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Guide to Social Cost Benefit Analysis

Step 3: Identify the costs and benefits

  • All benefits and costs that impact on people should be taken account of in the CBA.
  • Benefits and costs should be defined in terms of observable consequences on people.

23. Costs and benefits need to be identified as comprehensively as possible, and:

  • Characterised in terms of impacts on people, rather than on organisations or decision-makers. For example, in a proposal to increase the capability of an organisation, increasing the capability of the organisation may or may not help its clients. It would be better to identify directly the impacts on the clients, such as “faster response times which save clients x hours of time, worth $y”, or “reduced weather forecasting errors, which save farmers $x in unnecessary irrigation costs and $y in damaged crops due to failure to irrigate when they should have”, or “faster response times reducing processing costs and therefore requirement for taxpayer support through an appropriation”.
  • Characterised in terms of observable consequences, i.e. in terms that are measureable.
  • Checked to ensure that there is no double counting (see below).

24. As a general principle, only real costs and benefits, that is to say changes in real resources, should be taken into account:

  • Payments to suppliers, while technically financial transfers, are proxies for the consumption of real resources.
  • Accounting depreciation expenses should not be taken into account, since this would double-count the capital investment that has already been taken into account as a cost.
  • Interest and departmental capital charge are payments for the time value of money and should be ignored as the time value of money is represented by the discount rate. A large portion of rent or lease payments also compensate for the time value of money, so care needs to be taken when incorporating rental charges into a CBA.
  • As previously indicated, welfare payments transfer resources from taxpayers via the government to welfare recipients but do not represent either an increase or decrease in real resources.

25. Capital gains should generally be ignored as they either reflect a change in the market’s discount rate or they represent the NPV of future increased earnings, which will be recognised in the cost benefit analysis. For example, the increase in property values that might result from, say, a new railway line, represents the capitalised value of the travel time savings that the railway brings about. To count both the capital gain and the increased travel time savings would double-count this benefit.

26. Only those costs and benefits directly attributable to the policy should be taken into account. If they would occur anyway, then they should be ignored.

21. Avoided costs or benefits also need to be included, provided they are a consequence of the decision that is to be made. Costs or benefits that do not change as a result of the decision should be ignored; for example, costs related to the policy that have already been incurred. However, opportunity costs should be taken into account; for example, the value of existing land holdings that will be used for a project but could be sold if the project does not proceed.

27. It is sometimes thought that costs and benefits to people breaking the law should be left out of the CBA. Since laws themselves should be subject to a CBA, it is consistent with an evidence-based approach to take all costs and benefits into account. If this is not done, a CBA will not be able to distinguish properly between the social outcomes of laws with harsh penalties and those with more moderate penalties.

Negative costs and ‘dis-benefits'

28. Some analysts treat certain costs as ‘dis-benefits’ and net them off the benefits. The converse also occurs. This distorts the benefit cost ratio. Costs should be strictly in the denominator and benefits in the numerator.

29. Consider a road seal extension project, involving a capital expenditure in year 1, and maintenance cost savings in subsequent years. People sometimes put the capital expenditure in year one in the denominator and cost savings (ie, negative costs) also in the denominator. The numerator might include user benefits. As a result, the BCR can swing wildly. It might be zero if there are no user benefits and the only benefits are the cost savings. Or it might be infinite if the denominator is zero as a result of the cost savings being deducted from the capital expenditure.

30. The solution is that the maintenance cost savings should not be put in the denominator as a negative cost, but should be put in the numerator as a benefit.

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