Catalog

	Table of Contents
p. 6 of 74 BACK | NEXT I. Introduction II. Background III. The Economic Rationale of A Project IV. Macroeconomic and Sectoral Context V. An Integrated Approach To Economic Analysis A. Scope of Economic Analysis B. The Project Framework C. Financial and Economic Analysis VI. Identification and Quantification of Costs and Benefits VII. Valuation of Economic Costs and Benefits VIII. Large Projects, Linkages, and National Affordability IX. Least-Cost and Cost-Effective Analysis X. Investment Criteria: Economic Viability XI. Discount Rate XII. Uncertainty: Sensitivity and Risk Analysis XIII. Sustainability of Project Effects XIV. Distribution of Project Effects XV. Projects and Policies XVI. Appendices XVII. Others

Guidelines for the Economic Analysis of Projects : V. An Integrated Approach To Economic Analysis

---

V. An Integrated Approach to Economic Analysis

A. Scope of Economic Analysis

19. The purpose of the economic analysis of projects is to bring about a better allocation of resources, leading to enhanced incomes for investment or consumption. For a directly productive project, where the output is sold in a relatively competitive environment, choices are made within the economy to ensure that projects selected for investment meet a minimum standard for resource generation and to weed out those projects that do not. For an indirectly productive project, where the output is not sold in a competitive environment, choices are made within the project between different means of achieving the same objectives. Economic analysis is used to choose the means using the least resources for a given output. All resource inputs and outputs have an opportunity cost through which the extent and value of project items are estimated. Projects should be chosen where the resources will be used most effectively.

20. Economic viability depends upon the sustainability of project effects. Projects are sustainable if their net benefits or positive effects endure as expected throughout the life of the project. Sustainability is enhanced if environmental effects are internalized, and if financial returns provide an adequate incentive for project-related producers and consumers. Sustainable development is concerned also with distributional issues. When looking at the distribution of project effects and judging project social acceptability, it is important to determine who benefits and who pays the costs. An assessment of the capacity of the project to cope with an uncertain future is another measure. Sensitivity analysis is applied when testing projects for both productive and allocative efficiency.

21. The scope of economic analysis contained in these guidelines seeks to address several issues in the economic analysis of Bank project loans (see Figure 1). Previous practice focused on forecasting demand, choosing least-cost options, and, where possible, calculating the economic internal rate of return. The demand forecasts themselves depend upon project charges and affordability, which also affect financial incentives for different participants. At the same time, environmental effects can now be incorporated into the analysis, and policy dialogue requires a statement of the distribution of project effects. This broadening of the scope of economic analysis must be tailored to the particular project and the issues it generates.

22. In some cases, project preparation does not end with the decision to accept a project. In process projects, design and appraisal are continual and go along with project implementation. This allows for greater participation by project beneficiaries in the design and testing of different options. Economic analysis can be applied at the outset of such projects to test the underlying rationale. The principles of economic analysis contained in these guidelines can be applied at key decision points in the process.

23. The procedure for undertaking economic analysis follows a sequence of interrelated steps:

• defining project objectives and economic rationale;
• forecasting effective demand for project outputs;
• choosing the least-cost design for meeting demand or the most cost-effective way of attaining the project objectives;
• determining whether economic benefits exceed economic costs;
• assessing whether the project's net benefits will be sustainable throughout the life of the project;
• testing for risks associated with the project;
• identifying the distributional effects of the project, particularly on the poor; and
• enumerating the nonquantifiable effects of the project that may influence project design and the investment decision.

For indirectly productive projects, economic analysis would comprise all of the above steps, except determining whether economic benefits exceed costs.

Figure 1: Scope of Economic Analysis

Back V. An Integrated Approach To Economic Analysis	Next B. The Project Framework