Willingness To Pay Essay

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Willingness to pay (WTP) is a measure of the maximum amount that  an individual  is willing to sacrifice  to  procure   the  benefits  from  a  desired good  or  service or  to  avoid  the  loss from  something not desired. A companion concept is willingness to accept (WTA), which denotes  the amount a person  is willing to receive in trade  either  for a possessed good or for some sort of loss. These two measures  are presumed  to express  the maximum value (WTP) of either  a good  or an avoidance  of harm and the minimum  compensation (WTA) required  to give up a good or to endure  a loss. In other  words,  these two  concepts  express  an individual’s  “reservation price”  for  some  change  in circumstances involving personal  choice, and they undergird the twin notions  of supply-and-demand curves. The key difference between these measures is that  an  individual’s  WTP  is wealth  or  income constrained, whereas  one’s WTA is not. These notions  are used by private  and  public entities as a means  of estimating  the  total  value  of benefits (or costs) associated with some change in goods or services from  private  suppliers,  public  providers, or the environment, and  they underlie  the notion of cost-benefit  analysis.

Behind every economic choice lies some measure of value based  on individuals’  preferences  applied in a particular context  of alternative options.  The choices  made  in  a  market, such  as  exchanges  of money   for   goods   at   some   posted   price,   offer “revealed  preferences” as to the values, where  the sellers’ WTA is somewhere  at or below  the transacted price, while the buyers’ WTP is somewhere  at or above it. The difference between  a seller’s WTA and a buyer’s WTP in a given purchase is the “economic surplus” of that  transaction, in which the paid price splits that  surplus  into its two components:  producer surplus  and  consumer  surplus, which sum to the total of mutual  benefits captured in any voluntary exchange,  at least  as seen by its active participants as of the time it takes place. But many other  choices do not transpire in market  settings, such  as government decisions  on  the  provision  of  public  goods  of  varied  types  at  different levels or an assessment  of the value impact of mitigation  or remediation of environmental losses.

But  the  nature   of  such  cost-benefit   measures should be understood as well. One aspect of WTP (or WTA) involves the changing  value of money across different individuals. A reasonable economic assumption about  the changing value of dollars to individuals is that  of “diminishing marginal  utility”—that is, the  more  money  a person  has,  the  less each  additional  dollar  is worth  to  him  or  her  in subjective benefits. This assumption is based on the notion  that dollars are spent on goods that are ranked,  in which the first dollars  are spent on necessities of very high value, relative to each additional dollar  that  is spent on  goods  of  lesser  importance, as  one  progresses (with rising income) from bare necessities to luxury goods. If so, then one’s WTP is as much a measure of the money’s worth  as it is of the goods being valued. Think of an “appendectomy theory of value” for two individuals,  one  very  wealthy  and  the  other  poor, each in need of this operation. The rich person is willing to  pay  a lot  more  for  this  procedure than  the impoverished individual  is, even though  the appendectomy’s subjective value for each is the same (reflecting the worth  to them of their lives); the difference between their WTP lies in the value of money and not in the treatment itself. So adding these dollar amounts across individuals  may not yield a uniform measure  of  actual  value,  only  a  WTP  aggregated across social groups.

It  is also  economic  doctrine  that  prices  reach equilibrium in a competitive  market—that is, when WTP equals WTA—independent of who holds ownership rights  or any other  influence.  A lot of experimental evidence collected by behavioral theorists  show  that  in many  cases WTA  exceeds WTP,   implying   that   “endowment  effects”   and other anomalies  may play a role in this context,  as noted   by  Daniel  Kahneman, Jack  Knetsch,  and Richard   Thaler  and  by  Elizabeth   Hoffman and Matthew Spitzer.  This,  in  turn,  suggests  that  the initial  assignment  of  ownership rights  and  other psychological   factors   may  well  have  important effects on the outcome  of ensuing transactions.

Another   key  assumption of  any  use  of  WTP measures  to value environmental outcomes  is that they   are   anthropogenic,  namely,   that   the   true worth  of the environment is what  people  believe. Many ecological economists strongly reject this approach, because of the critical nature  of ecosystem services to Earth’s life-support systems. Nature’s  services contribute directly and indirectly to  human  welfare  and  to  the  planet’s  total  economic  output and  value, in a very objective  way. Ecological   economists   have  estimated   the  total annual  value of these services to be about  double the annual  level of global  gross national product. Basing the value of ecosystem  services on perceptions thereof, with popular levels of understanding about  life-support systems  so low,  is not  a good way to evaluate them for public policy use.

Despite  these  shortcomings, measures  of WTP and WTA are used to value goods  and services in many diverse settings. The methods employed to estimate  these reservation prices are generally  via complex   survey  instruments  or  laboratory  purchase experiments  that try—through various means—to remove any incentive for biased or untruthful answers,  where  responses  seem  more accurate  when test conditions stay close to realistic choice situations, according  to Miller et al. But as Hoffman and  Spitzer point  out,  the evidence that WTA  exceeds WTP  may  ultimately  yield a more accurate  understanding of how preferences are shaped by human psychology as well as initial endowments and  rights  and  that  individual  value statements and choices may not always serve as an unambiguous basis  for  public  policies  involving cost-benefit  analysis.


  1. Hoffman, Elizabeth and Matthew L. Spitzer. “Willingness to Pay vs. Willingness to Accept: Legal and Economic Implications.” Washington University  Law  Review, v.71/1 (1993).
  2. Kahneman, Daniel, Jack Knetsch, and Richard “Experimental Tests of the Endowment Effect and the Coase Theorem.” Journal of Political Economy, v.98/6 (1990).
  3. Miller, Klaus M., Reto Hofstetter, Harley Khromer,  and Z. John Zhang. “How Should Consumers’  Willingness to Pay Be Measured? An Empirical Comparison of State-of-the-Art Approaches.” Journal of Marketing Research, v.48/1 (2011).

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