Chapter 6: Economic

Analysis
1. Rationality and objectives
2. Methodology
3. Least cost option
4. Financial cost (Investment and O&M costs)
5. Conversion financial cost into economic
costs
6. Identification of financial benefits with and
without project and their conversion
7. Calculation economic parameters
8. Conducting sensitivity analysis
9. Multi-criteria analysis
 Methodology
Evaluation of a project from the view point of the
economy as whole This is required due to the fact
that financial costs and benefits differ from those
of economic. It is due to:
Market imperfections
Externalities
Taxes and subsidies
Concern for redistribution
Merit goods-emphasis of the society on certain
goods bringing welbeing to the society, say adult
education or balanced nutritional status, etc.
 Least cost options
A number of options are identified for

the same volume of capacity or

services to be rendered.
Calculation of total costs including the
O&M for all options.
Calculation of per unit costs
Comparison of options
Selection of least cost variant
 Conversion of financial
costs into economic costs
Major component of costs:
Equipment: imported or local
Services: skilled and unskilled.
For imported items: Border price including CIF and
in-country transportation and contractors margin
plus shadow exchange rate,
For skilled and unskilled labor standard conversion
factor is used. SCF for skilled labor is high generally
1 and SCF for unskilled labor is lower than 1.
O& M costs also are converted using the same
methodology.
 Economic benefits
This is the most important part in any
economic analysis. For different
projects/programs benefits are different.
In an agricultural project benefits are
incremental production with project. In a
godown project it is the reduction in loss
of production in traditional storing
methods. In piped water supply it is the
reduction of medication and loss of
working days due to water borne
diseases before the project.
 Contd.

Goods produced may be tradable and

non-tradable.
All taxes are deducted and subsidies
are added,
For tradable goods, border price
including CIF price, local transportation
and contractors margin, is used. World
Banks commodity price list (pink
sheet) is used;
Shadow exchange rate and standard
conversion factor are also used here
 Calculation of Econ
Parameters
Discounting rate at 12% is used
Investment as well as O&M costs are used
Benefits are calculated in econ. value using
previously mentioned SCFs, SERF, etc.
EIRR, BCR and NPV are calculated
Sensitivity analysis is conducted using 3
assumptions:
10% cost increase
10% reduction in benefits and both 1 and 2
Multi-criteria analysis of qualitative factors
is done.