Chapter 1: Introduction to CBA Flashcards
What is the definition of a CBA?
Cost-Benefit Analysis (CBA) is a policy assessment method that quantifies the value of policy consequences (or impacts) in monetary terms to all members of society.
What is the equation for a CBA?
A CBA calculates net social benefits(NSB)for each policy alternative: net social benefits equal social benefits(B) minus social costs(C): NSB = B -C
What is the purpose of a CBA?
When markets fail and resources are used inefficiently, CBA can be used to clarify which of the potential alternative programs, policies or projects (including the status quo) is the most efficient.
4 types of CBA analyses
- Ex ante CBA
- Ex Post CBA
- In medias res CBA
- Comparative CBA
Ex ante CBA
conducted prior to the intervention. Useful to show whether resources should be used on a program or project.
Most current CBA used for decision making. Decision-makers base the decision to allocate resources on this type of analysis.
Ex post CBA
conducted at the end of the intervention. Provides information about the particular class of intervention.
Cannot be used for decision making. Goal is to learn
In medias res CBA
conducted during the intervention.
Can also be used for decision making but only to fix an ongoing project when it is still possible.
Comparative CBA
compares the ex ante predictions to ex post results for the same project (very rarely done).
Prediction error
Discrepancies between predicted and observed values of costs and benefits.
9 Basic steps of a CBA
- Specify the set of alternative projects
- Decide whose benefits and costs count (standing)
- Identify the impact categories, catalog them and select measurement indicators
- Predict the impact quantitatively over the life of the project
- Monetize (attach dollar values to) all impacts
- Discount benefits and costs to obtain present values
- Compute the net present value of each alternative
- Perform sensitivity analysis
- Make a reccomendation
Step 1: Specify the set of alternative projects
CBA compares the net social benefits of a project with the net social benefits of the “counter-factual” (a hypothetical project) .–It is usually the status quo.
Step 2: Decide whose benefits and costs count (standing)
Which benefits and which costs should be included in the CBA.
Standing is usually most appropriately specified at the level of relevance for the government.
Step 3: Identify the Impact Categories, Catalogue them and select the measurement indicators.
- Identify the physical impact categories for the proposed alternatives.–The term impact is used for inputs (required resources) as well as output
- Catalogue them as benefits or costs.
- Specify the measurement indicator for each impact category.
Step 4: Predict the impacts quantitatively over the life of the project
The goal is to quantify all impacts in each time period (difficult to predict)
Step 5: Monetize (attach dollar values to) all impacts
The dollar value is measured in terms of “willingness to pay”.
Step 6: Discount benefits and costs to obtain present values
If the project has impacts over years, we must discount for the time in order to aggregate costs and benefits over time. In that case, we compute the present value of the costs and the benefits.
Step 7: Compute the net present value of each alternative
The net present value (NPV) equals the present value of benefits minus the present value of costs: NPV = PV(B) - PV(C)
•The decision-maker should select the project with the largest NPV
Step 8: Perform sensitivity analysis
To deal with the uncertainty on the different impacts and monetary valuation, an analyst should perform a sensitivity analysis.
Step 9: Make a recommendation
Generally, you should recommend the project with the largest NPV
Guardians
Guardians consider projects with a revenue-expenditure view of the costs and benefits
–revenue inflows = “benefits”
–expenditure outflows = “costs”.
They tend to view CBA as naïve and impractical and as a tool of spenders.
The guardian perspectives makes project less likely to beat the status quo
Potential consequences of the guardian perspective
Ignores non-financial social benefits (time saved, lives, etc.) and social costs (time spent, pollution).
•Misinterprets or ignore some of the financial costs.–Example: Labour costs –guardians take into account the total wage remuneration, while CBA focuses on the opportunity cost of the labor.–Ignores costs not borne by its own level of government.
•Considers subsidies from other levels of governments as benefits.–Federal government subsidies are not considered as costs but as benefits at the municipal and the provincial level.
•Public goods tend to be considered as free goods instead of considering their opportunity cost.
•Discount rates are usually too high –similar to financial market discount rates and that are not social discount rates
Spenders
- Spenders consider expenditures on constituents as benefits rather than costs.
- Spenders focus on providing projects and services to particular groups in society
- The spender perspective makes project more likely to beat the status quo
Potential consequences of the spender perspective
- Expenditures on constituents are viewed as benefits rather than costs.–Labour costs are viewed as benefits–Transfers received by constituents are also viewed as benefits.
- Public resources are viewed as having no cost.
- Users’ monetary outlays are viewed as costs.
- Favours large, irreversible, capital-intensive projects with big sunk costs. –Hard to cancel during or after completion of the project.–Example: Urban train system instead of bus services
- Discount rates are usually too low. –It raises the project probability of acceptance (raises the NPV).
Analyst?
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