The WTA-WTP Gap and Welfare Measures for Public Goods
12 Pages Posted: 11 Sep 2009
Date Written: September 9, 2009
Abstract
A robust finding in experimental economics is that decision-makers often exhibit a much smaller dollar willingness to pay (WTP) for an item than the minimum amount that they claim to be willing to accept (WTA) to part with it. The spread between these two numbers is particularly large for public goods, raising serious public policy concerns regarding which number, if either, is appropriate for valuing such goods. A number of explanations for this phenomenon have been advanced, each perhaps of relevance in particular settings, with little consensus being achieved as to whether any explanation satisfactorily resolves the problem. The traditional utility maximizing model presented here that demonstrates that conventional estimates of WTP exhibit a potentially large downward bias. Conventional welfare analysis implicitly assumes an initially optimal combination of leisure, private goods, and public goods when an increment to public goods is being contemplated. However, the initial combination will be sub-optimal in general, involving some mix of too much leisure and too many private good substitutes for the under-supplied public good. Welfare measures for increments to a public good, as currently practiced, are generally incorrect, undervaluing public goods by a potentially large amount.
Keywords: Decision making, Choice behavior, Public Goods, Willingness-to-pay, Willingness-to-accept, Welfare, Compensating Variation, Equivalent Variation
JEL Classification: C91, D12, D81
Suggested Citation: Suggested Citation