Cost-benefit analysis

Explain what cost-benefit analysis is and what public authorities use it for before approving a project. Give an example of a project in your local city or town to which it could be applied.

A city council is considering building a bike lane. Classify these items as costs or benefits of the project: the construction of the bike lane, reduced congestion, annual maintenance, health improvements for cyclists, and lost parking spaces.

A city council is considering creating a park on a vacant lot. Classify these items as costs or benefits of the project: building the park, its annual maintenance, the shade and rest for neighbors, the increase in customers for nearby bars and the noise of any fairs held there.

A town switches all its street lighting to LED: the investment costs $\$50,000$ and saves $\$10,000$ a year on the electricity bill. Calculate the payback period of the investment and explain what that figure means.

A skate park project has estimated benefits of $\$120,000$ and costs of $\$95,000$.

1. a) Calculate the net benefit.
2. b) According to the cost-benefit criterion, is it advisable? How much room for error does that recommendation have if the estimates are uncertain? Discuss it.

A city can only afford one of these projects: a swimming pool (cost of $\$500,000$, estimated benefits of $\$650,000$) or a sports center (cost of $\$400,000$, benefits of $\$560,000$).

1. a) Calculate the net benefit and the benefit-cost ratio of each one.
2. b) Which would you choose and on what criterion? Explain why net benefit and the ratio can recommend different projects.

It is proposed to pedestrianize Main Street: shop owners fear losing customers who come by car; residents will gain quiet and space.

1. a) Explain how the effects on both groups enter a cost-benefit analysis: are they added with the same sign?
2. b) Propose two compensatory measures that improve the outcome of the project (park-and-ride lots, aid for the shops) and explain what each one achieves.

A public library does not charge admission and yet it "produces" a great deal of value. Explain why the cost-benefit analysis of a library must count benefits that are not charged for (reading, study, internet access) and what would happen if we only looked at its revenue.

A property developer requests the rezoning of a coastal wetland to build a hotel complex that would generate a net business profit of $18$ million dollars over $20$ years. The state environmental agency quantifies the ecological services that the wetland currently provides for free:

1. Hydrological regulation: the wetland mitigates flash floods. If it disappears, it will be compulsory to build storm drains with an investment cost of $8$ million dollars and an annual maintenance cost of $\$150,000$.

2. Natural purification: it filters $1.5$ million $\text{m}^3$ of wastewater per year; treating that same water in a conventional wastewater treatment plant would cost $\$0.40$ per $\text{m}^3$.

3. Storm buffering: reports estimate that without the wetland there will be flood damage to the downtown area with an average expected value of $\$500,000$ each year.

1. a) Calculate the total annual shadow price (imputed economic value) of the ecosystem services provided by the wetland and obtain its accumulated value over a $20$-year horizon (without applying discounting).
2. b) With the obtained data, evaluate whether the hotel rezoning is efficient from the point of view of social welfare.
3. c) The developer claims: "Those ecological costs are theoretical; nobody pays bills for the water the wetland cleans, whereas the hotels will generate real GDP." Technically refute this argument drawing on the concepts of market failure and opportunity cost.

A bike lane costs $\$300,000$, has annual maintenance of $\$10,000$ and benefits (time, health, less congestion) are estimated at $\$60,000$ a year.

1. a) Calculate the net benefit over ten years (without discounting).
2. b) What key assumptions would you review before approving it (actual number of users, valuation of time)? Explain how the decision would change if there were half as many users as expected.

A single-track regional train line runs an annual operating deficit of $2$ million dollars (operating cost: $2.8$ million; ticket sales revenue: $\$800,000$). The operator records $500$ daily users on weekdays ($250$ days a year, taking $2$ trips per day per user). The Department of Transportation proposes closing the train line and replacing it with a bus network supported by a public subsidy of $\$400,000$ per year. The mobility study reveals two additional pieces of data:

1. The bus will take $20$ minutes longer per trip than the train. Commuters' average value of time is estimated at $\$6$ per hour.

2. It is projected that $150$ of the $500$ daily users will choose private vehicles instead of the bus, which will generate negative externalities estimated at $\$420,000$ per year due to increased accident rates, polluting emissions, and congestion on regional roads.

1. a) Quantify the annual social cost of the additional time users will lose as a result of switching to the bus.
2. b) Conduct the social cost-benefit balance of the decision: compare the direct budgetary savings for the government with the sum of the value of lost time and the environmental and accident externalities. Is closing the railway efficient from the perspective of social welfare?
3. c) Argue what territorial equity and social cohesion issues this decision creates for groups with reduced mobility or low incomes, justifying whether the closure could accelerate depopulation in the region.

Many grandiose projects end up costing twice the budget and receiving half the announced users (the "white elephant syndrome").

1. a) What biases and interests explain why they get approved (promoters' optimism, the political gain of a big project)?
2. b) Propose two improvements to the analysis process that reduce the problem (comparing with similar projects already built, review by independent experts) and explain how they work.