Wednesday, October 31, 2012

Contingent Valuation Methodology - a means to the capture and analyze willingness to pay

If people merely ‘want’ something, it may not be backed with a willingness to pay for that service. Hence one needs to ascertain people’s maximum willingness to pay for service options under consideration. Willingness-To-Pay (WTP) is the maximum amount an individual is ready to pay for a particular goods/service. Consumer surveys are carried out to estimate the WTP for goods or service under consideration.

The WTP can be estimated using three different ways:
  1. By observing prices that people pay for similar goods in various other markets
  2. By observing individual expenditures on money, time and labor, etc. to obtain goods, OR to avoid their loss. This method might involve an assessment of coping strategies and involve observations, focus group discussions and even house-hold surveys.
  3. By directly asking people what they are willing to pay for goods and services in the future
The first two approaches are based on observations of behavior and are called Revealed Preference Techniques. The third technique is based upon Stated Preferences and includes Contingent Valuation Method.

Contingent Valuation Methodology (CVM) creates a hypothetical market scenario and tries to obtain the value for particular goods, contingent to the scenario. The economic concept that the CV Surveys are trying to capture is the maximum amount that the individual would be willing to pay for certain goods/services.

The most important part of the CV Survey is to simulate a realistic contingent valuation scenario, which has accurately priced options that reflect the levels of prices the goods/service provider will have to charge.

The advantages and disadvantages of the CVM are presented below:


CVM captures a fuller range of benefits of service improvements by investigating people’s maximum willingness to pay for different levels of service that are currently not available
The cost of CVM analysis for a smaller project in terms of time and money are significant. However, incremental costs are relatively modest
Consumers can bid on a range of different service options, thereby defining project designs and technology choices
The results of CVM are often not transferable between locations. This creates a special focus requirement on sample planning
The CVM generates information on household ability and willingness to pay for on-going services, thereby guiding tariff and cost-recovery policy
Sample size needs to be substantial to avoid problems involved with aggregation of responses
If stated clearly, the results of CVM Survey are conceptually easy for non-specialists
Individual biases can cause misleading results

The CVM has proven to be the most popular of available methods for monetary valuation of environment.[1]

The application of Willingness-to-Pay Survey for a utility roll-out is depicted in the following figure. 

How Willingness-to-Pay Study fits into the operational roll-out for utilities?
The chart shows how the study integrates with the other functions of the utility and interacts with them to create an eco-system based on optimum approximations.

When a respondent does not answer a survey question truthfully, it is said to introduce a bias into the survey that undermines the validity of the survey. Therefore, the basic design consideration of the CV Survey is to avoid the many biases that might occur.

The different types of biases and the ways to avoid the biases in your CVM study are shown in the table below. These biases also need to be controlled during the interview conducted for the CVM Study.

Main CVM Biases and Errors
How to avoid
Low Strategic Bid
Respondent lowers their bid assuming that the state, or others, will pay more
Emphasize on policy of state that if the community is not willing to pay sufficiently, the project might not take off
High Strategic Bid
Respondent raises their bid above the real WTP to ensure that the project goes ahead
Make it clear that there will be no subsidies, this is the real amount. Choose correct bidding model
Hypothetical Bias
Respondent does not understand or believe in the options
Explain options clearly.
Poor Sampling
Non-random sample selected which might result in poor quality of data collected.
Ensure accurate mapping of survey area and an appropriate random sampling methodology
Starting Point Bias
Starting price for bidding games influences the final WTP
Vary the starting prices within the sampling frame
Interview and Compliance Bias
Enumerator influenced biases
Analyze responses by enumerator and discard biased responses
Payment Method Bias
Payment method does somehow affect the responses
This might be a realistic bias revealing preferences to certain payment method. This can be safely ignored.

Best practices for Designing WTP Survey
1.     ·  Survey Design should involve easily understood and pre-tested language, taking feedback from all focus group ·   Data Collection should be planned with appropriate attention to sample size, collection methods, sample representation of general population, and randomized selection ·     Correct statistical tests need to be applied for accurate interpretation of the results ·  Regression results for CVM bids should be conducted for validating the data ·  Question Design and interview process should be developed to reduce the bias introduced in the survey

For a case study on WTP for Water, visit our blog here.

[1] “The Contingent Valuation Method: Retrospect and Prospect” (2008), Clive L. Spash

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