Section II: Sector Guidelines and Case Studies for Project Appraisal 17
4. Economic Cost of an Exportable Used by a Project
Price paid at the Project site
The economic cost of the imported magnets will be:
CIF adjusted for Forex Premium + Economic Values of Port Charge
+ Economic Values of Freight from port to project
(2) Economic Benefit of an Importable Produced by a Project (Import Substitution) Financial Benefit of production by the project equals costs savings to user units from not importing the materials minus the cost of transportation from the plant to the market or the user unit. The economic benefit is calculated from the financial benefit after adjusting for distortions and foreign exchange premium.
Thus, financial benefits are:
CIF at importing port + Tariff
+ Port Charges Including Tax/subsidy
+ Freight and Insurance including tax/subsidy from port to market or user unit
Importer’s Price
- Transport Charges from Mine to Power Plant Financial Price at the site of the project
The economic benefit (price) of import substitution product produced by the project will be the economic value of the savings to the economy from not importing that product:
CIF Adjusted for Forex Premium
+ Economic Value of Port Charges
+ Economic Value of Freight and Insurance from port
- Economic Value of Transport Cost from project to user unit or the market
(3) Economic Benefit of an Exportable Produced by a Project
Economic benefit of the exported items is estimated by first calculating its financial price (benefit) and then adjusting it for distortions and foreign exchange premium:
Financial Price of Exported item produced by the project:
FOB at the port +/- Subsidy/tax
- Freight and insurance from project to port inclusive of tax/subsidy, if any
-Port Charges at the Port inclusive of tax/subsidy, if any
Price Received by the project
The Economic Benefit (price) of exported item will be:
FOB Adjusted for Forex Premium
- Economic Value of Freight and Insurance from project to port
- Economic Value of Port Charges
4. Economic Cost of an Exportable Used by a Project
Financial cost will be loss from not exporting plus transport cost from project to market or user unit. The economic costs will be computed from financial cost with adjustment for
distortions and foreign exchange premium.
The financial cost of using exported item:
FOB at the port
- Port Charges inclusive of tax/subsidy if any - Freight from project to port and Insurance inclusive of tax/subsidy if any
Price Received by the exporting unit
+ Freight and Insurance from exporting unit to market or project
Price paid by the project using the exported materials as input
The economic cost of the exported item used as input by the project will be:
FOB Adjusted for Forex Premium - Economic Value of Port Charges
- Economic Value of Freight and Insurance from exporting unit to port
+ Economic Value of Freight and Insurance from exporting unit to project/market
Below are two numerical examples of computing economic cost and benefit after adjusting for distortions, foreign exchange premium and costs of transportation and port handling.
Example 4: A Project Importing Pneumatic Tires
( These figures are assumed for illustrative purposes only)
Consider, once again, the imports of pneumatic tires. Suppose that the financial cost of handling exclusive of a 20 percent VAT is INR 15 per tire;
hence the financial cost of handling inclusive of tax is 15 * (1 + 0.20) = INR 18 per tire. The
financial cost of transportation from the port to the assembly plant (after taking into account a 10 percent subsidy) is INR nine per tire. The subsidy is expressed as a percentage of production costs. The financial and economic costs of a tire as an input to car assembly are calculated below:
Financial Cost at Assembly Plant = Financial Price at Port + Financial cost of Domestic Transportation + Financial Cost of Handling
= (INR 2,574 + INR 9 + INR 18) = INR 2,601 To obtain the final economic cost of a tire including transportation and handling, we begin with the economic price of a tire in domestic currency at the port as calculated in earlier section. After we adjust handling and
transportation costs for their distortions and for the foreign exchange premium, we add the economic cost of handling and transportation to the economic price of a tire at the port to obtain the final economic cost of tires at the project site. It is assumed that transportation is made of 60 percent tradable content and handling is made of 80 percent tradable content, and hence, their 60 percent and 80 percent costs,
respectively, are adjusted for FEP.
Economic Cost of Tire at the port (in domestic Currency including FEP) = INR 2,000
Economic Cost of Transport = [Financial Cost / (1-Subsidy) ] * (1 + 0.6*FEP)
= (INR 9/0.9) * 1.07 = INR 10.7
Economic Cost of Handling = [ Financial Cost / (1+Tax) ] * (1 + 0.8*FEP)
= (18/1.2) * 1.09 = INR 16.35
Economic Cost of Tire at project site
= 2,000 + 10.7+ 16.35= INR 2027
Conversion factor including costs of
transportation and handling = 2027/2601 = 0.779
Example 5: A Project Exporting Shoes (These figures are assumed for illustrative purposes only)
Similar adjustments should be made for the export of shoes. Suppose that the handling charges exclusive of a 20 percent VAT are 56 rupees per dozen shoes and the transportation charges from the factory to the port (after taking into account a 10 percent subsidy) are 80 rupees per dozen shoes. Hence,
Financial Cost of Domestic Transportation
= INR 80
Financial Cost of Handling = Net-of-tax Cost of Handling * (1+Tax)
= INR 56 * 1.2
= INR 67.20
Financial Price at Factory Gate = Financial Price at Port - Financial Cost of Domestic
Transportation - Financial Cost of Handling
= (INR 9,900 – INR 80 – INR 67.20)
= INR 9,752.80
To obtain the final economic value including transportation and handling, we begin with the economic price of shoes in domestic currency at
the port (including the FEP component) as calculated in the previous section. We then adjust handling and transportation costs for their distortions and for the foreign exchange
premium, and thereafter, we subtract the adjusted economic values of transport and handling from the economic prices of shoes to obtain the economic prices of shoes at the project site. It is assumed that transportation is made of 60 percent tradable component and handling is made of 80 percent tradable content, and hence, their costs are adjusted for FEP as follows.
Economic Cost of Shoes (in domestic currency including FEP)
= INR 9,000*1.11 = INR 10,000
Economic Cost of Transport = [Financial Cost / (1-Subsidy) ] * (1 + 0.6*FEP)
= (INR 80/0.9) * 1.07
= INR 94.81
Economic Cost of Handling = [ Financial Cost / (1+Tax) ] * (1 + 0.8*FEP)
= (INR 56/1.2) * 1.089
= INR 50.80 rupees
Economic Value of Shoes at project site = 10,000-94.81-50.80 = 9,854.40 rupees Conversion factor with transportation and handling costs = 9854.4/9752.80 = 1.0104