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Financial, Economic and Distributional AnalysisxivAn important aspect of the changing context that surrounds dams is the opening up of decisionmakingprocesses to a wider body of informed participation, and even to negotiation of decisionsamongst stakeholders. Review of the gap between actual practice and that reflected in best“academic” practice and guidelines suggest that in a multi-stakeholder, multi-criteria decision-makingarena it becomes important to rethink how evolving tools and methods of economic analysis caninform such decision-making processes in a transparent, participatory and accountable manner. Insuch a context emphasis needs to be placed not only on the financial sustainability of a project and itseconomic attractiveness but on the analysis of who gains and who loses from a project, i.e.distributional analysis. This information, when developed in an open and participatory manner canpromote stakeholder understanding and negotiations surrounding the decision-making process.3. Policy Principles for Financial, Economic and Distributional AnalysisThe following policy-level principles pertaining to the application of Financial, Economic andDistributional Analysis to the assessment of alternatives for water and energy resources developmentand the evaluation of dam projects:Options Assessment. A full range of dam and non-dam options should be included in theidentification and preliminary assessment phase of selecting water and energy projects. An explicitcomparison of options is a necessary precondition for ensuring efficient resource allocation. Theoptions should include both supply and demand management options. The specific stages will varyfrom one context to the next however, the main objectives is that an exhaustive scoping of options beconducted at the outset with subsequent screening out of unattractive options and that at least twoviable alternatives be carried forward to the stage of project selection.Decision-Making Criteria. Economic CBA is a necessary but not sufficient element of optionsassessment and project selection, monitoring and evaluation. Given that not all important impacts canbe valued in economic terms, decision-making should not be based solely on the results of economicCBA, but rather the different aspects of financial, economic and distributional analysis of optionsshould feed into multi-objective and multi-stakeholder decision-making approaches.Equity Considerations, the Pareto Principle and CBA. It may not be enough that the economicgains of a dam project (or a dam option) outweigh the economic losses, rather those who gain mustactually make those who lose better off. Implicit to CBA is a weaker formulation of the ParetoPrinciple, namely the notion that winners could compensate losers. The premise of hypotheticalbetterment of those made worse of by a project due to the extinguishing of their rights and loss ofsocial/environmental entitlements may be judged to be a poor basis for public policy and decisionmakingin today’s context. (Note: this principle is intended to demonstrate that an argument forequitable outcomes can be found within the context of efforts to attain economic efficiency. The useof a dam project to effect a progressive redistribution of societal benefits would be a separate projectobjective where applicable – although economics could assist in monitoring and evaluation of suchobjectives.)Distributional Analysis. A Distributional Analysis should be mandatory for both public and privatesector large dam projects and their alternatives, and serve as a vehicle for informing stakeholdernegotiations. The analysis should include an assessment of whether (and to what degree) the projectaffects vulnerable income groups and groups with distinctive cultural features.Economic Analysis of Private Sector Large Dams. Since large dams typically involve manyexternal impacts, an economic analysis (from the perspective of society) should be performed forprojects owned by private enterprises, as well as for those owned by public institutions.This is a working paper prepared for the World Commission on Dams as part of its information gathering activities. The views, conclusions,and recommendations contained in the working paper are not to be taken to represent the views of the Commission
Financial, Economic and Distributional AnalysisxvDecommissioning Fund. Decommissioning costs are real costs that every dam project will facesometime in the future. For privately sponsored dam project a decommissioning fund should bemandatory and initiated at commissioning.Sensitivity Analysis. Sensitivity analysis of potential range of discount rates and quantitativeanalysis of risk factors must be undertaken as part of the economic analysisAffordability. Countries must ensure that dam projects are affordable, taking into account relevantproject risks. The possibility that revenue flows will not be forthcoming and hence, that loans will gounpaid, with subsequent deleterious affects on the macroeconomic health of a state or country needsto be carefully evaluated prior to project selection.4. Recommendations for Future Practice: MethodsEnvironmental and Social Valuation. Placing monetary values on environmental and socialimpacts of projects is a useful and acceptable practice insofar as it permits explicit examination ofproject and policy alternatives. Studies of this nature should be located within the framework of arecursive consultative interaction with project stakeholders that allows for the identification,prioritisation, selection and valuation of project impacts. Valuation does not, however, preclude thedirect use of social and environmental indicators in multi-objective frameworks. Where possible,values used to quantify these effects in monetary terms should be based on the choices actually madeby individuals in relevant markets. Stated preference methods should not be used with culturesunaccustomed to market transactions. Economic analysis is based on the notion of consumersovereignty, i.e. that the values reflected in the analysis should be those of the people affected by theproject not those of politicians, activists, environmentalists, moral philosophers or economists.Projections of the relative changes in the scarcity of goods and services need to be adequatelyaccounted for in the valuation process using appropriate price escalation factors.As part of a recursive process with stakeholders the direct project benefits and impacts that need to bevalued in economic terms should be developed with a view towards concentrating available funds onassessing those impacts that are expected to be significant but for which the level of magnitude is notclear from existing studies or evidence, or where divergent views on the valuation of the impact exist.Discounting. The discounting of future flows from society’s point of view (i.e. not the private sectordiscount rate) must accommodate the time preference of society for consumption and the opportunitycost of capital; the discount rate cannot simply be set at zero. It is of great importance to movebeyond the ideological and philosophical debates over theory and methods, and foster appliedresearch and development in this field.Sensitivity and Risk Analyses. In deciding whether or not a project should be implemented, it isessential to measure, through sensitivity analysis, the robustness of the results of the analyses toreasonable expectations of changes in the key input variables. The choice of ranges of values for thekey variables should be based on actual experience with other projects of a similar nature. Usingprevious experience, probability distributions for the key variables should be estimated and combinedin an overall probabilistic risk assessment of the project.Distributional Analysis. Improved distributional analysis is only possible if increased resources areinvested in determining the impacts that large dams have not just on the national economy but oninterested and affected populations. Macroeconomic models such as social accounting matricesshould be considered where the secondary impacts of the project may be considerable. Financial andeconomic valuation of project impacts, including the social and environmental impacts, should takeplace as an integral part of the consultative process of social and environmental valuation describedabove. Placing valuation of impacts and the analysis of the distribution of these impacts within thecontext of negotiations over the project is recommended.This is a working paper prepared for the World Commission on Dams as part of its information gathering activities. The views, conclusions,and recommendations contained in the working paper are not to be taken to represent the views of the Commission
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