Evaluation of Investment Risks in CBA with Monte Carlo Method

Abstract

Investment decisions are at the core of any development strategy. Economic growth and welfare depend on productive capital, infrastructure, human capital, knowledge, total factor productivity and the quality of institutions. Decision-making process on the selection of suitable projects in the public sector is in some aspects more difficult than in the private sector. Evaluating projects on the basis of their financial profitability, where the basic parameter is the value of the potential profit, can be misleading in these cases. One of the basic objectives of the allocation of public resources is respecting of the 3E principle (Economy, Effectiveness, Efficiency) in their whole life cycle. The life cycle of the investment projects consists of four main phases. The first pre-investment phase is very important for decision-making process whether to accept or reject a public project for its realization. A well-designed feasibility study as well as cost-benefit analysis (CBA) in this phase are important assumptions for future success of the project. A future financial and economical CF which represent the fundamental basis for calculation of economic effectiveness indicators are formed and modelled in these documents. This paper deals with the possibility to calculate the financial and economic efficiency of the public investment projects more accurately by simulation methods used.

Investment decisions are at the core of any development strategy. Economic growth and welfare depend on productive capital, infrastructure, human capital, knowledge, total factor productivity and the quality of institutions. Decision-making process on the selection of suitable projects in the public sector is in some aspects more difficult than in the private sector. Evaluating projects on the basis of their financial profitability, where the basic parameter is the value of the potential profit, can be misleading in these cases. One of the basic objectives of the allocation of public resources is respecting of the 3E principle (Economy, Effectiveness, Efficiency) in their whole life cycle. The life cycle of the investment projects consists of four main phases. The first pre-investment phase is very important for decision-making process whether to accept or reject a public project for its realization. A well-designed feasibility study as well as cost-benefit analysis (CBA) in this phase are important assumptions for future success of the project. A future financial and economical CF which represent the fundamental basis for calculation of economic effectiveness indicators are formed and modelled in these documents. This paper deals with the possibility to calculate the financial and economic efficiency of the public investment projects more accurately by simulation methods used.