‫جامعة البلمند‬

Spring 2022/2023 Lecture 6

CVLE 542 : Sustainable Development in Transportation

Engineering

Chapter 6: Transportation Economics, Investment, and

Decision Making.

Dr. Firas Barraj

1
Basic concepts and principles
Basic concepts and principles
Basic concepts and principles
 Basic concepts and principles

Externalities
❑ In economics, an externality or external cost is an indirect cost or benefit to an

uninvolved third party that arises as an effect of another party's (or parties') activity.

❑ Externalities such as air and water pollution, land and soil degradation,

non-renewable resource consumption and greenhouse gas generation are all

very important in the context of sustainability.

❑ The cost of air pollution to society is not paid by either the producers or users of

motorized transport to the rest of society.

Basic concepts and principles

Externalities
 Basic concepts and principles

Marginal Social Cost

Marginal or incremental social costs

❖ The price for most (but not all) products and services should be set, such that it equals the full

social cost of producing the last increment of production, also known as the ‘incremental

social cost’ or ‘marginal social cost’.

❖ Full cost means that the price should include sufficient charges to cover all externalities. The

exceptions are products and services for which costs decrease with increased quantity, instead

of increasing with each unit, creating the conditions for a ‘natural monopoly’.

❖ This is historically the reason for the creation of major public utilities and transit systems –

having more users of the same system could lower the cost for all.
 Basic concepts and principles
Congestion Delay
❑ One of the most important components of the marginal social costs in transportation is the cost

of congestion.

❑ Each additional vehicle adds delay not only to the occupants themselves, but to all other people in

the traffic stream by increasing the density of traffic, hence slowing it down. This delay externality

is actually far larger than the cost imposed to oneself.

❑ Congestion caused by private vehicles often slows public transportation considerably, especially

when bus lanes and other transit priority measures are not in place.

❑ Transit delay can be viewed as a doubling of traffic congestion’s externalities: it adds delay to each

of the bus passengers as well as increasing costs, such as driver time and fleet size requirements, to

the public agency itself.

 Basic concepts and principles
Monetization
➢ Total time delay to users is multiplied by a value of time to obtain a monetary value.
➢ Averaged values are used based on aggregated characteristics of subpopulations.
➢ air and noise pollution, are converted from one set of physical emission units into monetary units
that are purported to express health system expenses, property value reduction and other costs.
➢ Necessary in preparation for using the most popular economic evaluation methods.

Air
pollution

Delay

Noise
 Basic concepts and principles
Monetization
➢ It can be problematic; the value of time, for example, is often simply placed at one half the
average hourly income of people living or working in an area, even though it is clear that
income levels vary a great deal and the purposes of trips change the value of time.

➢ As another example, part of the monetized cost of air pollution of a particular type and quantity
can be traced indirectly through statistical means to reduced crop yield and extra medical
expenses. Reasonable people can question the appropriateness of monetizing reduced visibility,
shortened lives or the uprooting of communities caused by rising sea levels. Then there are
items that defy even quantification, let alone monetization, such as the quality of life.

➢ The conversion factors used for monetization can be a subject of contention, with estimates
varying as widely as those making them. Less frequently recognized are the other items that
should be included but cannot be in strictly monetary-based methods. Additional evaluation
approaches designed to take them into consideration are also sometimes used.
 What is evaluation?
“Process of determining the desirability of
different courses of action and of
presenting this information to decision
makers in a comprehensive and useful
form”
(Meyer and Miller, 2001)
 Evaluation Criteria
A transportation project is intended to accomplish one or more goals and
objectives, which are made operational as criteria. The numerical or relative
results for each criteria are called measures of effectiveness.
 Basics of Evaluation
➢ Historically, evaluation focused on:
– Benefits and costs expressible in $ terms
– Benefits realized and costs incurred by users.

➢ Economic evaluation techniques:

– Estimate costs and benefits for each year of operation
– Discount to a base year
– Compare
 User Benefit Resulting from
Transportation improvement
❑ Travel time savings
❑ Reduced cost of vehicle operation
❑ Reduction in accidents
Benefits: Travel Time Savings
Benefits: Reduced Cost of Vehicle Operation

Benefits: Reduction in Accidents

Costs
Time Streams of Benefits and Costs
Discounting
Present Worth of Money
Capital Recovery
 Evaluation of Alternative Plans
(a) Economic Analysis
• All impacts of an alternative are expressed in monetary units; positive
benefits as well as negative effects.
• There are different techniques for doing the economic evaluation that
includes: rate of return, annual costs, net present value, benefit-cost
ratio, and payback period.
(a) engineering economy analysis, and (b) multicriteria evaluation
(a) Multicriteria Evaluation
• Rather than the economic criteria, there are also other possible factors
(e.g. social, environmental, political, and even some additional
economic) that need to be taken into account in making decisions as to
which alternative plan should be implemented.
• The multicriteria evaluation (called also cost-effectiveness analysis)
should provide a flexible framework for developing information that
aids in comparing alternative plans.
Net Present Value (NPV) Method
Net Present Value (NPV) Method
Evaluation of Planning Alternatives
Engineering Economy -Example-
Equivalent Uniform Annual Worth
 Example
Consider three plans for the improvement of a heavily traveled road within the city of Beirut. The
aims of each of these plans is to improve travel speeds, increase safety, and reduce the operating
expenses of motorists.
The costs of the each of the three alternatives are summarized in the following table:

Annual Annual
Annual Annual Travel
Construction Operating Additional
Alternative Saving In Time Benefits
Cost ($) Cost Savings Maintenance
Accidents ($) ($)
($) Cost ($)
A 185,000 5,000 3,000 500 1,500

B 220,000 5,000 6,500 500 2,500

C 310,000 7,000 6,000 2,800 3,000

Which alternative should be selected based on the NPV method?

Given: Life of the road = 50 years, Discount rate = 3%
Solution
Solution (cont.)
 Rate of Return (ROR) Method
➢ This method involves a comparison of the rates of return on
investments from several alternative plans using the following formula:

𝐑−𝐄
𝐑𝐎𝐑 =
𝐂

where,
R = anticipated revenues
E = Operating expenses
C = Investments
 Example
➢ Use the ROR method to assess alternatives A, B, and C for the
improvement of the existing transportation facilities in the city.
Alternatives A B C

R $ 840,000 $ 840,000 $ 840,000

E $ 720,000 $ 780,000 $ 660,000
C $ 1,600,000 $ 1,520,000 $ 1,880,000
ROR 7.5 % 4.0 % 9.6 %

% ROR(A) = 7.5%
% ROR (B) = 4.0%
% ROR (C) = 9.6%

In spite of its higher investments, alternative C gives the most favorable

rate of return because of lower operating expenses.
 Benefit-Cost Ratio Method

• The ratio of the present worth of net project benefits and net project costs is
called the benefit– cost ratio (BCR).

• This method is used in situations where it is desired to show the extent to

which an investment in a transportation project will result in a benefit to the
investor.

• If the BCR is less than 1.0, this would mean that the costs are greater than
the benefits. In this manner, the project should only be selected, if other
noneconomic benefits are substantial.
Evaluation of Planning Alternatives
Engineering Economy -Example-
• Given r, convert B and C flows to PV value equivalent.
 Benefit-Cost Ratio Method
• To make comparisons between alternative projects, It is necessary to determine how
the added investment and costs compares with the added benefits.

• Given r, convert B and C flows to PV value equivalent.

𝑩𝟏,𝟐 𝑩𝟏 − 𝑩 𝟐
𝑩𝑪𝑹𝟏,𝟐 = =
𝑪𝟏,𝟐 𝑪𝟏 − 𝑪 𝟐
where alternative 1 is the higher cost alternative
❑ If the BCR is 1 or greater, then the higher cost alternative is economically attractive.
❑ If the BCR is less than 1, this alternative is discarded.

• BCR-technique leads to the same ranking of alternatives as the NPV,

and thus to the same conclusions.
 Benefit-Cost Ratio Method/Steps
• Step 0: Arrange alternatives in order of increasing capital cost

• Step 1: Compare each alternative with do‐nothing alternative to

make sure that all alternatives are justified on economic terms
compared with the null alternative

• Step 2: Compare each alternative with all other lower capital

cost alternatives

• Step 3: Choose alternative which has highest capital cost and

has B/C ratios of > 1.0
 Example
Consider three plans for the improvement of a heavily traveled road within the city of Beirut. The
aims of each of these plans is to improve travel speeds, increase safety, and reduce the operating
expenses of motorists.
The costs of the each of the three alternatives are summarized in the following table:

Annual Annual
Annual Annual Travel
Construction Operating Additional
Alternative Saving In Time Benefits
Cost ($) Cost Savings Maintenance
Accidents ($) ($)
($) Cost ($)
A 185,000 5,000 3,000 500 1,500

B 220,000 5,000 6,500 500 2,500

C 310,000 7,000 6,000 2,800 3,000

Which alternative should be selected based BCR method?

Given: Life of the road = 50 years, Discount rate = 3%
Solution
 Payback Period Method
➢ It is the length of time from the beginning of the project until the net
benefits return the cost of the capital investment.
➢ The payback period is a common, rough means of choosing between
investments in business enterprises, especially where there is a high
degree of risk.
➢ In areas of high risk it is desirable to return the capital costs as quickly as
possible.
➢ Solve for NPV = 0

• Solve k and select the alternative with lowest k

Evaluation of Planning Alternatives
Engineering Economy -Example-
 Multi-Criteria Evaluation Method
Many problems associated with economic methods limit their
usefulness.

Among these are:

• Converting criteria values directly into dollar amounts.

• Choosing the appropriate value of interest rate and service life.

• Failing to distinguish between groups that benefit and those that lose.

• Considering all costs, including external costs.

 Multi-Criteria Evaluation Method
➢ Main limitation of economic methods is that some criteria (or
measures of effectiveness) are not easily translated into dollar
amounts

➢ Multi‐criteria methods account for social, economic, and

environmental factors
 Illustrative Example
Given the information of three alternative plans against three evaluation criteria in
the following table:
Criteria
Alternatives Investment Cost Average Trip Time Public Transport Share
(1000 $) (min) (%)
A 1023 41.7 42.8
B 1063 39.9 42.6
C 1479 37.2 44.4
w 10 8 5
Illustrative Example