Cost-Benefit Analysis in Urban & Regional Planning

John Schofield

• Publisher: Taylor & Francis
• Year: 2018
• eBook ISBN: 9781351026000
• Edition: 1
• Topic: Physical Sciences
• Subtopic: Geography
• Index: Geography

Originally published in 1987, Cost-Benefit Analysis in Urban and Regional Planning, outlines the theory and practice of cost-benefit analysis (CBA) in the context of urban and regional planning. The theory of CBA is developed with examples to illustrate the principles, it also deals with details of the applications and covers issues such as local health and social services provision, local economic development and regional policy evaluation, and planning in less developed countries – as well as the conventional land-use issues of physical planning.

1

Introduction

To date, the cost–benefit method has been relatively neglected in surveys of the techniques of analysis used in urban and regional planning. There exists no detailed assessment of the method such as provided by Isard et al. (1960, 1972) for a variety of other techniques, by Richardson (1972) for input–output analysis or by Adams and Glickman (1980) for regional econometric modelling. Indeed, some early surveys of analytical methods for planning at the subnational level omit reference to cost–benefit analysis (CBA) altogether.¹

CBA is a technique for assisting with decisions about the use of society’s scarce resources. Specific questions which the method helps to address are: Is a project or programme worthwhile? What is its optimal scale of operation? What is the optimal timing of its initiation? What is the relative merit of different projects or programmes? There will be no claim in this book that definitive answers to these questions will always derive from CBA. Given the many problems of implementation, the need for the exercise of executive judgement remains. But to the extent that careful CBA helps to narrow the area of ignorance regarding a particular issue, it can facilitate the making of sounder decisions about resource use than would otherwise be made.

In this introductory chapter, we discuss what is meant by the terms ‘benefits’ and ‘costs’, with particular reference to the distinction between purely financial benefits and costs and others identified in CBA. We also indicate the scope for empirical application of the method before outlining the plan of the book.

1.1 DEFINITION OF BENEFITS AND COSTS

In general terms, benefits are defined as contributions towards, and costs as detractions from, project or programme objectives. Thus, if the objective is a purely financial one, as profit maximization is in the private sector, an analysis comprises merely revenues and expenditures as valued in the market. Agencies undertaking initiatives in the public sector are likely to be interested in the purely financial effects of projects or programmes as these impinge upon their budgets. It may also be appropriate to conduct a purely financial analysis from the point of view of the impact on net worth for particular groups affected by policies. Examples might include migrants involved in labour relocation schemes, students in educational programmes or patients in health care programmes. Accordingly, examples of financial cost–benefit analysis in the field of urban and regional planning are included in the discussion in Part II of the book.

But CBA goes beyond mere financial appraisal to include evaluation from the wider point of view of the economy or society in general. In this context it is common to think in terms of two broad objectives: economic efficiency in the use of the resources available to society (or its dynamic analogue, economic growth), and equity in the distribution of welfare between different groups (e.g. income classes, regions, generations) within society. Analyses which focus solely on economic efficiency have come to be termed ‘economic’ CBAs, while those which, in addition, incorporate consideration of distributional effects are nowadays termed ‘social’ CBAs (Irvin 1978).

1.1.1 Economic analysis

Economic (or efficiency) effects consist of positive and negative impacts on the production and consumption opportunities, and hence utility or welfare level, of society. These are termed ‘real’ effects. Benefits stem from resource allocations which enhance the efficiency with which resources are converted into welfare levels; costs comprise ‘opportunity costs’, the opportunities forgone or welfare sacrificed as a result of diverting resources from other uses to the one(s) under analysis. Finally, in economic analysis, benefits and costs are summed over all parties affected to give aggregate measures of benefit and cost. The distribution of benefits and costs between different parties is not regarded as material.

From these definitions of economic benefits and costs it follows that economic analysis differs from purely financial analysis in four respects. First, while excluded from the narrow perspective of financial analysis, external effects on third parties are included in economic analysis. Indeed, as we show in Chapter 2, a primary purpose of CBA is to evaluate externalities, as these are not internalized in private flows of benefit and cost. For example, economic analysis of a public sector programme includes welfare impacts on groups who are neither users of the service provided nor responsible for funding the project.

Secondly, welfare impacts not priced in the market are nonetheless taken into account in economic CBA. Thus benefits include changes in consumers’ surplus, that is, the excess which consumers would be willing to pay over and above what they have to pay for a commodity. Benefits also include changes in producers’ surplus or economic rent – payment to factors of production in excess of supply price – as this represents a welfare gain to factors. Questions regarding measurement of consumers’ and producers’ surpluses are addressed in Chapter 4. In addition, intangible effects (e.g. amenity or cultural values, the value of life or time), excluded from purely financial analyses because they are not priced in the market, are included as appropriate in economic analysis. The reason for inclusion of intangibles is that protection of such things as environmental amenities, cultural heritage or life impinges on consumption opportunities and hence welfare levels just as the purchase of marketed goods and services does. The issues of principle involved in measuring these intangible effects are discussed in Chapter 5.

A third distinction between economic and financial analysis is that in economic CBA which deals with aggregate efficiency, no matter who derives the benefits or incurs the costs in the final count, ‘pecuniary’ effects cancel out as transfers between parties. ‘Pecuniary’ effects are those which benefit one party but hurt another. Unless we choose to weight the interests of the various parties differently (which we would do only in a social CBA), ‘pecuniary’ effects represent a mere redistribution of welfare within society, rather than a net change in aggregate welfare. As an example, transfer payments from governments to individuals are benefits to recipients but costs to taxpayers, and are self-cancelling in an economic CBA. Thus the economic benefits of a job-creation proposal exclude savings in unemployment compensation. Of course, in the context of a purely financial analysis conducted from the perspective of either the government or the particular group of workers affected by the proposal, changes in unemployment compensation are included as benefits or costs. But in economic CBA, only ‘real’ effects are counted.

Finally, in so far as benefits and costs are designed to reflect true economic impact, they are defined in terms of so-called shadow (or accounting) prices, which we shall refer to as efficiency prices. If observed market prices are not considered properly to reflect real additions to, or deductions from, economic welfare (as a result of market disequilibria or distortions), shadow prices are substituted for that purpose. The principles of efficiency pricing in economic CBA are explored in Chapter 5.

1.1.2 Social analysis

Social analysis addresses the issue of distribution as well as economic efficiency. At one level, this consists of the display of results on a disaggregated basis according to welfare impacts on different groups within society. At another level, social analysis extends the principle of shadow pricing to what is termed social (as opposed to efficiency) pricing (Squire & van der Tak 1975, Irvin 1978). This procedure involves the attachment of differential weights to monetary benefits and costs for different groups, to reflect judgements concerning the relative ‘deservingness’ of each group. Thus, benefits for disadvantaged groups are weighted, or shadow priced, more highly than benefits for other groups.

Social pricing may also involve differential weighting of benefits according to their distribution between savings and consumption. For example, benefits that are saved (and hence become available for investment) may be weighted more highly than benefits that are consumed. Such may be the case if the government wishes to promote faster economic growth, but encounters administrative or political constraints regarding use of the tax system to create additional savings at the expense of current consumption. This is a problem accepted as occurring more usually in lesser developed than in developed economies. By differential weighting, projects yielding benefits used for saving are preferred, ceteris paribus, to projects yielding consumption benefits.² The principles of social pricing, together with problems of weight determination, are discussed in Chapter 6.

1.1.3 Additional considerations

Further considerations relating to the definition of benefits and costs concern the viewpoint of the analysis, the so-called ‘with-and-without’ principle and the issue of double-counting. It should go without saying that the definition of benefits and costs varies with the jurisdictional viewpoint from which an analysis is conducted. Moreover, as indicated earlier, benefits and costs from the purely financial viewpoint of government or of particular groups do not coincide with those defined from the economic or broad social points of view. It is obviously important to distinguish clearly the various viewpoints from which it may be relevant to analyse an undertaking. A programme funded at the local government, provincial or state level, for example, is typically analysed from the viewpoint of the local authority, province or state economy, and often as well from the financial viewpoint of the local, provincial or state treasury. The proposal may also be analysed from national economic and disaggregated social viewpoints if these are considered to be worth highlighting. But it is essential to keep the separate perspectives distinct.

It is also obvious that in identifying benefits and costs, only incremental effects associated with the undertaking require to be counted. What matter are effects which are truly caused by, and would not occur in the absence of, the undertaking; not the same distinction, it is to be noted, as the simple difference between conditions prevailing before and after implementation of the project or programme. Identification of incremental effects involves establishment of what would have occurred in the absence of the proposal (the counterfactual condition), a hypothetical state which is never easy to define. In Part II of the book, we examine approaches to the estimation of the counterfactual condition in the context of urban and regional analysis.

Lastly, it is important in economic CBA to avoid double-counting ‘real’ benefits and costs, a problem which may occur more easily than is often recognized. Three examples discussed by Mishan (1982a, ch. 12) may suffice to illustrate this point. First, it is inappropriate in the case of an improved transportation link to count both the benefits of the scheme to travellers and any increase in property prices which may occur as a result of it. The latter merely reflects the capitalization of the former and represents an alternative measure of the benefits to the extent that traveller benefits are transferred to property owners in higher prices. Secondly, it would also be inappropriate to count both the user benefits of the improved link and any cost savings involved in the replacement of an existing link. The reason is that user benefits are measured, as we shall see, in terms of willingness-to-pay for the improved link or compensation required to forgo it; and these measures of benefit already take into account considerations of cost savings. Thirdly, if an irrigation scheme reduces the cost of crop production, the savings in resource costs are not to be double-counted by including as benefits any of the savings passed on from farmers to marketing agents as increased profits. In short, there are often alternative ways of defining the same benefits or costs and, in measuring the economic effects of an undertaking, it is essential to choose just one.

1.2 SCOPE OF CBA

As far as the scope of CBA is concerned, the method applies at a variety of levels of analysis and in a wide selection of fields. As indicated above, the analysis may adopt financial, economic or social viewpoints. It may also be conducted from different jurisdictional perspectives. Furthermore, the analysis may apply to either individual projects or broader programmes or policies, although, given the difficulty of measuring widespread general equilibrium effects, the conventional wisdom is that it is more safely applied the smaller the undertaking under investigation (see Prest & Turvey 1965). In addition, the analysis may be conducted before the decision is made (the ex ante level of analysis) or after the decision has been made as a check on performance (the ex post level of analysis). While the ex ante perspective is commonly regarded as the more valuable for planning purposes, the ex post approach is gaining increasing attention as a useful method for deriving lessons for the future from the past.³

Concerning fields of application, most of the seminal work in CBA was done in the area of water resources planning (e.g. Krutilla & Eckstein 1958, Eckstein 1961b). Over the past 25 years, however, the method has found widespread use in such areas as human resources planning (education and training, health and welfare, migration), transportation, urban renewal and housing, law and order, recreation, research and development, defence, town planning and regional development. A number of these fields of application receive attention in this book.

1.3 PLAN OF THE BOOK

The plan of the book is as follows. Part I outlines the principles of CBA, relating them to concerns which arise in urban and regional planning. Detailed discussion of applications is reserved for Part II.

Part I begins with a review of welfare economics, the theorems of which provide the conceptual foundation for the cost–benefit approach. Out of this material comes the justification for state intervention in the market and the consequent case for the use of CBA as an instrument for assisting with resource allocation decisions when markets cannot be relied upon to make such decisions optimally. The principles of welfare economics also provide a set of decision rules which constitute a framework for the implementation of CBA. For readers not interested in the details of this background material, it is possible to go straight to Chapter 3, although concepts discussed in Chapter 2 are referred to at later points in the text.

In Chapter 3 we develop the principles of investment appraisal which are required to determine whether an undertaking is acceptable, its rank in the order of alternative undertakings and its optimal size or timing. Issues relating to the evaluation, or measurement, of benefits and costs in economic and social analysis then follow in Chapters 4–8. These chapters focus, in turn, on the measurement of consumer and producer welfare surpluses, the relevance of efficiency pricing, the treatment of non-efficiency (or distributional) effects, the incorporation of uncertainty and risk into analyses, and the establishment of the interest (or discount) rate as this is used to convert the benefits and costs occurring at different points in time to commensurable values.

Part II reviews applications of CBA to selected issues of urban and regional planning. The field of urban and regional planning is seen as being concerned with more than just issues of land-use (town and country) planning; it is defined to encompass provision of all public services at the subnational level as well as consideration of the impact of projects and policies on localities or regions. Chapters 9–15 offer different perspectives on actual techniques and are devoted respectively to the issues of residential urban renewal, transportation, recreation, comprehensive land-use planning, local health and personal social services, urban and regional development implications of capital investment projects, and regional policy evaluation. Of these, the first four (Chs 9–12) deal with issues of land-use planning and the last two (Chs 14 and 15) with issues of economic development at the subnational level. Chapter 16 discusses matters which arise in connection with the use of CBA for urban and regional planning, no less than for other purposes, in the particular context of lesser develo...

Table of contents

• Cover
• Half Title
• Title Page
• Copyright Page
• Dedication
• Table of Contents
• Preface
• List of tables
• List of figures
• COST-BENEFIT ANALYSIS
• 1 Introduction
• Part I Principles of cost–benefit analysis
• 2 Welfare economics and the foundations of CBA
• 3 Investment decision criteria
• 4 Measurement of benefits and costs: welfare surpluses
• 5 Measurement of benefits and costs: efficiency pricing
• 6 Measurement of benefits and costs: distributional considerations
• 7 Measurement of benefits and costs: uncertainty and risk
• 8 Measurement of benefits and costs: minimum return requirement
• Part II Applications of cost–benefit analysis in urban and regional planning
• 9 Residential urban renewal
• 10 Transportation
• 11 Recreation
• 12 Comprehensive land-use planning
• 13 Local health and social services
• 14 Capital investment projects and local economic development
• 15 Regional policy evaluation
• 16 CBA in lesser developed countries
• 17 CBA in urban and regional planning: assessment
• References
• Index