Re: [PEN-L] How is cost-benefit analysis possible?
Michael Perelman wrote: I am not sure Michael Nuwer is correct. If both of us buy a candybar for a dollar, why should we get the same marginal utility? I think that we would get the same marginal utility only from the candy bar on the margin. That is, given the market price, we both adjust our quantity of candy bars until the marginal utility of the last item equals the price. The mainstream calls this the equimarginal principle. As for cost/benefit analysis, interpersonal comparisons of utility are not necessary if the analyst equates marginal benefits with marginal costs, where benefits and costs are measured in terms of shadow prices. Then they have determined how many, say, satellites to build, and they can deduce with their theory that that quantity represents the best of all possible worlds, without measuring the total utility. In my view its a waste of time to attack the internal consistency of mainstream thinking. I think the attack should be on the usefulness (Veblen called it the serviceability) and the assumptions. To deny interpersonal comparisons is to deny something that we all do every day. And it's impossible to live in a society without making interpersonal comparisons, which everyone on this list knows quite well. We all utilize folk psychology from a vary early age, and the capacity to do so might be built into the biology of our brain. Utility is not innate nor immutable, and utility theory is not serviceable for social beings.
Re: [PEN-L] How is cost-benefit analysis possible?
If C-B is not possible, sports fans, how would your preferred from of government make a decision about whether or not to undertake a project?
Re: [PEN-L] How is cost-benefit analysis possible?
Michael Nuwer wrote: As for cost/benefit analysis, interpersonal comparisons of utility are not necessary if the analyst equates marginal benefits with marginal costs, where benefits and costs are measured in terms of shadow prices. Then they have determined how many, say, satellites to build, and they can deduce with their theory that that quantity represents the best of all possible worlds, without measuring the total utility. I would also add that the assumptions which make this practice possible are not very realistic. But again, I thought most people on this list would already know this. A demand curve shows how much of a commodity someone is willing to consume at different prices. One way to constructed this curve is as a locus of points derived from consumer equilibriums that correspond to different prices. (This is done in all of the textbooks with indifference curves deriving demand curves.) In this interpretation, there is a demand curve and a marginal utility curve which are the same, but they are not identical. That is, one curve lies exactly on top of the other curve. Therefore, in the mainstream story, we can use any information rung out of the demand curve (like market price) to infer information about the marginal utility curve (like marginal value). But this works only if the consumer is rational, i.e., is a utility maximizer. A negatively sloped demand curve can always be constructed whenever there is a constraint separating what is possible from what is not possible. So, the demand curve of non-rational consumers will slope downward, but this curve can no longer be interpreted as a locus of points representing consumer equilibriums. The demand curve is no longer the same as the marginal value curve and thus the demand curve no longer represents the consumer's willingness to pay for a commodity.
Re: [PEN-L] How is cost-benefit analysis possible?
Max Sawicky wrote: If C-B is not possible, sports fans, how would your preferred from of government make a decision about whether or not to undertake a project? it should be noted that there are at least two different kinds of C/B analysis. There's the standard approach, where the authors usually assume that market prices correspond to social costs and benefits and that future benefits and costs should be discounted using interest rates reflecting the short-term mentality of financial markets. there's also the general form of C/B, where all of the likely costs and benefits are cataloged and then explicitly added up using subjective weights (instead of sneaking in the assumption that the market is the measure of all things). A special version of this would use weights which are shadow prices based on democratically agreed-upon priorities. -- Jim Devine / Segui il tuo corso, e lascia dir le genti. (Go your own way and let people talk.) -- Karl, paraphrasing Dante.
Re: [PEN-L] How is cost-benefit analysis possible?
From what I could see the discussion was mostly on the inapplicability of C/B in principle, not just in practice. Yesterday I read the Dept of Transp primer (for public officials) on C/B, and it acknowledges the propriety of externalities in the computation. Interestingly, the Office of Mgmt and Budget prescribes a real discount rate of 7%, which seems way high, but in at least some cases rates of 2.5 or 3 are permitted. Now I'm wondering how the masses with the encouragement of JD would derive shadow prices. From: Jim Devine [EMAIL PROTECTED] Date: 2007/11/15 Thu AM 10:08:31 CST To: PEN-L@SUS.CSUCHICO.EDU Subject: Re: How is cost-benefit analysis possible? Max Sawicky wrote: If C-B is not possible, sports fans, how would your preferred from of government make a decision about whether or not to undertake a project? it should be noted that there are at least two different kinds of C/B analysis. There's the standard approach, where the authors usually assume that market prices correspond to social costs and benefits and that future benefits and costs should be discounted using interest rates reflecting the short-term mentality of financial markets. there's also the general form of C/B, where all of the likely costs and benefits are cataloged and then explicitly added up using subjective weights (instead of sneaking in the assumption that the market is the measure of all things). A special version of this would use weights which are shadow prices based on democratically agreed-upon priorities. -- Jim Devine / Segui il tuo corso, e lascia dir le genti. (Go your own way and let people talk.) -- Karl, paraphrasing Dante.
Re: [PEN-L] How is cost-benefit analysis possible?
Of course cost benefit analysis can be done and is all the time. My problem was to try and understand how prices can be used without assuming that utility can be measured in interpersonal units. It is a conceptual problem. Certainly it would not be a good idea to use cost-benefit analysis in deciding where to dump radioactive waste, or dump other pollutants, or in many other areas such as health care. Actual cost-benefit analysis is often a technique that advances class interests masquerading as some sort of objective technical analysis I think politicians measure in terms of votes lost or gained and favors owed among other factors and then decide upon the project that will best advance their interests. Then they pay a person to do cost benefit analysis to support what theyhad already concluded.This must be made clear to the analyst or they could use the wrong prices and discount incorrectly creating embarassment for the politician and lack of further work for the analyst. Cheers, Ken Hanly --- Max Sawicky [EMAIL PROTECTED] wrote: If C-B is not possible, sports fans, how would your preferred from of government make a decision about whether or not to undertake a project? Blog: http://kenthink7.blogspot.com/index.html Blog: http://kencan7.blogspot.com/index.html
Re: [PEN-L] How is cost-benefit analysis possible?
Ken Hanley wrote: I know there are problems about measuring cost and benefits biases in measurement etc. but my problem is conceptual. As I understand it modern economics does not assume that interpersonal comparisons of utility are possible just ordinal rankings of individual preferences. If this is so how does one make the transition to measurement of cost and benefits in monetary terms that is the typical mode of analysis in applied cost benefit analysis? Doesn't the measurement in monetary units assume there is some interpersonal utility that is measurable in these units? Ken, the founding work on Cost was written by John Maurice Clark in 1923: Studies in the Economics of Overhead Costs. Later in his life, Clark summarized: Cost of some sort is supposed to set a minimum below which sales will not be made. _But cost is not a precise, unambiguous objective fact; it is rather a convention allowing considerable latitude_. The accountants figure out costs -- after the fact. Cost-Benefit analysis rests on a number of shaky assumptions; never fully revealed to the reader. Larry Shute Economics Department Calif. State Polytechnic University, Pomona
Re: [PEN-L] How is cost-benefit analysis possible?
But my understanding is that utility cannot be measured except in any but ordinal terms that is by ranking preferences. If marginal utility can be represented by dollars then doesn't that imply that there can be interpersonal comparisons of utility? --- Jim Devine [EMAIL PROTECTED] wrote: On Nov 13, 2007 12:49 PM, ken hanly [EMAIL PROTECTED] wrote: If this is so how does one make the transition to measurement of cost and benefits in monetary terms that is the typical mode of analysis in applied cost benefit analysis? Doesn't the measurement in monetary units assume there is some interpersonal utility that is measurable in these units? Isn't it assumed that the market price of any item approximates its marginal utility? -- Jim Devine / Segui il tuo corso, e lascia dir le genti. (Go your own way and let people talk.) -- Karl, paraphrasing Dante. Blog: http://kenthink7.blogspot.com/index.html Blog: http://kencan7.blogspot.com/index.html
Re: [PEN-L] How is cost-benefit analysis possible?
You are correct. What Cost Benefit people do is to look at willingness to pay implicitly assume that $1 = $1 util. On Wed, Nov 14, 2007 at 06:00:23PM -0800, ken hanly wrote: But my understanding is that utility cannot be measured except in any but ordinal terms that is by ranking preferences. If marginal utility can be represented by dollars then doesn't that imply that there can be interpersonal comparisons of utility? --- Jim Devine [EMAIL PROTECTED] wrote: On Nov 13, 2007 12:49 PM, ken hanly [EMAIL PROTECTED] wrote: If this is so how does one make the transition to measurement of cost and benefits in monetary terms that is the typical mode of analysis in applied cost benefit analysis? Doesn't the measurement in monetary units assume there is some interpersonal utility that is measurable in these units? Isn't it assumed that the market price of any item approximates its marginal utility? -- Jim Devine / Segui il tuo corso, e lascia dir le genti. (Go your own way and let people talk.) -- Karl, paraphrasing Dante. Blog: http://kenthink7.blogspot.com/index.html Blog: http://kencan7.blogspot.com/index.html -- Michael Perelman Economics Department California State University Chico, CA 95929 Tel. 530-898-5321 E-Mail michael at ecst.csuchico.edu michaelperelman.wordpress.com
Re: [PEN-L] How is cost-benefit analysis possible?
ken hanly wrote: But my understanding is that utility cannot be measured except in any but ordinal terms that is by ranking preferences. If marginal utility can be represented by dollars then doesn't that imply that there can be interpersonal comparisons of utility? What can be compared, in the mainstream view, is the relative marginal utilities, but not the utility. We both may pay $3.00 per gallon for gasoline (the marginal value) and I might buy twice as much as you, but that doesn't tell us anything about how much utility you get nor how much utility I get from the purchase. BTW: Sen claims that interpersonal comparisons of various types can be fully axiomatized and exactly incorporated in social choice procedures And, although we may not be able to put everyone's utilities in an exact one-to-one correspondence with each other..., [i]t can be shown that there may be no general need for terribly refined interpersonal comparisons for arriving at definite social decisions Interpersonal comparisons need not be confined to 'all-or-none' dichotomies.
Re: [PEN-L] How is cost-benefit analysis possible?
I am not sure Michael Nuwer is correct. If both of us buy a candybar for a dollar, why should we get the same marginal utility? On Wed, Nov 14, 2007 at 11:34:27PM -0500, Michael Nuwer wrote: ken hanly wrote: But my understanding is that utility cannot be measured except in any but ordinal terms that is by ranking preferences. If marginal utility can be represented by dollars then doesn't that imply that there can be interpersonal comparisons of utility? What can be compared, in the mainstream view, is the relative marginal utilities, but not the utility. We both may pay $3.00 per gallon for gasoline (the marginal value) and I might buy twice as much as you, but that doesn't tell us anything about how much utility you get nor how much utility I get from the purchase. BTW: Sen claims that interpersonal comparisons of various types can be fully axiomatized and exactly incorporated in social choice procedures And, although we may not be able to put everyone's utilities in an exact one-to-one correspondence with each other..., [i]t can be shown that there may be no general need for terribly refined interpersonal comparisons for arriving at definite social decisions Interpersonal comparisons need not be confined to 'all-or-none' dichotomies. -- Michael Perelman Economics Department California State University Chico, CA 95929 Tel. 530-898-5321 E-Mail michael at ecst.csuchico.edu michaelperelman.wordpress.com
Re: [PEN-L] How is cost-benefit analysis possible?
On Nov 13, 2007 12:49 PM, ken hanly [EMAIL PROTECTED] wrote: If this is so how does one make the transition to measurement of cost and benefits in monetary terms that is the typical mode of analysis in applied cost benefit analysis? Doesn't the measurement in monetary units assume there is some interpersonal utility that is measurable in these units? Isn't it assumed that the market price of any item approximates its marginal utility? -- Jim Devine / Segui il tuo corso, e lascia dir le genti. (Go your own way and let people talk.) -- Karl, paraphrasing Dante.
Re: [PEN-L] How is cost-benefit analysis possible?
Ken, you might enjoy Ackerman, Frank and Lisa Heinzerling. 2004. Priceless: On Knowing the Price of Everything and the Value of Nothing (NY: New Press). They do not discuss your issue, though. -- Michael Perelman Economics Department California State University Chico, CA 95929 Tel. 530-898-5321 E-Mail michael at ecst.csuchico.edu michaelperelman.wordpress.com
