Cost-beneﬁt analysis is a method for organising information to aid decisions about the allocation of resources. Its power as an analytical tool rests in two main features:
Why use it?
Cost-beneﬁt analyses can provide guidance on the efﬁcient allocation of resources in areas, of which there are many in the public sector, where no markets exist to provide this information ‘automatically’.
Cost-beneﬁt analysis is useful in contexts where there are grounds for mistrusting the signals provided by market prices: for example, where inputs are underpriced relative to costs, or where outputs are overpriced. Cost-beneﬁt analysis is also helpful where, without any commercial transactions taking place, projects impose costs or beneﬁts on third parties. Finally, the method is useful when a project is so large in scale that it is important to be fully aware of its wider economic effects.
How is it used?
Undertaking a cost-beneﬁt analysis provides the decision maker with quantitative comparisons of options, together with supporting information for any costs and beneﬁts that could not be quantiﬁed. Cost-beneﬁt analyses serve to aid decision-making. However, a cost-beneﬁt analysis does not replace the need for sound judgment based on a wide range of considerations, and in accordance with the various obligations ofﬁcials face which can be described under regulatory law and requirements.
Cost-beneﬁt analysis is employed in various ways. It may assist government to:
All of these applications are ex ante (or ‘before’) uses of the method. The method can also be used when a project or programme has matured as part of an evaluation of programme impact or outcomes. In this context the method may:
Where is it used?
Traditionally, cost-beneﬁt analysis was used to evaluate ‘projects’ or individual activities rather than ‘programmes’ or larger groupings of such activities or indeed of policies. Moreover, it was used mainly in evaluations of a particular project type - economic infrastructure investments such as dams, roads and power stations. However, cost-beneﬁt analysis in now applied much more widely. It is often applied to programmes as well as to projects, to activities outside the economic infrastructure sector, and to public policies. The labour market, education, the environment and scientiﬁc research are examples of areas where the method has been usefully applied. However, it should be noted that cost-beneﬁt analysis is only one method of evaluation.
The main constraints in using the approach are the feasibility and appropriateness of assigning money values to the costs and beneﬁts generated by the activity. Where determining the money equivalent value of outcome is not feasible, cost-effectiveness analysis is frequently a viable alternative approach.
The effective use of cost-beneﬁt analysis requires awareness of the method’s limitations as well as its strengths. Some limitations are:
Cost benefit analysis is a decision making tool that aims to assess the value of a proposal or competing proposals on a consistent basis.
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