Benefit-Cost Analysis BASICs

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Benefit-Cost Analysis BASICs. Monetary Measures of Utility. How much is a gallon of gas worth to a person? Expenditure at going price (“value in exchange”) Value above price/expenditure? Suppose you can buy as much gasoline as you wish at \$1 per gallon once you enter the gasoline market.

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### Benefit-Cost Analysis BASICs

Monetary Measures of Utility
• How much is a gallon of gas worth to a person?
• Expenditure at going price (“value in exchange”)
• Value above price/expenditure?
• Suppose you can buy as much gasoline as you wish at \$1 per gallon once you enter the gasoline market.
• Q: What is the most you would pay to enter the market?
• Q: How would you depict this graphically?
• Q: How could you depict this value and the consumer expenditure on a demand graph?
Consumer’s Surplus(with competitive supply)

p1

CS = ½* qm(pmax- pm)

Expenditure= qm* pmarket

MC = Supply

“Value in Use” = E + CS = “Impact Study”

Benefit-Cost Analysis

Policy Change: Excise tax imposed of \$t

Deadweight Loss = ½ *(p1-pm)*(qm-q1)

CS

p1

TaxRevenue

t

pm

Marginal Cost

SellerRevenue

q1

qm

(output units)

Benefit-Cost Analysis

Expenditure of tax revenues in

Market 2

Added CS + Expenditure =

Pm2(q2-qm2) + ½ p2(q2-qm)

p2

t

pm2

MC

qm2

q2

(output units)

General Equilibrium CBA
• Preceding graphic provides measure of welfare loss in single market
• Total effect takes into account gain in welfare from expenditure of funds in new market(s)
• Net Welfare Change in \$ =

½ *(p1-pm)*(qm-q1) – P2m(q2-qm2) ½ p2*(q2 – qm2)

Compensating Variation and Equivalent Variation
• Two additional dollar measures of the total utility change caused by a price change are
• Compensating Variation: the least income that, at the new prices, just restores the consumer’s original utility level?
• Equivalent Variation: the least income that, at the old prices, just restores consumer’s utility level
BCA with Pricing PowerProducer’s Surplus

Output price (p)

Producer Surplus = q1*pm - VC

Supply =

Marginal Cost

pm

Producer

Variable costs =

q

(output units)

q1

BCA with Pricing Power

CS

pb

TaxRevenue

t

ps

PS

q1

q0

(output units)

Benefit-Cost Beyond the Basics
• GE/Externality Issues (MN Recycling Case)
• Are market prices/cost accurate reflection of values?
• Markets involved; degree of development; subsidies; secondary costs
• Non-market goods
• WTP Methods
• Hedonic regressions
• Implicit Values
• Time Valuation
• Life Valuation
• Future projects
• Projections of use/demand for project (see impact studies)
• Surveys; Simulations (Portland Traffic case; Seattle Rail)
• Projection of impacts on related goods/services
• Simulations; Existing studies
• Projections of cost
• Direct v. Secondary costs
• Time Aspects
• Discounting rates
• Time Horizons
• Special Topics—Basis of Big Errors
• Impacts Over (under) Estimated (See Impact Study Discussion)
• Poor Cost Estimates
• Poor Use/Demand Estimates
• Double counting: “jobs created”
• Market Prices v. Consumer Surplus