Financial and Strategic Management

What is the Social Cost and Benefit Analysis of the Project?

Social cost-benefit analysis is a systematic and cohesive method to survey all the impacts caused by a project. It comprises not just the financial effects (investment costs, direct benefits like tax and fees, etc), but all the social effects, like pollution, safety, indirect (labor) market, legal aspects, etc. The main aim of social cost-benefit analysis is to attach a price to as many effects as possible in order to uniformly weigh the above-mentioned heterogeneous effects. As a result, these prices reflect the value society attaches to the caused effects, enabling the decision-maker to form a statement about the net social welfare effects of a project.

The major advantages of social cost-benefit analysis are that it enables investors to systematically and cohesively compare different project alternatives. Hence, these alternatives will not just be compared intrinsically, but will also be set against the “null alter-native hypothesis”. This hypothesis describes “the most likely” scenario development in case a project will not be executed. Put differently, investments on a smaller scale will be included in the null alternative hypothesis in order to make a realistic comparison in a situation without “huge” investments.

The social cost-benefit analysis calculates the direct (primary), indirect (secondary), and external effects:

  1. Direct effects are the costs and benefits that can be directly linked to the owners/users of the project properties (e.g., the users and the owner of a building or highway).
  2. Indirect effects are the costs and benefits that are passed on to the producers and consumers outside the market with which the project is involved (e.g., the owner of a bakery nearby the new building, or a business company located near the newly planned highway).
  3. External effects are the costs and benefits that cannot be passed on to any existing markets because they relate to issues like the environment (noise, emission of CO2, etc.), safety (traffic, external security), and nature (biodiversity, dehydration, etc.).

The results of social cost-benefit analysis are:

  1. An integrated way of comparing the different effects: All relevant costs and benefits of the different project implementations (alternatives) are identified and monetized as far as possible. Effects that cannot be monetized are described and quantified as much as possible.
  2. Attention for the distribution of costs and benefits: The benefits of a project do not always get to the groups bearing the costs. A social cost-benefit analysis gives insight into who bears the costs and who derives the benefits.
  3. Comparison of the project alternatives: A social cost-benefit analysis is a good method to show the differences between project alternatives and provides information to make a well-informed decision.
  4. Presentation of the uncertainties and risks: A social cost-benefit analysis has several methods to take economic risks and uncertainties into account. The policy decision should be based on calculated risk.

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Shreya Kushwaha

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