The cost-benefit divide

So we do a lot of cost-benefit analysis in our daily lives and in our long-term planning, and in everything in between. It's not always something we do consciously, and it can be hard to decide what counts as a cost and what counts as a benefit. Assuming you're past those initial steps, though, the whole point of doing cost-benefit analysis is, in economic terms, to get the best return on your investment. It's a ratio of the benefit you accrue to the cost you incur. If you have multiple options, you generally choose the one with the most favorable ratio.

It really starts to get wonky, though, because doing the cost-benefit analysis in itself costs you something. That is, one of the costs you incur is the time and effort you spend doing the cost-benefit analysis. This means that it sometimes seems rational to cut corners in the analysis, since cutting costs anywhere improves the ratio. Now, if you'll think back to your basic pre-algebra class, you'll recall that the value of ^a/_b gets bigger when a gets bigger or b gets smaller. The potential problem, then, is that being less careful about the comparison lets you reduce b. Why is this a problem? Because the point of doing cost-benefit analysis is to choose between options, and doing the analysis carelessly reduces b by the same amount across the board. That is, it doesn't actually help you prioritize.

The interesting thing is that there are two really simple ways to be careless without appearing to be: one is to maximize a while ignoring b, and the other is to minimize b while ignoring a. And it's certainly true that, ceteris paribus, doing so would optimize ^a/_b . Unfortunately, most of the time, all other things are not equal; forcing a change in a almost always drives a change in b, and vice versa. By focusing on a to the exclusion of b, or on b to the exclusion of a, we  make ourselves less accurate in our estimation of ^a/_b .

Curiously, the two ways of "cheating" on cost-benefit analysis are exemplified in the two core handlers of funds in our culture. The entire narrative surrounding public money (money raised through taxes, government money) is focused on cutting spending (that is, on minimizing costs); there's never any consideration of the benefits accrued by paying those costs. This is why it looks rational, to some people, to constantly cut education budgets. The entire narrative surrounding private money (corporations), on the other hand, is focused on maximizing profits. The problem here is that profits are a function, but not a ratio, of costs to benefits – profits equal the benefits minus the costs. In many ways, this is a misleading metric – if your costs are $100 and your income is $150, your profits are $50 even though the ratio is only 1.5. On the other hand, if your costs are $10 and your income is $50, your profit is only $40 while the ratio is 4. (The converse of this, of course, applies to the cost-cutting attempts with public money.)

This means that making decisions based on either a or b to the exclusion of the other, or on an a - b metric rather than an ^a/_b metric, can yield gross inefficiency. This, in turn, means that taking cognitive shortcuts when doing cost-benefit analysis is a generally poor way to reach optimal decisions.