Cost-Benefit Analysis and Distributional Weights: An Overview

Abstract

Cost-benefit analysis (CBA) is notoriously insensitive to distributional concerns, favoring a policy with a positive sum of monetary equivalents, even if better-off individuals are benefitted at the expense of worse-off ones. This problem is sometimes mitigated, in practice, by monetizing goods and bads using constant values that do not vary with individuals’ attributes. However, the use of population-average or otherwise constant values lacks any theoretical basis. Moreover, this practice can have unpleasant implications, for example, forcing people to spend more money on risk reduction than they would prefer. Arguably, equity considerations should be incorporated into CBA through so-called distributional weights. Specifically, CBA with distributional weights is a practicable method for operationalizing a social welfare function (SWF). Two SWFs and the functional form of weights matching them are discussed, and an example of how distributional weights might be brought to bear on environmental policy choice is given. Various objections to distributional weights are also discussed — Including the traditional objection that redistribution is best handled through the tax system.