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Benefit-Cost Analysis

Benefit-cost analysis (BCA) (also known as cost-benefit analysis) is a widely used, well-documented tool for assessing the net economic effects of policies. BCA provides a systematic process for calculating, monetizing, and comparing the economic benefits and costs of a particular action, process, regulation, or project by putting benefits and costs in a common metric. The results of a BCA can be used in two key ways: to provide insight into whether a project or policy provides a net economic benefit or cost to a company or society; and, to compare the outcomes of different project or policy alternatives.

BCA is based on economic theory and techniques. Specifically, BCA draws on peer-reviewed economic literature both to identify and define categories of benefits and costs and to help estimate benefits and costs that are not directly bought and sold in markets. BCA has been an important component of regulatory analysis at the EPA for over three decades. Documentation of the EPA’s use of BCA to assess the economic impact of federal policies and programs is extensive. EPA’s 2010 Guidelines for Preparing Economic Analyses provides detailed guidance on the proper use of BCA (and other forms of economic analyses) to assess regulations and policies.[29]

How can Benefit-Cost Analysis contribute to sustainability?

Benefit-cost analysis can inform an assessment of sustainability in two key ways. In a general sense, applying a rigorous analytic BCA framework can help ensure that a sustainability assessment clearly describes and accounts for different economic, social, and environmental impacts in a way that addresses analytic concerns such as double counting and the treatment of varying time frames. The BCA framework can also help identify areas where other types of analysis may be complementary.

Benefit-Cost Analysis

BCA also provides an approach for measuring and valuing some environmental and social impacts that are not market goods. A key aspect of BCA is correctly measuring and valuing environmental and social goods such as effects on human health and environmental integrity (e.g., the value of visibly clean air). In some cases, BCA can provide quantified, monetized benefits for these non-market goods. In other cases, BCA can describe or quantify effects that are not able to be monetized.

In the economy, many impacts central to sustainability (e.g., reduction in toxic chemicals) function as externalities because the market does not have a direct mechanism for paying for the goods (e.g., paying the public for releasing a chemical). In these cases, BCA methods for estimating non-market values can provide insights, either through revealed preference or stated-preference data from consumers.[30-37]

Revealed preference methods use data on human behavior (e.g., money spent visiting parks or the premium on home values near parks) to infer values for natural resources and associated services. In contrast, stated-preference methods use sophisticated survey designs and modeling methods to ask individuals to explicitly state their value for a resource or service.[38] Both revealed preference and stated preference methodologies depend on the population and markets surveyed, and typically focus on national averages or responses. In some cases, however, more local-scale or more international-scale evaluations may be appropriate for assessing sustainability.

The challenge of conducting a BCA that correctly accounts for the full economic, social, and environmental benefits and costs of projects, programs, or policies has spurred development of methodologies and valuation tools that may be used in conjunction with BCAs to incorporate specific sustainability-related factors. Ecosystem service valuation is one tool that provides a measure of additional non-market, environmental inputs. Other methods under development include full cost accounting, true cost accounting, life-cycle costing, total cost assessment, and green accounting. Together, these methods may help BCA better account for all transactional costs and benefits (e.g., resource depletion) that result from economic production or policy implementation, as well as identify the hidden costs of specific alternatives (e.g., maintenance and fuel costs associated with specific processes).

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What are the main steps in a Benefit-Cost Analysis?

A BCA usually involves the following steps:

  • Step 1—develop a scenario that establishes and describes the system scope, baseline scenario, and analysis boundaries. This should include a comprehensive description of all potential benefits and cost categories;
  • Step 2—calculate the total impacts for each benefit and cost category (including the magnitude, timing, and distribution of benefits and costs). This step may include qualitative or quantitative description of difficult-to-value impacts such as reductions in some adverse health effects, long-term ecosystem service impacts, or social and environmental impacts;
  • Step 3—compare total costs and benefits to estimate net costs or benefits to society as a whole. This step should include a discussion of the potential magnitude of effects that cannot be valued;
  • Step 4—identify the distributional impacts (i.e., who pays the costs and who receives the benefits) of the policy or program on different stakeholders. This step may contribute key information to an evaluation of the social impacts of a program or policy; and,
  • Step 5—evaluate cost-effectiveness, if the BCA is focused on a single indicator of environmental quality or ecological sustainability.

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What are the strengths and limits of Benefit-Cost Analysis in a sustainability context?

BCA is a well-documented and widely used tool that systematically quantifies the changes in economic, social, and environmental systems due to a new policy, regulation, decision, or other market change. However, BCA has several important limitations that are relevant in a sustainability context. For example:

  • Benefit inputs to BCA typically rely on biophysical models to forecast the impact of a change in policy on the final ecosystem good or service (e.g., water-based recreation). A challenge to monetizing such ecosystem benefits lies in the difficulty in estimating and valuing the final ecosystem goods and services. While a consumer’s willingness to pay is a widely accepted measure of environmental benefit, this value depends on the specific context (i.e., different locations have different values) and can be challenging to estimate. When appropriate data are available, ecosystem service valuation can provide an alternative environmental input to BCA.
  • Often, environmental and social impacts have quantified effects that cannot necessarily be monetized. For example, reduced visual acuity has no direct monetized value. However, if visual acuity can be directly associated with increased age-related eyesight degradation, then this associated effect may be amenable to partial monetization or stated preferences.
  • BCA is designed to examine both average and incremental changes in existing markets. However, it may be difficult to use many of the accepted monetized values for resources if the analysis is examining extreme changes in markets or society that might result from a policy with significant impact on technology or resource scarcity (e.g., extreme degradation of resources).
  • BCA uses discounting to address timing differences between various impacts (e.g., health benefits that occur long after a waste management system is employed). A significant challenge for use of BCA to examine sustainability is selecting an appropriate discount rate for measuring inter-generational impacts, because discounting reduces the value of future events. Discounting has two distinct components. The first is selecting a discount rate to accumulate future flows of costs or benefits to the present (or the future) so that comparisons can be made. The second is accounting for the fact that future changes in the values and scarcity of resources could cause a significant change in prices. Predicting how market values may change is a major challenge in conducting BCA analyses that seek to address long-term policy impacts in the future with technological and cultural change but may be facilitated with tools such as Futures Methods.

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How is Benefit-Cost Analysis used to support EPA Decision-making?

Since the 1970s, BCAs have informed the evaluation of many federal Agency programs, laws, and regulations. The emphasis on BCA in environmental regulation increased with Executive Order 12291, Executive Order 12866 (PDF) (10 pp, 35K), and Executive Order 13563 (PDF) (3 pp, 152K).[39-41] In 2003, the White House Office of Management and Budget published Circular A-4 to further assist regulatory agencies; it defined good regulatory analysis and standardized the way benefits and costs of federal regulatory actions are measured and reported.[42]

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Where to Find More Information about Benefit-Cost-Analysis

  • A prime example of the use of BCA is EPA’s retrospective and prospective assessments of the policies associated with the Clean Air Act. To address persistent questions about whether the health and environmental benefits of air pollution control justified the costs, in the 1990s EPA conducted a comprehensive, peer-reviewed retrospective BCA study that examined the Clean Air Act impacts from 1970 to 1990. The study concluded that the monetized benefits of the policy far exceeded the costs. Subsequently, two prospective analyses assessed the incremental and expected costs and benefits of the Clean Air Act.[43-45]
  • Executive Order 12866 (PDF) (10 pp, 37K), Regulatory Planning and Review. Federal Register Vol. 58, No. 190. Washington DC. Monday, October 4, 1993.
  • US EPA 2010. Guidelines for Preparing Economic Analyses, National Center for Environmental Economics, Office of Policy, US Environmental Protection Agency. Washington DC. December 2010. EPA 240-R-10-001.

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Illustrative Approaches Applying Benefit Cost Analysis

  • Quantifying Economic and Environmental Benefits of Green Planning in Connecticut

    Source: EPA Office of Sustainable Communities[170]
    Suite of sustainability tools: benefit-cost analysis; environmental footprint analysis; green engineering; collaborative problem-solving
    As more communities pursue sustainable planning and development, determining which approaches offer cost-effective economic, social, and environmental benefits may be part of the process for each community. In weighing options, predicting the value of various plans and approaches informs decision decision-making. However, many communities lack the resources to perform such analyses. The EPA Smart Growth Implementation Assistance (SGIA) Program provides contractor services to communities to facilitate sustainable planning and development. Communities awarded SGIA assistance then partner with teams of multi-disciplinary, national experts to assess the existing community, analyze options, and create plans for sustainable development. Connecticut's Capitol Region Council of Governments (CRCOG) received expert technical support from SGIA and also partnered with town municipalities, the Partnership for Strong Communities, University of Hartford, and American Farmland Trust. Together they developed the Smart Growth Guidelines for Sustainable Development and Design (PDF) (55 pp, 29MB) to support community siting, planning, and developing housing strategies that incorporate smart growth approaches and green building techniques.

    The town of Manchester, one community assessed as part of the CRCOG project, developed plans to integrate green infrastructure approaches into the redevelopment of a vacant and blighted 250,000 square foot community shopping center known locally as the Parkade. In partnership with EPA’s Region 1, the town quantified economic and environmental benefits of incorporating green roofs, stormwater retention systems, street trees, constructed wetlands, and parks into a mixed-use, mixed-income housing development slated for the site.

    Quantitative BCA results are provided in the report, “From Grey to Green: Sustainable Practices for Redeveloping a Vacant Shopping Center (PDF)(30 pp, 24MB). It showed, for example, that if 75% of the roofs at Parkade were vegetated, they would absorb over three million gallons of rainwater, reducing the load on existing stormwater runoff sewer systems. Installing solar panels on 14% of commercial buildings at the site would offset all of those buildings’ energy costs. Property values could be 20% higher when located along parks.[248] The results of these and similar analyses help inform decision-making to determine how best to improve residents' quality of life while sustainably protecting nearby waterways.

  • Sustainable Energy Diminution Projects in Alaska: Energy Audits

    Sources: EPA Region 10 and Indian Health Services, Office of Environment Health and Engineering [169]
    Suite of sustainability tools: benefit-cost analysis; environmental footprint analysis; collaborative problem-solving
    In Alaska, geography makes sustainability a necessity. Residents require significant energy for transportation and heating, particularly in regions that experience minus 50°F for weeks at a time. Heating oil is costly to purchase and transport, and additional energy is required for many day-to-day activities, including keeping pipes warm to prevent freezing and maintain drinking water supplies.

  • These challenges have sparked significant efforts to reduce energy use. Energy reduction projects in Alaska and the region must be sustainable in that they must improve economic, social, and environmental systems, and also provide a long-term energy supply. Solutions must function in harsh, hard-to-reach places where people often rely upon meager resources. Furthermore, the energy infrastructure must be maintained and repaired using as much local material and manpower as possible.

  • Multiple partnerships play a role in implementing effective and cost-efficient changes. The Alaska Native Tribal Health Consortium, Indian Health Service, Alaska Energy Office, and the EPA are partnering on several sustainability projects that will lead to state-wide energy use reductions. Current projects are focused in three areas:

        • Sanitation (e.g., water supply, sewage treatment, energy related to water operations)
        • Health care facilities (e.g., design and construction planning)
        • Community-level facilities (e.g., energy usage in homes)

    Alaskan sustainability projects encompass many details in multiple areas of expertise, but the majority of the projects involve energy audits to support benefit-cost and cost-effectiveness analyses. In sanitation, energy audits examine the efficiency of existing pumps and boilers, heat loss from water tanks, and heat recovery from power plants to identify options for upgrades. Energy audits are also integrated into construction planning, particularly for hospitals and health care facilities, with a focus on LEED (Leadership in Energy and Environmental Design) certification for new buildings. For existing buildings engineers are redesigning insulation systems, and homes use live-feed energy usage meters to provide residents with real time information on energy use and savings.

    Sustainable social and environmental systems hinge on adequate supplies of energy to maintain a healthy quality of life. The high costs of energy sources and limited financial resources provide an example of a situation where sustainability efforts are directly motivated by economics, and BCA and cost-effectiveness analysis can provide useful analytic platforms.

  • Enhancing Supply Chain Performance with Environmental Cost Information: Examples from Commonwealth Edison, Andersen Corporation, and Ashland Chemical

    Source: EPA Office of Chemical Safety and Pollution Prevention [252]

    Suite of sustainability tools: green accounting; life-cycle analysis; benefit-cost analysis

    Corporate decision-makers typically do not have costs and benefits available relating to their corporate environmental, health, and safety (EH&S) performance. Such costs may include not only those costs historically associated with EH&S, but also costs associated with material usage, labor, and capital resources. Heightened recognition of these costs through environmental managerial green accounting approaches often reveals cost-effective opportunities to prevent pollution and eliminate wastes, and encourages business decisions that are both financially superior and beneficial to the environment.

    Supply chain management is a particularly promising area for the application of green accounting techniques. Many firms already pursue strategies that emphasize eco-efficiency, i.e., improving material utilization per unit of production. By expanding those efforts to include purchasing, inventory management, materials handling, disposition and logistics, companies can further improve environmental and cost performance. Environmental managerial green accounting methods enable them to identify and quantify the most viable opportunities.

    This collection of case studies (PDF) (55 pp, 252K) from EPA’s Office of Chemical Safety and Pollution Prevention illustrate how supply chain management practices can be improved by determining the financial impact of business activities that have a bearing on a company’s environmental performance. Moreover, this report shows how environmental managerial green accounting approaches can be integrated into ongoing business processes. The report includes case studies of multi-disciplinary processes at three companies: Commonwealth Edison, Andersen Corporation, and Ashland Chemical Company. While the approaches vary among these companies, each one provides valuable lessons for other companies.

    Commonwealth Edison
    The experience of Commonwealth Edison (ComEd), a large Chicago-based electric utility company with annual revenues of approximately $7 billion, demonstrates that electric utilities and other companies can successfully and substantially reduce their costs and environmental burdens with innovative accounting practices. In 1993, ComEd began to recognize that the total cost of managing materials and equipment was much more than the initial acquisition cost. In particular, company managers realized that the costs related to environmental management were often overlooked. This acknowledgment led to ComEd’s first phase of life-cycle management activities, which enabled them to minimize the chemical inventories at generating stations. These reductions and other early successes prompted ComEd to launch a formal Life-cycle Management (LCM) initiative in 1995. Since then a small, dedicated LCM staff has formed effective partnerships with ComEd operating divisions to systematically assess life-cycle costs and benefits.

    ComEd’s LCM initiative has reduced waste volume while providing over $50 million in financial benefits. While these gains include improvements in supply chain management, facility management, and other business processes, this case study focuses on the supply chain activities.

    Andersen Corporation
    The activities of Andersen Corporation illustrate how a company can improve its financial and environmental performance by using environmental managerial green accounting information in supply chain management decisions. As the largest manufacturer of wood windows and patio doors in North America with annual revenues of approximately $1 billion, this company achieved substantial financial and environmental benefits when it began incorporating environmental considerations into its purchasing, materials handling, inventory, and disposition decisions.

    In the late 1980s, executives at Andersen released a directive to their staff to reduce emission levels of toxic chemicals. In response to the directive, Andersen managers formed a Corporate Pollution Prevention Team whose mission was to eliminate the use, release, and transfer of hazardous chemicals. This multi-disciplinary team conducted a waste accounting project, developed waste reduction goals, and justified waste reduction projects by developing several business cases that quantified environmental and other cost savings. For example, the team justified the purchase of an improved system for mixing paints at point-of-use based on the savings from improved material usage rates and reduced waste.

    Based on their initial success, company managers recognized that a more systematic implementation of environmental accounting techniques would improve their ability to make strong business cases for a wide range of projects. Accordingly, they developed procedures for environmental cost assessments for a number of supply chain management activities. The process leads to more comprehensive and lucid business cases, including detailed Internal Rate of Return schedules that incorporate savings from increased material efficiency and reduced waste streams.

    Ashland Chemical
    While a number of companies have adopted environmental accounting practices, relatively few have fully integrated these activities into their established cost accounting methods. The Electronic Chemicals Division of Ashland Specialty Chemical Company achieved this integration during a manufacturing cost analysis in 1999. The corporate auditing team and an external consultant led a process of identifying and quantifying a number of cost reduction opportunities. Several of these opportunities supported the company’s overall goal of using materials more efficiently and minimizing waste.

    This case study describes how the company integrated its Manufacturing Cost Analysis and EH&S Cost Study and provides specific tools that can help companies realize similar objectives. These tools include a detailed list of environmental activities, a representative list of interviewees, and a time allocation worksheet for capturing hidden EH&S costs. The integration effort uncovered at least one sizeable cost reduction opportunity and has led the company to make EH&S cost considerations an established part of its broader cost audits.

  • Green Report: District of Columbia

    Source: ECOS Green Report: Case Studies on State Efforts to Achieve Sustainability, March 2012 [254] [Used with permission from the Environmental Research Institute of the States (ERIS), the Environmental Council of the States (ECOS), and the District of Columbia]

    Suite of sustainability tools: segmentation analysis; social network analysis; social impact assessment; environmental justice analysis; life-cycle assessment; futures methods; benefit-cost analysis; eco-efficiency analysis

    Sustainability that matters to our community

    The District Department of the Environment (DDOE) is currently coordinating a citywide sustainability planning effort for the Mayor. The Agency does not have an “official” formal definition of sustainability at this time. However, the Agency frequently uses a working definition that defines sustainability as the nexus of the environment, economics, and equity. DDOE also describes sustainability as meeting the needs of the present without compromising the ability of future generations to meet their own needs. These definitions are intended to be grounded in environmental protection, but inclusive of the critical connections between environment, economy, and equity.

    DDOE is home to core state and local programs that are simultaneously addressing sustainable practices including water and air quality protection, wildlife preservation and restoration, land remediation and toxics reduction, energy efficiency, and conservation. The Agency is working to integrate traditional regulatory programs into citywide sustainable efforts to strengthen programs and achieve the greatest possible environmental, health, economic and other equity benefits of cross-media coordination.

    Sustainable DC
    DDOE is co-lead (with the DC Office of Planning) of the Mayor’s sustainability planning process called Sustainable DC.

    Sustainable DC was launched in September 2011 with an intensive community outreach program. Throughout September and October, staff attended 50 community meetings and events to hear people's visions for a sustainable DC and actions the community can take to realize those visions. In November 2011, nine working groups (focusing on the built environment, climate, energy, food, nature, transportation, waste, water, and the overall green economy) were launched to develop recommended goals, actions, and indicators. These recommendations will be integrated into a draft plan in summer 2012.

    In this role, DDOE is playing a coordination function among the Green Cabinet, representing more than a dozen key agencies directly affecting citywide sustainability, including transportation, public works, health, public schools, real estate, economic development, employment services, and water and housing authorities.

    STAR Community Index
    DDOE also is coordinating with a national effort to develop the STAR Community Index Exit EPA Disclaimer. This is a framework for gauging the “triple bottom line” of sustainability and livability of US communities. STAR is intended to transform the way local governments plan and develop policies in the way that the US Green Building Council’s LEED program transformed the building industry. STAR will measure a jurisdiction’s sustainability across measures in specific categories. Through these standardized measures, cities will be able to more objectively assess their progress towards sustainability and compare themselves to other cities across the country.

    Because of the size and complexity of STAR’s scope, ten jurisdictions were selected to serve as beta communities (Atlanta, GA; Austin, TX; Boulder, CO; Chattanooga, TN; Cranberry Township, PA; Des Moines, IA; King County, WA; New York, NY; St. Louis, MO; and the District of Columbia). These communities will test and review the measures for appropriateness and feasibility.

    Benefit-Cost Analysis and Eco-Efficiency Analysis
    DDOE implements stormwater management projects on public sites. When evaluating project proposals, DDOE staff evaluates the cost/benefit of each proposal. The evaluation includes an analysis of the dollars per gallon of stormwater retained or treated, and whether the proposal will implement new technologies that may be beneficial to the District’s water quality efforts. At a much larger scale, staff is analyzing the relative environmental, economic development (jobs), and social equity benefits of digging huge tunnels to manage stormwater flows versus a large-scale deployment of green infrastructure (i.e., Low-Impact Development). Whereas traditional analysis might only look at the relative environmental performance and costs of these systems, this new sustainability-driven analysis will assess job creation, social support (i.e., unemployment and other social services) investment reduction, heat-island effect mitigation, community beautification, property value enhancement, and the costs and environmental performance of these systems.

    Environmental Justice Analysis
    DDOE considers social equity as a cornerstone of sustainability. Like many other states and local jurisdictions, DC, through DDOE’s Office of Enforcement and Environmental Justice, reviews major development plans to assure that no disparate environmental harms are imposed on minority and low-income populations. Under the Mayor’s evolving sustainability strategy, EJ will likely evolve into much more than a risk assessment/risk management process, and will become a means of assessing the relative benefits of District investments on the distribution of opportunity and hardship across the city. A good example is the new program incorporated into the DDOE’s proposed stormwater regulations, which would allow off-site stormwater mitigation for projects that cannot meet the city’s aggressive 1.2 inch rainfall retention standard. These off-site projects likely will occur in less-developed portions of the city, which tend to be DC’s lowest-income communities. This option will bring substantial investment in tree planting, bioretention, green roofs, and other practices that will not only allow more and better stormwater management, but also will create jobs and beautify neighborhoods– and reduce the significant social disparities across DC. And the program will increase stormwater management by over 50 percent, while reducing costs by 30 percent.

    Future Scenario Analysis
    During the next year, DDOE will forecast the impacts of the District’s revised stormwater regulations. The purpose of this analysis is to determine how future development will lead to improvements in water quality and how DDOE’s new off-site mitigation program will impact EJ issues in the city.

    Life-Cycle Assessment
    The District's revised stormwater regulations will include a payment-in-lieu option for sites that cannot otherwise meet their regulatory obligations. To determine the appropriate price for this option, DDOE staff developed a life-cycle cost assessment to capture the full cost of implementing stormwater practices.

    Segmentation Analysis, Social Impact Assessment, and Social Network Analysis
    The District has developed a new social marketing campaign to reduce litter. The campaign includes significant social and psychological (focus groups and interviews) analysis to determine the root causes of litter and to develop effective messages and approaches that will have an impact. Additionally, the program has surveyed residents to evaluate the impact of the marketing campaign as well as the new Bag Law that requires a 5-cent fee on disposable paper and plastic bags. 

    In addition to the tools mentioned above, DDOE has developed some new tools to measure the District’s sustainability activities:

    • Green Dashboard
      To help residents understand the District’s progress in becoming a more sustainable place in which to live, work, visit, and play, DDOE’s Office of Policy and Sustainability developed an online interactive Green Dashboard containing approximately 60 indicators in six categories (air quality and climate, energy and buildings, nature, transportation, waste and recycling, and water). Users are able to manipulate the data by time period and metric to suit their interests and will be able to also download raw data and image files of graphs for later use. Additionally, the Dashboard provides contextual information for each indicator, including information on what the data mean, why they are important, how the District compares to other jurisdictions, and ways users can get involved. Information is presented in an easy-to-read style with images and links to make the information engaging and digestible.
    • GreenUp DC
      DDOE developed GreenUp DC, an interactive web tool that teaches property owners how to reduce their energy footprint and stormwater releases. The tool tracks energy reduction and stormwater activities, and creates reports that allow DDOE to fulfill its legal obligations to US EPA. GreenUp DC allows DDOE to be transparent and responsive with up-to-the-minute statistical reporting on energy performance and stormwater reductions.

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