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HAZARD COMPENSATION AND INCENTIVE SYSTEMS: AN ECONOMIC 158 PERSPECTIVE original typesetting files. Page breaks are true to the original; line lengths, word breaks, heading styles, and other typesetting-specific formatting, however, cannot be About this PDF file: This new digital representation of the original work has been recomposed from XML files created from the original paper book, not from the retained, and some typographic errors may have been accidentally inserted. Please use the print version of this publication as the authoritative version for attribution. Perception of Risk Controlled experiments on public perception of risk suggest that the costs Cij associated with event j at site i will depend on attributes of the associated risks. Slovic et al. (1980) have analyzed data on individuals' attitudes toward risky activities ranging from skiing to living near a nuclear power plant. Two general characteristics appear to define the public's ranking of the risks associated with these activities: the dread of the risk and whether the risk is knowable. Technologies perceived as uncontrollable, catastrophic, involuntary, and highly risky to future generations score high on dread. Those that are not observable, that are unknown to those exposed, that are delayed, and that are new are viewed as unknown risks. If a proposed technology scores high on both risk characteristics, the required amount of compensation is likely to be extremely high. A further difficulty in siting new technologies is that the relevant stake- holders perceive risks differently. Industry and the developer may feel that the facility does not represent much of a risk because the technology is new to them and considered controllable, whereas the public may have a different view. Von Winterfeldt and Edwards (1984) have developed a taxonomy of technological controversy and investigated the nature of such disputes. They conclude that controversies about threats that may have catastrophic potential, such as Love Canal or LNG siting, are frequently due to differing values among the stakeholders. A related challenge in siting new technologies is that there is likely to be considerable ambiguity associated with probabilities of losses. Ambiguity associated with losses has two principal effects. First, insurance firms have relatively little interest in marketing coverage for these technologies since they are unsure of the chances of incurring specific claims. For example, the insurance industry has opposed providing coverage for losses related to nuclear power, claiming that the risk is not insurable because of the ambiguity associated with such losses (Hogarth and Kunreuther, 1985). Second, if there is ambiguity surrounding the probability of specific events, the potential host community may imagine the potential losses in detail rather than focusing on the abstract probability. An advantage of employing some type of benefit- sharing arrangement is that the communities selected as potential sites are forced to concern themselves with trade-offs between obtaining a certain payment now or having to incur possible losses in the future with some unknown probability. Eliciting Preferences for Communities An emerging body of literature in economics attempts to answer the following question: How can one elicit the willingness of an individual or
HAZARD COMPENSATION AND INCENTIVE SYSTEMS: AN ECONOMIC 159 PERSPECTIVE original typesetting files. Page breaks are true to the original; line lengths, word breaks, heading styles, and other typesetting-specific formatting, however, cannot be About this PDF file: This new digital representation of the original work has been recomposed from XML files created from the original paper book, not from the retained, and some typographic errors may have been accidentally inserted. Please use the print version of this publication as the authoritative version for attribution. community to accept a facility that does potential harm to them but benefits others? If such a mechanism induces truth telling on the community's part, it is called incentive-compatible.3 Economists have searched in vain for incentive-compatible mechanisms that will maximize aggregate net benefits and balance the budget (when the amount paid by developers and other communities covers the amount demanded by the host community). Problems of equity and fairness complicate the matter further.4 The institutional arrangements associated with the siting process add a further dimension to designing appropriate compensation mechanisms, as illustrated by the Massachusetts Siting Hazardous Facility Waste Act of 1980. Under this legislation, the developer negotiates a siting agreement with the host community, offering compensation if necessary to satisfy the residents' concerns. Compensation is also provided to communities likely to be affected by a disposal facility in adjacent districts. Arbitration is offered to break any deadlocks (O'Hare et al., 1983). Under this arrangement the developer has an incentive to offer the lowest possible compensation to the host community as well as to its neighbors, and the communities have an incentive to demand as large a payment as possible. If several communities are vying for the facility, some type of auction might ensure that the community with the lowest bid hosts the facility. Even here, there is no incentive for a community to tell the truth if it knows that its bid is likely to be considerably below those of the other possible sites. To date, no hazardous waste facility has been located under the Siting Act, although the town of Taunton, Massachusetts, was on the verge of accepting in 1984. My colleagues and I (Kunreuther et al., 1985)5 have been investigating an allocation mechanism whereby each community seeking to host a hazardous facility submits a bid indicating the compensation it would require to provide a site for the facility. The community that submits the lowest bid is the ''winner.'' If there are n candidate sites, then all the other communities would have to pay 1/(n-1) of their bid. For example, if there are five communities that could host a trash facility, each would submit a sealed bid, and those that were not the lowest bidder would each have to pay a quarter of their bid. This procedure is guaranteed to yield a budget surplus so that the regional siting authority would be able to use any funds not given to the host community to institute improvements benefiting the entire region. Furthermore, the procedure induces communities not to overbid, since their tax will be increased proportionately if they are not the low bidder. If there are industries associated with each site, the payments could be made by them rather than using the tax revenues of the communities. One other theoretical advantage of the proposed mechanism is the inability of any community to form a coalition with other candidate sites. One objection to this allocation mechanism is that the poorest communities, which already are well endowed with hazardous facilities, will have the
