How wrong can you be? Implications of incorrect utility function specification for welfare measurement in choice experiments

Nick Hanley (), Antoni Riera Font and Catalina M. Torres Figuerola ()

No 2010-12, Stirling Economics Discussion Papers from University of Stirling, Division of Economics

Abstract: Despite the vital role of the utility function in welfare measurement, the implications of working with incorrect utility specifications have been largely neglected in the choice experiments literature. This paper addresses the importance of specification with a special emphasis on the effects of mistaken assumptions about the marginal utility of income. Monte Carlo experiments were conducted using different functional forms of utility to generate simulated choices. Multi-Nomial Logit and Mixed Logit models were then estimated on these choices under correct and incorrect assumptions about the true, underlying utility function. Estimated willingness to pay measures from these choice modelling results are then compared with the equivalent measures directly calculated from the true utility specifications. Results show that for the parameter values and functional forms considered, a continuous-quadratic or a discrete-linear attribute specification is a good option regardless of the true effects the attribute has on utility. We also find that mistaken assumptions about preferences over costs magnify attribute mis-specification effects.

Keywords: Monte Carlo analysis; choice experiments; efficiency; accuracy; welfare measurement; attributes; utility specification (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-cis, nep-dcm, nep-ecm and nep-upt
Date: 2010-11
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Journal Article: How wrong can you be? Implications of incorrect utility function specification for welfare measurement in choice experiments (2011)
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Persistent link: http://EconPapers.repec.org/RePEc:stl:stledp:2010-12

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