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The Ethics of Modelling Costs

By Eric Crampton

Methodological tricks can deliver headline-grabbing numbers for a good cause, but at the risk of subverting public policy and compromising professional integrity.

There’s an old joke about economists. A mathematician, an accountant and an economist are bidding for a bit of consulting work. The sponsor wants to know what two plus two yields. The mathematician says it’s four. The accountant says it’s four, give-or-take 10%. The economist closes the door and whispers to the sponsor: “What do you want it to be?”

If your client wants to show that his or her industry provides massive benefits and consequently should be subsidised, there are ways to produce such figures – if you are happy to deviate from the standard method and to put a few somewhat sneaky assumptions into an appendix. My favourite example was a PricewaterhouseCoopers study claiming that adult and continuing education, including night courses in Indian cooking, saved New Zealand NZ$250 million in crime costs by halving each student’s likelihood of committing any crime. If you want to show that some social ill costs the country enormous amounts of money, there are ways of doing that too.

In 2008 a study commissioned by Australia’s Department of Health and Ageing estimated the “social costs” of alcohol abuse in Australia at some A$15 billion, well over $600 for every person in the country. As I had previously cast a critical economic eye on a New Zealand application of that study, an Australian alcohol consortium asked me to see what part of that A$15 billion would count as social cost by more mainstream economic methods.

Economists have two baseline approaches for measuring social costs: tally the difference between the total costs and benefits of some activity, or count all the costs and benefits that fall on third parties. The DoHA study counted all of the costs of alcohol use, including heavier drinkers’ expenditures on their own alcohol (A$1.7 billion), while assuming that any potential market failure was sufficient reason for dismissing all private benefits. By their standard, I am not sure that I could eat a banana without social cost as I do not adequately understand how sodium/potassium ratios affect body chemistry, and as I pay for my bananas using a joint cheque account, any enjoyment I derive from eating the banana could be assumed away.

The set of costs that the DoHA study was happy to count as “social” was so broad as even to include the now-superfluous cooking and cleaning that a regrettably deceased bachelor had performed for himself, which was valued at the cost of hiring-in the services. Excising double-counting and focusing on the costs that drinkers impose upon others yielded a more plausible A$3.8 billion in social costs from harmful alcohol use.

For economic cost numbers to be meaningful, they have to be constructed using standard economic methods. But an estimate’s incommensurability with other economic numbers does not prevent it being politically useful where the ultimate audience for the figures is the broader public. Counting private costs as social costs by assuming away the possibility of private benefits, while describing the resulting figure as constituting “net” costs, is a method almost certain to generate a large number that will be treated by the public as a measure of the cost to the taxpayer rather than as a cost largely falling on heavy drinkers themselves.

And, of course, it was. Labor MP Bernard Ripoll called it “a massive cost to every single Australian and every single taxpayer”. Former Labor MP James Tournour described it as a social cost to which must be added the economic costs of injuries and absenteeism. NSW Police Commissioner Andrew Scipione cited it as the costs of alcohol-related crime, and the Courier Mail described it as the potential savings if Australia were to “cut back on the booze”.

Economic cost estimates relying on methods from outside of economics fuel demand for interventionist policy by leading voters to believe that they bear the costs of others’ actions through the tax system. As such, they are misleading at best, and dishonest propaganda at worst.

A Senior Lecturer in the Department of Economics at the University of Canterbury, Dr Eric Crampton blogs at http://offsettingbehaviour.blogspot.com.au/