Modelling the health related benefits of environmental policies - a CGE analysis for the eu countries with gem-e3

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2.5.1. Consumer utility function

The parameters of the consumer’s utility function and health function related to
air pollution are calibrated such that the total marginal willingness-to-pay (MWTP) of
the consumers for a reduction in air pollution corresponds with the values used in
ExternE and in the standard version of GEM-E3 for the ex-post evaluation.

The representative consumer’s marginal WTP for a reduction in the ambient
concentration of pollutant m (MWTPAm) is given by

MWTP = _- AVAAAm = wθ _- p    (AH^d Am )  _{+ α}⁰ Yd      (15)

Am    ∂V∕∂Y     m ^Medd ∣J∂H∕∂MED)_y   H^,m         ⁽

where V is the indirect utility⁴. It is composed of three terms. The first term gives the
cost to the consumer of the time lost due to illness. The second term is the marginal rate
of technical substitution between pollution and medical consumption in producing a
constant level of health H, multiplied by the cost of medical care for the consumer. This
term reflects that the consumer is willing to pay more for a given reduction in air
pollution the greater the associated improvement in health. The bid is also higher, the
lower the productivity of medical care and the higher its costs. For the health production
function considered in equation (3) the second term equals p_MED.βι,m/β2. The last term is
the monetary equivalent of the disutility of mortality (excluding medical costs) and non-
health related impacts, which are assumed to enter the utility function in a separable
way. ExternE allows to compute the share of each component in the total MWTP and
this is used for the calibration of θm and βι,m/β2 for GEM-E3.

The parameters α of the LES utility function are calibrated such as to keep the
same labour supply elasticity in both the standard and extended GEM-E3 model.

⁴ It is obtained by substituting the demand functions (6) to (8) in the utility function (1).

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