Benefits & Costs

1. Benefits & Costs A Workshop on “Big-Picture” Considerations if You Want to Compute Benefit-Cost Estimates Canadian Congress on Criminal Justice Vancouver, British Columbia October 4, 2013 Steve Aos Director Washington State Institute for Public Policy Phone: (360) 586-2740 E-mail: saos@wsipp.wa.gov Institute Publications: www.wsipp.wa.gov 1 of 9

2. The Goal  design a benefit-cost framework that produces: Consistent, policy-relevant, investment information for a wide array of public policy topics. Versatile, Quick Consistent 2 of 9

3. Background I: Benefits, Costs, and Time In concept, things are simple! Example: $3,000 investment; $500 /yr return; 20 years; 3% discount rate Q x P Summary Statistics PV of Benefits & Costs $7,438.74Cell B24 = NPV(A2,B4:B23) $2,912.62 Cell C24 = NPV(A2,C4:C23) Benefit/Cost Ratio $2.55 Cell D25 =B24/C24 Net Present Value $4,526.12 Cell D26 =NPV(A2,D4:D23) or B24 – C24 Return on Investment 19.30% Cell D27 =IRR(D4:D23) 3 of 9

4. Background II. The Basic Benefit-Cost Computational Engine (QXP)-C= NV Q = The quantity of something of interest to you. P = The unit price of that quantity. What is the Q worth to you?) C = The cost of supplying the Q (quantity). NV = The Net Value (profit or loss) to you. Some Other Useful Definitions Benefits= Q X P Costs = C Benefit-Cost Ratio = (Q X P) / C “Cost Effectiveness” Ratio = Q / C Break-Even Success Rate = C/P Net Present Valuenext slide 4 of 9

5.  t t t t = 1 Background III. The Basic Benefit-Cost Computational Engine To calculate a NET PRESENT VALUE, we are going to add a few items that deal with resource flows over time. = NV N (QXP) - C P (1+D)t t = Some time period (most often, a year). N = Some number of time periods in the future. D = A “Discount” rate. NPV = Net Present Value. 5 of 9

6. The Basic Benefit-Cost Computational Engine For Use with Program Evaluations ( Q XP )- C =NPV (( %WOT -%WT)XP )- C =NPV %WOT: The outcome for those withouttreatment %WOT: The outcome for those withtreatment 6 of 9

7. The Basic Benefit-Cost Computational Engine (( %WOT -%WT)XP )- C =NPV Fictional Family Therapy (FFT) NPV = The Net Present Value of FFT. B/C Ratio= The Benefit-to-Cost Ratio of FFT. $3000 = C:The cost to treat one youth with FFT. 50% = %WOT: The percentage of youth without treatment, FFT, that continues to engage in criminality. 45% = %WT: The percentage of youth with treatment, FFT, that continues to engage in criminality. $150,000 = P:The price we pay if the youth continues to engage in criminal behavior (in present-value terms). This is the fundamental, cause-and-effect, program evaluation question. Benefit-cost analysis does not solve this matter! NPV = ((.50 - .45)X $150,000) -$3,000 = $4,500 B/C Ratio = ((.50 - .45)X $150,000) /$3,000 =$2.50 7of 9 This is a big deal. It can be done in a “top down” or “bottom up” manner. For crime, need to know about the victim costs of crime, the criminal justice system costs of responding to crime, and populations served. This is the fundamental, cause-and-effect, program evaluation question. Benefit-cost analysis does not solve this matter! This can be a green eyeshade exercise. Characteristics of relevant untreated populations

8. You Also Need to Measure Risk ( %WOT -%WT)XP )- C =NPV Fictional Family Therapy $3000 ( 10%) = C 50% = %WOT 45% (.025 se) = %WT $150,000( 20%) = P Monte Carlo Simulation Run the model 10,000 times NPV, mean = (.50 - .45)X $150,000) -$3,000 = $4,500 Risk: Probability that NPV is Less than Zero = 6.8% 8of 9

9. Evidence-Based Lists Can Now be Produced: What Works, and What Pays Off? “Consumer Reports” Lists: What Works? What Doesn’t? What Can Give Washington Taxpayers a Good Return on Their Money? Given the Current Level of Rigorous Research, What Don’t We Know? 9 of 9