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Methods of economic evaluation
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Outline
̶The essence of economic evaluation, history of project evaluation.
Inputs and outputs. Typology. Relevance for the use of specific evaluation methods. Evaluation
criteria – economy, effectiveness, efficiency
 Single crierion methods (CMA, CEA, CUA, CBA)
CBA, basic principle and selected problems (valuation, discounting)
Ways to select the "best" project

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The essence of economic analysis/evaluation
= (some) relationship between inputs and outputs
It can take many forms (net utility, profitability...)
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History
USA
̶1902 - River and Harbor Act
Methods of analysis of public projects were generalized in the period of the "New Deal"
1950 the principles and rules associated with the evaluation of projects of various water
reservoirs were established
Of greater scope after the Second World War, when the general principles associated with the
evaluation of water reservoir projects were enshrined in the "Green Paper" published in 1950.
During the 50s to 80s of the 20th century, numerous works began to appear in this area, the most
important authors of which were mainly R. Dorfman, O. Eckstein, J. Margolis, J. Krutilla and B.
Weisbrod.
1961 The Planning-Programming-Budgeting System (PPBS) was created as a cost-benefit evaluation
procedure. PPBS was followed by the Zero-Based Budeting method in the 70s of the 20th century
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History
Evrope
Great Britain
̶focus mainly on transport, urban and elektricity
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̶France
focus on large energy companies and transport.
In the 70s of the 20th century, the issue of externalities due to increasing problems from the
environment and its pollution.
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(Do you remember? Filip covered it last time.)
Inputs, outputs, results and effects

[USEMAP]
Types of inputs/costs and outputs/benefits
real
They reflect an increase in the well-being of society, which is compared to the real cost of
transferring a resource from another use
•direct x indirect
tangible x intangible
pecuniary
They arise as a result of changes in relative prices, which are reflected in the adaptation of the
economy to the public goods provided and to changes in the structure of demand for resources.
As a result, the profits or losses of some individuals increase, but they are offset by losses or
gains felt by others.
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tangible x intangible
Can a price be found for a given cost or utility in the market??
Tangible
the price can be found on the markets
(saved gasoline, increased amount of transported goods)
Intangible
the price can not be found on the market (lives saved, leisure time, improvement of the quality of
the environment)
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Types of economic evaluation
̶The pursuit of efficiency requires priority to be given to those projects which provide the
greatest benefit per unit of cost. Although economic evaluations approach costs in a common format,
they differ in the way they approach benefits. These differences play a critical role in developing
criteria for efficiency
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̶Cost minimalization analysis (CMA)
̶Cost effectiveness analysis (CEA)
̶Cost utility analysis (CUA)
̶Cost-benefit analysis  (CBA)
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Some other concepts
̶Data envelope analysis (DEA)
̶Social return on investment (SROI) - method for measuring extra-financial value (such as
environmental or social value not currently reflected or involved in conventional financial
accounts).
̶Value for Money - Value for money is not synonymous with either economy (i.e. reducing the cost of
inputs) or efficiency. Value for money is about finding the right balance between economy,
efficiency and effectiveness, and cannot be assessed through only one of these dimensions in
isolation.
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Cost Benefit Analysis
-involves measuring costs and benefits in commensurate terms, usually monetary.
-Cost benefit analysis makes it possible to determine, firstly, whether a policy offers an overall
net welfare gain and, secondly, how the welfare gain from that policy compares with that from
alternative ones.
-By valuing all costs and benefits in the same units, cost benefit analysis compares diverse
policies using the net benefit criterion. Cost benefit analysis thus simultaneously addresses
issues of productive and allocative efficiency.
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We’re right in the middle of the presentation now.
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Smějící se přátel

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Step 1
Step 2
Step 3
Step 4
Step 5
CBA‘s main steps
̶Identification of a set of possible projects that can be considered
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̶Identification of all meanings of these projects (all their inputs and outputs, including
opportunity costs)
Estimation of the price of individual inputs and outputs – including the valuation of "intangible"
items + so-called price rectification
Converting all prices to the current discounted value (including solving the problem of the
discount rate used)
Summing up all costs and benefits of individual projects – determination of social profitability
(analogy of ROI), calculation and comparison of net benefits - > basis for the selection decision
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The key issues:
̶the problem of finding prices of ALL benefits and costs (intangible ones, shadow pricing, external
costs & benefits…);
the problem of including the time factor (the issue of the discount rate).
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Market prices rectification
Result
Is there a market price?
Is there a market substitute?
Valuation techniques
of intangible items
Discounting and other editing
ANO
ANO

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Assigning money values to intangible C/Bs
q Using preferences (Willingness to pay/accept)
Either it is based on preferences already revealed in related markets (related market valuations);
Or it reveals (examines) people's preferences from what they themselves say they are willing to pay
or tolerate.(Contingent valuation)
q Other than preference-based
̶Method of procurement costs
̶Method of averting costs
other (compensation precedents)
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Market prices rectification („correction“)
̶ Shadow prices as a result of adjustment.
Possible causes of distortion of market prices:
̶imperfect competition
incomplete use of resources
taxes, subsidies and public regulations
external trade and financial protection

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The issue of comparability of the time aspect
̶Costs and benefits tend to be staggered. To ensure the commensurability and comparability of all
costs and benefits, it is necessary to relate their value to a single date.
If we recalculate the value of a future cost or utility to the present, we must discount it by
means of a formula:
PV =  FV / (1+ i) n
Analogically present to future: FV = PV * (1+ i)n
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̶The main issue here is the selection of an appropriate discount rate.
As the discount rate decreases, the present value will grow more if the period during which the
pension flows is longer. On the contrary, increasing the discount rate favors relatively short-term
investments.

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•Existing financial products, comparable payback/lifespan, comparable risk.
We are looking for the ratio between current and future consumption that private consumers have.
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Private vs. Social Discount Rate
̶There are also reasons for arbitrarily modifying the update discount rate in both directions,
e.g.:
short-sighted preference for current consumption (=> lower rate)
government – a guardian of the well-being of future generations (dtto)
the principle of equalizing the standard of living in conditions of increasing productivity work
(=> higher rate)

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Project selection
̶4 combinations of rules related to (a) the nature of the projects (divisible x indivisible) and
(b) the financing circumstances (fixed x flexible budget).
Divisible – fixed budget: maximizing the sum of net benefits. Utility is maximized if the total
expenditure is distributed among the individual projects in such a way that the benefits resulting
from the expenditure of the last money unit for each project are equal (mathematically written
MUX = MUY).

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Further reading
̶Musgrave, R. A., & Musgrave, P. B. (1984). Public Finance in Theory and Practice. 1984. Public
finance in theory and practice (4th ed.). New York: McGraw-Hill. New York: McGraw-Hill. chap.9
̶Robinson, R. (1993). Cost-benefit analysis. British Medical Journal, 307(6909), 924-926.
̶Carson, R. T., & Hanemann, W. M. (2005). Contingent valuation. Handbook of environmental
economics, 2, 821-936.
̶Broughel, J. (2020). The Social Discount Rate: A Primer for Policymakers. Mercatus Research Paper.
https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3639628
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