or
projects are generally unevenly distributed over the stakeholders
involved. For instance, people who are already poor may become even poorer, even though for society as a whole, the benefits may be much
larger than the costs. There is little agreement on how to deal with this.
Thus, CBA is most suitable for decision problems in which there is agreement about the costs and benefits of environmental effects, and in which issues of discounting, risk aversion and distribution do not have
to be taken into account.

Question 37

Section 11.4.2 discusses how the cost-reduction curve links the marginal
cost of emission reduction to the magnitude of emission reductions for
different technologies.
a Explain why the curve has an upwards trend (positive slope).
b Explain why the marginal cost of emission reduction for initial levels
of emission reductions could even be negative.

Answer 37

a The positive slope is explained by the fact that one uses the relatively
cheaper technologies to curb emissions. Further reduction of emissions
normally requires resorting to more expensive technological options.
b A negative net cost may be explained by the fact that the cheapest
technologies can often help save money (in addition to reducing
emissions), by making efficient use of resources, in a way that offsets
any initial costs associated with the set-up of these technologies.

Question 38

In 50 years’ time, one might anticipate flooding costs (as a result of
climate change) of $1 million. let us assume that by currently allocating
$0.12 million to climate change mitigation (e.g. by sequestering carbon
through reforestation), we would expect to be able to prevent these
climate-change related flooding costs in 50 years’ time. Is such an
intervention justifiable in monetary terms at discount rates of 2% and
4%?

Answer 38

At a discount rate of 2%, the present value of this climate-change
related damage is equal to 1 × 1/(1.02)50 = $0.3705 million. At a discount
rate of 4%, the present value of the damage is equal to 1 × 1/(1.04)50
= $0.1407 million. Now that we have the present value of this future
climate-change relate damage, we need to compare this with the current
cost of mitigating climate change. This is why this is called a cost-
benefit analysis – we compare the benefits of an intervention (which
is the present value of climate change damage avoided as a result of
mitigation) with the cost of the intervention (i.e. the cost of mitigation
itself). Given that the current cost of mitigation is $0.12 million, the
benefits (which correspond to the present value of avoided damage)
exceed the value of the costs, irrespective of the discount rate used (and
hence justify the intervention).

Question 39

You are asked to use a ‘multi-criteria mapping’ (MCM) approach as a way
of comparing policy options towards solving problems linked to obesity.
Discuss, with examples, what actions each of the following steps of the
MCM would involve:
a Identification of options.
b Identification of appraisal criteria.
c score options
d weighing of criteria
e Calculation of performance ranks.

Answer 39

A) Developing a set of core options based on a review of the literature
and discussions with experts and key stakeholders.
For instance, option 1 might be to provide subsidies on healthy food, option 2 might be to introduce nutrition labelling, etc. Consultations with experts/
stakeholders allow additional options to be identified.

B) Asking participants to make personal judgements about what they
consider issues of importance when evaluating these options, so that
you can determine a set of ‘appraisal criteria’. These might include
practical feasibility, duration of the intervention, net cost of options,
etc.

C) Asking participants to assign numerical scores (e.g. 0 to 10) to assess the performance of each option against the set of criteria identified
under b.

D) Assigning weights to each option according to the overall importance
participants have attached to each of the assessment criteria.

E) using previous steps to create the weighted score for each option and
ranking the options accordingly.

Question 40

Policies aimed at increasing the production of first generation biofuels
may
1 lead to changes in food prices for consumers
2 increased income for farmers
3 economic costs due to changes in land use.
These effects can be properly measured through a
a Sustainability Gap framework
b General Equilibrium model
c Cost-Effectiveness Analysis
d Multi Criteria Analysis

Answer 40

B