A Review Article: The Case against the Use of the Sum of Compensating Variations in Cost-Benefit Analysis

This paper presents a case against the use of the sum of compensating variations as a cost-benefit test. The authors argue that (1) the ethical judgments implied by the test are not defensible; (2) positive sums of compensating variations occur without potential Pareto improvements, resulting in social preference reversals without simultaneous Scitovsky reversals; (3) when lump-sum transfers are feasible, a positive sum of compensating variations is necessary, but not sufficient, for a potential Pareto improvement; and (4) in order to eliminate preference reversals and intransitivities, all households must have almost identical quasi-homothetic preferences--a condition that is not satisfied in real economies.