Full Cost Accounting In Environmental Decision-Making

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Archival copy: for current recommendations see http://edis.ifas.ufl.edu or your local extension office.Full Cost Accounting in Environmental Decision-Making1David W. Carter, Larry Perruso, and Donna J. Lee2IntroductionThe term “full cost accounting” (FCA) is usedin a variety of settings. The State of Florida (FloridaStatute 403.7049) requires local governments toemploy FCA in solid waste operations, and theGovernor's Commission for a Sustainable SouthFlorida recommends the use of FCA in plans torestore the Everglades. There are several questionsthat need to be addressed:comparison of the positive and negative aspects ofeach potential site in order to choose the one thatmeets a household's needs at an affordable price.This fact sheet presents introductory answers tothese questions and highlights some generalreferences on FCA and applications in Florida.Businesses go through a similar process whenthey decide on new production processes or alocation for a factory. Sometimes, though, choicesaffect others in ways that create conflict. Thesmokestack emissions from a new factory, forinstance, might soil laundry drying on theclotheslines of neighboring households. If the factoryis required to replace the soiled clothes or purchasedryers for the affected households, then the businessmight choose to relocate elsewhere. Alternatively, ifthe households know that there will be a factorynearby with damaging emissions, they might pick adifferent place to live. The identification of theresponsible party in such cases is typically considereda legal question, but the example shows how difficultit can be to make satisfying decisions in the absenceof information on the full range of costs and benefitsof the relevant choices.Individuals, corporations, and governmentsmake important decisions every day. To make thebest decisions, they need to accurately weigh therelative benefits and costs of various alternatives. Forexample, the decision to purchase a home involves aIn general, the term “full cost accounting”refers to the process of collecting and presentinginformation to decisionmakers on the trade-offsinherent in each proposed alternative. The process canbe especially important for government agencies that What is FCA? What are its economic foundations? How is FCA applied? What tools are available for itsimplementation?1. This is EDIS document FE 310, a publication of the Department of Food and Resource Economics, Florida Cooperative Extension Service, Institute ofFood and Agricultural Sciences, University of Florida, Gainesville, FL. Published November 2001. [This document was prepared for the Center for NaturalResources, University of Florida, Gainesville, FL.] Please visit the EDIS website at http://edis.ifas.ufl.edu2. David W. Carter, Ph.D. student; Larry Perruso, Ph.D. student; and Donna J. Lee, associate professor, Department of Food and Resource Economics,Florida Cooperative Extension Service, Institute of Food and Agricultural Sciences, University of Florida, Gainesville, FL.The Institute of Food and Agricultural Sciences is an equal opportunity/affirmative action employer authorized to provide research, educationalinformation and other services only to individuals and institutions that function without regard to race, color, sex, age, handicap, or national origin.For information on obtaining other extension publications, contact your county Cooperative Extension Service office. Florida CooperativeExtension Service/Institute of Food and Agricultural Sciences/University of Florida/Christine Taylor Waddill, Dean.

Archival copy: for current recommendations see http://edis.ifas.ufl.edu or your local extension office.Full Cost Accounting in Environmental Decision-Makingrepresent a variety of interests when deciding how toallocate public funds and/or natural resources.The example that we use in this fact sheetsupposes that a government land use agency isdeciding what to do with a large coastal wetland neara rapidly growing metropolitan area. The agencyrecognizes that the wetland can be filled to createspace for further urban development or preserved aspart of a larger recreational reserve for the localcommunity. It also recognizes that a compromisealternative is possible, whereby some portions of thewetland are preserved and other portions are filledand developed. However, the agency is uncertainwhich approach to take, so they decide to use a FCAapproach to learn more about the costs and benefits ofeach alternative.Economics of Full Cost AccountingThe fundamental economic concept in FCA isopportunity cost. This definition of cost refers to thevalue of opportunities that are given up when achoice is made to use a limited resource for a specificpurpose. For example, the materials and equipment(e.g., soil and tractors) used to fill our examplewetland cannot be used elsewhere. The opportunitycost of using these materials and equipment is theirvalue in other uses, which, if markets are workingproperly, is simply their current market price. Nowconsider that the wetland, once filled, cannot be usedto support local wetland species and other valuableactivities. In this case, the opportunity cost of fillingthe wetland is the forgone value of the wetland as ananimal habitat, a natural filtration system, etc.However, since there is no market for wetlands (inmost places), there is no market price available toindicate the full opportunity cost of filling and usingthe wetland. Economists have developed techniquesto estimate opportunity costs when decisions involvevalues such as those for wetlands that are not directlypriced in the marketplace (Table 1). Thesetechniques are introduced in the next section.Opportunity costs are typically measured interms of direct or indirect changes in market values,but can also be measured as changes in non-marketvalues (i.e., not reflected in market transactions). Inthe wetland example, the cost of the fill materials and2equipment is part of the market cost, whereas thevalue of the wetland unavailable for animal habitat isa non-market cost of the project. The price of the fillmaterials is a direct measure of resource value fromthe marketplace, but there may be other values (e.g.,wetland-related waterfowl hunting) that can beindirectly tied to market activities (e.g., purchases ofhunting equipment or the cost of travel to specifichunting spots).Opportunity costs can also be describedaccording to legal responsibilities assigned forpaying the costs. Costs for which each resource useris legally responsible for paying are private costs. Thematerial used in filling the wetland is a private costbecause payment of a fair market price is required touse the material. Opportunity costs that are not theprivate responsibility of the resource user are deemedexternal costs or (negative) externalities. Bothprivate and external costs are somewhat tricky toassess. For example, external costs occur when thereare no laws stating that the person who fills thewetland must compensate for lost wetland-relatedactivities, and private costs occur when there are lawsor regulations governing the use of a resourcebecause business operators recognize them as anothercost of running their operation. In fact, most of theenvironmental regulations in the United States werecreated to “internalize” a larger range ofopportunity costs in the decision-making processes ofindividuals and businesses. Laws governingemissions from factory smokestacks, for instance,were developed to deal with external costs like thesoiled laundry mentioned in the Introduction. Similarlaws and regulations exist to govern the use ofwetland property to prevent damage to naturalsystems. Note that an action can also generatepositive externalities or external benefits that are paidfor by one group but enjoyed by others. For example,an investment in new landscaping not only improvesthe value of a home, it may also provide benefits toneighbors or passers-by who enjoy the view.From the broad perspective of a governmentagency, there may be no distinction between privateand external costs. All decreases in value related to adecision to use a limited resource are socialopportunity costs, while all increases in value aretermed social benefits. FCA is meant to capture as

Archival copy: for current recommendations see http://edis.ifas.ufl.edu or your local extension office.Full Cost Accounting in Environmental Decision-Makingmuch information as feasible about these socialbenefits and opportunity costs. However, there is alimit to the amount of FCA information that can befeasibly collected for a given project because thisinformation is costly to obtain. The costs ofconducting a FCA analysis and any other costs thatare incurred during the decisionmaking process arecalled transaction costs. It would obviously beunwise to pursue a FCA study to the point where thetransaction costs of the analysis are greater than thesocial benefits generated by the project under review.In fact, economic efficiency dictates that FCAinformation should be collected to the point wherethe cost of an additional amount of information justequals the additional benefit that information willgenerate.Procedure and Tools of Full CostAccountingThere are four general steps of a complete FCAanalysis:1. Identification of stakeholders and relevantvalues.2. Generation of project alternatives.3. Evaluation of the effects of each alternative onstakeholders.4. Tabulation, adjustment, and reporting ofresults.Identification of Stakeholders and RelevantValuesThe first step is to identify all stakeholder groupsthat have an interest in the policy or plan beingconsidered. A thorough inventory of stakeholdersincludes those with direct and indirect marketinterests, as well as those who have a stake in thenon-market aspects of the project. The indirectstakeholders are the groups in the regional economythat are affected by changes in the activities of thedirect stakeholders after a project is implemented. Aspecial effort should be made to identify thestakeholders whose interest in the project cannot beexpressed as changes in market values. Such interestscould relate to non-market environmental or cultural3characteristics that may be affected by the projectalternatives under consideration.The two main stakeholder groups in the wetlandexample are those interested in using the filled landfor residential or commercial developments and thosewho prefer that the area remain in a natural state.Each of these groups represents a variety of entities,and it is possible for the same entity to have a stake inboth groups. For instance, a household interested inthe potential home sites of a filled wetland may alsoenjoy hunting the waterfowl supported by thewetland in its natural state. A careful assessment ofthe stakeholders in the early stages of a FCA helps toclarify conflicting interests and reveal potential areasfor compromise as the analysis progresses.Generation of Project AlternativesThe next step is to create a list of feasible projectalternatives based on recommendations by scientistsand the stakeholders who are closely involved withthe project subject matter. This list includes optionsthat are feasible given the characteristics of the studyarea and the goals of the project. A complete list ofalternatives also includes the "no project” choice. Inour wetland example, the three general alternativesare development (fill and develop the area to supporturban growth), preservation (set aside the area as apart of a recreational reserve), and a combination ofdevelopment and preservation. The total preservationalternative represents the “no project” alternative inthis case. Many decisions are more complicated thanthe wetland example and will have more alternativesto consider. Regardless of the nature of the decision,however, it is important to involve the community inthe early phase of planning to generate alternativesthat represent the full range of interests. The expertopinions of scientists are also crucial at this point,given the characteristics of the natural environment.Evaluation of the Effects of Each Alternativeon StakeholdersThe third step of a FCA analysis examines thepotential direction and magnitude of eachalternative's effect on the recognized stakeholdergroups. In general, increases in stakeholder values arecounted as social benefits of a project alternative,whereas decreases in value are counted as social

Archival copy: for current recommendations see http://edis.ifas.ufl.edu or your local extension office.Full Cost Accounting in Environmental Decision-Makingopportunity costs. There are two underlyingprocedures in this step. First, the potential physicaland environmental effects of each project alternativemust be identified. Second, to the extent possible,these physical and environmental effects aretranslated into changes in stakeholder values andcompared across alternatives. The first procedure isthe purview of the engineers and physical scientists(geologists, biologists, etc.), whereas the secondprocedure is largely left up to the social scientists(i.e., economists and sociologists).In the wetland case, hydrologists determine howfilling the wetland affects the flow and quality ofwater in the area, and biologists estimate how thelocal flora and fauna, including waterfowl, areaffected. An economist then uses the information onthe expected waterfowl population without thewetland to estimate the potential opportunity costs offorgone waterfowl-related recreation (hunting, birdwatching, etc.) if the wetland is filled. There are, ofcourse, other stakeholder values affected by thechanges in the hydrologic and biologic regimes.Some people may simply prefer to preserve thewetland for the option to use them later or for futuregenerations to enjoy as a bequest. A complete FCAanalysis of the wetland decision presents as muchinformation as feasible on the expected changes invalue for the various alternatives. Economists havespecialized tools to measure