Cost Benefit Analysis

Topics: Cost-benefit analysis, Welfare economics, Decision theory Pages: 3 (970 words) Published: September 15, 2013
How do positional concerns create biases in cost-benefit analysis? The Cost Benefit analysis illustrates that the right action, from a set of alternatives, is the action whose benefits exceed its costs.

It is important to understand that the relative economic position is important for people’s subjective and objective well being, and that absolute economic position is less significant than it is ordinarily thought. It is necessary to establish that willingness-to-pay numbers undervalue safety and other benefits if they ignore concerns about relative position. For many governing benefits, positional considerations are less important than they are for income and there is wide collection of evidence in order to establish this point. Of course each piece of evidence is vulnerable to counterarguments. Evidence strongly suggests that traditional methods of estimating willingness to pay seriously understate the social value of many regulatory benefits.

A great example of this is illustrated in the Smith and Jones scenario. To illustrate how concerns about relative position affect willingness to pay for an facility such as workplace safety, we begin by working through a simple, formal example of an employment decision confronting two workers, Smith and Jones. We assume that each gets satisfaction from, or cares about, three things—his income, his safety on the job, and his position on the economic ladder however no assumptions are made about why he cares about that position choice. What he two confronts is between a safe job that pays $300/wk and a risky job that pays $350/wk. The value of safety to each is $100/wk, and each evaluates relative income as follows: Having more income than his neighbour provides the equivalent of $100/wk worth of additional satisfaction; having less income than his neighbour means the equivalent of a $100/wk reduction in satisfaction; and having the same income as his neighbour means no change in the underlying level of satisfaction....
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