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Social Cost Benefit

Analysis
Approaches to SCBA
Two approaches for SCBA
UNIDO Approach:- This approach is
mainly based on publication of UNIDO
( United Nation Industrial
Development Organisations) named
Guide to Practical Project Appraisal in
1978.
L-M Approach
It involves five stages :

Calculation of financial profitability of the project,
measured at the market prices of resources and
output.
Calculation of the net benefit of project measured
in terms of economic prices. Some resources are
priced at international prices and for others shadow
prices are considered.
Adjustment for the impact of the project on saving
and investment.
Adjustment for the impact of project on income
distribution.
Adjustment for the impact of project on merit goods
and demerit goods whose social value differ from
their economic values.

UNIDO Approach

Stage - 1
Calculation of financial profitability of the
project
a) A good technical and financial analysis must
be done before a meaningful economic
(social) evaluation can be made so as to
determine financial profitability.
b) Financial profitability is indicated by the Net
Present Value (NPV) of the project, which is
measured by taking into Account inputs
(costs) and outputs (benefits) at market
price.
UNIDO Approach Stage - 2
Obtaining the net benefit of the project at
economic (shadow) prices
a) The commercial profitability analysis
(calculated in stage 1) would be sufficient
only if the Project is operated in Perfect
market. Because, only in a perfect market,
market prices can reflect the social value
b) If the market is imperfect (most of the cases
in reality), net benefit of the Project is
determined by assigning shadow Prices to
inputs and outputs.
c) Therefore, developing shadow pries is very
much vital.
UNIDO Approach Stage - 2
Shadow prices reflect the real value of a
resource (input or output) to society
Shadow Prices are also referred as economic
prices, economic / accounting efficiency
prices etc
Shadow prices can be defined as the value of
the contribution to the country's basic socio-
economic objectives made by any Marginal
change in the availability of commodities
(Output) or factor of production (input).
Example: A project of power station may
increase the production of electricity which
contributes to one of the socio-economic
Objectives of the country.
Sources of shadow pricing Basis of valuation
Increase/decrease total
consumption
Consumer willingness to
pay
Increase /decrease total
production
Cost of production
Increase/decrease export or
imports
Foreign exchange value

Consumer Willingness to Pay (CWP)
What a consumer wants to spend for a
product or service
The difference between CWP and actual
payment is called consumer surplus
Numeraire
a)A unit of account in which the values of
inputs and outputs are to be expressed.
b)Numeraire is determined at
Domestic currency ,rather than border
price.
Present value rather than future value,
Because, "a bird in the hand is worth two
in the bush'
Constant price rather than current price

Taxes:
If the project augments domestic
production, taxes should be excluded
if the project consumes existing fixed
supply of non-traded inputs, tax should
be included
For fully traded goods, tax should be
ignored
Shadow Pricing of Resources
Non-tradable Inputs and outputs

Shadow Price = Cost of production +
Consumer willingness to pay
Non tradable inputs and outputs -: a good is non-tradable
if following conditions are satisfied -:
If its CIF prices is greater than its domestic cost of production.
Its FOB price is less than its domestic cost of production.

For traded goods the shadow price border price translated in
domestic currency, at market exchange rate.
For non-traded goods the shadow price is measured in terms
of consumer willingness to pay or cost of production,
depending on the impact of project on the rest of the
economy.

Externalities -: since SCBA seeks to
consider all cost and benefits, to
whomsoever they may accrue external
effects should also be taken into
account. The valuation of external
effects is rather difficult because they
are often intangible in nature and
there is no market price, which can be
used as a starting point.

Labour inputs -: the principle of
shadow pricing may be applied to labour
as well, though labour is considered to be
services. When a project takes away labour
from other employment, the shadow pricing
of labour is equal to what other user of
labour are willing to pay.
The shadow prices associated with
inducing additional production of workers
consist of the marginal product of labour in
previous employment plus certain other
costs.

Capital input -: the shadow pricing in case of
capital investment involves -:
What is the value of physical assets?
The value of physical assets is determined the way
values of other resources are calculated.
What is the opportunity cost of capital?
The opportunity cost of capital depends on how the
capital required for the project is generated. To the
extent that it comes from additional savings its
opportunity cost is measured by the consumption
rate of interest.


UNIDO Approach - Stage 3
Adjustment for the impact of the project on
Savings and investment :
The purpose of this stage is to
Determine the amount of income gained or
lost because of the project by different
income groups (such as business,
government, workers, customers etc)
Evaluate the net impact of these gains and
losses on savings
Measure the adjustment factor for savings
and thus the adjusted values for savings
impact
Adjust the impact on savings to the net
present value calculated in stage two.
UNIDO Approach- Stage 3
Evaluation of the Net Impact on Savings
Net savings Impact of the project =
Yi MPSi
o Here, Yi = change in income of
group i as a result of the project
o MPSi= Marginal Propensity to save a
group i
UNIDO Approach- Stage 3
Adjustment Factor for Savings (AFs)
AFs measure the percentage by which the
social value of investment of one Re.
exceeds social value of consumption one
rupee.
AFs = (MPC x MPcap) - 1
( CRI- MPcap) x MPS
Here, MPC = Marginal Propensity to
Consume MPS = Marginal Propensity to
Saving
MPcap = Marginal Productivity of Capital
CRI = Consumption Rate of Interest (Social
Discount Rate)

UNIDO Approach- Stage 4
Adjustment for the impact of the project on Income
distribution
Govt. considers a project as an investment for the
redistribution of income in favour of economically
weaker sections or economically backward regions
This stage provides a value on the effects of a project
on income distribution between rich and poor and
among regions
Distribution Adjustment Factor (Weight) is calculated
and the impacts of the project on income distribution
have been valued by multiplying the adjustment factor
with the particular income of a group. This value will
then be added to the net present value re-calculated in
stage three to produce the social net present value of
the project.
UNIDO Approach- Stage 5
Adjustment for Merit and Demerit Goods :
If there is no difference between the economic
value of inputs and outputs and the social value
of those, the UNIDO approach for project
evaluation ends at stage four.
In practical, there are some goods (merit goods),
social value of which exceed the economic value
(e.g oil, creation of employment etc) and also
there are some goods (demerit goods), social
value of which is less than their economic value
(e.g., cigarette, alcohol, high -grade cosmetics
etc)
Adjustment to the NPV of stage 4 is required if
there is any difference between the social and
economic value
UNIDO Approach- Stage 5
The steps of adjustment procedure are:
Estimating the present economic
value
Calculating the adjustment factor
Multiplying the economic value by the
adjustment factor to obtain the
adjusted value
Adding or subtracting the adjusted
value to or from the NPV of the project
as calculated in stage four.


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