Cost-Benefit Analysis

Cost-benefit analysis and cost-effectiveness analysis represent the principal tools for evaluating alternatives when economic constraints and limited resources are considered. Both tools embrace the usual methods of evaluating outcomes, but they also consider results in the light of the resource investments required to obtain them. In this way it is possible to identify and choose those intervention policies that will maximize desired results for any resource constraint.

Cost-benefit and cost-effectiveness analyses differ in a fundamental way. Cost-effectiveness analysis focuses on the costs for outcomes restricted to the measurable goals of an intervention, such as mortality rates, reading scores, and criminal recidivism. In [Page 87]contrast, cost-benefit analysis evaluates alternatives in terms of the monetary value of their goals or benefits in comparison to their costs. That is, cost-benefit analysis represents an attempt to establish the cost of alternatives in monetary units such as dollars and the value of the benefits in such units so that costs and benefits for each alternative and among alternatives can be compared directly.

Cost-benefit analysis provides answers to two questions that link evaluation to policy consideration. First, is the intervention “worth it” in the sense that its benefits will exceed its costs? Second, among those alternatives that meet the first criterion, which have the greatest benefits relative to costs? In answering the first question, one would wish to limit policy considerations to only interventions that yield at least a dollar of benefit for each dollar of cost. However, many potential options may meet that minimal standard. Accordingly, overall benefits are maximized when resources are devoted to those alternatives that yield the greatest benefits relative to costs. Some options in education and health, for example, show benefits of $6 or more for each dollar of resource investment. It is these high-yield alternatives that should have priority in the use of scarce resources.

Cost-effectiveness analysis is limited to evaluating the efficiency of resource use among alternatives with similar goals and measures of outcome, but cost-benefit analysis has no such limitation. From a societal perspective, it is possible to compare cost-benefit results for potential projects both within and among different service domains. Thus, one can evaluate the cost-benefit performance of alternatives among areas as diverse as public transportation, health, education, economic development, and recreation, as well as of interventions within each area. In contract, cost-effectiveness evaluations can provide only comparability among alternatives for interventions with precisely the same goals and measures of effectiveness.

Cost-benefit analysis has a major limitation, in that it can be used only to evaluate those interventions with outcomes that can be measured directly in or converted to benefits in monetary units. This means that interventions must have results that can be assessed according to market valuations. For example, many education and training projects can be placed in a cost-benefit framework because their outcomes can be assessed in terms of increased productivity and income. Health interventions resulting in societal savings for health care or greater productivity or fewer days absent from work can also be measured in monetary terms. Benefits of reduced criminal recidivism can be assessed by considering the savings in resources that would otherwise be devoted to criminal justice. Improved transportation systems such as airports, highways, port facilities, and public transit can be evaluated according to the value of improved efficiency in moving people and goods to desired destinations. Water resource projects such as hydroelectric plants can be evaluated according to the value of electricity, potable water, recreation, and flood control that they produce. All of these have market outcomes that enable monetary estimates of their benefits to be calculated and used for comparison with the costs of the interventions and cost-benefit calculations among the various options.

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