CAS EC 561 Harvard University Public Economic Worksheet

Description

Requests: The task consists of solving 6 problems related to the economy field(you can find them below but also in the pdf file – they are the same exercises). Your final work should clearly state the question number, the subpoints answered and all the graphics requested and the formulas used. I also attached the course textbook to guide you in case you encounter any issues. Exercises List ( a total of 6 exercises): Q.1. Asian Development Bank’s publication (2013) titled “Cost-Benefit Analysis for Development: A Practical Guide” provide real life examples of CostBenefit Analysis (CBA): (i) Economics Analysis of Integrates Service Projects; (ii) Economic Analysis of transport Improvements; (iii) Appraising Electricity Projects; and (iv) Economic Analysis of Power Generation and Transmission Projects. Choose one of these cases and summarize it in a single page. In the summary include crucial information such as the case description, life of the project, benefits and costs, methods used in assessing benefits and costs, and discount rate being used. Q.2. Suppose that demand is perfectly inelastic. Supply is normal and upward sloping. What is the economic incidence of a unit tax placed on suppliers? Illustrate this with an appropriate diagram. Q.3. Suppose the original before-tax demand curve for CD players is P = 100 – 2Qd. Suppose further that supply is P = 5 + 3Qs. Now suppose a $5 unit tax is imposed on consumers. a. Graph (i) market demand and supply, (ii) before tax equilibrium (??0 , ??0 ), and (iii) after tax equilibrium (??1 , ????, ????)? b. Calculate the after-tax equilibrium price and quantity, (??1 , ????, ????)? c. How much tax revenue is raised? Q.4. A monopoly faces the market demand, ?? = 600 ? 2?? where ?? is the price of the product and ?? is the quantity demanded. The total cost of production of the monopoly is ???? = 500 + ?? 2 . a. Calculate the profit maximizing output level and price of the monopoly. Calculate the profit. b. Government imposes a unit tax of $180 on consumers which shifts the demand curve down to, ?? = 420 ? 2??. Calculate the price paid by the consumers and price received by monopoly. Calculate also after-tax profit of the monopoly. c. Calculate the tax revenue. Q.5.In an effort to reduce alcohol consumption, the government is considering a $1 tax on each gallon of liquor sold (the statutory incidence is on producers). Suppose that the demand curve is ?? ?? = 500,000 ? 20,000?? where ?? ?? is the number of gallons of liquor demanded and ?? is the price per gallon. The supply curve is ?? ?? = 30,000?? and ?? ?? is the number of gallon supplied. a. Compute price paid by consumers, ????, and price received by producers, ????. b. How much revenue does the tax raise for the government? How much of the revenue comes from consumers and how much from producers? c. Suppose that the demand for liquor is more elastic for younger drinkers that the older drinkers. Will the liquor tax be more, or less, or equally effective at reducing liquor consumption among young drinkers? Explain. d. Draw a graph to illustrate the excess burden of the tax. Calculate excess burden. e. Suppose that each gallon of liquor consumed generates a negative external cost $0.50. How does this effect the excess burden associated with the unit tax on liquor? Q.6. A pharmaceutical company produces drugs for various types of diseases. Government levies a unit tax on the two drugs sold by the pharmaceutical company. Illustrate the following in a graph for each scenario: i. initial equilibrium price and quantity in the medicine market, ii. the prices faced by consumers after the tax, iii. the price faced by the pharmaceutical company after the tax, iv. after tax equilibrium quantity bought and sold in the market, v. tax revenue as an area in the graph raised by the government, and vi. excess burden of the tax. a. The demand for a drug of a rare disease is perfectly inelastic while the supply is elastic. b. The demand for an allergy drug is perfectly elastic while the supply is elastic

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November 14, 2021
CAS EC 561 Public Economics
Fall 2021 – Prof. Bahar Erbas
Problem Set #2 (Total 150 Points)
First and Last Name: _____________Student ID#: _____________ Date: _________
Assignment Date: November 14, 2021
Due Date: November 29th, 2021, Monday, by 5:00pm. This is a hard deadline with no
excuse. After 5:00pm all submissions will follow penalty rules with delayed submission.
Please take into account the possibility of technical issues and/or illnesses, and submit
your homework at an earlier time. There will be only Electronic submissions on the link
‘Fall 2021 HW#2 Assignment’. Email submissions will not be accepted as the grading
requires a blackboard submissions. Instructions:
1.
Please provide your solution, explanation and drawing when necessary.
2.
Please write clearly. If your answers are not readable, then it will have zero points.
3.
Graphs: Please label the axes, lines, curves and areas correctly. Graphs with no
labels will not receive any points.
Q.1. (30 Points) Asian Development Bank’s publication (2013) titled “Cost-Benefit
Analysis for Development: A Practical Guide” provide real life examples of CostBenefit Analysis (CBA): (i) Economics Analysis of Integrates Service Projects; (ii)
Economic Analysis of transport Improvements; (iii) Appraising Electricity Projects;
and (iv) Economic Analysis of Power Generation and Transmission Projects.
Choose one of these cases and summarize it in a single page. In the summary
include crucial information such as the case description, life of the project, benefits
and costs, methods used in assessing benefits and costs, and discount rate being
used. The publication is posted on the blackboard together with the homework
assignment.
1
Q.2. (20 Points) Suppose that demand is perfectly inelastic. Supply is normal and
upward sloping. What is the economic incidence of a unit tax placed on suppliers?
Illustrate this with an appropriate diagram.
Q.3. (20 Points) Suppose the original before-tax demand curve for CD players is
P = 100 – 2Qd. Suppose further that supply is P = 5 + 3Qs. Now suppose a $5 unit
tax is imposed on consumers.
a. Graph (i) market demand and supply, (ii) before tax equilibrium (??0 , ??0 ), and
(iii) after tax equilibrium (??1 , ???? , ???? )?
b. Calculate the after-tax equilibrium price and quantity, (??1 , ???? , ???? )?
c. How much tax revenue is raised?
Q.4. (20 Points) A monopoly faces the market demand, ?? = 600 ? 2?? where ?? is
the price of the product and ?? is the quantity demanded. The total cost of
production of the monopoly is ???? = 500 + ??2 .
a. Calculate the profit maximizing output level and price of the monopoly. Calculate
the profit.
b. Government imposes a unit tax of $180 on consumers which shifts the demand
curve down to, ?? = 420 ? 2??. Calculate the price paid by the consumers and
price received by monopoly. Calculate also after-tax profit of the monopoly.
c. Calculate the tax revenue.
Q.5. (30 Points) In an effort to reduce alcohol consumption, the government is
considering a $1 tax on each gallon of liquor sold (the statutory incidence is on
producers). Suppose that the demand curve is ???? = 500,000 ? 20,000?? where ????
is the number of gallons of liquor demanded and ?? is the price per gallon. The
supply curve is ?? ?? = 30,000?? and ?? ?? is the number of gallon supplied.
a. Compute price paid by consumers, ???? , and price received by producers, ???? .
b. How much revenue does the tax raise for the government? How much of the
revenue comes from consumers and how much from producers?
2
c. Suppose that the demand for liquor is more elastic for younger drinkers that
the older drinkers. Will the liquor tax be more, or less, or equally effective at
reducing liquor consumption among young drinkers? Explain.
d. Draw a graph to illustrate the excess burden of the tax. Calculate excess
burden.
e. Suppose that each gallon of liquor consumed generates a negative external
cost $0.50. How does this effect the excess burden associated with the unit
tax on liquor?
Q.6. (30 Points) A pharmaceutical company produces drugs for various types of
diseases. Government levies a unit tax on the two drugs sold by the
pharmaceutical company. Illustrate the following in a graph for each scenario:
i. initial equilibrium price and quantity in the medicine market,
ii. the prices faced by consumers after the tax,
iii. the price faced by the pharmaceutical company after the tax,
iv. after tax equilibrium quantity bought and sold in the market,
v. tax revenue as an area in the graph raised by the government, and
vi. excess burden of the tax.
a. The demand for a drug of a rare disease is perfectly inelastic while the supply
is elastic.
b. The demand for an allergy drug is perfectly elastic while the supply is elastic.
3
C O S T- B E N E F I T
A N A LY S I S F O R
DEVELOPMENT
A Practical Guide
C O S T- B E N E F I T
A N A LY S I S F O R
DEVELOPMENT
A Practical Guide
© 2013 Asian Development Bank
All rights reserved. Published in 2013.
Printed in the Philippines.
ISBN 978-92-9092-957-4 (Print), 978-92-9092-958-1 (PDF)
Publication Stock No. TIM125320-2
Cataloging-in-Publication Data
Asian Development Bank
Cost-benefit analysis for development: A practical guide.
Mandaluyong City, Philippines: Asian Development Bank, 2013.
1. Cost-benefit analysis.
Bank.
2. Economic analysis of projects.
I. Asian Development
The views expressed in this publication are those of the authors and do not necessarily
reflect the views and policies of the Asian Development Bank (ADB) or its Board of
Governors or the governments they represent.
ADB does not guarantee the accuracy of the data included in this publication and accepts
no responsibility for any consequence of their use.
By making any designation of or reference to a particular territory or geographic area, or
by using the term “country” in this document, ADB does not intend to make any judgments
as to the legal or other status of any territory or area.
ADB encourages printing or copying information exclusively for personal and noncommercial
use with proper acknowledgment of ADB. Users are restricted from reselling, redistributing,
or creating derivative works for commercial purposes without the express, written consent
of ADB.
In this report, “$” refers to US dollars unless otherwise specified.
Asian Development Bank
6 ADB Avenue, Mandaluyong City
1550 Metro Manila, Philippines
Tel +63 2 632 4444
Fax +63 2 636 2444
www.adb.org
For orders, please contact:
Department of External Relations
Fax +63 2 636 2648
adbpub@adb.org
Foreword
G
uided by its vision of an Asia and Pacific region free of
poverty, Asian Development Bank (ADB) is committed to
reducing poverty through increased regional integration
and both inclusive and environmentally sustainable growth.
With a focus on delivering projects that create positive economic and
developmental impact, ADB issued the Guidelines for the Economic
Analysis of Projects in 1997 to strengthen project quality ‘at entry’.
This helps ensure efficient use of development funds, public resources
and increases aid effectiveness. The series of economic analysis
retrospectives by the Economics and Research Department (ERD) from
2003 to 2008–which assessed the quality of economic analysis applied in
ADB operations– paved the way for the updating of specific guidelines
on economic analysis. Efforts were focused on improving cost-benefit
analysis with an emphasis on key sectors in which ADB operates. This
book, Cost?Benefit Analysis for Development: A Practical Guide, is the
direct result of those efforts.
Intended as a supplement to the Guidelines for the Economic
Analysis of Projects, this practical guide provides an overview of recent
methodological developments in cost?benefit analysis as well as
suggested improvements in the economic analysis of selected sectors.
Through case studies, this guide also illustrates the application of
suggested methodologies, taking into account sector-specific needs,
as well as difficulties faced by practitioners in terms of data and time
constraints during project processing. Based on actual ADB projects,
these case studies focus on infrastructure, particularly integrated urban
services (including water supply and sanitation), transport, and power
generation and transmission.
iv
Foreword
This practical guide aims to contribute to building capacity for
optimal resource allocation. Its preparation upholds ERD’s mandate of
providing operational support toward strengthening project qualityat-entry. It will also be used for in-house training programs on project
economic analysis in order to advance the dissemination and diffusion
of knowledge on the practical applications of cost-benefit analysis
methodologies. The word “development” in this book’s title emphasizes
the rigorous use of cost?benefit analysis to ensure that projects are
selected and approved based on their potential to use public resources
most effectively and, as a result, contribute to development. The word
“practical” recognizes the time and resource constraints faced by project
analysts in completing a full evaluation. The word “guide” stresses that
this book is not intended to be prescriptive, but should be viewed as a
source of reference material.
We hope that this guide will contribute to improving operational
quality and portfolio performance—an indicator of operational
effectiveness under ADB’s results framework, to effectively manage
the implementation of Strategy 2020. Although the target audience for
this guide is mainly ADB users—project economists, mission leaders,
and consultants—as well as their counterparts in ADB’s developing
member countries, we hope that it may also serve as useful reference for
development practitioners in general.
Changyong Rhee
Chief Economist
Asian Development Bank.
Acknowledgment
W
e would like to acknowledge the contributions of both
past and present staff of Asian Development Bank (ADB)
and colleagues within and outside ADB who contributed
to this publication under the overall guidance of Juzhong
Zhuang, Deputy Chief Economist, and Cyn-Young Park, Assistant
Chief Economist. We are also grateful for the insightful comments and
suggestions received from ADB’s Communities of Practice in the energy,
transport, and urban sectors. This book also benefited from the expertise
and experience of John Weiss, a widely published author of economic
analysis principles, as both contributor and economics editor of
this book.
This book was prepared and completed with valuable chapter
contributions by a team of economists and sector specialists. Herath
Gunatilake served as the lead author in preparation of the initial draft.
Other contributors include Caroline van den Berg, Franklin de Guzman,
Anneli Lagman-Martin, Zhihong Liang, Tun Lin, Viking Logarta, Kee-Yung
Nam, Subhrendu Pattanayak, Pradeep Perera, Lilibeth Poot, John Weiss,
Jui-Chen Yang, and Juzhong Zhuang. The manuscript was edited by
Larson Moth with layout and typesetting by Mike Cortes.
Three chapters of this book are based on previously published
materials that include the following: ERD Working Paper No. 94, Theory
and Practice in the Choice of Social Discount Rate for Cost-Benefit Analysis:
A Survey, May 2007; ERD Technical Note No. 19, Willingness-to-Pay and
Design of Water Supply and Sanitation Projects: A Good Practice Case
Study, December 2006; and ERD Technical Note No. 23, Good Practices
for Estimating Reliable Willingness-to-Pay Values in the Water Supply and
Sanitation Sector, December 2007.
Contents
Foreword
Acknowledgment
Acronyms and Abbreviations
iii
v
xi
1. Introduction
1
1.1 Rationale
1.2 Organization of this Book
Appendix 1.1 Economic Analysis-Related
Publications by the Asian Development Bank
2. Economic Analysis of Projects: An Overview
2.1
2.2
2.3
2.4
2.5
2.6
1
2
6
9
Introduction
Original Methodology and
Changing Policy Environment
Methodological Developments
11
15
Alternatives to Cost?Benefit Analysis
Practical Applications
Conclusions
28
34
39
2.3.1
2.3.2
2.3.3
2.3.4
Income Distribution and Poverty
Risk and Uncertainty
Valuation Issues
Environment Sustainability
9
16
20
23
27
3. Theory and Practice in the Choice of Social
Discount Rate for Cost-Benefit Analysis: A Survey
41
3.1
3.2
Introduction
Theoretical Foundations for the Choice of a SDR
41
43
3.2.2
3.2.3
3.2.4
3.2.5
3.2.6
43
45
52
53
56
60
3.2.1
Approaches to Discounting Future Benefits and Costs:
Unsettled Debate
Social Rate of Time Preference
Marginal Social Opportunity Cost of Capital
The Weighted Average Approach
Shadow Price of Capital Approach
Discounting Intergenerational Projects
Contents
3.3
vii
The SDR in Practice around the World
3.3.1
3.3.2
Practice in Selected Countries
MDBs and other Supra-National Agencies
3.4 Concluding Remarks
Appendix 3.1 Estimating the SDR Using the
Weighted Average Approach
4. Good Practices for Conducting Willingness-to-Pay
Surveys in the Water and Sanitation Sector
4.1
4.2
4.3
Introduction
Use of CV Method to Measure WTP
Planning a CV Study
4.3.1
4.3.2
4.3.3
4.3.4
4.3.5
4.3.6
Initial Preparatory Tasks
Reviewing Relevant Documents
Teaming Up for a CV Study
Scoping during Initial Field Visits
Characterization of the Existing WSS Situation
Preparing a Sampling Framework
4.4.1
4.4.2
4.4.3
Designing the Sampling Strategy
Designing Contingent Market Scenarios
Designing the Survey Instrument
4.5.1
4.5.2
4.5.3
4.5.4
4.5.5
Survey Administration
Enumerator/Field Coordinator Training
Focus Group Discussions
Pre-testing and Finalizing the Questionnaire
Supervising Survey Implementation
4.6.1
4.6.2
4.6.3
Data Entry and Processing
Descriptive Statistics
Cross-tabulation of Summary Statistics
4.7.1
4.7.2
Validity Tests and Estimating Mean WTP
Demand and Policy Analysis
63
63
66
68
73
77
77
79
81
81
82
83
84
84
88
4.4
Study Design Issues
4.5
Survey Implementation
101
4.6
Data Management and Preliminary Analysis
106
4.7
Using CV Study Results
109
4.8 Concluding Remarks
Appendix 4.1 Determining Minimum Number of Sample
Size Based on Population Size
Appendix 4.2 Strengths and Weaknesses of Different
CV Elicitation Methods
Appendix 4.3 Measures to Reduce Bias
Appendix 4.4 Rules of Good Interview Practice:
Do’s and Don’ts For Enumerators
Appendix 4.5 Estimation of Mean Willingness to Pay
from Closed-Ended Contingent Valuation Data
88
88
92
97
101
101
103
104
105
107
107
108
109
112
115
118
119
120
122
124
viii
Contents
5. Assessing the Willingness to Pay for Improved
Water Supply in Sri Lanka
5.1
5.2
5.3
Introduction
Initial Preparatory Tasks
Study Design Issues
5.3.1
5.3.2
5.3.3
Sampling Strategy
Designing Contingent Market Scenarios
Designing the Survey Instrument
5.4.1
5.4.2
5.4.3
5.4.4
Focus Groups
Pre Tests
Enumerator Training
Implementation of CV Study
127
127
129
129
129
132
133
5.4
Implementation and Data Management
134
5.5
Results
142
5.5.1
5.5.2
5.5.3
Validity Tests and Estimating Mean WTP
Assessing Effective Demand
Use of WTP Estimates and Policy Simulations
5.6 Unbundling the Demand: Conjoint Analysis
5.7 Concluding Remarks
Appendix 5.1 Closed-Ended Elicitation Questions Used
in the Study
A5.1.1 Households with Connection
A5.1.2 Households without Connection
A5.2.2 Connection Prediction
134
136
137
139
142
145
149
152
158
159
160
162
Appendix 5.2 Step-By-Step Procedure for Estimating Mean 165
Willingness to Pay and Example of Policy Simulations
A5.2.1 Estimation of Mean Willingness to Pay (WTP)
165
Appendix 5.3 Subsidy Simulations
6. Economic Analysis of Integrated Services Projects
167
170
175
6.1
6.2
Introduction
Approaches to Benefit Estimation
6.3
Urban Development Case Study
192
6.4
Concluding Remarks
223
6.2.1
6.2.2
6.2.3
6.2.4
6.2.5
6.3.1
6.3.2
6.3.3
6.3.4
6.3.5
Data Availability and Choice of Methodology
Revealed Preference vs. Stated Preference
Benefit Estimation for Various Urban Services
Hedonic Pricing
Benefit Transfer Method
Introduction to the Case Study
Economic Rationale of the Project
Assumptions Used in the Analysis
Economic Viability of Representative Subprojects
Summary of Economic Analysis Results
175
176
176
177
179
183
186
192
193
194
195
222
Contents
ix
7. Economic Analysis of Transport Improvements
7.1
Methodology
7.2
Transport Case Study
7.1.1
7.1.2
7.1.3
7.1.4
7.1.5
Approach for Transport Project Evaluation
Demand Forecasting
Estimation of Project Benefits
Shadow Pricing
Developmental Benefits
7.2.1 Economic Rationale of the Project
7.2.2
7.2.3
7.2.4
7.2.5
7.2.6
7.2.7
7.2.8
7.2.9
7.2.10
Project Alternatives and Least-Cost Option
Forecast Traffic
Developmental Effect
Project Benefits and Costs
Cost–Benefit Analysis
Distribution and Poverty Analysis
Sensitivity Analysis
Risk Analysis
Conclusion
8. Appraising Electricity Projects
8.1
8.2
Introduction
Estimating Benefits
8.2.1
8.2.2
8.2.3
8.2.4
Power
Power
Power
Power
Generation: Supply Expansion
Generation: Reduction in Generation Costs
Generation: Improvement in System Reliability
Transmission
225
225
225
228
233
247
248
249
250
251
253
258
259
262
266
272
273
275
277
277
278
279
289
291
292
8.3 Demand Forecasting
8.4 Conclusions
Appendix 8.1 Price Elasticity Estimates
Appendix 8.2 Electricity Demand Forecasting
in the Philippines
294
297
298
9. Economic Analysis of Power Generation
and Transmission Projects
305
9.1
9.2
9.3
Introduction
Economic Assessment of Regional Projects
Case Study: Nam Theun 2 Hydroelectric Project
9.3.1
9.3.2
9.3.3
9.3.4
9.3.5
9.3.6
9.3.7
9.3.8
Demand Analysis
Least-Cost Analysis
Project Costs
Project Benefits
Regional Cost-Benefit Analysis
Distribution within the Region
Sensitivity Analysis
Risk Analysis
301
305
305
310
311
312
313
314
318
320
327
328
x
Contents
9.4
Case Study: Power Transmission Expansion Project
9.4.1
9.4.2
9.4.3
9.4.4
9.4.5
9.4.6
9.4.7
9.4.8
Demand Analysis
Least-Cost Analysis
Project Benefits
Economic Price Adjustments
Cost-Benefit Analysis
Distribution Analysis
Sensitivity Analysis
Risk Analysis
9.5 Conclusions
Appendix 9.1 Incremental Benefits to New
Non-Residential Customers
Bibliography and References
329
330
332
334
343
344
345
348
348
349
350
353
Acronyms and
Abbreviations
AADT
annual average daily traffic
ADB
Asian Development Bank
ADL
autoregressive distributed lag
AIC
average incremental cost
CBA
cost?benefit analysis
CEA
cost-effectiveness analysis
CF
conversion factor
CNY
Chinese Yuan
CV
contingent valuation
DALY
disability adjusted life year
DF
demand factor
DICE
Dynamic Integrated Model of Climate and
the Economy
DS
divisional secretariats
EB
economic benefit
EGAT
Electricity Generating Authority of Thailand
EIA
environmental impact assessment
EIRR
economic internal rate of return
EPA
Environmental Protection Agency
EPV
economic present value
ERD
Economics and Research Department
EVN
Electricity of Viet Nam
FGD
focus group discussion
FNPV
financial net present value
FPV
financial present value
GDP
gross domestic product
GMS
Greater Mekong Subregion
GN
Grama Niladhari
GNP
gross national product
GOL
Government of Lao PDR
GPS
global positioning system
xii
Acronyms and Abbreviations
GT
generated traffic
HDM
Highway Development and Management
HDM-4
Highway Development and Management 4
IPP
independent power producer
IRR
internal rate of return
Lao PDR
Lao People’s Democratic Republic
LCA
least-cost analysis
LSMS
Living Standards Measurement Study
LV
low voltage
MCA
multi-criteria analysis
MDB
multilateral development bank
MERALCO
Manila Electric Company
MFF
multitranche financing facility
MV
medium voltage
MWTP
marginal willingness to pay
NOAA
National Oceanic and Atmospheric Administration
NOx
nitrogen oxide
NPR
Nepalese Rupee
NPV
net present value
NT
normal traffic
NT-2
Nam Theun 2
NTPC
Nam Theun 2 Power Company
NWSDB
National Water Supply and Drainage Board
O&M
operating and maintenance
OMB
Office of Management and Budget
PEA
Provincial Electricity Authority
PI
poverty impact
PPA
power purchasing agreement
PPP
public-private partnership
PSDP
Power System Development Plan
PV
present value
RA
risk assessment
RED
Roads Economic Decision Model
RMB
Renminbi
Rs. Rupees
SBR-CASS
sequencing batch reactor-cyclic activated
sludge system
Acronyms and Abbreviations
SCC
SCF
SDR
SEA
SER
SERF
SO2
SOC
SPC
SRTP
SWM
SWRF
TC
TERI
THH
T/L
TV
UCT
UV
VND
VOC
WSS
WTP
WWTP
Southern Coastal Corridor
standard conversion factor
social discount rate
strategic environmental assessment
shadow exchange rate
shadow exchange rate factor
sulfur dioxide
social opportunity cost of capital
shadow price of capital
social rate of time preference
solid waste management
shadow wage rate factor
travel cost
Tata Energy Research Institute
Theun Hinboun Hydropower
transmission line
terminal value
University of Cape Town
ultraviolet
Vietnamese Dong
vehicle operating cost
water supply and sanitation
willingness to pay
wastewater treatment plant
MEASURES
GWh
km
km2
kV
kW
kWh
m
m2
m3
mm
MW
TWh
gigawatt-hour
kilometer
square kilometer
kilovolt
kilowatt
kilowatt-hour
meter
square meter
cubic meter
millimeter
megawatt
terawatt-hour
xiii
1.Introduction
1.1 Rationale
T
he Asian Development Bank (ADB)’s Guidelines for the Economic
Analysis of Projects, issued in 1997, aims to enhance project quality
at entry. Promoting rigorous economic analysis helps ensure that
ADB finances projects and programs that are not only economically
viable, but also represent the most efficient use of scarce resources. As
such, rigorous economic analysis contributes significantly to enhanced
operational quality and portfolio performance—one of the indicators
of operational effectiveness under ADB’s results framework to manage
the implementation of Strategy 20201—as well as to further development
effectiveness.
The guidelines issued in 1997 outline the economic principles
underpinning the suggested methodologies for project economic
analysis in ADB and provide illustrations of their application. They
are supplemented by sector-specific guidelines, technical notes, and
other reference materials produced by the Economics and Research
Department (ERD) to assist project economic analysis in ADB (see
Appendix to this Chapter).
Through a series of annual retrospectives from 2003 to 2008, ERD
reviewed the quality of economic analysis in ADB and noted significant
scope for improvement, particularly in the articulation of the projects’
economic rationale, demand analysis, and alternatives analysis. The
2007 retrospective indicates significant variations in the quality of
project economic analysis across sectors.2 On average, energy projects
show relatively better quality in their economic analyses, followed by
1
2
ADB. 2008. Long-Term Strategic Framework of the Asian Development Bank. Manila.
ADB. 2007. Economic Analysis Retrospective 2007: Strengthening the Quality of Economic Analysis
in ADB Operations. Manila.
2
Cost?Benefit Analysis for Development: A Practical Guide
transport, water supply and sanitation, while agriculture and natural
resources projects have the greatest need for improvement.
This book, Cost-Benefit Analysis for Development: A Practical Guide,
is written in response to the retrospectives’ findings with an aim to
supporting ADB’s strategic priorities. This book includes extensive and
detailed case studies focusing on infrastructure, comprising integrated
urban services (including water supply and sanitation), transport, power
generation and transmission. These case studies present economic
analyses of relatively better quality than those done in other sectors,
although there is still room for improvement. By further enhancing
the quality of infrastructure projects—one of ADB’s five core areas of
operation—this guide directly contributes to the implementation of
Strategy 2020.3
1.2 Organization of this Book
Subsequent to this introductory chapter, the evolution of cost-benefit
analysis together with its current use is discussed in Chapter 2. Changing
economic policy environments inevitably influence the methodology
and practice in cost-benefit analysis. In this chapter, some of the recent
methodological developments will be highlighted as they address
weaknesses of the original methodology. The chapter also reviews the
current practice of cost-benefit analysis by international donor agencies
or national governments to establish the relevance of cost-benefit
analysis in contemporary development efforts.
Chapter 3 discusses the theoretical foundations for the choice of the
social discount rate (SDR), which is critical in project economic analysis.
It provides a survey of the vast literature on the SDR, covering theory,
estimation methods, and policy practices. The survey reveals significant
variations in public discount rate policies, with developing countries in
general applying higher SDR rates (8%–15%) than developed countries
(3%–7%). While these variations reflect the different analytical approaches
used, the divergence more importantly reflects the differences in the
perceived social opportunity cost of public funds across countries, and
in the extent to which intergenerational equity is taken into consideration
in setting the SDR.
3
Future volumes of this guide will focus on other sectors.
Chapter 1. Introduction
3
The remainder of the book is devoted to sector-specific guidelines,
examples, and case studies. Each case study covers the entire spectrum
of the analysis—macroeconomic and sector context, economic
rationale, demand, alternatives/least-cost, cost-benefit, sensitivity,
risk, and distribution. Meant for illustration purposes, the depth of the
presentation varies across sectors to highlight particular aspects of the
analysis where minor improvements can be effected to enhance the
quality of the economic analysis.
Chapter 4 outlines good practices in conducting willingness-to-pay
(WTP) surveys in the water supply and sanitation sector (WSS). Reliable
estimates of WTP constitute the basis for assessing effective demand
and the benefits of WSS service improvements. The chapter argues that
oftentimes, WTP data gathered in many project preparatory studies
are rarely utilized for such detailed analyses. Also, poorly designed
and implemented WTP studies, especially in developing countries, may
provide misleading information on project feasibility and sustainability.
The chapter aims to provide a set of guidelines for conducting contingent
valuation (CV) studies in the WSS sector. It covers preparations in
planning a CV study, study design (sampling strategy, contingent market
scenarios, and the survey instrument), survey implementation, data
management and validation, and utilization of results for the analysis of
effective demand and other policy-relevant issues.
To showcase good practice in action, Chapter 5 assesses the WTP
for water in Sri Lanka. It illustrates how good practices discussed in
Chapter 4 were employed in conducting a CV study for assessing demand
and designing tariffs for improved water services. The chapter also
shows how the results of the study were used to facilitate the design
of a public-private partnership to provide WSS services in two areas in
the southwest. The chapter describes the preparatory work undertaken
for the CV study, presents study design issues focusing on the measures
taken to reduce potential biases, and discusses how the CV study was
administered and implemented. It also illustrates how supplementary
survey information is used to evaluate households’ effective demand for
improved service, preference for the institutional provider, the feasibility
of a spatially based pro-poor service delivery, affordability to the poor,
and acceptability of the improved service under scenarios of different
connection charges and different tariff and subsidy options to design
appropriate pro-poor services.
4
Cost?Benefit Analysis for Development: A Practical Guide
Chapter 6 details the economic analysis of integrated urban services
projects, elaborates on the application of techniques discussed in
Chapters 4 and 5, and presents a case study on an integrated urban
services project.4 The chapter argues that the multi-sector nature of
urban development projects requires a higher level of effort in and
greater resources for economic analysis as compared to projects
involving only one sector. It outlines the concepts and approaches to
benefit estimation for different types of urban services specifically:
district heating, solid waste management, wastewater treatment, and
water supply. Focus is on the benefit transfer method, which uses data
from a pre-existing analysis of the sector