It is the French engineer and economist, Jules Dupuit, who is usually credited with the development of cost-benefit analysis. It began in the evaluation of public works projects but it has since been used to analyse polices in criminal justice, defence, public health and the environment. It can be said to have its origins in Jeremy Bentham and his theory of utilitarianism. The English philosopher argued that the aim of policies should be to provide the greatest happiness for the greatest number.
When governments use of cost-benefit analysis to decide whether to build a new road or offer a new drug through the public health system they are often putting a value on the environment or human life, which can be extremely controversial, especially in the latter case. We are horrified by the idea of putting a price tag on life because we believe every one is “priceless”. I know that this is very off-putting but it is necessary. If you spend money on some solutions, that money will not be available for other alternatives. The idea that if it saves just one life it is worth whatever it costs has a strong emotional appeal but it does not stand up to rigorous scrutiny. In a previous post I mentioned my favourite definition of economics comes from the economist Lionel Robbins:
“Economics is the study of the use of scarce resources which have alternative uses.” In this case the alternative uses are other ways of saving live”
Of course a human life has a very different value in the third world. The Indians of Bhopal have been rightly been furious about the compensation being asked of BP compared to the disaster caused by Union Carbide, which resulted in the deaths of 25,000 people and horrific injuries for many more. The final settlement was just $470million. BP has already committed $20 billion and it will be a lot more once the criminal investigation has finished. Although the environmental toll has been huge, the cost in human lives, compared to Bhopal, has been minimal.
With a limited supply of resources, it is impossible to save every life, so some trade-offs must be made. While it may well be necessary cost-benefit analysis has undoubtedly had some contentious applications. In the British comedy Yes Prime Minister when Jim Hacker confronts Sir Humphrey about the tremendous costs of smoking the civil servant has an immediate response:
Jim Hacker: Humphrey, we are talking about 100,000 deaths a year.
Sir Humphrey: Yes, but cigarette taxes pay for a third of the cost of the National Health Service. We are saving many more lives than we otherwise could because of those smokers who voluntarily lay down their lives for their friends. Smokers are national benefactors.
That may seem very morbid but Philip Morris commissioned one such report about the Czech Republic, which proved that the country saved about $147m in 1997 through the deaths of smokers who would not live to use healthcare or housing for the elderly.
In the 1970s The Ford Pinto became a focus of a major scandal when it was alleged that the car’s design allowed its fuel tank to be easily damaged in a rear-end collision, which sometimes resulted in deadly fires. Ford allegedly knew about this design flaw but refused to pay for a redesign because it would it would be cheaper to settle potential lawsuits for resulting deaths. Here is an extract from the infamous Ford Pinto memo, in which the Detroit manufacturer used cost-benefit analysis to compare the cost of an $11 repair against the monetary value of a human life:
Fatalities Associated with Crash-Induced Fuel Leakage and Fires
Expected Costs of producing the Pinto with fuel tank modifications:
Expected unit sales: 11 million vehicles (includes utility vehicles built on same chassis)
Modification costs per unit: $11.00
Total Cost: $121 million
[= 11,000,000 vehicles x $11.00 per unit]
Expected Costs of producing the Pinto without fuel tank modifications:
Expected accident results (assuming 2100 accidents):
180 burn deaths
180 serious burn injuries
2100 burned out vehicles
Unit costs of accident results (assuming out of court settlements):
$200,000 per burn death
$67,000 per serious injury
$700 per burned out vehicle
Total Costs: $49.53 million
[= (180 deaths x $200k) + (180 injuries x $67k) + (2100 vehicles x $700 per vehicle)]
The cost for fixing the Pinto was $121 million, while settling cases where injuries occur was only $50 million. Ford decided to manufacture and market the Pinto without modifying the fuel tank. Ford was acquitted of criminal charges, but it lost several million dollars and gained a reputation for manufacturing a car that was described as “the barbecue that seats four.”
The final example I Have is NICE and health care. The National Institute for Health and Clinical Excellence, which was established in the late 1990s in the UK, was the body created to ensure that the NHS used “best practices” in medicine. The bottom line is that NICE is a rationing body. It is a thankless task and there is bound to be controversy. You can try to get rid of waste but in the end you have to make real cutbacks. One particularly sensitive area is the last six months of life. How much should you spend? There have been a number of rulings against medicines that would have prolonged the lives of patients but at a very high cost.
It would be lovely to live in a world with unlimited resources but we do not have that luxury. In the end we will have to place a value on human life. There are no simple formulas available. I have given a lot of examples which show the controversial side of cost-benefit analysis. But we cannot avoid having to make choices. As economist Thomas Sowell has stated: There are no solutions only trade-offs.