The core of social cost-benefit
analysis is the calculation or estimation of the prices to be used
in determining the true value of benefits and the real magnitude of
costs. There are many reasons for believing that in developing
countries, market prices of outputs and inputs do not give a true
reflection of social benefits and costs.
- Many developing countries are still
beset by inflation and varying degrees of price controls.
Controlled prices do not typically reflect the real opportunity
cost to society of producing these goods and services. Moreover, in
many countries, the government manages the price of foreign
exchange. With inflation and unaltered foreign exchange rates, the
domestic currency becomes overvalued, with the result that import
prices underestimate the real cost to the country of purchasing
foreign products and export prices understate the real benefit
accruing to the country from a given volume of exports. Bubbles and
crises can also lead to larger distortions
- In developing countries, funds for
investment are deficient at prevailing interest rates. The main
cause is the deficiency of savings. The majority of people are poor
having low income levels, low rate of savings and hence low
propensity to invest. Moreover, there is little relationship
between the supply of capital and interest rates prevalent in the
country.
- There is acute scarcity of foreign
exchange leads to balance of payments difficulties in developing
countries. As a result, the current rate of foreign exchange is
much lower than in the black market and the equilibrium exchange
rate is lower than its market exchange rate.
- Given the substantial pressures for
providing higher immediate consumption levels to the masses of poor
people, the level and rate of domestic savings in most developing
countries is often thought to be suboptimal. According to this
argument, governments should use a discount rate that is lower than
the market rate of interest in order to promote projects that have
a longer payoff period and generate a higher stream of investible
surpluses in the future.