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Benefit-cost analysis
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Gordon L. Brady Yale University New Haven, Conn. 06520 Blair T. Bower Resources f o r the Future Washington, D.C.20036 There are certain elements of air quality management (AQM) to which benefit-cost or cost-effectiveness analysis may be applied. The framework to assess the potential use of these tools can be built from an analysis of air quality management strategies and of the steps involved in making monetary estimates of benefits and costs. An air quality management strategy consists o f the physical measures for reducing discharges of gaseous residuals from activities the implementation incentive systems that induce the adoption of measures to reduce discharges the distribution of responsibilities among government agencies for imposing implementation incentives, monitoring, planning, and enforcement. Fiwturi, arlic/es in ES&T hhve bJ’-/;ne,Y,repre.r(’nt the views o f i h e authors. and are edited h,,the Washington staff. if you are interested in i,ontrihiiting an article, coiiiaci !he managing rditor. 256
Environmental Science & Technology
Quantitative analysis in air quality management involves estimating, in monetary terms, the benefits from and the costs of achieving any given level of ambient air quality. Such analysis has a t least five steps. The first is identification of the time pattern of ambient air quality, over space in the region of interest, in relation to concentrations of various pollutants. The second is estimation of the time pattern of human, plant, animal, and material exposure to ambient air quality. The third is estimation of relationships between exposure to a specific gaseous residual, or to several simultaneously, and the resulting adverse effectsphysiological, biological, chemical, psychological-on humans, plants, animals, and materials. With respect to humans, relevant relationships involve health, both morbidity and mortality, and aesthetics, primarily as affected by visibility and odors. The fourth step is translation of the adverse effects into monetary units. The fifth is estimation of the costs of achieving any specified level of discharge reduction or of ambient air quality. Benefits from air quality management are the actual damages or adverse effects which are avoided by improving ambient air quality. The damages from adverse air quality include those relating to both human health and environmental damage.
Health damages to humans are measured in terms of net medical costs and net losses in productivity from morbidity and mortality, both the incidence and the severity of acute and chronic illness. Environmental damages include effects on plant and animal life, both in the productive sense and as amenities, and damages to materials, such as building surfaces. Psychological effects of adverse air quality include reduction in visibility and the defoliation or discoloration of plants and hence adverse effects on aesthetics and recreational values. Because benefits are estimates of damages avoided, not all of which are reflected in market values, they are inherently more difficult to estimate than are costs, which are based on actual expenditures incurred. Failure to improve ambient air quality is believed to increase the number of human illnesses, thereby reducing productivity and increasing deaths and other unpleasant physiological/biological effects. On the other hand, crop yields, animals, and effects on materials are more amenable to quantification because they are traded in markets. The terms :costs” and “impacts” are often used synonymously. Costs are the resources which society devotes to achieving ambient air quality standards. In principle, the value of the
0013-936X/81/0915-0256$01.25/0 @ 1981 American Chemical Society
resources traded in the marketplace reflects direct costs. However, because such resources have alternative uses, cost estimations must reflect the returns on those lost opportunities. Impacts, in contrast, refers to the redistribution o f burden imposed by regulation among various groups, regions, or industries. They are not costs in the strict economic sense. Social costs represent the aggregation of actual resource costs incurred by society by whatever entities making the expenditures. They include: direct outlays (expenditures) by individual activities; subsidies from government agencies toward the direct costs of physical measures installed and operate‘d by activities, e.g., investment tax
Definitions and concepts used in benefit-cost analysis Activify, An activity is defined as a decision unit which consists of a set of one or more unit processes and unit operations. An industrial plant, a farm, a mining operation. a restaurant, an office building, a household. a management unit of a national forest, a motor vehide-each is an activity and each generates residuals according to some time patlern. Note that the term ”point source”-often termed concentrated andlor stationary source-is misleading. An integrated steel mill, an integrated pulp and paper mill. a petroleum refinery, an open-pit mine, a metallurgical plant-each represents a set of unit processes and unit operations occupying a given site, which may occupy several square kilometers.The steel mill, the pulp and paper mill, the refinsry, and the metallurgical plant always will have multiple stacks for discharging gaseous residuals. Further. although an open-pit mine is llsually considereda stationaty source, ’ probably the primary activity generating residuals in an open-pit mine is the transport activity, e.g., trucks haulingore out of the mine to the processing plant. Tha term “swrce” as applied in the literature to “point” or “stationary” sources is used ambiguously to refer to different phenomena. A petroleum refinery as a whole is refenedto as a source of residuais discharges; devices within the refinery, such as valves, are also refwed to as swrces; and each discharge stack in the refinery is referred to as a source. There often are multiple origins of residuals generation In an activity and multiple l o c e t i i of residuals discharaes from
credits, rapid depreciation, and lowinterest loans; and expenditures by air quality management agencies for planning, monitoring, inspection. and enforcement. I n evaluating alternative implementation incentive strategies, it is necessary to estimate costs as the activity sees them-as direct outlays, i.e., net of all tax subsidies and factor price differentials which would be incurred in meeting ambient air quality standards (AAQS) through process modification, input substitution, recovery of inputs, or sale of by-products. Two other factors must be accounted for when estimating social costs. The elasticity of demand for the products or services of the activity (or
an activity. Some of the origins and locations may be identical. firm. It is impoltant to clarify the use of the term “firm.” Traditionally-particularly in the economic and business literature, firm was used in the classical sense of Adam Smith and the individual entrepreneur, a single plant. This has long since CBaSBd to be the reality, with the multiplant firm or company becoming common in both productiveand service sectors. Thus, there are single-plant firms and multiplant firms. If an individual activity is one plant of a multiplant firm or c o m pany, then the decisions relating to adoption of measures to reduce gaseous discharges from that plant are taken within the context of the entire company. Residual A residual is a nonutilizable output-material or energy-of an activity which has zero value or a value less thanthe cost of its recovery and transport for use in the same or another activity. Figure 2 illustratesthe definition of a residual. Mixingbowl. Mixing bowl refers to the conditionthat for a given residual, the impact of the dischargeon ambient concentration of the residual is not affected by the location of the discharge In the region. This has been assumed to be valid for hydrocarbons. but is definitely not valii for NO, SO2. and TSP. If a mixing bowl condition exists, the locations of activities do not have to be explicitly c~lsideredin the development of AQM strategies. /mplemntation incentive. This refers to a behavioral modifying factor which induces an activity to reduce discharges of residuals. It may be economic, regulatory. administrative, infofmational. judicial, of combimtions of these. lmplemntation incentive system. An incentive svstem consists of one or
firm) will determine its ability to “pass through” costs to consumers. A change in costs w i l l affect the consumer’s decisions when they choose among goods and services. Therefore, the effect of those decisions on the output of the activity (orfirm) must also be determined. Analytical framework
The objective of benefit-cost analysis is to compare the reduction of damages (benefits achieved) with the costs of that reduction. Benefit-cost analysis assumes that all effects can be translated into monetary terms. Because some benefits are difficult to measure monetarily, cost-effectiveness analysis is applied to compare
more implementation incentives plus the related monitoring, sampling, inspection, reporting, and sanctionimposing procedures and requirements. No “pure” regulatory or economic implementation incentive system exists: all have some mix of regulatory and economic incentives: e.g.. input standards, product standards, discharge standards, specificationswith respect to technology of production, residuals modification equipment specifications by type or level of performance. At the same time, the im piementation incentive system may include one or more of the following for air pollutionwntrol facilities: grants for some of the construction cost, grants for some of the operation and maintenance costs, tax credits for investment, rapid depreciation ailowances for investment, grants to cover some investment in ”less polluting” production technology, low-interest loans to cover some investment in pollution control or “less polluting” production technology. The response of an actvity to regulationson ~aseous discharges is often significantly affected by these types of economic incentives. &igIna/ compliance. An activity has achieved original compliance with the conditions specified in a permit to discharge when the physical measures-including types of inputshave been installed and are achievitq the discharge levels andlor other conditions specified in the permit. Continuingcompliance. An activity is in continuing compliance if,on a day-to-day basis, the behavior of the activity is within the limits and conditions specified in the permit: e.g., discharges of gaseous residuals and quality of raw material input are within the limits sDecified.
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the costs of achieving different levels of ambient air quality. The cost-effectiveness framework analyzes which method of attaining a specific goal, such as a set of ambient air quality standards, w i l l cost society the least. Cost-effectiveness analysis can be considered a subset of benefit-cost analysis.
Benefit-cost analysis carries costeffectiveness analysis one step further because the ambient levels of the polluting substance are measured; actual exposures are estimated; and effects are isolated, identified, and linked to the substance. Monetary values must be attached to the effects. This framework requires extensive data to
Specific decisions in air quality management illustrating where benefilcost analysis or costeffectiveness analysis can be used a The decisions are divided according to the two loci of decision making: Federaland statelregionalllocal. One, two, or all three ievels of government may be involved in the specified decisions in the latter category.
Federal decislons Decision: selecting or revising ambient air quality standards Appropriate type of analysis: benefii-cost analysis Comment: Although it is extremely difficult to estimate national benefits and costs by aggregating individual activity benefits and costs to the natlonel level, applicationof benefii-cost analysis to various pollutants would yield at least crude estimates of retunsto social investment in improving ambient air quality. Decision: establishing level of rapid depreciation or investment tax credit for investment in discharge-reduction facilities Appropriate type of analysis: benefit-cost analysis Comment: in this use, benefits would be from discharge reductions induced by the subsidy. Costs in this Instance refer to 105588in tax revenues as a resuit of the subsidy. The objective is to estimate the levels Of benefits which would be associated with vari-
recognition that the AAOS cannot be ed in some regions unless inar0reaMKl makeclear the n€& to analyze benefits and costs on a mulliregionalbasis. The magnitudeof
258 Environmental Science 8 Technology
necessary reductions in discharges and the locations of such reductions that will yield the largest net benefits must be determined. Decision: establishing emission limits on vehicles Appropriate iype of analysis: benefit-cost analysis Comment: In this instance, benefits are the reductions in damages, summed over all regions, associated with any given set of emission limitations. This is an involved analysis, by VW of the different mixes of vehicles in each regb, differentctiving cycles. and different traffic patterns. Costs would be the additional (incremental) costs of meeting the emission limitations over and above production costs. plus engineering and development costs in the absence of the emission standards.This type of analysis would be difficult due to the stlmulus for changing technology as a creases in fuel prlces. Decision: ganting time exiensions
to regions for meeting the AAOS efit-cost analysis wanting extensions is that physically
or financially it is Impossible to install and begin to operate the necessary measures b
ines.
In this caw, mEmt are the reduetions in damages not benefits are the resource nance expendltures. Slate/regImiaNlocal decisions Decisbn: allocating reduotlons in dwharges between stationary and mobile sources Apprqxiate type of analysis: costeffectiveness analysis Ccmneni: h a mixing-bwfcontext where AAQS have been established. and hence the total reductions in discharge requiredcan be estimated. the allocition between stationary and mobile-or among subsectors of both-could be accomplishedon the basis of cost-effectiveness.Care must be taken to include the monitoring.
estimate the quantitative relationships between exposures and effects and to determine how both benefitsand costs vary with locations and levels of activities.
Benefit-risk analysis This type of analysis, as currently applied, differs from benefit-cost
inspection, and enforcement cost associated with any given allocation Decision: selecting regional amb ent air quality standards Appropriate type 01 analysis: ber elit-cost analysis Comment: In some regions, cost of reducing discharges may be reia tively low in relation to benefik whia could be achleved; thus establishin bener AAOS than the federal stan dards Could be lustif& This should b determinedby benefii-cost analysis o the region. Mae accvBte estimates o both benefits and cosb should ba possible at the r e g h l level than 8 the national level. Decision: identifying physica measures to mset AAQS In a region Approprhte t y p of analpis: cost effectiveness analysis Comment: For any set 01 AAOS cost-effectiveness analysis may b used lo determine the leastcost set o physical measures to meet the stan dards. and the distribution 01 costs CBI B e tabulated and displayed. Decision: granting variances lo in dividual dischargers Approprkle type of analysis: ben efii-cost analysis Comment: in this case. the cost! are the reductions in damages nc achieved because of ganting a varl ance. These can be eilimated on #m basis 01 the magnhde of, and tinn period over which, the discharges WII exceed the limitations and condMn! specified in the activny's permit. T)u costs are the savi= to the aciiv? from ml having to incur the expense necessary to meet the dischare standards over the time period of thc variance. Decision: seiecling monitoring ani inspection procedures and levels o
sum of the monitoring and lnspectiir costs of the A W agency and the ao tivny phnthenet resDonse costs whid. the activity is induced to incur. The wnefits are the reductions in adverse to the reductions in dls-
analysis in two fundamental respects. First, the focal points are reversed; second, monetary values are placed on only one side of the equation. With respect to the former, benefits are associated with production activities and are defined in terms of costs which would no1 have to be incurred if the regulation(s) did not exist.
charges induced by the inspection1
monitoringlsanctions combination. Decision:determining what, if any, activities should be excluded from the permitting and regulatory processes Appropriate fype ofanalysis: benefit-cost analysis, cost-effectiveness analysis Camment: Given the always-limited resources available for administrative tasks, e.g., permitting. monitoring, and inspection, the decision rule would be to exclude sources which are m e expensive to monitor and inspect than the benefits (damages avoided) which wouM be achieved by reducing their discharges.
Decision: evaluating alternative implementation incentive systems Appropriate type of analysis: benefit-cost analysis Comment: In non-mixing bowl situ a t i i s , different implementation in-. centlve systems will resun in different spatial patterns of ambient air quality and hence in different distributions of costs and benefits for a given level of desired AAOS. (Thisoccurs because ambient air quality everywhere in the region is to be at least as g o d as the AAQS.
Decision: siting of new activities Apprqwiate type of analysis: benefit-cost analysis Comment: In non-mixing bowl situations, alternative spatial arrangements (locations)of activities will result in different distributiolls of ambient air quality, and hence in damages avoided (benefitsachieved), and will relleot differences in costs. In this case the difference in costs will be corn 'pised ot: direct costs to dischargers, ieing lncrementai transpwtatibn osts, and monitoring and inspection costs. Only in mixing-bowi situations would cost-effectiveness analysis be relevant, i.e., where the location of discharge does not affect AAO and hence benefits.
following listing ( l ) hnot imply hnpatance; (2) Is not arranged in relation to he sequence of steps shown in Figwe 1: and (3)is not meant to be exhaustive. The objective in the listing is to be illustrative. not definitive.
For example, if a precipitator to remove only 98% of suspended particles could be installed instead of one which removes 99%. the benefits would be the expenditures that would nor have to be incurred. The implicit assumption is that the resources not expended for reducing discharge of air pollutants would in fact be used productively. These benefits accrue to a relatively small set of producers. Corresponding to the benefits indicated above, there is the estimated increase in the risk of mortality (and morbidity) from the higher ambient concentrations that would result with the lower level of particle removal. Two points should be emphasized: ( I ) the risk is dispersed among a wide population; (2) despite the fact that increased mortality (and morbidity) obviously impose substantial costs on society, no attempt is made in benefit-risk analysis to assign monetary values to the risk side, even though two identical phenomena are involved in benefit-cost analysis, i.e., estimating the probability of contracting a disease and dying as a result of it, and estimating the value of loss of life. Premises of benefit-risk analysis The first premise is that the primary locus of day-to-day air quality management is the regional or local level, e.g., metropolitan area. It is at this level that permits are issued, ambient air quality monitoring is performed, dischargers are inspected, and analyses are undertaken to generate information for sequential decisions with respect to choosing and modifying the air quality management strategy. As illustrated in Figure I , all levels of government are involved in one or more of the elements of air quality management. For example, at the federal level, decisions are made on the development of criteria documents, the selection and promulgation of ambient air quality standards, and the development of guidelines for state implementation plans, including standards for emissions such as new source performance standards. There are also times when a regional agency is superior to several local agencies but subordinate to a state (or to two or more states in cases of local interstate regions, e.g., the Philadelphia area involving Pennsylvania, Delaware, and New Jersey). The second premise is that quantitative estimates of benefits and costs are necessary and important in A Q M decisions at all levels of government because they enable comparison of: benefits and costs of alternative air quality management strategies
(including- imvlementation incentive . systems) benefits and costs of A O M Drograms by sector or media benefits and costs of A Q M programs and other social programs. Where such translation is not possible-often with respect to benefits-at least cost-effectiveness analysis can be undertaken. The third premise is that, in all decision-making contexts, relevant criteria must be established to help evaluate alternative strategies. The real resource benefits and costs of an A Q M strategy should be a major, but not the only, criterion in choosing a strategy for a region or sector. Decision makers use multiple criteria to make decisions, with the criteria and their relative weights being made more or less implicit. Examples of relevant criteria are: (a) physical, chemical, biological, and physiological effects and their distributions over time; (b) economic effects on dischargers and recipients and their distributions over time;(c) administrative considerations for the activity and A Q M agency; (d) timing considerations; (e) political considerations; (f) intermedia effects; (9) resource availability: (h) intersectoral (competitive) effects; and (i) accuracy of estimates. The criteria may be applied to each residual, activity, physical control measure, implementation incentive combination, or to each A Q M strategy as a whole. Some of the criteria relate to direct outputs of the analysis of A Q M strategies. The application of other criteria requires additional analyses. The number and complexity of required analyses will depend on the computational procedure used, that is, how many of the relevant analyses are incorporated in the computational procedure itself. Of major concern to politicians is the question of which income class, region, or sector benefits from A Q M strategies. Politicians and the staff of AQM agencies are similarly concerned about the distribution of costs: by geographic subarea within a region, economic class, and type of activity, e.g., petroleum refineries, gasoline stations, residences. A criterion often neglected in the evaluation of A Q M strategies consists of the intermedia implications of alternative strategies and physical measures. For example, electrostatic precipitators and scrubbers transform gaseous residuals into solid or liquid residuals, respectively. The costs of handling and disposing of these sec-
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FIGURE 1
Major dements of air quality management in the US.
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Environmental Science &Technology
FIGURE 2
Definition of residuals generatioresidual discharged (RD) to the air, water, or land may or may not be a pollutant Boundary of plant site 1~1~1~1~1””~1~1~1’~1-----11111111-11
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I I I -1111111111111111111111111111111111-1 I = inputs NPO = nonproduct outputs RG = residuals generation PO = product outputs MIE = materials andlor energy RD = residuals discharge
ondary residuals must be considered explicitly in the analysis because the individual activity is facing not only regulations relating to gaseous residuals, but also those relating to liquid and solid residuals. Another criterion of concern is the effect of any given AQM strategy on resource use, for example, energy. Some control measures, such as wet scrubbers, or production process modifications, such as provision of excess air to reduce NO, generation, require additional inputs of energy. Conclusions
There are many inherently controversial aspects of benefit-cost analysis, not the least of which is the assumption that all physical, chemical, physiological, and biological effects can be translated into monetary terms. Aside from controversies concerning explicit evaluation of prolonging life, there are other difficulties involved with the use of such analysis. Are the other direct or indirect benefits of the activity subject to quantification? What discount rate should be used to make future benefits equivalent to current effects? What is the effect of cumulative exposure at low levels? Are there long latency periods involved? How can the effects of
a given residual be identified in contexts where multiple residuals are operating simultaneously, with quite possibly synergistic effects? How can the costs of reducing the discharge of a single residual be identified when an activity must reduce discharges of several gaseous residuals and simultaneously reduce discharges of several liquid residuals and dispose of various solid residuals in acceptable fashion? How can benefit-cost analysis and cost-effectiveness analysis take into account the dynamics of society, e.g., changing technology, changing factor prices, changing social tastes? Although no benefit-cost or costeffectiveness analysis can take into consideration, quantitatively, all of the relevant variables in any given context, the attempted application of either methodology has a salutary effect in and of itself. If properly done, the analyst is forced to’be rigorous and organized in his analytical framework and to recognize and make explicit the various assumptions. These assumptions plus the quantitative information produced by the analysis are useful to the decision process. Finally, the application of either methodology is likely to generate pertinent, but unanswered questions which are also relevant to the decision process.
Acknowledgment
This feature article was read by Lester B. Lave of the Brookinks Institution, Washington, D.C.. before publication in ES& T. The views expressed herein represent only those of the authors and not necessarily those of the organizations with which they are (respectively) associated.
Gordon L. Brady ( I . ) is a lecturer in the Deparrment o/Economics and a graduate fellow in rhe Law School. Yale Uniuersity. Earlier, he was chic/ a/ the Economic Analysis Diuision a/ the National Commission on Air Qualify.
Blair T. Bower ( r . ) is a private consultant, a registered civil engineer in the state a/ California. and consultant-in-residence at Resources /or the Future ( R / F ) . From 1965-73 he was the associate direcror and research engineer o / R / F s Quality o/the Enuironmenr Program. He is coauthor with Allen V. Kneese a/ “Enoironmental Quality and Residuals Management.” Volume 15. Number 3,March 1981 261
