Lesson preview · Weighing costs and benefits
Cost–benefit analysis: private, external and social
~7 min · Free to read
In a small town, lorries and cars heading somewhere else squeeze along the main street all day. The council is thinking about a bypass: a new road around the edge of town for through-traffic.
Drivers would save time, but the road would run past homes and through open countryside. How do you weigh the winners against the losers?
Key Term
Cost–benefit analysis
A cost–benefit analysis tests whether a project is worth doing. You list everything it costs and everything it gains, and give each item a money value so you can add them up. Benefits minus costs is the net benefit. If it is above zero, the project is worth doing. If it is below zero, it isn’t.
Key Term
Private, external and social
- Private costs and benefits fall on whoever makes the choice or uses the result: for the bypass, whoever pays to build it and the drivers.
- External costs and benefits fall on third parties: people outside the decision, who didn’t choose it. Nobody pays them for an external cost, and they don’t pay for an external benefit. Families along the new route get the traffic noise.
- Social costs and benefits are the totals for everyone: private plus external.
This works for costs and for benefits alike.
The road never changed. Only the people you counted did, and the net benefit went from +10 million dollars to −5 million, then to +7 million. Whose costs and benefits you count decides the answer. A full analysis counts everyone: the social costs and benefits.
Key Term
Putting a price on time, noise and lives
Nobody buys time in a shop, yet drivers’ time is the bypass’s biggest item. Economists value an hour by what people would pay to save it, or by what they could earn in it. They value noise by comparing the prices of similar houses on loud and quiet streets.
Suppose a safer junction cuts each of 100,000 drivers’ yearly risk of dying by 1 in 100,000. That saves one statistical life a year: one life on average, but nobody knows whose. If each driver would pay 50 dollars for the lower risk, together they would pay 5 million dollars for that life.
Economists find these amounts through surveys and through people’s choices, such as how much pay workers give up for safer jobs. In guidance dated 2026, the Australian government valued one statistical life at 5.87 million Australian dollars (in 2025 prices).
Trap · Warning
Why these numbers are controversial
- Many people feel a life, or a quiet home, should never have a price.
- The figures are estimates, and surveys can overstate what people would really pay.
- If you value time by wages, a lawyer’s hour counts for more than a cleaner’s. Is that fair? UK transport guidance gives everyone’s time outside work the same national average value.
Economists reply that refusing to set a number doesn’t remove the choice. A council that can’t fix every dangerous junction still picks some, and a number makes that trade-off visible.
Tip
Later counts for less
A bypass’s benefits keep arriving for decades. Money saved today earns interest, so 100 dollars now is worth more than 100 dollars in 20 years. Discounting means shrinking future costs and benefits before adding them up.
Trap · Common Misconception
"Someone else pays, so it's free"
Suppose a local company pays the whole 2 million dollars for a school’s new sports hall. The school pays nothing, but the hall still uses 2 million dollars of workers, machines and materials that could have built something else. A zero price to you is not a zero cost.
Worked Example
A sports club wants floodlights so members can play in the evenings. The lights cost the club 60 thousand dollars, and members value the evening games at 80 thousand. Neighbours lose sleep from the light and noise, a cost of 30 thousand dollars. Is the project worth doing for the club? For society?
Practice · 1 / 6
Families who live along the route of the new bypass will hear traffic day and night. In a cost–benefit analysis, what kind of cost or benefit is this noise?
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