Updated:09/03/2007
Lecture Notes
ECON 622: ECONOMIC COST-BENEFIT
ANALYSIS
Lecture 4
0
ECONOMIC VALUATION
OF TRADABLE GOODS &
SERVICES
1
Tradable Commodities
Classification of a Project’s Inputs and Outputs
A good or service is considered tradable when an increase in demand (or
supply) by a project does not affect the amount demanded by domestic
consumers
• An increase in demand for an IMPORTABLE commodity results in an
increase in demand for imports
• An increase in demand for an EXPORTABLE commodity results in a
reduction in exports
• An increase in supply of a tradable commodity by a project will cause
either a reduction in imports or an increase in exports
An Importable commodity includes imported goods and domestically
produced goods that are close substitutes for imported goods
An Exportable commodity includes exported goods and close substitutes
for exported goods
2
Measuring the Economic Values of
Tradable Goods: Four Cases
1. Economic value of importable good production
2. Economic cost of importable input
3. Economic cost of exportable input
4. Economic value of export production
3
Importable Good
Price
S Domestic Supply
Distorted World
Supply Price
Pm
Em * PCIF * (1+Tm) + Fm
D Domestic Demand
Imports = Q d - Q so
Q
s
o
Q
d
o
Quantity
per year
o
Em = Market Exchange Rate
FM = Domestic Freight to Market
Tm = Rate of Import Tariff
PCIF = Price of imports at entry point to country, including international freight
and insurance charges expressed in units of foreign currency
4
Project Supplies More of an Importable Good
Price
S domestic
S w/ project
Em * PCIF* (1+Tm) + Fm
S world
D domestic
Qs0
Qs1
Qd0
Quantity
Project reduces quantity imported. No change in domestic consumption.
5
Estimating The Economic Prices of Tradable Goods
1. Adjust for commodity - specific trade distortions
• Financial prices for the commodities demanded (or supplied) by a project must be
adjusted for commodity-specific distortions and costs that drive a wedge between
their international prices and their domestic market prices
• Taxes and Subsidies are transfers between consumers, producers, and the
government. Therefore, they are not part of the real resources consumed or
produced by a project.
2. Value the foreign exchange at the economic (shadow) exchange rate (Ee)
• Multiply the CIF and FOB prices at the border by the economic price of foreign
exchange (Ee).
• Alternatively, add a foreign exchange premium [(Ee/Em) - 1], or [(Ee/OER) - 1], per
unit of foreign exchange demanded (or supplied) by a project.
3. Adjust for handling and transportation costs
• The economic costs of handling and transportation that are necessary to move
commodities to or from the point of entry must be included.
• In the case of imported commodities, these costs should be added to the CIF price.
• In the case of exported commodities, these costs should be subtracted from the FOB
price.
6
Visayas Communal Irrigation Project
Basic Facts
•
The National Irrigation Administration (Philippine National Agency) proposes to
rehabilitate 55 damaged communal irrigation systems and to build 25 new systems in
Visayas.
•
The project’s additional components include water protection and erosion control, the
strengthening of irrigation association, and the development of agricultural extension
services.
•
The goal of the project is to alleviate poverty, while improving environmental
sustainability of the region.
The life of project is 20 years.
•
•
The economic benefits arise from the increased production of rice and corn, which must
otherwise be imported.
•
The foreign exchange premium is 24.6%.
•
The project is expected to cost approximately 480.910 million pesos (US$19.78
million).
•
The project will be financed with US$15.1 million loan from the International Fund for
Agricultural Development, and remaining funding would be provided by the Philippine
government.
7
Table 1: Project Supplies an Importable Good (Rice)
Value of Economic
Financial Adjustment Adjusted Tradable Non-Tradable Value of
Forex
SPNTO
Value
Price
For Taxes
Content
Content
Value
Premium
Premium
(F=C*D*0.246) (G=C*E*0.01) (H=C+F+G)
(A)
(B)
(C= A*B)
(D)
(E)
314.8
7659
1
7659 100%
0%
1884
0.00
9543
CIF World (US$)
CIF per metric ton of rice
PLUS
Transportation and Handling Charges
Trading Margin
Wholesale Price in Manila
LESS
Transport cost, rice mill to Manila
205
472
8336
1
0.68
205
321
8185
30%
10%
70%
90%
15.13
7.90
1.44
2.89
222
332
10096
515
1
515
30%
70%
38
3.61
557
Ex-mill price of rice
7821
LESS
Net milling cost
346
Pre-milled value
7475
Palay equivalent (65%)
4859
LESS
Grain dealer margin (4% margin)
194
Transport and handling cost, farm to mill 130
Farmgate price of palay
4534
Conversion Factor
9540
1
346
50%
50%
43
1.73
390
9150
5947
0.68
1
132
130
10%
30%
90%
70%
3
10
1.19
0.91
137
141
5670
1.25
8
Measuring the Economic Values of
Tradable Goods: Four Cases
1. Economic value of importable good production
2. Economic cost of importable input
3. Economic cost of exportable input
4. Economic value of export production
9
Project Demands More of an Importable Good
Price
S domestic
Em * PCIF * (1+Tm) + Fm
S world
D domestic
Qs0
Qd0
Qd1
D w/ project
Quantity
Project requirements will be met by additional imports (world supply).
Domestic consumption is not affected.
10
Project Purchases Importable Inputs
Input subject to Import Tariff
Price
D0+P
S0
D0
Pd = Em P w(1+t)
World Supply
After Tariff
Em Pw
0
World Supply
Qs0
Qd0
Q1d
Quantity
Financial cost is EmPw (1+t) (Q1d-Q0d)
Economic cost is EmPw(Q1d – Q0d) + Foreign exchange premium
11
Economic cost of Importable Goods:
With Tariff, Trade Margin and Domestic Freight
Price / unit
S0
C
A
E
(P3+freight)=P4
(P2+trade margin)=P3
F
L
J
(P1+tariff)=P2
G
M
K
D1
Em (cif)=P1
H
B
I
D0
0
QS0
Q d0
Q1d
Quantity of units per year (000’s)
12
Table 2: Project Uses an Importable Good (PESTICIDES).
Financial Adjustment
Price
For Taxes
(A)
CIF World (US$)
CIF per 1000 liters of pesticides
PLUS
Tariff
Port charges, handling and
transportation to Manila
Importer Price, Manila
(B)
Value of Economic
SPNTO
Value
Premium
(F=C*D*0.246) (G=C*E*0.01) (H=C+F+G)
Adjusted Tradable Non-Tradable
Content
Content
Value
(C= A*B)
(D)
(E)
Value of
Forex
Premium
166
4038
1
4038
100%
993.35
5031
201
155
0
1
0
155
0%
30%
0.00
11.44
0
168
70%
1.09
4394
PLUS
Transport cost, Manila to local market 515
Dealer's margin
201
Price at local market
5110
PLUS
Local transport cost
120
Price at farm gate
5230
Conversion Factor
1.15
5199
1
0.68
515
137
30%
10%
70%
90%
38.01
3.36
3.61
1.23
557
141
5897
1
120
30%
70%
8.86
0.84
130
6026
13
Measuring the Economic Values of
Tradable Goods: Four Cases
1. Economic value of importable good production
2. Economic cost of importable input
3. Economic cost of exportable input
4. Economic value of export production
14
Exportable Good
Price
S Domestic Supply
Em * PFOB * (1-tx) - Fx
Distorted World
Demand Price
Pm
D Domestic Demand
Exports = Q
s
o-
Q
d
o
Q
d
o
Q
s
o
Quantity
per year
Em = Market Exchange Rate
tx = Export Tax
Fx = Freight and Trading Costs to Port
PFOB= Price of exports at point of export from country in units of foreign currency
15
Project Demands More of an Exportable Good
Price
S domestic
Em * PFOB * (1-tx) - Fx
D world
D w/ Project
D domestic
Qd0
Qd1
Qs0
Quantity
Project requirements will reduce quantity exported.
Consumption of previous consumers remains unchanged.
16
Table 3: Project Uses an Exportable Good (Seeds)
Financial Adjustment Adjusted Tradable Non-Tradable Value of
Forex
Value
Price
Content
Content
For Taxes
Premium
(A)
FOB per ton of PADDY SEED (pesos/ton)
(B)
(C= A*B)
(D)
(E)
Value of Economic
SPNTO
Premium Value
(F=C*D*0.246) (G=C*E*0.01) (H=C+F+G)
6326
1
6326
100.00%
0.00%
1556.20
0.00
7882
Port Handling and Transportation
From IRRI to port of Manila
155
1
155
30.00%
70.00%
11.44
1.09
168
IRRI Exporter Price
PLUS
Transport Cost, IRRI to local market
Dealer's margin
6171
Price at Local Market
PLUS
Local transport cost from
Market to farm (Project site)
6921
Price at Farm Gate
7041
Conversion Factor
1.22
LESS
515
235
120
7715
1
0.68
515
160
30.00%
10.00%
70.00%
90.00%
0.00
38.01
3.93
0.00
3.61
1.44
557
165
8436
1
120
30.00%
70.00%
8.86
0.84
130
8566
17
Measuring the Economic Values of
Tradable Goods: Four Cases
1. Economic value of importable good production
2. Economic cost of importable input
3. Economic cost of exportable input
4. Economic value of export production
18
Project Supplies More of an Exportable Good
Price
S domestic
S w/ Project
D world
Em * PFOB * (1-tx) - Fx
D domestic
Qd0
Qs0
Qs1 Quantity
Project increases exports. Domestic consumption remains unchanged.
19
Project Produces Exportable Goods subject to
Export Tax (No domestic transportation costs)
Price
S0
S0+P
Em Pw
World Demand
w
Pd=EPmdP=wP(1-t)
(1-t)
World Demand
After Export Tax
D0
0
Quantity
Q d0
Q s0
Q1s
Financial benefit is EmPw (1-t) (Q1s-Q0s)
Economic benefit is EmPw(Q1s – Q0s) + Foreign exchange premium
Economic values of exportable goods are based on the FOB values
of demand for exports
20
Table 4: IRRI Supply an Exportable Good (Seeds)
Financial
Price
(A)
FOB Port (US$)
260
FOB Port (Pesos/ton)
6326
LESS
Port Charges and transportation
155
from IRRI to Port
IRRI Gate Price
6171
Conversion Factor (EV/PV)
1.25
Value of
Value of Economic
Adjustment Adjusted Tradable Non-Tradable
Forex
SPNTO
Content
Content
Value
Premium
Premium Value
For Taxes
(B)
(C= A*B)
(D)
(E)
(F=C*D*0.246) (G=C*E*0.01) (H=C+F+G)
1
1
6326 100.00%
155
30.00%
0.00%
1556.20
0.00
7882
70.00%
11.44
1.09
168
7715
21
SUMMARY
Economic Value of Importable Good Production =
CIF (adj. For Economic Exchange Rate) + Economic Cost of Local Freight from
Port to Market - Economic Cost of Local Freight from Project to Market
Economic Cost of Imported Input =
CIF (adj. For Economic Exchange Rate) + Economic Cost of Freight from Port to
Project
Economic Cost of Exportable Input =
FOB (adj. For Economic Exchange Rate) + Economic Cost of Local Freight from
Export Producer to Project - Economic Cost of Local Freight from Export
Producer to Port
Economic Value of Exportable Production =
FOB (adj. For Economic Exchange Rate) - Economic Cost of Local Freight from
Project to Port
22