SYRACUSE UNIVERSITY MAXWELL SCHOOL OF CITIZENSHIP AND PUBLIC AFFAIRS PAI 897 Fundamentals of Policy Analysis Memo 3 Cost Benefit Analysis Case Dang Valley Irrigation System1 You are an economist for an international NGO that makes subsidized loans for the improvement of agricultural production. You have been approached by the Government of Nepal, which wants your organization to fund construction of a US $41 million irrigation system in the Dang Valley, the heart of agricultural production in the country. The purpose of the new system is to increase agricultural production, but there are other costs and benefits that may accrue as well. There has been a traditional system of wells and canals, but it is more than 50 years old and has a number of problems. First, 100,000 gallons of water per month are lost because of leaks in the canals. Second, in the last 10 years, 20 people have drowned in the existing canals. Third, the runoff from the canals flows into the Rapti River. When it rains, runoff from the fields flows directly into the canals, and pollution from pesticides has substantially increased pollution of the river, especially over the past 10 years. This has, among other things, substantially affected the fishing of the river. Pollution has killed many fish, and while those who have not died are not safe to eat, the local population has nonetheless continued to eat them, and many have gotten sick or died. You have the following information on the predicted effects of the new irrigation system.

1. Construction of the new irrigation system is expected to commence in January of next year (t=0), and it will be completed within two years (t=1,2). The $41 million in construction costs will be repaid over 25 years, at a 3-percent interest rate. A 25 year horizon for this irrigation scheme has been predicted by your team of engineers as the time frame over which this investment will have the predicted effects; after 25 years another infrastructure investment decision will need to be made.

2. Once the system is operational, the increase in water availability (because there will no longer be cracks in the system) is expected to increase agricultural production in the Dang Valley by 10 to 12 percent annually. There are a total of 20,000 hectares (ha) of agricultural land in the 1 This case is obviously hypothetical and the numbers shown may differ substantially from actual conditions in Nepal. valley. Current estimates are that crops produced on this land are valued at US$950 per ha per year under current conditions.

3. In order to prevent the kinds of problems, especially drownings and illegal appropriation of water from the canal, that have plagued the current system, the plans are to pay local people to provide security. A total of 10 such security personnel will be needed, and they will be paid the equivalent of US$1,000 per month (that is, $100/month for each person hired).

4. There will also be costs to maintain the system, which will increase as the system ages. There will be no material costs for maintenance over the first five years, but materials will cost $200,000 per year in years 6 to 15, and $500,000 per year after that. It is assumed that labor will be donated by local farmers. This will represent a total of 1,000 hours of labor in years 6 to 15, and 2,500 hours after that.

5. Because of this improved security, the number of drownings is expected to be cut in half when the new canal becomes operational.

6. The reduced pollution will also have benefits for the fishing industry, increasing the income to fishermen. Current estimates are that a ton of fish results in revenue to fishermen of $500,000 annually, and that this will increase by 8 to 12 percent as a result of the new system.

7. In addition, it is estimated that one life will be saved every four years as a result of the reduction in pollution of the Rapti River. In addition, the reduction in water-borne illnesses will reduce doctor and hospital visits by 1,000 per year. It is estimated that one of these visits currently costs between $50 and $100.

8. Each doctor or hospital visit results in one-half day, on average, of lost productivity for workers. It is estimated that the average worker makes $30 to $50 per day.

9. The increased agricultural production will increase the value of the agricultural land, currently worth approximately $2,000 per ha, by an estimated 10 percent.

10. During the period of construction, increased air pollution will have negative health effects, resulting in 500 doctor/hospital visits and 250 lost labor days per year of construction.

Based on your benefit cost analysis, should this project be implemented or not? Explain your calculations and conclusions.