2. Data and method

For testing the thesis that cost and benefit estimates are accurate and unbiased,Footnote ¹ we collected a sample of 2062 public investment projects with data on cost and benefit overrun. The sample includes eight investment types: Bridges, buildings, bus rapid transit (BRT), dams, power plants, rail, roads, and tunnels. Geographically, the sample incorporates investments in 104 countries on six continents, covering both developed and developing nations, with the majority of data from the United States and Europe. Historically, the data cover almost a century, from 1927 to 2013. Older investments were included to enable analyses of historical trends. For each investment in the dataset, the accuracy of cost estimates was measured by cost overrun (actual divided by estimated cost) while the accuracy of benefit estimates was measured by benefit overrun (actual divided by estimated benefits).

Data on estimated and actual costs and benefits of public investments are difficult to obtain. No statistical agency or other data service exists, from which valid and reliable data may be secured. The data therefore have to be mined item by item from the source, which is time consuming. All investments that we know of for which data on estimation accuracy were obtainable were considered for inclusion. Data were collected from a variety of sources, including annual accounts, cost and procurement accounts, revenue accounts, auditors’ data, questionnaires, interviews, and other studies. Only data that could be supported by reliable documentary evidence were included, in order to avoid the well-known problems with recalled data and interviewee biases. In sum, all public investments of the eight types for which data were obtainable and were considered valid and reliable were included in the sample.

Preferably, costs and benefits would be measured over the full life-cycle of an investment. However, such data are rarely, if ever, available. Convention is therefore to measure the costs of a public investment by the proxy of construction or capital costs, and benefits by the proxy of first-year benefits. This convention is followed here. Estimated costs and benefits are the estimates made at the time of decision to build (sometimes also called the “final investment decision,” or FID, based on the final business case), which is the baseline in time from which cost and benefit overrun are measured. Actual costs are measured as recorded outturn costs; actual benefits as first-year benefits, or a later value as close to this as possible, if available and if first-year benefits were not available. Estimated and actual benefits are recorded in the unit of measurement that the planners of the investment decided to use for measuring benefits. Pros and cons of measuring benefits by first-year benefits, and the issue of wider benefits, are discussed in the Appendix.

Ideally, data would be available for both cost and benefit overrun for each investment in the dataset. However, data availability is far from ideal in the measurement of estimated and actual costs and benefits of public investments. For only 327 investments out of the 2062 in the sample were data available for both cost overrun and benefit overrun. Using this ideal criterion would therefore result in scrapping large amounts of useful information for the 1735 other investments in the sample, which would clearly be unacceptable. We therefore decided to run the statistical tests twice, first for the full sample of 2062 investments, second for the subsample of 327 investments with data for both cost overrun and benefit overrun for each investment. This gave us the advantage of being able to test whether results are robust across different samples, which proved to be the case.

Investments were included in the sample based on data availability, as mentioned. This means that the results of the statistical analyses presented below are probably conservative, that is, cost overruns in the investment population are most likely larger than in the sample, and benefit overruns smaller. This is because availability of data is often an indication of better-than-average investment management, and because data from badly performing investments are often not released and are therefore likely to be underrepresented in the sample. This must be kept in mind when interpreting results.

It should also be mentioned that there might be a survival or selection bias in the data. Even if cost-benefit analyses themselves were done without bias, such survival or selection bias might influence which analyses and policies get used in practice and therefore go on the record. If only policies that appear favorable on paper are implemented, there will be a selection bias toward policies that overestimate benefit and underestimate cost – even if the estimations themselves are honest and balanced. Such bias is difficult, and sometimes impossible, to deal with in statistical terms, because it is about things that did not happen, for example, there is no ex-post outturn cost to record, and thus no cost overrun or underrun, on a policy that never happened, although an ex-ante cost estimate and cost-benefit analysis may well exist. Survival and selection bias is likely to prevail to some extent for any database that includes only policies that were undertaken and omits those that were proposed but not undertaken, as one must for data on cost and benefit overruns. This, too, should be kept in mind when interpreting results.

Finally, it must be mentioned that the assessment of cost-benefit analysis that follows is as much about the so-called “evidence-based policy” movement as it is about cost-benefit analysis. The fundamental question asked is, “how valid and reliable is the evidence presented as justification for the public investments considered?” Three things most clearly distinguish theoretical cost-benefit analysis from practical program evaluation. First, consideration of costs, which are often not addressed in academic program evaluations. Second, consideration of multiple effects rather than one or a couple that are typically the focus of evaluation designs. And third, monetization of benefits, typically with shadow prices. The present dataset takes account of capital cost but focuses primarily on realization of predicted impacts for benefits, for reasons of data availability. This means, on the one hand, that full results are likely to be even less accurate than suggested by the reported public investment statistics, because uncertainty in shadow prices is not taken into account. On the other hand, it also means that without shadow pricing the results are as much about impact prediction as about cost-benefit analysis, something most would agree is desirable even in the absence of cost-benefit analysis. The requirements of theoretical cost-benefit analysis, including shadow pricing, are often not met in practice. This means that for large-sample research, like that reported below, the sample will inevitably include this type of more limited cost-benefit analysis/impact prediction.

Data and method are described further in the Appendix.

3. How accurate is cost-benefit analysis?

Table 1 and Figure 1 summarize the results from testing the thesis that cost and benefit estimates are accurate and unbiased. Taking rail as an example, average cost overrun is listed in the table as 1.40, which means that for rail investments actual costs turned out to be 40 % higher than estimated costs, on average and in real terms, indicating substantial inaccuracy in cost estimates for rail. Average benefit overrun for rail is listed in the table as 0.66, which is evidence of a benefit shortfall of 34 %, meaning that on average 34 % of the estimated passengers never showed up on the actual trains, again indicating substantial inaccuracy.

Table 1

Cost-benefit estimates are inaccurate, biased, and compound each other.

Note: Accuracy is measured by cost and benefit overruns in 2062 public investments. Cost and benefit overruns are measured as actual divided by estimated costs and benefits (A/E), respectively, in real terms.

Abbreviation: BRT, bus rapid transit.

^a Weighted and unweighted average, respectively.

* The p-value of Wilcoxon test with null hypothesis that the distribution is symmetrically centered around one.

** The p-value of the test with null hypothesis that cost overrun is balanced by benefit overrun (Mann-Whitney test). See main text for explanation.

Figure 1.

Two histograms showing the relative frequency of cost and benefit overruns, respectively, pooling all investments (N = 2062). Values larger than or equal to 3.0 have been lumped together. If estimates of costs and benefits were largely accurate and unbiased, both histograms would be more or less symmetrically distributed around 1 with thin tails (technically, we would expect the log of the distribution to be exactly symmetric around one). In fact, each histogram is highly asymmetrical, not distributed around 1, and fat tailed (to the left for benefits, to the right for costs). On average, cost overruns are compounded by benefit shortfalls instead of being mitigated by benefit overruns. The findings are overwhelmingly statistically significant (p < 0.0001). aebenefit, actual benefit divided by estimated benefit; aecost, actual cost divided by estimated cost; ≥3.0, values have been pooled.

If cost estimates were largely accurate and unbiased, cost overruns would be narrowly and more or less symmetrically distributed around 1. Eyeballing Table 1 and Figure 1 it is clear this thesis is false: average cost overrun is higher than 1 and the right tail is fat. The visual reading is verified by statistical tests that reject the thesis at an overwhelmingly high level of statistical significance (p < 0.0001, Wilcoxon test).Footnote ² While we do not expect the distribution to be normal, we still include tests of skewness (Agostino test) and kurtosis (Anscombe test) for reference. The cost overrun data has a skewness of 23.2, and the D’Agostino test confirmed this is significantly different from 0 (p < 0.0001). The cost overrun data furthermore has a kurtosis of 724.1, and the Anscombe-Glynn kurtosis test found this is significantly different from 3 (p < 0.0001), which is the kurtosis of a normal distribution, from which we conclude that the data have tails much fatter than normal. Cost overruns are highly inaccurate and biased for public investments, ranging from an average cost overrun for roads of 24 % to dams at 85 %, in real terms.Footnote ³ The fact that the data show bias is a crucial finding, because whereas errors cancel out, biases compound. Biases – and especially biases with fat tails, as here – are therefore notably worse news than errors in public investment planning.

Table 1 and Figure 1 further show that benefit estimates are also inaccurate, though less so than cost estimates. BRT and rail investments have significant benefit shortfalls, on average respectively 58 and 34 %. In contrast, for bridges, buildings, power plants, and roads benefit estimates are fairly accurate on average. If benefit estimates were generally accurate, benefit overruns would be narrowly and more or less symmetrically distributed around one. Statistical tests reject this thesis at an overwhelmingly high level of statistical significance (p < 0.001, Wilcoxon test). Like cost estimates, benefit estimates are inaccurate and biased. Again the Wilcoxon test was supplemented by tests of skewness and kurtosis, and again this confirmed that the data on benefit overrun are skewed and heavy tailed. The benefit overrun data has a skewness of 1.1, and the D’Agostino test confirmed this is significantly different from 0 (p < 0.0001). The benefit overrun data furthermore has a kurtosis of 6.5, and the Anscombe-Glynn kurtosis test found this is significantly different from that of a normal distribution (p < 0.0001). We see that the kurtosis for cost overrun (724) is much larger than for benefit overrun (6.5), meaning that although both types of overrun are significantly more fat tailed than the normal distribution, the data on cost overrun have a more extreme tail than the data on benefit overrun, which is fat, nevertheless, as clearly documented by the left side of Figure 1. Finally, it is interesting to note a difference between the statistical and the economic significance of the benefits data. One could argue that the weighted total average benefit overrun of 0.94 is surprisingly good for economic predictions and that 0.94 is not economically significantly different from one, although statistically it is overwhelmingly significantly different (p < 0.0001). This illustrates the point that economic and statistical significance are not the same and should be considered separately. It must be remembered, however, that the samples of benefits data are small for most investment types and that further research is therefore necessary before final conclusions can be reached. It should also be mentioned that even if a difference is small, if it is mostly unidirectional and if it is repeated year in and year out, then it will compound over time and eventually might become significant, including in economic terms.

Considering cost and benefit overrun together, we see that the detected biases work in such a manner that cost overruns are not compensated by benefit overruns, but quite the opposite, on average. We also see that investment types with large average cost overruns tend to have large average benefit shortfalls. These are important findings, because not only do errors not cancel out for costs and benefits viewed separately, as documented above. On top of this, inaccuracy is accelerated by the fact that the average investment is hampered by a combination of cost overrun and benefit shortfall, undermining investment viability on two fronts, that is, for both costs and benefits. Table 1 includes a statistical test of the thesis that cost overrun is balanced by benefit overrun, that is, that errors of cost underestimation are compensated by similar errors of benefit underestimation (the p-values for this test are shown in the right-most column of Table 1). We see that the thesis is rejected with overwhelming statistical significance (p < 0.0001, Mann-Whitney test).Footnote ⁴

Finally, we tested whether error and bias in cost-benefit estimates have been reduced over time and found this is not the case. In sum, the data show that the main problem with cost-benefit analysis is not error, but bias. This is bad news, because where errors tend to cancel out each other because of their randomness, biases are systematic and therefore compound leading to results of cost-benefit analysis that are highly misleading.

It is noteworthy that for not a single of the eight investment types in Table 1 did forecasters overestimate cost and for not a single investment type did they underestimate benefits, on average. That is how strong and consistent the biases are. Theories, like Albert O. Hirschman’s (Reference Hirschman and Flyvbjerg2014) “Hiding Hand” and similar “just-start-digging” theories, which predict that cost underestimates will be offset by benefit underestimates of similar or larger magnitude – and that therefore resource allocation will be okay despite initial errors in estimates – are not supported by the data; they are rejected, and again at an overwhelmingly high level of statistical significance (p < 0.0001) (Flyvbjerg, Reference Flyvbjerg2016).

We see that the average investment is impaired by a combination of substantial cost underestimates compounded by significant benefit overestimates. Such systematic and significant bias in cost-benefit analysis is likely to lead to resource misallocation, including initiating investments that ultimately turn out to have negative net benefits and should never have been started, as argued by the World Bank (2010) and Ansar et al. (Reference Ansar, Flyvbjerg, Budzier and Lunn2014).Footnote ⁵ If investments are large enough and the economies where they are built are fragile, then just one major misallocation of resources in this manner, for a single investment, can negatively affect the national economy for decades, as Brazil and Pakistan have learned with their large-dam investments (Ansar et al., Reference Ansar, Flyvbjerg, Budzier and Lunn2014), and Greece with the 2004 Olympic Games (Flyvbjerg & Stewart, Reference Flyvbjerg and Stewart2012).

We emphasize that the finding above – that investments are on average undermined by a combination of cost underestimates leading to cost overruns and benefit overestimates resulting in benefit shortfalls – does not mean that investments do not exist for which cost underestimates were fortuitously outweighed by similar or larger benefit underestimates. For instance, the German Karlsruhe-Bretten light-rail line, which is in the dataset, had a cost overrun in real terms of 78 % but an even larger benefit overrun of 158 %. Similarly, the Danish Great Belt toll-road bridge – the longest suspension bridge in the world at the time of completion – had a cost overrun of 45 % combined with a benefit overrun of 90 %, making the investment profitable. Such investments, however, are in the minority. For the vast majority of investments (80 %), cost overrun is not compensated by benefit overrun.

One might speculate, of course, that conceivably the one fifth of investments where benefit overrun compensated cost overrun may have generated more benefits in the aggregate than the four fifths that did not, much like just a few startups that succeed wildly may make up for the many that fail. We tested this thesis and found, at an overwhelmingly high level of statistical significance, that (a) not only is this not the case for public investments, but (b) the opposite is true since the net effect of the situation where cost overrun is not compensated by benefit overrun (80 % of investments) is larger than the net effect of the situation where benefit overrun compensated cost overrun (p = 0.001, two-sided Mann-Whitney test).

Table 1 shows that a typical ex-ante benefit-cost ratio produced by conventional methods is overestimated by between approximately 50 and 200 %, depending on investment type. Again, this is a statistically significant bias showing that standard cost-benefit analysis consistently overestimates the net benefits of investments by a large margin, and therefore may not be trusted.

In addition to the standard statistical tests above, we tested results for the influence of investment type, geography, and time using Bayesian modeling. We found only few and small significant differences across investment type, geography, and time and none of them ran counter to the main conclusion that cost and benefit estimates are inaccurate, biased, and compound each other. The underestimation of costs and overestimation of benefits therefore do not seem to be driven by certain geographies or older investments. The pattern seems universal across space and time with an overwhelmingly high level of statistical support.

To conclude, the data show that cost and benefit estimates for public investments are highly inaccurate and biased. Cost underestimates and benefit overestimates are much more common than cost overestimates and benefit underestimates, at an overwhelmingly high level of statistical significance (p < 0.0001). The findings are robust across both conventional and Bayesian statistical analysis, and across different samples, covering different sample sizes, geographies, and time periods. The average investment is impaired by a double whammy of substantial cost underestimates compounded by significant benefit overestimates. As a consequence, benefit-cost ratios are overestimated by between 50 and 200 %, depending on investment type. The data show ex-ante cost-benefit analysis to be so misleading as to be worse than worthless, because decision makers might think they are being informed by such analysis when in fact they are being significantly misinformed about the return on planned investments. As a consequence, decision makers may give the green light to investments that should never have been started, leading to misallocation of resources, where the whole purpose of cost-benefit analysis is the opposite: improved resource allocation. This points to a central problem for welfare economics, and for any type of economics or policy that relies on cost-benefit analysis: ex-ante estimates of costs and benefits are so erroneous and biased that instead of being the powerful tool for effective resource allocation and improved welfare depicted by theory, in practice cost-benefit analysis is in fact a poor and highly misleading guide for policy. In practice, biases creep in and derail the logic and good intentions of theory. To disregard this, as is common, is a fallacy. We call it the “cost-benefit fallacy” and add it to the list of other fallacies and biases in human decision-making identified by behavioral science in recent years.

4. The cost-benefit fallacy

We define the cost-benefit fallacy as the situation where individuals behave as if cost-benefit estimates are largely accurate and unbiased, when in fact they are highly inaccurate and biased. Two questions arise. First, how does one explain the cost-benefit fallacy in more depth? Second, how does one eliminate or mitigate the fallacy? In this section, we focus on the first question, that is, explanations. In the next section, the second, that is, cures.

The data presented above show with overwhelming statistical significance that it is not the fact that cost-benefit forecasts are in error that needs explaining, as is the common view for cost-benefit analysis, if the question of accuracy comes up at all (which it mostly does not). The fact that needs explaining is that the vast majority of cost-benefit forecasts are systematically biased, with underestimation for cost and overestimation for benefits. Our data go back 86 years and for this period the bias in cost-benefit forecasts has been constant. Cost-benefit forecasters are “predictably irrational” as regards bias, in the words of Ariely (Reference Ariely2010). To begin to understand why, consider the following example.

Recently, the CEO of one of the biggest and most successful public infrastructure providers in the world explained to us why the cost forecast for one of their multi-billion-dollar investments – a high-speed rail line – had proven too low, resulting in significant cost overrun. There were three causes of the underestimate and overrun, according to the CEO. First, construction had taken longer than scheduled. Second, the investment, which involved extensive tunneling, had run into unexpected geological conditions, resulting in unplanned costs. Third, price inflation for both labor and materials had been higher than expected, the CEO explained. This is a typical and plausible way to account for cost overrun, which most would accept. Delays, geology, and price inflation are common stated causes of cost overrun in construction investments, as are complexity, scope changes, bad weather, archeological finds, and the like. This is the industry standard, in terms of explanation.

We analyzed the evidence for the specific investment and assured the CEO, yes, you are right. On the surface of things delays, geology, and price inflation caused your cost overrun. However, you will neither truly understand nor solve the problem as long as you see it like this, or so we argued. To really understand what happened to your investment, you would need to think in terms of root causes. And at the level of root causes, the explanation of your overrun is much simpler, with a single source: optimism. You were optimistic about the schedule, in assuming you could deliver the rail line several years faster than is usual for this type of investment, without having good reasons for this assumption. Second, you were optimistic about the geological conditions, without having investigated sufficiently. Third, you were optimistic about price variations, assuming variations would be small when in fact history shows they are large. This is optimism, pure and simple, unless you deliberately misrepresented the schedule, geology, and prices, in which case it would be strategic misrepresentation, we further argued.Footnote ⁶ In either case, your problem is a behavioral one, related to your own conduct and that of your organization and stakeholders. To understand and solve the problem you need behavioral science, not a better understanding of geology or market prices or better Gantt charts, or so we advised the CEO.

Behavioral scientists would agree that schedules, geology, market prices, scope changes, and complexity are relevant to understanding what goes on in public investment projects, but would not see them as root causes of inaccuracy and bias in cost-benefit forecasts. The root cause of cost overrun, according to behavioral science, is the well-documented fact that planners and managers keep underestimating the importance of schedules, geology, market prices, scope changes, and complexity in investment after investment. From the point of view of behavioral science, the mechanisms of scope changes, complex interfaces, archeology, geology, bad weather, business cycles, and so forth are not unknown to public investment planners, just as it is not unknown to planners that such mechanisms may be mitigated. However, planners often underestimate these mechanisms and overestimate the effectiveness of mitigation measures, due to well-known behavioral phenomena like overconfidence bias, the planning fallacy, and strategic misrepresentation.

In behavioral terms, scope changes, and so forth are manifestations of such misjudgment on the part of planners, and it is in this sense that planners’ behavior is the root cause of inaccuracy and bias in cost-benefit forecasts. But because scope changes and so forth are more visible than the underlying root causes, they are often mistaken for the cause of inaccuracy and bias. In behavioral terms, with scope changes as example, the causal chain starts with human bias (deliberate or not), which leads to underestimation of scope during planning which leads to unaccounted for scope changes during delivery which lead to cost overrun. Scope changes are an intermediate stage in this causal chain through which the root causes manifest themselves. Similarly with complexity, geology, and other so-called causes. With behavioral science we say to public investment planners and managers, “Your biggest risk is you!” It is not scope changes, complexity, and so forth in themselves that are the main problem; it is how planners and managers misconceive and underestimate these phenomena, through overconfidence bias, the planning fallacy, strategic misrepresentation, and so forth. This is a profound and proven insight that behavioral science brings to cost-benefit forecasting and public investment planning, but unfortunately also an insight that is not always readily acknowledged and integrated in cost-benefit scholarship and practice (Flyvbjerg et al., Reference Flyvbjerg, Ansar, Budzier, Buhl, Cantarelli, Garbuio, Glenting, Holm, Lovallo, Lunn, Molin, Rønnest, Stewart and van Wee2018).

Behavioral science entails a change of perspective: The problem with cost-benefit forecasts is not error but bias, and as long as we try to understand and solve the problem as something it is not (error), we will not solve it. Forecasts, policies, and decisions need to be de-biased, which is fundamentally different from eliminating error (Flyvbjerg, Reference Flyvbjerg2008; Kahneman, Reference Kahneman2011; Flyvbjerg, Reference Flyvbjerg2013). The main problem is also not cost overrun, even if overrun is what hurts and is visible and therefore gets the attention. The main problem is cost underestimation. Overrun is a consequence of underestimation, with the latter happening upstream from overrun, often years before overruns manifest. Again, if you try to understand and solve the problem as something it is not (cost overrun), you will fail. We need to solve the problem of cost underestimation to solve the problem of cost overrun.Footnote ⁷ Until we understand these basic insights from behavioral science, we are unlikely to get cost-benefit forecasting and resource allocation right. As long as we allow ourselves to be blinded by optimism bias, overconfidence bias, probability neglect, and other behavioral biases, we will keep reproducing the cost-benefit fallacy. The solution to overcoming the fallacy is therefore fairly straightforward: de-biasing.

5. Four steps to cost-benefit reform

Cost-benefit analysis may, no doubt, be a helpful tool in public investment policy and planning. However, cost-benefit analysis as practiced today is less than useful, because it is highly biased, as documented above. Cost-benefit theory and practice were developed long before behavioral science and have yet to adapt to its findings about the nature and causes of bias. This needs to change. We saw above that for public investments the biases are so substantial that the average cost-benefit analysis results in resource misallocation, instead of contributing to the effective use of scarce assets which is the whole point of cost-benefit analysis.Footnote ⁸ For cost-benefit analysis to become useful in public investment policy and planning, the following needs to happen:

1. (i). Systematic and effective de-biasing of cost-benefit forecasts.

2. (ii). Introduction of skin-in-the-game for cost-benefit forecasters.

3. (iii). Independent audits of cost-benefit forecasts.

4. (iv). Adaption of cost-benefit forecasting to the messy, nonexpert character of democratic decision-making.

First, and most importantly, behavioral science predicts that any forecast – including cost-benefit estimates – is prone to bias. If forecasts are biased, they must be de-biased before they can be reliably used in policy making and investment decisions, or policies and decisions will be biased, too. Nudges will not suffice. Deliberate and precise de-biasing will be needed. Taking our clue from Kahneman and Tversky (Reference Kahneman, Tversky, Makridakis and Wheelwright1979), and using Kahneman’s (Reference Kahneman2011, p. 245) so-called “outside view,” we developed methods for such de-biasing for public investments. We use the distributional information about actual estimation errors in previous investments (established via ex-post studies) to precisely assess by how much the cost-benefit estimates for a planned venture must be adjusted before they may be considered effectively de-biased (Flyvbjerg et al., Reference Flyvbjerg, Glenting and Rønnest2004; Flyvbjerg, Reference Flyvbjerg2006). In his book Thinking, Fast and Slow, Daniel Kahneman reviews this work, and especially our advice to use empirical distributional information for de-biasing. Kahneman concludes,

The method for systematically (mathematically and statistically) taking the outside view is called “reference class forecasting (RCF)” and is today used at scale in public investing around the world, including in countries where the method has been made mandatory, such as the UK and Denmark (Danish Ministry for Transport and Energy, 2006, 2008; UK Department for Transport, 2006). Independent evaluations of the method confirm its value and accuracy (Liu & Napier, Reference Liu and Napier2010; Liu et al., Reference Liu, Wehbe and Sisovic2010; Kim & Reinschmidt, Reference Kim and Reinschmidt2011; Bordley, Reference Bordley2014; Awojobi & Jenkins, Reference Awojobi and Jenkins2016; Batselier, Reference Batselier2016; Chang et al., Reference Chang, Chen, Mellera and Tetlock2016; Batselier & Vanhoucke, Reference Batselier and Vanhoucke2017).Footnote ⁹ Only with such de-biasing will cost-benefit forecasts be accurate and help allocate resources effectively.

Second, better incentives for accuracy in cost-benefit forecasts should be introduced. Better methods alone will not solve the problem. Akerlof and Shiller (Reference Akerlof and Shiller2009, p. 146) suggest “firing the forecaster” when forecasts are very wrong and the consequences severe. Flyvbjerg (Reference Flyvbjerg2013, pp. 771–772) goes one step further in proposing “suing the forecaster” in cases of gross neglect and gross deliberate manipulation of forecasts and investors. The first court cases for public investment forecasting were decided in 2015, for Sydney’s Lane Cove toll tunnel, which went bankrupt when more than half the forecasted cars never appeared in the tunnel, and for Brisbane’s Clem 7 tunnel and Airport Link, which had comparable problems (Worthington, Reference Worthington2012; Saulwick, Reference Saulwick2014; Rubin, Reference Rubin2017). More litigation quickly followed in the United States, treating traffic forecasters as criminals (Evans, Reference Evans2010; Dezember & Glazer, Reference Dezember and Glazer2013; Hals, Reference Hals2013; Miller, Reference Miller2013; Wright, Reference Wright2014; Singh, Reference Singh2017). Recently, the judge responsible for the Muskrat Falls dam inquiry in Canada decided to report executives to the police for possible criminal charges related to cost underestimation for the dam (LeBlanc, Reference LeBlanc2020; Roberts, Reference Roberts2020). Similarly, executives who misled investors about the completion date and costs for two nuclear reactors at the V.C. Summer plant in South Carolina were prosecuted and pleaded guilty to felony fraud charges in federal and state court (Collins, Reference Collins2020). Criminalizing planners and cost-benefit analysts like this has sent shock-waves through the global forecasting and cost-benefit community, contributing to much-needed discipline and accountability. Here we suggest, as a more general and more moderate heuristic, that often it would make sense to consider giving cost-benefit forecasters skin in the game. Lawmakers and policymakers should develop institutional setups that reward forecasters who get their estimates right and punish those who do not. We should not be surprised that cost-benefit estimates are wrong if forecasters have no incentive to get them right. True, forecasters are supposed to be neutral and unbiased. But to confuse such normativity with reality is naive, for policymakers and scholars alike.

Third, independent audits are needed to ensure that points one and two above – better methods and better incentives for more accurate forecasts – work according to intention, and to adjust them when they do not. Auditing must be effectively separated from political motivations, to avoid the type of political distortion of cost-benefit forecasts described in detail by Wachs (Reference Wachs1986, Reference Wachs1989, Reference Wachs1990, Reference Wachs, Carmon and Fainstein2013), Harrington et al. (Reference Harrington, Morgenstern and Nelson2000), Flyvbjerg et al. (Reference Flyvbjerg, Holm and Buhl2002, Reference Flyvbjerg, Glenting and Rønnest2004), Harrington (Reference Harrington2006), and World Bank (2010). If this does not happen, audits will not and cannot serve their purpose. Audits should allow for transparency and external scrutiny, including scrutiny by independent experts, the public, and media.

Finally, and perhaps most importantly, for cost-benefit analysis to be accepted and have impact it must be understood and practiced not in the top-down, technocratic fashion that is common historically but, instead, in ways that fit with the messy, nonexpert character of present-day democratic decision-making. Here cost-benefit analysis is just one of many inputs that are amalgamated in the overall decision-making process. Top-down, technocratic approaches are anachronistic and will not work in this context. Kahneman (Reference Kahneman2011, pp. 141–142) contrasts cost-benefit technocrats with cost-benefit democrats, exemplifying technocrats with Harvard law professor Cass Sunstein and democrats with University of Oregon psychology professor Paul Slovic. Kahneman writes about Sunstein, who is a self-declared cost-benefit technocrat and whose work Kahneman otherwise holds in high regard:

Kahneman here captures the key beliefs and a priori assumptions of cost-benefit technocrats, including (a) the view that cost-benefit analysis is a force for good in deciding policies; (b) faith in the objectivity of science as a basis for cost-benefit calculations; and (c) belief in impartial experts for making better decisions. Kahneman (Reference Kahneman2011, pp. 140–145) juxtaposes this position with that of Slovic and other cost-benefit democrats, who Kahneman says “trusts the experts much less and the public somewhat more than Sunstein does.” Kahneman (p. 144) approvingly cites Slovic (Reference Slovic2000) for arguing that expert-based decision-making, like that supported by cost-benefit technocrats, produces policies that the public will reject, which is an untenable situation in a democracy, according to Kahneman. “Slovic rightly stresses the resistance of the public to the idea of decisions being made by unelected and unaccountable experts,” concludes Kahneman (Reference Kahneman2011, p. 144) with Slovic.

Kahneman (Reference Kahneman2011, p. 144) considers both Sunstein and Slovic “eminently sensible” and he explicitly states, “I agree with both.” We agree with Kahneman. Nobody in their right mind would argue that expert input, science, and cost-benefit analysis are undesirable in deciding which policies and investments to pursue in a society. But, similarly, no one in their right mind would depend on only experts in making such decisions, especially when we know that experts are subject to the cost-benefit fallacy and produce, over and over, the kind of biased cost-benefit analyses documented above. Sunstein and other cost-benefit technocrats overemphasize the importance of experts and place too much trust in them. By supplementing Sunstein with Slovic – technocracy with democracy – Kahneman (Reference Kahneman2011, pp. 144–145) develops a more balanced position, from which he argues that democracy “is inevitably messy” and emphasizes that the public’s concerns, “even if they are unreasonable, should not be ignored by policy makers.” Experts, science, and cost-benefit analysis are not enough to arrive at high-quality policy decisions, argues Kahneman. The messy process of democracy is called for to merge all concerns, including unreasonable ones, because only in this manner will policy be able to muster the support necessary to be successful.

The four measures for better cost-benefit analysis outlined above are not ivory tower theory. They have recently been implemented in innovative, full-scale experiments around the world, with encouraging results, as documented by HM Treasury (2003), the Danish Ministry for Transport and Energy (2006, 2008), the Swiss Association of Road and Transportation Experts (2006), the UK Department for Transport (2006), Kahneman (Reference Kahneman2011, pp. 249–253), Flyvbjerg et al. (Reference Flyvbjerg, Hon and Fok2016, Reference Flyvbjerg, Ansar, Budzier, Buhl, Cantarelli, Garbuio, Glenting, Holm, Lovallo, Lunn, Molin, Rønnest, Stewart and van Wee2018) and UK Department for Transport and Oxford Global Projects (2020). More such work is in the pipeline, bringing the findings of behavioral science to cost-benefit forecasting, resulting in more realistic and more useful forecasts.

6. Summary and conclusions

In this paper, we set out to test the accuracy of cost-benefit analysis of public investments. We found a fallacy at the heart of conventional cost-benefit analysis: forecasters, policymakers, and scholars tend to assume that cost-benefit forecasts are more or less accurate, when in fact they are highly inaccurate and biased, at an overwhelmingly high level of statistical significance. In public capital investing, the fallacy results in average overestimates in ex-ante benefit-cost ratios of 50–200 %, depending on investment type. Individual estimates of benefit-cost ratios are routinely off by much more than these averages.

Cost-benefit analysis can undoubtedly be a useful tool in public investment policy and practice, but only after the cost-benefit fallacy has been acknowledged and corrected for. For this to happen, the following must become part and parcel of cost-benefit practice: (a) new methods for effective de-biasing of ex-ante cost-benefit estimates, based on behavioral science; (b) incentives for using these methods, including skin-in-the-game; (c) independent audits to check that the methods and incentives work according to intention; and, finally, (d) integration of results in messy, real-life democratic decision-making processes, which consider other concerns than the results of cost-benefit analyses. The good news is that the theoretical and methodological rationale for this type of behaviorally based cost-benefit analysis has already been developed and is finding use in policy and practice. The bad news is that the cost-benefit fallacy seems to be as ingrained in human behavior as the many other biases identified by behavioral science and will therefore be as difficult to root out. That should not keep us from trying, needless to say, which is what we have done with the research reported in the present paper.