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How wrong can you be? Implications of incorrect utility function specification for welfare measurement in choice experiments

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  • Hanley, Nicholas
  • Riera, Antoni
  • Torres, Cati

Abstract

Despite the vital role of the utility function in welfare measurement, the implications of working with incorrect utility specifications have been largely neglected in the choice experiments literature. This paper addresses the importance of specification with a special emphasis on the effects of mistaken assumptions about the marginal utility of income. Monte Carlo experiments were conducted using different functional forms of utility to generate simulated choices. Multi-Nomial Logit and Mixed Logit models were then estimated on these choices under correct and incorrect assumptions about the true, underlying utility function. Estimated willingness to pay measures from these choice modelling results are then compared with the equivalent measures directly calculated from the true utility specifications. Results show that for the parameter values and functional forms considered, a continuous-quadratic or a discrete-linear attribute specification is a good option regardless of the true effects the attribute has on utility. We also find that mistaken assumptions about preferences over costs magnify attribute mis-specification effects.

Suggested Citation

  • Hanley, Nicholas & Riera, Antoni & Torres, Cati, 2010. "How wrong can you be? Implications of incorrect utility function specification for welfare measurement in choice experiments," Stirling Economics Discussion Papers 2010-12, University of Stirling, Division of Economics.
  • Handle: RePEc:stl:stledp:2010-12
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    2. Wiktor Budziński, 2015. "The effects of non-constant marginal utility of cost for public goods valuation," Ekonomia journal, Faculty of Economic Sciences, University of Warsaw, vol. 43.
    3. Sclen, Håkon & Kallbekken, Steffen, 2011. "A choice experiment on fuel taxation and earmarking in Norway," Ecological Economics, Elsevier, vol. 70(11), pages 2181-2190, September.
    4. Cati Torres & Sergio Colombo & Nick Hanley, 2014. "Incorrectly accounting for preference heterogeneity in choice experiments: what are the implications for welfare measurement?," Discussion Papers in Environment and Development Economics 2014-07, University of St. Andrews, School of Geography and Sustainable Development.
    5. Schwerdt, Guido & Woessmann, Ludger, 2017. "The information value of central school exams," Economics of Education Review, Elsevier, pages 65-79.
    6. Tomás del Barrio Casto & William Nilsson & Andrés J. Picazo-Tadeo, 2013. "How wrong can you be, without noticing? Further evidence on speci cation errors in the Conditional Logit," Working Papers 1318, Department of Applied Economics II, Universidad de Valencia.
    7. Michela Faccioli & Nick Hanley & Catalina M. Torres Figuerola & Antoni Riera Font, 2015. "Do we care about sustainability? An analysis of time sensitivity of social preferences under environmental time-persistent effects," Discussion Papers in Environment and Development Economics 2015-17, University of St. Andrews, School of Geography and Sustainable Development.
    8. Colombo, Sergio & Hanley, Nicholas & Torres, Cati, 2011. "Incorrectly accounting for taste heterogeneity in choice experiments: Does it really matter for welfare measurement?," Stirling Economics Discussion Papers 2011-02, University of Stirling, Division of Economics.
    9. Torres, Cati & Faccioli, Michela & Riera Font, Antoni, 2017. "Waiting or acting now? The effect on willingness-to-pay of delivering inherent uncertainty information in choice experiments," Ecological Economics, Elsevier, vol. 131(C), pages 231-240.
    10. Doherty, Edel & Campbell, Danny & Hynes, Stephen, 2012. "Exploring cost heterogeneity in recreational demand," Working Papers 148832, Socio-Economic Marine Research Unit, National University of Ireland, Galway.
    11. Gevrek, Z.Eylem & Uyduranoglu, Ayse, 2015. "Public preferences for carbon tax attributes," Ecological Economics, Elsevier, vol. 118(C), pages 186-197.
    12. Li, Lianhua & Adamowicz, Wiktor & Swait, Joffre, 2015. "The effect of choice set misspecification on welfare measures in random utility models," Resource and Energy Economics, Elsevier, vol. 42(C), pages 71-92.
    13. Dieckhoener, Caroline & Hecking, Harald, 2012. "Greenhouse Gas Abatement Cost Curves of the Residential Heating Market – a Microeconomic Approach," EWI Working Papers 2012-16, Energiewirtschaftliches Institut an der Universitaet zu Koeln (EWI).

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    Keywords

    utility specification; attributes; welfare measurement; accuracy; efficiency; choice experiments; Monte Carlo analysis;

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