jmtaberne msc essay cost-effectiveness and related tools

7/30/2019 JMTaberne MSc Essay Cost-Effectiveness and Related Tools

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University of Bristol

Department of Social Policy & Social Planning

MSc course in Development Administration & Planning

Code: M21X

Name: Jos-Mara Tabern Abad

Essay Title: Describe and discuss the following concepts and tools: Cost-effective;Cost-benefit analysis; Social cost-benefit analysis. Discuss how useful, if at all, are theseprocedures for analysing socio- economic process in the the developing countries.

Module Title: Administration: Theories and Policies of Administration/Management ofDevelopment.

Lecturer: Pervaiz Nazir

Summer Term 1995


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To render the allocation of resources more 'rational' and 'efficient' has become a major

concern of modern governments. Various techniques and methods have been tried out

for this purpose1. Among them, Project Analysis involves estimating and comparing the

beneficial effects of an investment with its costs2 by means of a set of procedures that

can be applied, first, in the process leading up to a decision whether or not to invest

and, secondly, in the implementing and organizing of the new activity3. Within

industrialised countries, project analysis generally has been confined to large scale

infraestructure projects. In developing countries, the prolematic adressed by project

analysis is that of the nature of a post-colonial state, seeking, inter-alia, to create the

conditions for a successful, transforming development4 while it has become a condition

for the release of funds to assisted projects5. India provides an example where project

analysis has been applied over a long period6. In Jamaica and Sri Lanka, the process

only covers those projects reliant on external funding7. Socialist developing countries

such as China and Mozambique have adopted project analysis as part of a process of

reform8. These economic techniques play an increasingly important part in the making

of government decisions. Sometimes they are thought of as the best or most 'objective'

way of reaching such decisions. On the other hand the uses of these techniques also

cause not a little puzzlement, and often a vague escepticism, on the part of non-

economists, including politicians, officials, and students of politics and society9 in both

developed and developing countries.

The state is the source, architect, agent and arbiter of planning. It is also an


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independent identity, a will and a capacity to choose of its own10. The task of the

planner is to work out the consistencies between different objectives, weigh the costs

and benefits of different alternatives and suggest an efficient or optimal mix of

strategies11. In relation to the possibility of transition from economic backwardness to a

developed mode of production12, economic analysis covers resource factors that are

measurable in various ways in monetary terms. Non-economic analysis covers social

values that are themselves untranslatable into such terms, even though the realisation

of such values usually involves demands upon resources that can be measured13. It is

plain that the costs and benefits which accrue to society collectively frequently diverge

from the resultant of market preferences exercised by individuals. For example, the

introduction of collectively financed health and social security measures removes much

of the supply and demand for medical treatment from the sphere of market choice14.

The orthodox school of economists hold that Cost-benefit analysis (CBA) rests upon the

'efficiency' principle of maximising total welfare15. Several authors hold that the

identification of projects that are economically worthwhile is the appropriate basis for

their selection, to which the analysis of other project effects must be related16. It can be

claimed that inequalities of wealth must be accepted for the sake of maximising total

wealth17. But it raises the issue of reconciling the concept of maximising utilities with

appropriate rules of distribution18 and, more importantly, the choices for long-term

development, self-sufficiency and a transformation which includes, critically, capitalist or

collective industrialisation and the resolution of the agrarian question19. Placing a

specific project in its sectoral and country context shows that national profitability or

social profitability may differ from commercial profitability20. The benefits of a project,


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that is its contribution to social welfare, can only be assesed once one knows what

social objectives are and what weight is to be attributed to them 21. Differences in

objectives and their weighting, described as values, arise from differences in tastes and

in interests, the former suggesting and individualistic analysis, the latter a class

analysis22. Whereas the idealistic school of CBA believes that there is some supreme

criterion of social welfare to be interpreted and applied by economists, the pragmatic

school gains in realism by accepting that an economic criterion of welfare may be only

one of several possible tests of policy23.

In this essay I will attempt firstly to describe and discuss the concept of Cost-

effectiveness and its related tools of Cost-benefit analysis and Social Cost-benefit

analysis (SCB). Secondly, I will discuss how useful are these procedures for analysing

socio-economic processes in the the developing countries. To conclude, I will suggest

the possibility of overcoming some of the problems examined.

Concepts

Project analysis is designed to permit project-by-project decision-making on the

appropriate choices between competing uses of resources, with costs and benefits

being defined and valued so as to measure their impact on the development objectives

of the country24. Economists will ask what are the costs and benefits of some decision,

or what the 'opportunity costs' in terms of alternative uses of the resources must be

sacrificed to reap the benefits that the decision is expected to produce. In principle they

employ a common measuring rod to measure these costs and benefits that is usually


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expressed in monetary terms25. Cost effectiveness indicates what one may obtain from

the application of a particular investment and what it actually costs to use it 26 or,

technically speaking, which alternative has the lowest total discounted cost. Cost-

efectiveness analysis is an appraisal and program-monitoring technique used primarily

in social programs and projects in the health, population, nutrition, and related sectors

in which benefits cannot be reasonably measured in money terms27.

The financial analysis of a project identifies the money profit accruing to the project

operating entity, whereas social profit measures the effect of the project on the

fundamental objectives of the whole economy28. Economic costs and benefits are

measured by shadow prices, which are the values used in economic analysis for a cost

or a benefit in a project when the market price is felt to be a poor estimate of economic

value29, therefore involving efficiency prices, and the calculation of a project's rate of

return proceeds from the internal rate of financial return to the internal rate of

economic return30.

The effects that work outside the market are called 'externalities'. These do not enter

calculations of commercial profits, since these are made at market prices. Externalities

are relevant for social choice and provide an argument for rejecting commercial

profitability as a guide to public policy31. Tangibles are those effects that can be

converted into monetary terms. Intangibles can be of two types: effects that can be

quantified but not measured in monetary terms and those which cannot either be

measured or quantified32.


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CBA is a systematic technique used to analyse the economic justification of a potential

investment decision. It involves identifying, measuring and placing a monetary value on

all costs and all the benefits of a particular project proposal and then comparing these

costs and benefits as an aid to the decision-making process33. CBA claims that it is

possible to quantify in monetary terms all sorts of factors that normally are not so

expressed; that the money terms used in the analysis really do possess the common

property which they appear to have; and that these figures represent measurements of

some concept of community welfare which can or should stand, if not as an unique

criterion for decision-makers, then at least as one important criterion of the best

policy34. Three performance measures are commonly used in CBA: Net Present Value

(NPV), Benefit-cost Ratio, and Internal Rate of Return (IRR).

When decisions are taken on behalf of the people (i.e. in the public interest), they

involve consideration of the widest possible range of costs and benefits, particularly the

social ones associated with specific project proposals; this approach is termed 'Social

Cost-benefit Analysis' SCB35, in which an allowance may be made for benefits or costs

which arise elsewhere in the economy as a result of the operation of the project36. such

costs and benefits are externalities.

Usefulness

In principle, project analysis enable the decision-makers to assign their own implicit

weights and to understand more clearly the implications of their decisions37. But this

techniques have some built-in shortcomings: The time and training of economists and


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planners is itself a scarce resource. CBA has costs and benefits itself38. The complex

appraisal procedures of SCB analysis obscure the basis for decisions, may be abused, or

neglect or pre-empt scarce administrative capacity. They can lead to dependence,

delays and pressures to spend. They can bias project selection away from the poorer

people and the poorer countries39. It is known to be easy to adjust assumptions

(discount rates, shadow prices, rates of implementation or adoption, etc) to produce a

wide range of results40. Also, these tools may have become instruments of control

rather than of aid, and as those procedures become more numerous and complex,

further demands are placed on the limited planning and administrative capacity of

developing nations, making them more dependent on foreign expertise. The impositions

of international requirements may have aggravated the problem of preparing relevant

and appropriate investment proposals41.

On the other hand, being externalities described as consequences of some decision

which lies outside the normal or appropriate reference framework of the decision-maker

but which ought somehow to be included within this framework, the detection of

externalities requires an exercise of judgement which is necessarily controversial and

cannot be settled by automatic rules42. Pecuniary externalities relate to changes in

output or incomes that are due indirectly to changes in the level of demand, as with the

'multiplier' effect of public projects43.

The claim often made is for the therapeutic value of CBA in persuading decision-makers

to think more carefully and systematically about relevant factors. For this purpose there

is no requirement that the factors themselves should be weighted numerically or in


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money terms. On the other hand such numerical conversions may distract attention

from the harder44 tasks of examining the relationships between judgements and

relevant information, and between the value judgements themselves. . Reliance upon

CBA is a two-edged sword where 'intangible' benefits are important. This circumstance

produces a dilemma for educationalists, for if they seek to justify investment in

education on economic grounds they may be faced with evidence that its economic

return is fairly small and dubious when compared with other investment opportunities.

The problem then is to know how far and in what ways resource analysis should be

applied to policies whose aims are partly 'non-economic', as with the 'social-efficiency'

approach to valuation45. According to Myrdal, the lengthy economic debate over the

correct discount rate to be applied to public projects is meaningless unless this rate is

conceived as a technical instrument for implementing possible value positions46. If CBA

cannot cope with 'political factors', these factors could be introduced as corrections to

the analyst's conclusions47.

Project costs are generally easier to identify than project benefits. A distinction can be

drawn between directly productive and indirectly productive projects. The former are

those where the immediate costs and benefits accrue to a single organisation; the latter

are those where the benefits derived from new resources do not accrue to the

organisation responsible for carrying the costs, so any resulting surplus is not

concentrated in the hands of a single organisation, for example most heavy-industry

and infraestructure projects, where the benefits accrue to users and producers whilst

the costs are met by government48. For many developing countries, trade opportunities are an


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important issue49: quite often the developing countries are encouraged to invest in projects

aimed to export agricultural commodities in exchange for imported industrial products.

It is to be assessed what would have happened to national development if these

countries had paid attention to this advise.

CBA involves the use of certain conventions about the valuation of resources and the

time-frame into which they are put. Normally the time-frame for a project resource

statement will consist of a series of consecutive few annual periods50. But the interests

of developing countries usually differ from those of the developed ones. An extension of

the time-frame may show that a project is beneficial in the long term because of the

linkages it provides while not being the most financially profitable on paper.

Criticisms of SCB conclude that, in so far as it implies that social welfare maximization

or national welfare maximization is possible in conflict societies, it may be misleading52.

Project selection using SCB is critically dependent on the values adopted. Use of

government values as widely advocated may be illegitimate because governments

represent particular classes53. So SCB is used as an instrument, rather than other

instruments, because Governments do not represent the 'social' interest, but their own

class interests, and yet wish to appear to represent the 'wider' social interests54. SCB

defenders argue that SCB merely provides the technology and methodology of rational

decision making and that SCB does not claim to provide a unique or objective

assessment of the net benefits of projects, but simply a method which will give

different results according to the assessor. But SCB for developing countries is intended


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formalising the best choice of investments by stimulating a competitive market

framework61.

It is still very controversial wether full CBA in social sectors is as yet sufficiently soundly

based to be a good guide for policy makers. Even though it takes a social or national

view of profitability, rather than a market definition, provides a means for ranking

projects when scarce capital resources need to be allocated, and seeks to identify the

economic cost to the nation for applying those resources, we are concerned with the

application of CBA precisely in fields in which it is considered unnecessary in developed

economies. The justification is that within such sectors of advanced economies the price

mechanism works in such a way that profits are a reasonable measure of net benefit,

but that is not true of most developing countries62. The process of development is

accompanied by dependence on the international economy. It may be a paradox that

the process of a country's incorporation into the international economy, which in an

immediate sense facilitates development by providing inputs, also retards development

by increasing dependence and thus restricting further development63.

The argument of this paper is not that there are no benefits from such procedures.

Development priorities may place social and economic transformation, or national self-

reliance, over and above maximising consumption, in which case these tools are not

fool-proof means for selecting projects. The question is to what extent the costs of

following the procedures are justified by the benefits. Weightings reflected in shadow

prices are not always based on government's impartial view of what is the public


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interest, but may be based on class interest. For the costs can be high, specially in the

poorest countries which are precisely those in which the procedures are most difficult to

carry out64.

The economic literature of planning needs to be examined closely for its hidden

assumptions65. The concept of a cost or a benefit has meaning only in relation to

objectives of the country's development programs66. Analyses from the standpoints of

public administration and political science are valuable not only because they admit

forms of evidence and behaviour which some mathematicians and economists might be

inclined to discount. It is common to find that practitioners of CBA admit in private that

even as it appears an objective procedure it is in practice a compound of judgement on

future events which are very difficult to predict, and judgement about some project

analysis features, like discount rates and shadow prices, lie within limits that allow for

wide variation67. In larger economic processes, project formulators may create more

problems than they can solve.


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ENDNOTES

1. Self, P. (1975), p.178

2. Curry, S. and Weiss, J. (1993) p.13. Ibid, p.64. Byres, T.J. (1993), p.105. Curry, S. and Weiss, J. (1993) p.36. Byres, T.J. (1993), p.77. Curry, S. and Weiss, J. (1993), p.58. Ibid, p.69. Self, P. (1975), p.ix10. Byres, T.J. (1993), p.1511. Ibid, p.51

12. Ibid, p.713. Self, P. (1975), p.8914. Ibid, p.7915. Ibid, p.13916. Curry, S. and Weiss, J. (1993), p.xvi17. Self, P. (1975), p.2118. Ibid, p.3319. Byres, T.J. (1993), p.1220. Meier, G.M. (1984), p.63721. Stewart, F. (1978) p.32

22. Ibid, p.3323. Self, P. (1975), p.1324. Meier, G.M. (1984), p.64125. Self, P. (1975), p.426. Conyers, D. and Hills, P. (1994), p.8427. Gittinger, J.P. (1994), p.46328. Meier, G.M. (1984), p.64029. Gittinger, J.P. (1994), p.49930. Meier, G.M. (1984), p.63931. Ibid, p.65232. Conyers, D. (1994), p.13633. Ibid, p.13534. Self, P. (1975), p.535. Conyers, D. and Hills, P. (1994), p.13536. Little, I.M. and Mirrlees, J.A. (1974), p.2937. Chambers, R. (1978), p.21638. Ibid, p.21439. Ibid, p.20940. Ibid, p.21441. Ibid, p.21242. Self, P. (1975), p.35


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43. Ibid, p.4244. Ibid, p.9245. Ibid, p.8146. Ibid, p.20147. Ibid, p.47

48. Curry, S. and Weiss, J. (1993), p.1649. Ibid, p.350. Ibid, p.1151. Ibid, p.5052. Stewart, F. (1978) p.3653. Ibid, p.3154. Ibid, p.3855. Ibid, p.3756. Self, P. (1975), p.14057. Ibid, p.146

58. Ibid, p.14259. Ibid, p.9260. Curry, S. and Weiss, J. (1993), p.3961. Ibid, p.262. Little, I.M. and Mirrlees, J.A. (1974), p.3163. Nazir, P. (1991), p.17064. Chambers, R. (1978), p.21365. Byres, T.J. (1993), p.866. Meier, G.M. (1984), p.64167. Chambers, R. (1978), p.212


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BIBLIOGRAPHY

1. Curry, S. and Weiss, J. Project Analysis in Developing Countries. St. Martin's Press.

Houndmills 1993.

2. Gittinger, J.P. Economic Analysis of Agricultural Proyects. The Johns HopkinsUniversity Press. Baltimore 1994.

3. Self, P. Econocrats and the Policy Process. Macmillan Press. London 1975.

4. Stewart, F.A Note on Social Cost-Benefit Analysis and Class Conflict in LDCs. WorldDevelopment, Vol 3, No 1. Pergamon Press, London 1978.

5. Byres, T.J. The State and Development Planning in India. Oxford University Press.Oxford, 1993.

6. ODA. Guide to the Economic Appraisal of Proyects in Developing Contries. HMSO.London,1977.

7. Chambers, R. Project Selection for Poverty-Focused Rural Development: Simple isOptimal. World Development, Vol 6, No 2. Pergamon Press, London 1978.

8. Meier, G.M. Leading Issues in Economic Development. Oxford University

Press.Oxford, 1984.

9. Conyers, D. and Hills, P. An Introduction to Development Planning in the ThirdWorld. John Wiley & Sons Ltd. Chichester, 1994.

10. Nazir, P. (1991). Local Development in the Global Economy. Hants: Avebury.

11. Pratt, B. and Boyden, J. The Field's Director Handbook. Oxford University Press.Oxford, 1990.

12. Little, I.M. and Mirrlees, J.A. Project Appraisal and Planning for DevelopingCountries. Heinemann. London, 1974.

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