Sunday, January 31, 2010

Why It Is Hard To Use Cost-Benefit Analysis

In my classes last week and this upcoming week, one of the topics is how government policy affects markets. We would like to see the benefits from a policy be greater than the cotss. Sometimes it is very hard to tell. This comes up in a recent EPA policy as reported on in the Wall Street Journal article EPA Proposes Tighter, Costlier Smog Limits. Here is the intro:
"The Obama administration on Thursday proposed tougher standards for reducing smog in a move it said would save lives and reduce respiratory illness, but businesses said the change would inflict new costs on employers and consumers in a weak economy."
Here is what the new policy will do:
"Under the proposal, the EPA would set the acceptable ozone level in the air between 0.06 and 0.07 parts per million, stricter than the current 0.075 ppm."
What are the costs?
"The EPA estimated that the costs of complying with the new standards could range between $19 billion and $90 billion annually, depending on the final standard. Much of the cost will be in the form of new technologies."
What are the benefits?
"EPA officials and public-health groups claim the new standards would mean fewer visits to the emergency room for children with asthma, and longer lives for people with chronic lung disease -- saving the U.S. $13 billion to $100 billion annually."
So the cost could be as high as $90 billion while the benefits could be as low as $13 billion. There is such a huge range as to what might happen with the costs and benefits. That makes it hard to know if it is a good idea.

A couple of years ago I posted the following:
"Last week in the San Antonio Express-News, Michael E. Kraft, professor of environmental sciences at the Unviersity of Wisconsin-Green Bay, said that "in writing the Clean Air Act, Congress explicitly instructed the agency (EPA) to base its decisions on public health and not economic costs.""
So if we don't base anything on cost, how do we know if the policy is a good idea?


sean said...

Being cost efficient doesn't seem to be a high priority for funding things, apparently. Here is a proposed project I happened across recently. Look at the cost of the building versus the long term energy savings:

Cyril Morong said...


Thanks for dropping by and commenting. That seems like a good example from the article. Spending $133 million to save $280,000 per year. That is well below a 1% annual return (actually about .2%).