Welfare: Consumer and Producer Surplus and Internal Rate of Return Daniel Mason-D’Croz Sherman Robinson

Welfare Analysis We need to compute benefits and costs associated with policy choices – Benefits and costs occur over long time periods “Discounting” to compute present value of a time stream of benefits and costs “Social” versus “market” benefits and costs – Externalities and non-market costs and benefits – We will focus on direct and indirect, measurable, costs and benefits

Benefits: Consumer Surplus Measurable gains to demanders from changes in supplies of goods due to projects – Idea of “Consumer Surplus” (CS): the total amount demanders would be willing to pay for a given amount of commodities Changes in CS across all markets affected by a “project” measure the benefits attributable to that project – Direct and indirect effects

Benefits: Producer Surplus Producer surplus measures the net benefits to producers from a “project”: the change in total revenue minus the change in total costs of production of all producers – Direct and indirect effects The sum of changes in Consumer and Producer Surplus measures the total benefits arising from a project

Costs Total costs associated with a project include both the direct costs of the “project” (e.g., developing a new seed variety) and the indirect impact on costs of linked producers – We will measure only the “direct” financial costs associated with a project – Changes in costs of linked sectors will be captured by changes in producer surplus, which are measured from the net benefit side.

Demand Curves Impact uses constant elasticity demand curves We need the inverse demand curve to compute consumer surplus: Cannot integrate this function since when Q=0, P=infinity. We work with a linear approximation.

Consumer Surplus

Decomposition of CS

“Virtual” Supply Curves Need to generate a “virtual” supply curve, given yield and land area equations – “Virtual” because it is not generated from a fully specified cost function Yield and area are both functions of producer prices, with constant elasticities – Supply elasticity is the sum of these two elasticities – Constant is the product of the two constants

Producer Surplus

Invert the supply function Integrate to get total cost

Producer Surplus After some algebra

Producer Surplus We need to find the area under a non-linear, constant-elasticity supply curve. After some algebra, that area is equal to: Which is equal to total revenue times 1 over 1 + the elasticity of supply.

Benefit-Cost Analysis Can use CS and PS to measure benefits of introducing some change such as a new technology Need to discount CS and PS over time and compute net present value (NPV) of benefits Need cost data over time to compute NPV of costs

Net Present Values

Benefit-Cost and Internal Rate of Return

Internal Rate of Return IRR calculation is done by using the GAMS solver to find a solution to the equation If NPV of costs exceeds NPV of benefits, the IRR does not exist – We check for this condition and do not try to solve for the IRR in this case

Technology Adoption and Costs Technology Adoption Pathway Module – Pre-processing module the creates data to be read in by IMPACT food module – Allows users to specify regions, and timing for technology adoption Critical to test several adoption scenarios, to inform ex-ante analysis of different technologies

Technology Adoption and Costs Costs are currently exogenous and supplied by the users Technology adoption costs comes in 3 forms: – Global Costs: Not tied to a specific country (e.g. CG- center investments) – National R&D Costs: Costs incurred at the country level to develop and implement a technology (e.g. National Research centers) – Extension Costs: Costs incurred at country level to implement a technology in the field Multiple cost scenarios should be used to test cost sensitivity in the benefit-cost analysis