cv-ev-notes-483 - Measuring Welfare Eects of an Economic...

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CV and EV Measuring Welfare E f ects of an Economic Change ECON 483 ST in Environmental Economics Kevin Wainwright Welfare and Economic Change Welfare is, in simple terms, the level of well-being of a group. It is sometimes thought of as the aggregate of utility (individual well-being). Whenever there is an economic change in society, there is usually and associated change in welfare. The two most common forms of economic change are; 1. The opening or closing of a market (i.e. A new good is invented or a current good ceases to exits ) 2. There is a change in the relative price of a good. (i.e. it is now cheaper or more expensive relative to other goods) Whenever an economic change occurs an individual moves from one equilibrium point to another equi- librium point. This means that they move from one indi f erence curve to another indi f erence curve. The change in well-being is measured by the di f erence in utility. However utility is an unobservable number; therefore economists attempt to convert the change into some index that can be observed, such as money. The idea being that any economic change can be o f -set by a lump-sum transfer of money. If the transfer amount is known, then its size can be interpreted as being proportional to the magnitude of the welfare change. There are two measures that are used: Compensating Variation (CV) and Equivalent Variation (EV) CV: Compensating Variation CV, or compensating variation, is the adjustment in income that returns the consumer to the original utility after an economic change has occurred. In the case of a positive economic change (such as a fall in price of a good), CV is often referred to as the maximum a consumer is willing to pay in order to have the economic change happen. When there is a negative economic change, CV is the minimum the consumer needs in order to accept the economic change. EV: Equivalent Variation
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This note was uploaded on 09/13/2009 for the course ECONOMCIS Econ460 taught by Professor Kelvinwainwright during the Spring '09 term at Simon Fraser.

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cv-ev-notes-483 - Measuring Welfare Eects of an Economic...

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