This question is about project appraisal

Year	Cost	Productivity Gain	Output from increased Labour Force	Total Production Benefits	Value of Health	Total Economic Benefits
2023	500,000	0	0	0	0	0
2024	0	100,000	200,000	300,000	100,000	400,000
2025	0	100,000	200,000	300,000	100,000	400,000

Suppose a project is being planned for 2023 that is aimed at the prevention of health problems, through insect control. The initial investment in the project is $500,000 ( measured in local currency units for this hypothetical country). It is expected that this project will reduce the incidence of the disease in question for two years.

In economic terms, the benefits of the project are:

1) an increase in production due to better worker productivity, as well as an increase in the labour force due to lower morbidity.

2) the direct value of better health itself.

The table above shows the estimates of these benefits. Note that the initial cost of the project does not need to be discounted; the 2024 benefits are to be discounted one year and the 2025 benefits are to bediscounted 2 years.

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Officials of the government involved in funding the project are of the opinion that the direct health benefits are too subjective to be included and that the analysis should be limited to the production benefits alone.

If so,

a) What is the net present value of the project? Assume a 15% discount rate. Would this project be undertaken? (4 Marks)

b) What is the net present value of the project using a 10% discount rate. Would this project be undertaken? (4 Marks)

c) To the nearest percentage point, what is the internal rate of return of the project? (That is to say, the discount rate for which net present value is 0.) (2 Marks)

Suppose, though, that Health officials successfully argue that enhancing health of the population is a desirable policy goal in its own right and direct health benefits are to be included in the calculations.

e) What now is the net present value of the project, using a 10% discount rate? What is the internal rate of return? (4 Marks)

f) Clearly, the return on this investment depends heavily on whether or not the estimates of direct health benefits and on how these estimates are made. What about the estimates of production benefits? How likely is it that the figures above would be reasonably accurate for this country? (3 Marks)

g) What special problems do developing countries face with respect to the choice of discount rate?

(3 Marks)