Hedonic Method and CPI: Pricing Environmental Values

The hedonic method is used to price and estimate economic values for ecosystem or environmental services that have an effect on market prices. It is most commonly applied to variations in prices of housing that attribute the effects of local environmental conditions. The monetary value of two similar houses, with same facilities and amenities may be different. The value may reflect the difference in the access to the work-place, commercial amenities, environmental facilities such as parks, etc. and also the environment of the neighborhood.

This factor actually puts into question the fact that how much are people ready to spend on the quality of the environment. The hedonic method can be used to estimate economic values or costs associated with environmental quality, air pollution, water pollution, or noise pollution, environmental amenities, such as aesthetic views or proximity to recreational sites and also proximity to basic amenities such as gas station, bus station and super markets. But with relation to Consumer Price Index the context changes a little.

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For example, if a television in the CPI is replaced by one with a larger screen and higher price, an adjustment can be made to the price difference by estimating what the old television would have cost, had it had the larger screen size. Many of the challenges in producing a CPI arise because the number and types of goods and services found in the market are constantly changing. If the CPI tried to maintain a fixed sample of products, that sample quickly would shrink and become unrepresentative of what consumers were purchasing.

Each time that an item in the CPI sample permanently disappears from the shelves, some determination has to be done about the relative qualities of the old and replacement item. If it did not--for example, if it treated Price Check on Aisle2 3 all new items as identical to those they replaced -- significant upward or downward CPI biases would result. References Handbook on hedonic indexes and quality adjustments in price indexes. Jack E. Triplett.