How to Value a Life

J Econ Finan (2008) 32:311–323 DOI 10.1007/s12197-008-9030-x How to value a life W. Kip Viscusi Published online: 30 April 2008 # Springer Science + Business Media, LLC 2008 Abstract The tradeoff between money and small risks of death is the value of statistical life (VSL), which has become the standard for assessing the benefits of risk and environmental regulations. Labor market estimates of the VSL average about $7 million. This valuation amount rises with age and then declines, closely tracking the pattern of consumption over the life cycle. The VSL for those at age 60 is higher than for people in their 20s. Application of this methodology to assess the mortality costs to smokers indicates a personal mortality cost on the order of $200 per pack for men and $100 for women using a 3% discount rate, but based on smokers’ rates of time preference the costs are reduced by about an order of magnitude. Keywords Value of Statistical Life . Risk Regulation . Cigarettes . Mortality Cost JEL codes J17 . I12 . I18 1 Framing our thinking about the value of life When non-economists hear that economists are placing a value on risks to human life, they typically assume that such economic measures involve some sort of morally offensive accounting exercise, such as equating the value of an individual life with the present value of his or her future earnings. Such measures do, of course, have prominence in personal injury litigation, as they serve as a principal reference point for the financial loss that a family has incurred after a wrongful death to a family member. However, the economic approach to valuing life, or more specifically, valuing risks to life, is quite different and more legitimate than an accounting procedure based on one’s income. This paper is based on the author’s J. Anderson Davis Lecture at the annual meeting of the Academy of Economics and Finance, Nashville, TN, February 15, 2008. W. K. Viscusi (*) Vanderbilt University Law School, 131 21st Avenue South, Nashville, TN 37203, USA e-mail: [email protected] 312 J Econ Finan (2008) 32:311–323 To see how economists conceptualize value of life issues, it is useful to start with a thought experiment. In particular, how much would you be willing to pay to eliminate a one-time only risk of death of 1/10,000? To conceptualize this risk, it is helpful to imagine that you are attending a sporting event in a crowd of 10,000, where one of you will not survive. Suppose you have to pick from one of the following dollar categories as the most that you would be willing to pay to get out of this risk: infinite amount, above $1,000, $500–$1,000, $200–$499, $50–$199, and under $50. For concreteness, I will interpret an infinite amount as equal to your present and future resources, leaving enough left to subsist. Which amount would you select? As with most people whom I have tested with this question, no attendees at the 2008 annual meeting of the Academy of Economics and Finance indicated that they were willing to pay an infinite amount to escape the risk. Their responses indicate that the idea of placing a finite value of risks to life is in fact quite reasonable even though many people’s initial instincts might have been that life is “priceless.” Most responses are in the $200–$1,000 range, which is quite reasonable. Responses under $50 generally indicate that the person did not take the risk of death seriously or else is well suited for an extremely dangerous job. Suppose that each person is willing to pay $500 to eliminate the risk of one death to the group of 10,000 exposed to the risk. Then this pattern of responses means that to avert the one expected death it would be possible to raise $500 per person×10,000 people, or $5 million. The value of a statistical life, or VSL, is consequently $5 million. Alternatively, one can calculate the VSL by dividing the willingness to pay amount by the probability reduction, or $500/(1/10,000)=$5 million. What the VSL is capturing is people’s rate of tradeoff between money and very small risks of death. It is not the amount that a person would be willing to pay to avoid certain death, nor is it the amount that a person would require to be compensated for facing certain death. Matters involving the certainty of life and death will have a quite different value than the value of reducing these very small risks. While one could construct VSL levels based on stated preferences for risk reduction, most of the economics literature has focused on tradeoff rates implied by actual decisions. The dominant approach in the literature has been to use the implications of wage-risk tradeoffs to calculate an implicit value of life. As indicated by Adam Smith’s theory of compensating differentials, controlling for other aspects of the job, workers should receive extra pay to face extra risk. Estimates from the U.S. labor market indicate that a worker currently would require an annual wage premium of $700 to face a fatality risk of 1/10,000, which implies an average VSL of $7 million. As one would expect, this number varies across different studies and different samples. Workers with a lower VSL, for example, should gravitate toward the very high risk jobs. More affluent workers will demand a greater wage premium to face any given risk. While such differences exist, whether they should be recognized when assessing risk reduction benefits in policy contexts remains controversial. 2 Policy practice The VSL literature has taken on substantial policy importance as it now provides the basis that is used throughout the federal government for valuing the benefits of risk J Econ Finan (2008) 32:311–323 313 and environmental regulations. In early government studies, the human capital measure given by the average present value of the lost earnings of those affected by a policy served as the measure of the economic benefits of reductions in fatality risks. This measure is easy to calculate, is used in court cases to compensate for wrongful death, and looks very much like what one would envision as an economic benefit. However, if we go back to first principles, the economic value of the benefit of any policy outcome is society’s willingness to pay for the benefit. The benefit in this instance is the reduced probability of death. The policy benefit is not the value of the identified lives who will be saved after the fact, because the identities of those who will be saved are not known. Moreover, given the stochastic nature of risk, it may be that nobody in fact would have died even though ex ante there may have been a substantial risk of death. As a consequence, to value changes in risk levels rather than identifiable risk outcomes it is the risk-money tradeoff or VSL that is the appropriate measure. Although the VSL literature began to be established in economics in the late 1970s and early 1980s, policymakers long viewed the idea of placing a value on human life as being immoral so instead they used the human capital measure based on earnings losses. This practice continued until the debate in the Reagan administration over the proposed Occupational Safety and Health Administration (OSHA) hazard communi- cation regulation.1 OSHA proposed an expensive regulation that for the first time would require hazard warning labels for dangerous chemicals in the workplace. As part of obtaining approval for any major regulatory proposal, the U.S. Office of Management and Budget (OMB) required that agencies calculate the benefits and costs of the regulation and show that the benefits exceeded the costs under Executive Order 12291, which has since been superceded by Executive Order 12866 that was initiated under the Clinton Administration. OSHA claimed that life was too sacred to value and instead calculated what it termed the “cost of death,” which was the human capital measure for lost earnings and medical expenses. The result of this benefit assessment based on this low cost of death value of life is that costs exceeded benefits in OMB’s view, and the proposed regulation was rejected. OSHA appealed the decision to then Vice-President Bush, who concluded that it was a technical issue rather than a political issue. I was called in to settle the dispute between the two agencies. To assess the risk reduction benefit, I used my VSL estimates, which were $3 million at that time. Doing so increased the benefits by a factor of 10, as compared to what the benefits were under the cost of death approach. With this change, benefits now exceeded costs, and the regulation was issued. Other agencies soon adopted this approach as well. The VSL methodology not only was the correct economics approach, but also boosted the assessed benefits of agencies’ regulatory proposals, which undoubtedly contributed to its rapid acceptance. Although many agencies selected VSL levels consistent with the economics literature, the major outlier was the U.S. Department of Transportation (DOT). Because of the long history of valuing life in auto accident cases by the human capital method, DOT was at the vanguard of agencies that placed a value on human life. However, this effort predated the economics literature on VSL, so that the only available economics reference point for the early DOT efforts was the human capital 1 For further discussion of this policy debate, see Viscusi (1992) and Pete Earley, “What’s a Life Worth? How the Reagan Administration Decides for You,” The Washington Post Magazine, June 9, 1985.

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