|Educational Cost-benefit Analysis - Education Research Paper No. 02 (DFID, 1993, 27 p.)|
The methodology of cost-benefit analysis has been in existence since the turn of the century and was, for example, incorporated in the USA's River and Harbor Act of 1902. Its use mushroomed in the 1950s, again in the USA, in connection with attempts to rationalize the large-scale development of major river valleys.
Subsequently, applications were extended to virtually all areas of public sector investment, including in the nationalized industries, health expenditures, housing schemes, traffic networks, land-use and town planning problems, and regional development, and also in the private sector. The technique developed extensively in the USA, was then applied increasingly in the UK, and became commonly used throughout developed and developing countries (Press and Turvey, 1965).
Well-known examples in the UK include the cost-benefit analyses relating to the original M1 motorway, the third London airport, London's Victoria Line underground, the Morecambe Bay Barrage project, and the re-siting of London's Covent Garden market (Button and Barker, 1975), and in the USA reservoir construction and disease control (MIshan, 1971).
By extension, as part of the developing interest in the economics of education, cost-benefit analysis was applied to investment in education, where it increasingly became known as "rate-of-return analysis". The term "Benefit-Cost Analysis" is also used, including in the most widely-read text on the economics of education in the USA (Cohn and Geske, 1990)
Regarding the resulting cost-benefit measures,
"There are three ways of presenting this information in a convenient form, firstly by means of a benefit-cost ratio, secondly by a calculation of the present net value of the project, and thirdly by calculating the internal rate of return of the investment. A benefit-cost ratio, as the name implies, simply measures the ratio of discounted future benefits to discounted costs, at a particular rate of interest, and the present net value of a project is the value of discounted benefits minus discounted costs. Both these measures of investment yield have been used to carry out cost-benefit analysis of education, but they are less frequently used to evaluate education than the third technique, rate-of-return analysis....The virtue of using the rate of return as a means of measuring the yield of educational investment is that the choice of an alternative rate of return is not built into the calculation as it is in the case of benefit cost ratios" (Woodhall, 1970).
The many theoretical problems relating to cost-benefit analysis received extended treatment (Layard, 1972; Mishan, 1971; Peters, 1973).
The founding date of the economics of education as a subject area is usually taken to be the seminal lecture given by Professor Theodore Schultz to the annual meeting of the American Economic Association in 1960, in which he advocated the concept of human capital - investment in people could be as important, and as expensive, as investment in physical capital and appealed to his fellow economists to take seriously this neglected branch of study (Hough, 1991). Previous references can also be found in the writings of earlier economists, dating back to Adam Smith.
Once human beings had come to be seen as a form of capital, akin to items of industrial machinery, it was inevitable that economists would endeavour to apply to them the same kinds of calculations of investment criteria, profitability, and rates-of-return as had previously been familiar in the worlds of public sector investment or industrial economics. Therefore, calculations of rates-of-return to investment in education soon followed, among the earliest being those by Professor Hansen relating to USA males, published in 1963.
Subsequently there has developed a large literature, seeking to answer such questions as: "Should investment in education be increased (or decreased)?", "Would we do better to concentrate more resources at the primary school end of the process rather than on higher education?", or "How does the performance of one country in this respect compare with those of other countries?".
Perhaps the peak of official acceptance of the value of the results of cost-benefit studies in the UK was their inclusion in the White Paper on Higher Education issued by the Department of Education and Science in 1985 (Cmnd. 9524) and their use in the 1988 White Paper on Top-Up Loans for Students: in the latter the fact that private rates of return exceeded social rates of return was used to justify the introduction of student loans.