In determining the appropriate approach for socio-economic analysis, two things need to be considered. First is the subject matter. The benefits and costs of many programs are varied and difficult to measure. Second is the audience. Many programs have a diversity of stakeholders, and each will be interested in different benefits and different costs. Therefore, the benefits and costs cannot, and should not, be reduced to a single monetary number.
Socio-Economic Analysis Approaches
There are two types of approaches that can be used, socio-economic assessment or a formal benefit-cost analysis.
The framework for benefit-cost analysis is based on the monetary valuation of the impact of the proposed initiative. All benefits and costs must be translated into a common measure (usually dollars) at a common point in time (through net present value calculations). Formal benefit-cost analysis is most useful for simple investment decisions.
Formal benefit-cost analysis can be fraught with difficulties when used for public sector decision analysis. First, dissimilar benefits and costs must be converted to a common denominator. For example, if safety is a benefit, what is the value of human life? Second, some benefits and costs cannot be quantified. For example, what is the value of national pride? Third, the nature of benefits and costs is hidden in the numbers. This hides the pros and cons of an initiative from stakeholders and therefore benefit-cost analysis is a poor tool for gaining support among different groups. For these reasons, and others, formal benefit-cost analysis has fallen out of favour for public sector applications.
HAL, therefore, usually uses a socio-economic assessment approach. Benefits and costs are still enumerated, but they are also illustrated. Where benefits and costs are quantified in similar measures, they can be compared directly. Where benefits and costs are in dissimilar measures, it will ultimately up to the stakeholders to determine if the trade-offs are worthwhile. Our experience has been that most stakeholders are more comfortable with this approach. They rarely believe the assumptions made in a formal benefit-cost analysis, they prefer having the benefits and costs left in their natural measures, and they appreciate being told the ‘story behind the analysis’.
Socio-Economic Analysis Steps
Socio-economic analysis involves the following steps:
Definition of the Base Case – Ultimately, it is the incremental impact of the initiative that is of interest. This is the difference between what will happen as a result of the initiative, compared to what would have happened in the absence of the initiative. Analysis of this difference requires a base case that defines how the future will unfold without intervention. The base case is probably not simply the current state of affairs, because the characteristics of any situation are not static. However, a starting point for the base case is the current situation.
Definition of Options and Marginal Improvements – Given the base case developed above, the next step is to define the options that will be analysed. Options are defined in terms of changes in the salient characteristics of the initiative. A starting point for these definitions is often two options (limited improvements, and optimum improvements).
Estimation of Costs and Time Frames – Two additional pieces of information are required in order to compare the Base Case with the Options. First is the marginal cost of each option. Cost obviously covers monetary expenditures of all the parties involved, but also includes less tangible expenses such as contributions in kind and possible detrimental effects on some stakeholders. Second is the time frame for the initiative. Money has a time value, and benefits today are worth more than benefits tomorrow. Also, uncertainty increases with time, and confidence in benefits estimates far in the future will be lower.
Segmentation of Benefits – Programs typically provide a wide range of benefits. These benefits can be segmentation into infrastructure, wealth creation, and public good. Infrastructure is an investment in the future that will create wealth and public good impacts over time. Infrastructure includes physical structures, institutional systems, knowledge, and qualified human resources. Wealth Creation benefits cover concepts such as growth, productivity, employment and industrial development. Public Good benefits cover concepts such as social, political, environmental and knowledge.
Segmentation of Users – Some of the benefits from a program will accrue to the users of the program. The characteristics of each user segment are estimated in terms of number, size, requirements, barriers to participation in the program, etc.
Segmentation of Industry – Some of the benefits from a program will also accrue to the industrial partners. The characteristics of each industry segment are estimated in terms of number, size, contribution to the program, market barriers, etc.
Estimation of Marginal Benefits by User Segment and Industry Segment – Through consultations with the providers and users of a program, and an understanding of their characteristics gained from the literature review, the benefits that will accrue to each into the future are estimated.
Estimation of Marginal National Benefits – In addition to the benefits that will accrue to users and industry, there may be national benefits that cannot easily be assigned to an individual or organization. Examples include most of the public good benefits outlined under Point 4 above.