Engineering Economic Analysis

Assignment 5 Solutions 1. Based on Problem 8-22 What methods might you use for estimating the value of the benefits for each of the following? In each case, give two examples of methods that could apply, and describe ...

Assignment 5 Solutions 1. Based on Problem 8-22 What methods might you use for estimating the value of the benefits for each of the following? In each case, give two examples of methods that could apply, and describe the steps involved for that exact situation. In each case, give one example of a method that would NOT work well, and describe why. (a) An hour of reduced commuting time (b) The conversion of 15 kilometers of unused railway tracks near a city of 300,000 into a new bike path (c) A reduction in annual flood risks from the Mississippi River for St. Louis by 5% (d) The creation of a new national park in the Okanagan region of BC (e) Saving a human life #1 (8-22) (a) A first approximation would use the ‘wage benefit’ method: calculate the average value of an hour of a commuter’s time, based on the average hourly income of people living in the area, and multiply this by the number of commuters using the route. But a more thorough analysis would also attempt to estimate the value of the fuel saved, based on the average fuel consumption of a commuter vehicle, and the health-related value of the corresponding reduction in pollution (through dose-response methods of estimating reduced hospital/doctor visits connected to pollution). Contingent valuation method could also be used. (b) Among the benefits we might expect from this conversion are increased revenue from tourism; reduced pollution due to reduced commuting; improvement in public health; and increased quality of life for the citizens. Hedonic methods might be useful (did similar areas see an increase in property values when a track was converted?). Comparison with other areas might also be possible to seek parallel effects that increased tourism (‘travel cost’). As above, the health-related value of reductions in pollution due to less driving and more cycling might also be possible to measure (through traffic surveys, and dose-response methods of estimating reduced hospital/doctor visits connected to pollution). Contingent valuation method could also be used. (c) We can get historical data on the cost of flooding (relocation and replacement costs) in St Louis over the past 50 years, and make adjustments up to the present day, adjusting for inflation, population and business growth, and the growth of property values in the area to come up with an estimate of what damage from a new flood today (or in the future, if we have inflation and property value forecasts) might be. We can then compare the cost of flood reduction with the benefit of a reduced chance of flood damage. Benefits will be 5% of the anticipated flood damage. Notice that this method relies on historical data on flood risk, which won’t be able to address changes in future flood risks associated with, for example, climate change. Those changes would need to be accounted for as well. Contingent valuation method could also be used, but wouldn’t be a great choice, at least not as the main method to get an estimate. d) Travel cost method is the most likely method to use. Data on travel costs to visit other national parks, adjusted for similarities and differences, could be used to estimate the value of a possible new park. There may also be hedonic price impacts: homes near a national park might be worth more than homes far away. Contingent valuation method could also be used. e) This implies that we are seeking this value for a generic human life, that is, we want to put a value on the lives of unidentified individuals who we expect to save (or endanger) as a result of a particular policy. Techniques used include observations of avoidance behaviour (people pay more to live further from noise or risky areas that harm life) or wage or income differentials (people are paid more to do riskier jobs). These methods are often used to estimate the statistical value of human life. Contingent valuation method could also be used.