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AGEC 608 Lecture 01, p. 1
AGEC 608: Lecture 1
• Objective: Introduction to main concepts• Readings:
– Boardman, Chapter 1– Kankakee, summary of Draft Assessment
• Homework: Chapter 1, problem 1Chapter 2, problem 2Chapter 2, problem 4due: Feb. 27
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What is Cost-Benefit Analysis?•A method for assessing and comparing policies•Relies on valuing impacts in monetary terms
objection: interpersonal comparisons?objection: are those costs or benefits?objection: present and future?
• Bottom line: NSB = B – C
Note: CBA and BCA are interchangeable terms
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Purpose and types of CBAPurposes:
• Improve decision making• Learn about projects and processes
Types:• Ex Ante (before the project)• Ex Post (after the project)• In media res (during the project)• Comparative (ex ante vs. ex post)
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History of Cost-Benefit Analysis1808 - Gallatin (Sec. Of Treas.) issues report on the costs and benefits of water projects1844 - Jules Dupuit writes “On the Measurement of
the Utility of Public Works”1936 - Passage of U.S. Flood Control Act1950 - Economics Analysis of River Basin Projects
(green book)1973 - “Principles and Standards for Planning Water
and Related Land Resources” Water Resources Council1981 - Reagan issues executive order requiring
regulatory impact analysis1995 - U.S. House passes even stringent CBA
requirements
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• What are the project objectives?• What happens in the absence of the project?
Questions that must be answered:
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Public Policy Objectives
Developed country
1) National economic development
2) Environmental quality
3) Quality of life
4) Regional development
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Public Policy Objectives
Developing country
1) Increase aggregate consumption
2) Income redistribution
3) Growth of national income
4) Employment
5) Self-reliance (balance of payments
6) Merit goods (education, health care)
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Questions that CBA can answer:
• What is the project’s fiscal impact?• Is the project financially sustainable?• What is the environmental impact?• Is it a good (economically beneficial) project?• Is this project the best alternative?• Can separable components stand alone?• How risky is the project? • Who are the winners and losers?
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Example: Water Projects
Objectives often include:Flood controlNavigationPower generationRecreationIrrigationWater supply
Concerns typically also includeHistory, culture, ecology, and health
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Perspectives for Project Analysis
• For the economy as a whole• For a regional economy affected by a project• For the government budget• For people affected by the project
– Financial analysis– Distribution analysis
Key: Different perspectives give different results
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US Requirements for CBA
• Executive Order 12866 (1996) requires:– statement of need for proposed action– examination of alternative approaches– analysis of the social benefits and costs– discussion of equity effects
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Key Assumptions in CBA
• Price measures the benefit of each marginal unit to the demander
• Marginal cost measures the opportunity cost of each marginal unit for the supplier
• The value to society as a whole is the difference between benefits and costs– See Figure 1
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Process of Economic Analysis
• Iterative process• Construct with-without scenario (counterfactual)• Start with financial analysis, then economic
– treatment of taxes/subsidies– adjust values to opportunity costs
• Difference between economic & financial results
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The Project Cycle
• Identification• Preparation and analysis• Appraisal• Implementation• Evaluation
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9 Basic Steps in CBA
1. Specify portfolio of alternative projects/policies2. Decide whose benefits and costs count (standing)3. Catalogue potential (physical) impacts and selected measurement indicators.4. Predict quantitative impacts over the life of the project.5. Monetize (attach dollar values to) all impacts.6. Discount for time to find present values.7. Compute NPV (add up the benefits and costs).8. Perform sensitivity analysis.9. Recommend the alternative with the largest net social benefits.
