Page 26 - Banking Finance December 2017

ARTICLE

project evaluation are used for the same 1) the benefit-cost be mutually exclusive on technical grounds. Legal problems
criterion, 2) the rate of return criterion, 3) the maximiza- may be there. Administrative, distributory and budgetary
tion of benefit over cost criterion. constraints may also be there.

The b/c criterion is usually preferred to other criterion for The core of social cost benefit analysis is the calculation or
several reasons : 1) it seeks to evaluate all projects large estimation of the prices to be used in determining the true
or small on an equal basis 2)It enables the planner to take value of benefits & the real magnitude of costs. The need is
a long and wide view of the projects 3)It yields a ranking of there for governments to choose appropriate discount rate
projects scientifically and satisfactorily. in calculating the worth of project benefits & costs that occur
over time. Social rate of discount [social time preference] is
The b/c criterion is also superior to the rates of return cri- essentially a price of time -the rate the planners use to cal-
terion since the former yields a scientific ranking of projects culate the NPV [Net Present Value] of a time stream of
which usually differs from the ranking determined by the project benefits & costs
latter.
The higher the future benefits & costs are valued in the
The other criterion -rate of return criterion takes into ac- government's planning scheme, the lower will be the social
count the rates of return from different projects on the ba- rate of discount
sis of which it is decided which project is to be assigned top
The tools of social cost benefit analysis for project appraisal
priority and which next.
are now considered essential to an efficient process of
project selection in developing countries.
The two criterions are not same. The b/c ratios yield a dif-
ferent ranking of the projects than rates of return
Normally, economists advocate for using the NPV rule in
choosing investment projects that is project should be ac-
The two criterions will yield the same ranking of the projects
if either of the two conditions be fulfilled: 1) current cost cepted or rejected according to whether their NPV is posi-
tive or negative. NPV calculations are very sensitive to the
must be nil, so that o/k=0 [o stands for annual operation & choice of a social discount rate An alternative approach is
maintenance cost and k for fixed investment] & 2) b/c ratio
to calculate the discount rate that gives the project an NPV
must be equal. In practice neither of this happens & thus
of zero, compare this IRR with either a predetermined so-
the ranking according to one criterion will differ from that cial discount rate or the market rate of interest, & choose
according to the other.
the project whose internal rate s exceed the predetermined
or market rate . This approach is widely used in evaluating
Benefits [b] of a project are of two types primary [direct
educational investments.
benefits which are derived immediately after the project is
taken up] & secondary [indirect benefits-incidental or
complementary to the original primary benefits] ---tangible
& intangibles.

Costs [c] refer to primary costs incurred for the operation
and maintenance of the project-project cost proper &asso-
ciated [additional cost which is to be incurred over and
above the project cost proper for making the output of the
project available] costs .

Another major problem of evaluation is that of choosing
appropriate discount rate.

Then it is external &internal constraints .two projects may

26 | 2017 | DECEMBER | BANKING FINANCE

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