Putting a Dollar Value on Natural Resources Is Key to Good Policymaking

Farmer-dead crops
Farmer Matt Johnson pauses while in a dead area of his popcorn crop fields on his family's farm in Redkey, Indiana, June 28, 2012 Brent Smith/Reuters

Ecologists often use the term "ecosystem services" to put a price tag on nature. Forests regulate climate and cleanse water, bees pollinate our crops, and a walk in the woods can calm our nerves. These benefits seem priceless but are in fact valued at trillions of dollars a year worldwide.

While important, knowing the value of ecosystem services doesn't show the whole picture, according to Eli Fenichel, assistant professor at the Yale School of Forestry and Environmental Studies and lead author of a new study that puts a price on groundwater and other natural capital. The researchers hope policymakers can put what they've discovered in practice to make better investments and more sustainable decisions when managing natural resources.

Economists have long seen natural resources as capital assets, much like land or buildings. But conservation expenditures are all too often viewed as a cost rather than an investment, because the value of those natural assets is elusive and therefore often overlooked. Pinning down that value, says Fenichel, is essential to guiding policymakers in the right long-term direction. "An ecosystem service is like the money you take out of the ATM, versus your total portfolio value, which is more like natural capital," Fenichel says. "Knowing the value of an ecosystem service is important, but it looks at the short term rather than the dividends a natural asset will pay over time."

Until now, there hasn't been a good way to calculate the value of natural resources. In a paper published Monday in Proceedings of the National Academy of Sciences, a team led by Fenichel devised a formula to determine the worth over time of natural capital, using the dollar value of groundwater in Kansas as an example. Their methodology takes into account a number of factors that exist in any investment, such as appreciation and depreciation of the asset over years and the value it provides—in this case, benefits like climate regulation or water cleansing. Fenichel says policymakers can use this pricing approach (which is based closely on one previously developed by economist Dale Jorgenson) to make apples-to-apples value comparisons between natural capital and more traditional assets.

The authors demonstrate how to price natural capital using the example of the Kansas High Plains' groundwater aquifer, a critical natural resource that supports the region's agriculture-based economy. According to their analysis, groundwater extraction and changes in aquifer management policies, driven largely by subsidizes and new technology, reduced the state's total wealth held in groundwater by $110 million per year between 1996 and 2005. That is a total of $1.1 billion.

"Most people would agree that losing $110 million year over year, or losing wealth at rate of about 6.5 percent for 10 years straight, is poor asset management," says Fenichel. "Though it might be reasonable to reallocate assets to a different section of your portfolio. So the loss in water wealth might be OK if it were made up for by investing elsewhere, but if that is not the case, then there is need to be more careful about the rate at which capital is drawn down."

The framework can be applied to the full range of natural capital assets, and Fenichel and colleagues are currently working to apply it to fish and forests. The authors point out that the losses in the value of western Kansas's groundwater aquifer were roughly equal to the amount of the fiscal surplus projected in the state's 2005 budget—and could have been offset with equivalent investments made in other forms of capital, be they traditional, like education, or other natural assets. Policymakers could use the formula to weigh decisions over natural resource management.

Ed MacMullan, a project director and senior economist at the economic and financial consulting firm ECONorthwest, advises decision-makers in the public and private sectors on matters concerning maintenance and risks associated with protecting natural resources. He believes the knowledge gained from the Kansas groundwater study can help policymakers evaluate the trade-offs inherent to any decision over natural capital.

"Once you can put a dollar value on the groundwater, you can really start having discussions," says MacMullan. "Maybe the conversation goes something like, 'Here's what the water's worth, but we're not charging enough for it.' Or maybe, 'Even though there's demand to grow a particular crop in California where water is scarce, it doesn't make economic sense to do so.'"