Thursday, May 16, 2013

Problems with cost-benefit analysis

As previously pointed out in this blog, experts and policy makers have their own biases. French scholars Yolande Hiriart and David Martimort explore these biases (in the field of risk regulation) in a forthcoming article in Annales d’Economie et Statistique. The study of these biases is a crucial ingredient of the current debate about the limits of technocracy. The article also includes interesting thoughts about the limits of cost-benefit analysis as it is usually performed. This type of analysis does not take information rents into account, that is, the rents that are necessary to induce the revelation of private information by firms involved in public projects, for example in the context of public-private partnerships. The presence of these rents requires the introduction of distributive criteria, which contradicts the exclusive use of efficiency criteria and the isolated analysis of projects. The isolated analysis of efficiency also tends to ignore issues related to dynamic learning in the public sector and in democratic societies, which may be more important than the strict optimality of a given project, according to the theses of “pragmatism” espoused by the American philosopher John Dewey. This criticism seems to go beyond the criticism raised by environmental groups against cost-benefit analysis for not giving enough weight to catastrophic states of the world even when these have low probability, but in my view it also suggests that cost-benefit analysis should be expanded to take into account all these considerations, rather than be abandoned.

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