4.1 Key Concepts of Transport Policy Assessment.4.1 Key Concepts of Transport Policy Assessment....

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Transport Futures

INSTITUTE

4.1 Key Concepts of Transport Policy Assessment. “A good decision is based on knowledge and not on numbers.” Plato

Objective The decision-making process is about selecting the transport policy option that is

expected to deliver the best outcome, and that it can be reached within the resourcing and

institutional context. The preferred option has to be cost-effective, practical and acceptable

to the community.

In this part you will learn about the key concepts of assessment of transport policy options,

including benefit-cost analysis and multi-criteria analysis.

The transport professional’s guide to developing practical solutions to complex transport policy problems

Developing Practical Transport Policy

© 2016 Transport Futures Institute http://transport-futures.com

In this part we will cover:

1. Key Concepts .................................................................................................... 2

2. Benefit-Cost Analysis ...................................................................................... 8

3. Multi-Criteria Analysis .................................................................................... 9

1. Key Concepts The preferred approach by transport funders is for project proponents seeking funding to quantify costs and benefits as much as possible in monetary or dollar terms and present a benefit-cost analysis.

However, economic evaluation of transport interventions in urban areas, where the range

of direct effects (i.e. to transport users) and external effects on the community are complex,

and not confined to the specific part of the transport system at which policy or project is

aimed. Sound assessments have a key role in informing the choices eventually made.

There are different types of assessment:

• Economic assessment – based on a socio-economic valuation of costs and benefits to

the community

• Qualitative assessment – evaluating impacts that are difficult if not impossible to value

in economic terms

• Financial assessment – primarily concerned with cash flow to the organisations directly

involved.

Before outlining the three levels of analysis (in 4.2), let us start by outlining some of the key concepts, including demand, elasticity of demand, generalised cost, value for money, time value of money, discount rate, net present value, benefits assessment, benefit-cost analysis and multi-criteria analysis.

Developing Practical Transport Policy: 4. Decisions 3

Demand Demand for transport is the number of users (passengers or freight) who want to use a given transport facility or service, at a price. Potential demand depends on level of service (how easy it is to access and use the facility or service), service quality (travel time, reliability, comfort, safety, etc.) and price, compared to alternatives.

Transport is primarily a derived demand, a result of the movement of people and goods for

economic and social purposes – we travel in order to satisfy a need (i.e. work, business,

education, recreation, etc.) and transport goods for economic purposes.

Elasticity of Demand Price elasticity of demand is used in economics to show the responsiveness, or elasticity, of the quantity demanded for some aspect of transport to a change in its price. It gives the percentage change in quantity demanded in response to a one per cent change in price or other parameter that affects the demand.

Elasticities are used in estimating impacts of policy changes and have been estimated for

effects of pricing, improved facility and service quality on transport demand, the influence

of income and vehicle ownership, interactions between land-use and transport, the demand

generated by new modes and services, and other transport policies. These values should be

verified from a post-evaluation of a policy implementation.

Generalised Cost A formal way of examining factors that affect transport requires us to understand how various components of travel affect user and non-user perception of modes through the concept of generalised cost (or perceived cost) that comprises travel time – including various components of travel time and also reflecting comfort and convenience; and costs such as parking, fares and tolls.

Generalised cost is expressed in a single unit, e.g. equivalent minutes or dollars, and is used as a key input to modelling transport and travel behaviour and valuing the benefits perceived by transport users. The use of weighting factors for each component part of the journey is an attempt at capturing the quality aspects of the journey. Weighting factors are usually expressed relative to in-vehicle time, which has a weighting factor of one (1).


Value for money Value for Money considers how an agency can achieve the maximum benefit from the goods and services it acquires and provides, within the resources available.

A value for money assessment considers not only the capital and operating costs, but also

takes account of the quality, resource use, fitness for purpose, timeliness and convenience to

judge whether or not, when taken together, all constitute good value.

While it is often aimed at saving money, value for money does not actually seek to achieve

the cheapest solution, but the one that achieves the most, having regard of course to the

overall objectives of the investment.

Time value of money Time Value of Money provides a means of valuing capital and operating investment proposals

(the same concepts apply to personal finance, assessing loans and interest).

Appraisal of investments over any significant period of time needs to take account of the

time value of money, which means that an amount of money today has a different buying

power than the same amount of money in the future.

Present Value of $1 (discount rate 5%)

Value

Years

Time Value of Money (TVM): a dollar received today is worth more than a dollar to be received in the

future.


Present value (PV) of a single future cash flow is the value today, that is equivalent to a cash flow to be received in the future

!!P= F

1+r( )n

P = value ($) today

F = future ($) value (single cash flow)

n = number of periods

r = discount rate per period

PV of a n-period annuity of value $R, is a single cash flow received today that is equivalent of the stream of cash flows generated by the annuity.

!!An =

1− 1+r( )−nr

R

An = value ($) today

R = periodic cash flow

n = number of periods

r = discount rate per period

The bottom line: time value of money is the basis of all assessment.

To find the value of any combination of cash flows:

1. write down the cash flows

2. find the present values of each of the cash flows

3. sum the present values of the cash flows.

Discount rate Public sector treasuries normally provide guidance on a discount rate to be used for capital and returns applied to an investment for any given time (i.e. time value of money). Discount rates currently used by Australian governments range between 4% and 8%.

Net Present Value Net Present Value (NPV) is the sum of present values of Costs and Benefits. A key strength of

the NPV method is it allows direct ranking and comparison of projects with different time

frames and different flows of costs and benefits. The preferred option is likely to be the one

with the highest positive NPV, while options with a negative NPV should be rejected or

reconfigured.

Accurate calculation of NPV requires consideration of the appraisal horizon, which also

means benefits flowing over a long project life might be discounted away. The discount rate

chosen is also critical to the results, as higher discount rates will penalise options with longer

term benefits. To guard against this, sensitivity testing using a range of discount rates may

be performed.


Tool: Net Present Value (NPV) of an investment Since costs and benefits usually occur at different times in the life of a given program or project, investment appraisal will need to account for this effect by considering costs and benefits in a like for like manner. This can be done by discounted cash flow techniques, which aim to determine the value of cost and benefits at a single moment in time, normally the time when the appraisal decision is being taken, defined as the “present”.

Net present value (NPV) is the present value of all future cash flows produced by an investment, less the initial cost of the investment. NPV is independent of the definition of costs or benefits and is an appropriate criterion for assessing the merit of a project. To determine NPV:

1. Write down the cash flows for each period for the life of the project 2. Find their present values (PV) by discounting costs and benefits at an

agreed rate (to calculate see Time Value of Money) 3. To get the NPV sum the present values and deduct the initial

investment The result is a net present value or NPV of an investment.

NPV Decision Rule: to accept or reject a particular project then consider the following:

NPV > O accept the project NPV = O indifferent NPV < O reject the project.

Faced with a choice between mutually exclusive investment projects and there are only

enough funds to undertake only one of the potential projects: NPV rule is to undertake the

project with the largest NPV, as long as it is positive.

NPV per unit investment (NPVI): a large NPV may simply reflect a large project – it may be

more appropriate to compare the NPV with the investment needed to achieve it. NVPI is

calculated by dividing the NPV by the present value of the project cost – this gives an

indication of the effectiveness of a given level of investment.

543210

$a $b $c $d $e $f

$PV

Year

CostsBenefits


Benefits Assessment Benefits assessment is the process that assesses the expected benefits that will result from a particular policy option. This requires that the desired outcomes have been clearly defined, are measurable and ultimately realised through a structured approach. For most transport initiatives, the bulk of the benefits accrue (at least in the first instance) to users of the infrastructure or service. Benefits include:

1. Benefits for existing users (savings in costs) 2. Benefits for diverted and generated traffic (willingness-to-pay minus costs) 3. Benefits (or disbenefits) on related infrastructure associated with diverted and

generated traffic 4. Savings in (or additional) infrastructure operating costs including maintenance 5. Benefits (or disbenefits) derived from positive (negative) externalities 6. Safety benefits (or disbenefits)

Examples of Benefits

Monetised Non-monetised Secondary impacts

Planning and design costs Land acquisition costs Construction costs

Savings in vehicle/train operating costs Savings in time costs for passengers and/or freight Improvements in service reliability Savings in crash costs

Reduced environmental externalities (noise, pollution) Savings in infrastructure operating costs including maintenance and administration Benefits associated with diverted and generated traffic Scrap or residual values of assets

Amenity value Barrier effects on humans and on biodiversity Biodiversity and ecosystems Heritage Aesthetic value

Culture Increased comfort, cleanliness and security for passengers Reduced damage to freight

Employment (construction and operation phases) Tourism Land values

Industry development Community spirit/pride

Communication Connectivity

Information sharing Social cohesion

Increased incomes Access to services

Production levels Productivity for industries

Source: Australian Transport Assessment and Planning (ATAP) Guidelines


2. Benefit-Cost Analysis Benefit-Cost Analysis (BCA) aims to identify and express in monetary terms, all the benefits and costs (gains and losses) created by an initiative to the community, and to combine them into a single measure.

If the result (net present value) is positive, or total benefits exceed total costs,

implementation of the initiative will be an economically efficient use of resources.

All costs in a BCA at valued as a social cost – the full cost to society including user costs

(including all costs to complete the door-to-door trip) and external costs.

BCA is a well-established methodology that is widely employed by government in a range

of areas. It enables initiatives to be compared, across different transport modes. It can also

be applied to infrastructure and non-infrastructure solutions. BCA is a rigorous,

transparent, quantitative method that measures the degree to which individual projects

generate net benefits. The answer is a single number – whether NPV or a benefit-cost ratio.

Differences in both infrastructure provision and transport user and other costs and

benefits between a Base Case and a Project Case constitute the costs and benefits (or

disbenefits) of a project.

Challenges with BCA The assumptions behind the BCA can be open to interpretation and can be less than transparent and potentially not accurate and some costs and benefits cannot be readily valued in dollar terms.

Key Steps in undertaking a BCA The key steps in undertaking a BCA are:

1. Establish the base case (for comparison)

2. Identify the benefits and costs of the preferred option

3. Make demand forecasts using demand models

4. Estimate infrastructure investment and operating costs

5. Estimate benefits: user travel, safety, externalities

6. Calculate NPV and benefit-cost ratio

7. Undertake a sensitivity analysis

A detailed description of the the steps in undertaking a benefit-cost analysis is provided in

the National Guidelines for Transport System Management in Australia1.

1 http://ngtsmguidelines.com


BCA Decision Criteria

BCA Decision Rule: to accept or reject a particular project, the BCA decision rule is:

Benefits exceed Costs or Benefit-Cost Ratio greater than one (BCR > 1)

In some jurisdictions a hurdle rate is set, which may be greater than a BCR = 1 for

particular funding programs or project areas.

3. Multi-Criteria Analysis Multi-Criteria Analysis (MCA) provides a framework to enable decision-makers to overcome difficulties in handling large amounts of complex information in a consistent way, particularly as some costs or benefits can be difficult to put into monetary terms.

MCA describes a structured approach used to determine overall preferences among

alternative options, where the options accomplish several objectives. In MCA, desirable

objectives are specified and corresponding attributes or measurable criteria are identified.

The actual measurement of indicators need not be in monetary terms, but are often based

on quantitative analysis (through scoring, ranking and weighting) of a wide range of

qualitative impact categories and criteria. Different environmental and social indicators

may be developed side by side with economic costs and benefits.

Schematic of a Multi-Criteria Analysis presentation


The key steps for performing an MCA are:

1. Identify performance criteria for assessing the option against stated goals

2. Compile an assessment of monetary, quantitative and qualitative impacts.

3. (Optional) Devise a scoring scheme for each criterion (Single Scoring)

4. (Optional) Establish weights to reflect the relative importance of each criterion

5. (Optional) Score each option against the criteria and apply weightings

6. (Optional) Calculate overall results and test for sensitivities of different scores

(Multiple Scoring)

7. Report and interpret findings.

Advantages of MCA The MCA approach can be used to comprehensively describe a project and include all impacts, whether described in monetary, quantitative and qualitative terms, so has many advantages:

• it is open and explicit – the choice of objectives and criteria are transparent

• scores and weights, when used, are explicit and developed according to established

techniques

• provides an important means of communication, within the decision making body and

with the wider community

• widely accepted approach used extensively in the UK

• results can be presented on a single sheet and be readily understood by decision-makers

and the general public

• can apply weights (agreed) to different criteria according to potential impact

• amenable to sensitivity analysis to determine how robust the final results are to changes

in underlying assumptions.

The MCA approach allows qualitative and quantitative data to be combined, so can readily capture aspects not easily quantified or assigned a monetary value, adding to the quality of the analysis.

The analysis results can be expressed qualitatively (e.g. high, medium, low impact), or can

use scores and weights; either as a multi-score (e.g. scores assigned such as 1 for low and 5

for high or even –5 to +5) or combined into a single score using agreed weighting between

various components.


Weightings are best determined by using a panel of experts or by undertaking market

research, as this will overcome the perceived subjectivity objection.

Challenges with MCA MCA has been criticised because assessment weightings may be subjective — this is in contrast to benefit-cost analysis (BCA) which expresses costs and benefits in net present value, where they can be assigned a dollar value.

MCA has been described as not have the same methodological rigour as benefit-cost

analysis. However, rigour doesn't mean accurate results; as poor assumptions or inaccurate

base data can mean the answer is not meaningful. For MCA this criticism can be readily

addressed by establishing transparent procedures in conducting the analysis.

Key Concepts • There are three main types of assessment: Economic, Qualitative and Financial

• Key terms to understand in assessment include: demand, elasticity of demand,

generalised cost, value for money, time value of money, discount rate, net present value,

and benefits assessment

• Two key approaches to assessment are benefit-cost analysis and multi-criteria analysis

• Assessment of a transport policy option requires at a minimum the consideration of a

base case (e.g. do nothing) and the project case (i.e. the option being assessed)

• Analysis of monetised costs requires determination of a net present value, while non-

monetised impacts can be assessed using a qualitative approach

• Multi-Criteria Analysis allows consideration of a much wider range of impacts and can

incorporate a Benefit-Cost Analysis.

Read Australian Transport Assessment and Planning (ATAP) Guidelines http://atap.gov.au (formerly National Guidelines for Transport System Management in Australia)


Exercise 1: Refer to the two transport policy areas outlined in the Exercise Context as a focus for this exercise. Or you can use a transport policy area you are familiar with or working on.

ReflectionQuestion:

What types of benefits and costs can you identify (monetary, quantitative and qualitative)?

4.1 Key Concepts of Transport Policy Assessment.4.1 Key Concepts of Transport Policy Assessment....

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