Alternative Approaches to

Economic Analysis and the

Distribution of Costs and Benefits
Presentation by
Nirmal Kumar Raut (Group B)
MPhil (Econ), Semester II
June 24, 2009
 Who Gets What?
Identification of distribution Effects
 Distribution weighting approach proved difficult
because of value judgment
 Recent concerns with fiscal impact do not
necessarily introduce weighting system
 More difficult with world price numeraire approach
as units of costs and benefit differs with recipients
 Use of composite conversion factors also creates
problem
 Domestic price numeraire is preferable if direct
estimation of distributional impact is to be
undertaken
 Who Gets What?....contd
 Assessing distributional impact of the
project:
 Identify the most important stakeholders
 Estimate both the direct income effects
and the indirect effects caused by
externalities and divergence of prices from
economic values
 Who Gets What?...contd
 Economic NPV of any project can be divided among the various recipients of benefits.
 Example:

And ENPV  NPVMP  NPVX  ( NPVF * AFF )   i ( NPVLi * AFLi )   j NPVTj

NPVMP  NPV
Where, ENPV=economic k
NPVSk  NPVB  NPVCT  NPVND
MP=Market prices
X =externalities
F=foreign exchange
Li=Categories of labor
Tj = Categories of transfer payments
AF=adjustment factors
S=stakeholders affected directly, including owners of the project
B=Bank or lenders to the project
CT=government income from company taxes
ND=net debtors
 Who Gets What?...contd
 Equation 1 identifies the economic
analysis adjustments to the market price
NPV
 Equation 2 identifies the immediate
beneficiaries from the financial analysis
 Who Gets What?...contd
 Fiscal Impact
 Thorough economic analysis should provide
information needed to identify the impact of the
project on government income i.e. fiscal impact
NPVG  NPVCT  ( NPVF * AFF )   j
NPVTj

The equation implies that any change in foreign

exchange availability has a direct effect on
government income
 Who Gets What?...contd
 Impact on Poverty Reduction
 Two effects: Direct income effects and Indirect effects
 Direct income effects on stakeholders at market prices
 Indirect effects in terms of their contribution to the
income of the workers, particularly through induced
employment of unskilled labor.
 Target poor groups have to be clearly defined;
characteristics that define poor i.e. income, gender
ethnic group, age etc.
 A methodology need to be developed to estimate
income effects such as UNIDO approach
 A Modified UNIDO Approach
 Possible to estimate income effect from
UNIDO approach but with modifications
 Income effect to be indicated on a year-
by-year basis. (needs disaggregation of
costs and benefits)
 Disaggregation should take account of
distributional implications of transfer
payments.
 How much is Consumption worth?
Estimation of distribution weights
 Weighting system could be based on economic
principle of diminishing MU.
 This principle may be applied to consumption as
a whole and to comparisons between people
with different levels of consumption.
 Weighting systems can be devised whereby
projects could be selected according to their
impact on income distribution.
 How much is Consumption
worth?...contd
 Estimating consumption weights
 Estimated in relation to value of
consumption at the average level of per
capita consumption (c)
 Consumption at this level may be provided
weight of one, below the average greater
than one and above the average less than
one.
 How much is Consumption
worth?...contd
 Estimating consumption weights….contd
 Calculation of weight (di) for group i with an income level of ci
is e
 c 
di   
 ci 
Where e determines the rate at which the weight changes with
changes in the income level. when ci<c; di>1 and when
ci>c;di<1.
Also higher the value of e, the greater the variation in d i
according to income levels.
 How much is Consumption
worth?...contd
 Applying consumption weights
Two Approaches:
 Adjust the conversion factors of those items
including significant elements of labor costs,
particularly the shadow wage rate for unskilled
labor.
 Estimate the distribution effects (costs and
benefits among different groups) before
applying weights. Separate saving and
consumption effects. Revalue consumption
effects with the help of distribution weight.
 How much is Consumption
worth?...contd
 Applying consumption weights…contd
 A new distribution weighted conversion factor for unskilled labor is
estimated using formula:
d
CFL  ma  (1  m)(1  ) 
v
Where, m=opportunity cost of labor
a=conversion factor applying to the opportunity cost of labor
d=distribution weight applied to the consumption of unskilled workers
ß=CF applying to workers’ consumption (assumed to be SCF of 0.83)
v=value of a unit of savings in terms of a unit of consumption
 Appendix: The Effects Method
 Developed in France and uses national income
accounting approach
 Economists regard the assumptions made
unrealistic. Hence not that popular.
 However, it addresses directly the issue of
distributional impact and have some valuable
insights into the way the project analysis is
conducted.
 Possible to arrive at results equivalent to shadow
pricing approaches.
 Appendix: The Effects
Method….contd
 Steps
1. Estimation of value added with the project
2. Estimation of value added without the project
3. Deduct the without the project situation from
with the project situation to find incremental
effects of the project.
 The incremental VA provides an indication of
the distribution of income gains of the project.
 Appendix: The Effects
Method….contd
Step 1(Estimation of value added with the
project )
 Estimate direct value added consisting of

wages, interest, taxes, depreciation and

profits.
 Estimate indirect value added derived from

the purchases of goods and services from

others.
 Appendix: The Effects
Method….contd
Step 2 (Estimation of value added without
the project )
 Export tax will be levied on the
intermediate good that will now be
exported.
 The good now will have to be imported on

which import tax will be levied.

 Appendix: The Effects
Method….contd
 Drawbacks
1. It is not clear how the indirect value
added associated with the investment
costs should be treated
2. Working capital does not appear in the
analysis