Foundations of CBA in the Public Sector
 
Private sector investment decisions are driven by financial profitability. In contrast, the public sector uses Cost-Benefit Analysis (CBA) to evaluate whether a public program or infrastructure project benefits society as a whole. CBA translates all social, environmental, and financial impacts of a project into monetary terms to determine its net economic return.
Key Analytical Metrics
  • Social Discount Rate (SDR): The interest rate used to convert future societal benefits and costs into their present value, reflecting the state’s time preference for public investments.
  • Net Present Value (NPV): The total present value of a project’s future social benefits minus the present value of its total costs. A project is deemed economically viable if its NPV is greater than zero.
  • Economic Internal Rate of Return (EIRR): The discount rate at which the present value of social benefits equals the present value of social costs.

Quantifying Non-Market Externalities
 
Public projects generate non-market externalities that lack traditional price tags. Economists use specialized valuation methods to measure these factors:
  • Hedonic Pricing: Estimating the value of an environmental factor (e.g., noise pollution or clean air) by analyzing differences in local property values.
  • Contingent Valuation: Using public surveys to ask citizens directly about their “willingness to pay” for a public good or service (e.g., preserving a national forest).
  • Travel Cost Method: Measuring the time and travel expenses citizens incur to visit a public facility (e.g., a park) to estimate its total economic value.

 
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