1 So far, the transfer payments discussed have been of the (disguised) unemployment benefits received by workers in connection with the calculation of the opportunity costs of labour. We now turn our attention to the other sorts of transfer payments.
2 The obverse of the benefits or direct subsidies received by unemployed persons are the direct taxes paid by employed persons. While a private firm properly calculates profit as net of all taxes it has to pay, the economist interested in social net benefit properly values such benefits as gross of tax. If, out of $100,000 annual net benefit from the operation of a dam, $35,000 is paid as tax to the government, this amount is to be regarded as a transfer to other nationals via the government, not as a loss to society as a whole; ineffect, a form of redistributionof the net social gainof $100,000.
Similarly, tariffs that have to be paid by citizens on imported goods – or subsidies on them received by citizens – are also no more than inter-community transfer payments.
There is, however, a caveat to be made if foreigners are involved. If, for instance, the project inquestionis financed by anissue of shares onwhich shareholders receive a dividend, although the amount of tax paid to the home government is, as indicated, a transfer payment (from shareholders to other nationals), any additional tax paid by foreignshareholders to their owngovernment is obviously not a transfer to nationals: it is a transfer abroad of part of the annual benefit produced by the project. Hence, the tax paid by resident foreigners to their own government constitutes a loss to the home economy and must therefore be subtracted in that year from the value of the project’s benefits.
3 Are transfers involved in a shift in the demand for goods from area A to area B consequent upona shift inpopulationfrom the former to the latter area? We need not enquire into the reasons for the movement of people from A to B. If we discovered that they moved because they thought the climate inarea B was more salubrious or that the tap water tasted better, the benefit would be calculated as the CV12 of those who chose to move over and above their costs of movement, but for the rest, the consequent increase in the demand for goods in area B does
QUAH: “CHAP15” — 2007/1/25 — 07:59 — PAGE 82 — #2 not of itself produce a benefit. Allowing that the additional goods bought in area B after people moved there are no different from those they bought in area A, qua consumers, nothing is gained or lost.
Existing storekeepers in area B will, of course, gain, but such gains will be offset by the losses suffered by storekeepers in areaA.Yet this may not be a simple transfer of gain from one area to another. Over time, costs may arise. Service personnel may be willing enough to move from area A where they are no longer needed to area B where they are needed, notwithstanding which costs are incurred in their moving. Again, extended store capacity will have to be built in area B while such capacity has to be reduced in area A. But it would be a rare coincidence if, in the very year that, say, $1 million was to be spent in extending store capacity in area B, $1 million was no longer needed to be spent in area A to replace obsolete store capacity. Chances are that the $1 million of additional store capacity needed in area B will be spent soon, and only some years later will area A save $1 million from not having to replace that much store capacity. The resulting cost being equal to the potential return lost in delaying the recoupment of the $1 million spent in extending store capacity. In other words, the $1 million spent in area B may not be exactly offset by the reductioninexpenditure inarea A, owing to this lagged effect.
4 A caveat may now be entered against the possibility of counting a project’s benefits twice.
Consider, first, the proposed construction of a railway linking a suburban area A with a big city, one that will offer an hourly service from six in the morning to midnight. The social value of the rail link is to be calculated, as usual, by the most potential users are willing to pay for it less any negative externalities the con-struction and service may incur. From this figure, the value of the net benefits is obtained by subtracting the opportunity costs of its construction and operation.
In consideration of the variety of advantages conferred by the rail link on the residents of areaA, house prices there are apt to rise, the increase in the price of any particular house being, possibly, an indicator of the benefits expected to accrue to those occupying it: in effect, the capitalized value of the expected benefits.
But only under special conditions may the rise in house prices in the area be accepted as a valid measure of the benefits over time from the introduction of the rail service. One of these conditions is that the size of area A be large – large enough to accommodate residents that are so far distant from the location of the railway station that the rail link offers them no advantages at all. The houses of such residents will therefore not rise at all in consequence of the rail link to the city.
For the remaining houses, the closer to the railway station, the greater the benefit of the railway service and the greater the rise inthe house price. Yet evenwere this condition met, people’s uncertainty about the future usefulness of the rail link in view of possible later developments, to say nothing of the possible irrelevance of the implicit rates of discount involved, make it apparent that the differential rise inhouse prices inthe area that may be attributed to the introductionof the rail link is a poor indicator of the extent of the benefits conferred.
QUAH: “CHAP15” — 2007/1/25 — 07:59 — PAGE 83 — #3 Transfer payments and double counting 83 This is particularly so when area A is such that all residents find the rail link to be an advantage. And this is likely to be the case. Even for a resident that will continue to drive into the city, the existence of a rail connection to the city has a contingent or insurance value; his automobile may be damaged, the weather may make driving risky, he may have damaged his wrists or otherwise feel disinclined to drive.
When all residents derive some benefit from the introduction of a rail link, a zero increase in the price of a house cannot be taken to mean that the residents derive zero benefit from the rail link. Indeed, the limiting case is where area A is such that, irrespective of the locationof the house, accessibility to the railway stationis much the same for everyone. For inthat case, there canbe no differential rise in house prices. In fact, house prices do not increase at all in consequence of the introduction of the rail link, no matter how advantageous.
One can only conclude that the only accurate way of measuring the social benefits of the rail link is by direct calculation of the magnitudes: that is, by calculating the CV12 for every one affected by the change. On an annual basis, this amounts to ascertaining the largest sum the residents of area A are willing to pay for the rail services less the costs of any unwanted spillovers, and subtracting from this figure the annual opportunity costs of constructing and servicing the railway.
5 Although, in the above example of a rail link, there is no risk that the economist engaged in evaluating a project will double-count benefits, once as a flow of benefits and again as a capitalized value of expected benefits, there is a possibility that a double-counting of the flow of benefits may occur in some circumstances.
For example, consider anirrigationproject that reduces the costs of grainpro-duction over the area of cultivation. The value of the benefit created by the project is to be reckoned, ultimately, as a consumer surplus – as a ‘cost-saving’ to the consumer arising from a reduction in the price of the grain. There will also be, initially, a rise inthe profits of the cultivators or farmers, a rise inthe profits of grain merchants, a rise in the profits of bankers, and so on. But these gains, no matter how long they continue, are not to be entered as benefits to the project – at least not as benefits additional to the cost-saving of the consumers of grain. Such extra profits are to be conceived as transfer of a part of this benefit to consumers of grain to the farmers, grain-merchants, banks and other middle men – at least during the period of adjustment in a competitive economy. Put more generally, the total benefit of the project which, as mentioned, is equal to no more than the gain to consumers from a lower price of grain, is distributed over a varying period of time among consumers, farmers and middlemen according to the operation of market forces and institutions.
Clearly, double-counting would be involved if, to this ‘cost-saving’ to con-sumers, we were also to add (temporary) gains by middlemen.
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