Best Practices for Using Hedonic Property Value Models to Measure Willingness to Pay for Environmental Quality

Abstract

The hedonic property-value model has been refined over more than forty years to become one of the premier approaches to valuing environmental amenities. This article presents best practices for hedonic property-value modeling when the goal is to measure households’ willingness to pay (WTP) for a change in a spatially varying amenity. The starting point is a research design that identifies a source of exogenous variation in an amenity that is observable by prospective buyers (e.g., air quality). Data on the sales prices and physical attributes of houses, together with location-specific measures for amenities, are then used to estimate a housing-price function. Under ideal conditions, the derivative of this price function can be interpreted as indicating the amenity’s implicit price, which can then be used to calculate household marginal WTP for the amenity. In principle, this process is straightforward. In practice, modeling decisions must be made to define variables that measure sale prices and amenities and to select an econometric specification. Although the number of issues to address when developing a “best practices” study may seem daunting, the effort is both worthwhile and important for developing accurate measures of the WTP for environmental quality.