A sad story of cost-benefit analysis April 5, 2009Posted by Sverre in : Public Policy , trackback
In public policy, it’s very popular to do a cost-benefit analysis as background for an investment decision. And I’ve got the impression that more often than not, some important cost gets lef out of the equation. Either accidentially or by design to make it easier to get the project passed. This is the true, sad story of such an analysis.
Today was Saturday. I was going to be a good student and go to campus anyway, but my bus pass had run out. But the snow has mostly melted by now, and we haven’t had frost for a while, so I decided today was a good day to take out my bike from the shed. So I did and went to campus. I got caught up in my thesis work and thus didn’t have time to bring my bike home before I was due at the theatre with my sister and her friend. So I rode it into town. And that’s where we leave the bike out of the story for a while.
The show was a brilliant piece of hilariously funny amateur theatre and we came out in a good mood. We went for dinner and a few beers and decided to drop by a party a friend of mine was throwing. It was generally a good night. After a while we headed towards our separate homes – me going past the Student Society building. It was pretty late, and I wondered whether or not to drop by.
That’s where the cost-benefit analysis enters the story. I was considering the potential costs, and decided they were that I got to bed a couple of hours later than planned, which would probably lead to me getting up a bit later in the morning and missing out on time for doing some more work. The potential benefits might be zero if there were no people around, but if I ran into some good friends I might have a good time, potentially raising my motivation for doing more work over the following days because of my good mood. If I was really lucky, the investment in maintaining my network might even pay off even more at some date in the future.
The result of the cost-benefit analysis was that that the product of the likelihood of reaping the benefit and the potential gain far outweighed the relatively minor cost. Because I am a good student of political science it would be a bad idea not to act on such a clear result, so I spent a couple of hours at the student society.
And the benefit side really paid out. I met a few good friends, one of whom was even coming from a magician gig, so he kept entertaining us with card tricks. By the time my jaw was threatening with unhinging on account of my yawning, I had good fun – it felt like the perfect end to a good evening. And the story might have ended happily there.
But then there was my bike. This was a potential cost I forgot to include in my model. The variable that was missing from my analysis was the difference in the likelihood of bike theft in the area outside the Student Society as compared to outside the house in my quiet neighbourhood. As it happened, the inclusion of a new element in the cost side of my model, which should have been the product of the difference of those two likelihoods and the value of my bike could have altered the projected cost of the project significantly. And in hindsight it turned out that this was in fact the night on which this would prove decisive to the net total benefit of the project. In short: I came out to find my bike stolen, which would most likely not have happened outside my house.
As a result – I did not go home with my spirits greatly lifted, filled with motivation for continuing my work. Not only had I lost much of the motivation accrued earlier in the night, I had even incurred a large future economic cost in having to buy myself a new bike.
The moral of the story: When going home from a night of the town, a cost-benefit analysis might have much the same effects as in large public projects. Even though potential benefits max out, you can bet there’s some big cost you’ve forgotten to include. And when that happens, Murphy’s law will make sure it’s just the night when probabilities turn against you.