Kapil Kulkarni is a Senior Consultant and in-house economist at Pacific Environment. He provides economic, policy and regulatory advice to help clients understand the economic impacts of environmental policies, projects and technologies. His latest insight highlights the importance of valuing environmental impacts correctly.

Bottled Air in China
Bottled air in China isn’t a joke – it’s profitable.

Getting the costs of pollution right – why it matters

A year ago, you might have thought selling bottled air to Beijing residents was a joke. But this is exactly what a number of businesses started doing after the Beijing City Government issued the first ever pollution red alert last December. The Government ordered the closure of schools, some factories and outdoor construction, and limited the use of cars on the city’s roads. This had a very tangible economic cost to the city, adding to the less tangible but very significant health cost of air pollution in Beijing every year.

On the day of the pollution red alert the level of the airborne particles that cause the majority of health costs associated with air pollution, reached more than 10 times the level recommended by the World Health Organisation as the maximum safe level. We estimate that the health costs of particulate matter in Beijing are about 80 billion US dollars per year.

Clearly, pollution can have large economic costs. Therefore, as we try and balance economic growth with environmental impacts it is important to get the costs of pollution right.

The devil is in the detail

We are currently helping industry and government clients understand the costs of pollution – including air, noise and odour impacts – and the benefits of reducing these costs. What we have found is that the current approaches to valuing pollution impacts don’t always provide the right result.

The current approaches are easy and quick to apply, but they rely heavily on a method called ‘benefit transfer’ (Figure 1), which makes use of cost estimates from contexts different to the one being studied. This can include cost estimates from international studies, estimates relating to the same type of pollution but from different sources, and estimates based on different receiving environments.

The Productivity Commission points out that the accuracy of benefit transfer ‘is likely to be low unless the primary studies are of high quality and relate to similar environmental and policy contexts’ and that these ‘seemingly obvious cautions are often not observed’. Our analyses have shown that approaches that rely heavily on benefit transfer can provide an inaccurate result by orders of magnitude; in some cases there can be an overestimate or underestimate of 50 times the likely cost.

benefit transfer in valuing environmental impacts correctly

Getting it right

Current approaches may be appropriate to use in project or policy assessments where the costs of pollution are either not that important, or where the overestimates and underestimates are likely to cancel out. For example, when assessing the costs and benefits of changing air quality standards at a national level, overestimates of the costs in some cases is likely to be offset by underestimates in others.

In other situations, it is important to estimate the costs of pollution with more accuracy. The ‘gold standard’ is an approach called the ‘impact pathway’, which limits the use of benefit transfer. Applying an impact pathway requires analysing the path from where pollution is emitted to what impact this has on human health and the environment, and translating this impact into an economic cost. However, the impact pathway is very resource intensive to apply and there are only a few cases where the time and cost would be justified.

poor air quality
The cost of poor air quality relates directly to human health

In a lot of cases, an intermediate approach works best. An intermediate approach can draw on existing estimates but make the right adjustments for the context in which they are being applied. An intermediate approach can take into account factors that a simple benefit transfer cannot, including:

  • The proximity of the population or environmental assets likely to be affected by the pollution from the source of that pollution.
  • How much of the pollution is likely to travel to the population or environmental assets.
  • The damage that exposure to this pollution causes to human health and the environment.

Not taking some of these factors into account, risks basing policy or investment decisions on inaccurate estimates.

We have been at the forefront of developing and applying estimates of the economic costs of pollution in Australia. We are now looking at approaches to improve existing methodologies so that they are fit for purpose in a range of contexts. Where the economic costs of pollution are likely to be important in an assessment, we can assist clients to understand their likely magnitude, and the implications this has for various policy and investment decisions.

Get in touch today

If you would like to find out more about how you can effectively value environmental impacts to make the right policy and investment decisions, get in touch with Pacific Environment today.