A government conducts a cost-benefit analysis for a proposed hydroelectric dam. Timber and electricity revenues are included, but biodiversity loss and cultural impacts are excluded because they lack market prices.

What risk does this create?

Question

A government conducts a cost-benefit analysis for a proposed hydroelectric dam. Timber and electricity revenues are included, but biodiversity loss and cultural impacts are excluded because they lack market prices.

What risk does this create?

BlackTom AI · Accepted Answer

Net social benefit equals total benefits minus total social costs, so omitting non-market impacts from the cost side biases the result. Relevant concepts: cost–benefit analysis (CBA) should compare all social benefits and social costs; market goods (timber, electricity) have observable prices, while non-market goods (biodiversity, cultural values) do not. Economists use techniques like contingent valuation, choice experiments, travel-cost methods, and shadow pricing to place values on non-market goods; leaving them out is effectively treating their value as zero.

Step-by-step reasoning:
1. Represent the decision algebraically: Net Social Benefit = B_market + B_nonmarket − (C_market + C_nonmarket). 
2. In this case B_nonmarket is ignored or zero and C_nonmarket (biodiversity loss, cultural impacts) is set to zero. So the computed Net Social Benefit_CBA = B_market − C_market.
3. The true Net Social Benefit_true = B_market + B_nonmarket − (C_market + C_nonmarket). Because C_nonmarket > 0 (losses) and possibly B_nonmarket ≠ 0, Net Social Benefit_CBA >? Net Social Benefit_true depends, but excluding positive costs (C_nonmarket) makes the computed net benefit larger than the true net benefit.
4. Therefore the CBA understates total social costs and may favor building the dam when a full valuation would not.

Why the correct answer is correct: By excluding non-market costs, the analysis systematically underestimates total social costs, biasing decisions toward projects that destroy unpriced values.

Why other options are incorrect:
- Overestimation of environmental benefits: the analysis excludes environmental harms, not inflating benefits.
- Automatic policy efficiency: excluding key costs undermines efficiency, it does not ensure it.
- Elimination of market failures: omitting non-market values conceals market failures (externalities, public goods) rather than eliminating them.

Conclusion: The primary risk is underestimation of total social costs, which matches the provided correct answer.

A government conducts a cost-benefit analysis for a proposed hydroelectric dam. Timber and electricity revenues are included, but biodiversity loss and cultural impacts are excluded because they lack market prices. What risk does this create?单项选择题

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