Estimating deadweight loss in arts funding

A rough estimate puts deadweight losses in Australian arts funding at $3.6 million in 2009-10.

Crowdsourcing government arts funding argues that government funders could use crowdfunding to reduce deadweight losses associated with their arts funding.

This is a post script to explore how big those deadweight losses might be. A rough estimate for Australia puts deadweight losses in Federal arts funding at $3.6 million in 2009-10.

Below I run through my calculations. This whole exercise is more than a little academic. It was sparked by curiosity more than anything else, so beware: the calculations are extremely rough.

First, a note on what deadweight losses are. Pedants might complain that I use the term ‘deadweight loss’ too loosely. In economics, the term usually describes losses caused by certain taxes in which the benefits lost by consumers and producers under the tax are not transferred to government: They are benefits that are lost entirely, that disappear into the ether, that not transferred between parties. Hence they are ‘deadweight losses’ to society.

I have used the term more liberally, defining deadweight losses as ‘costs incurred that do not go toward producing anything’. This might be considered too loose an interpretation. Perhaps I should be employing some alternative phrase – wastage is probably more accurate. But in my defence, even the Encyclopedia of taxation and tax policy suggests that ‘much of the time spent in grant writing and proposal evaluation is deadweight loss.’ (Encyclopedia of taxation and tax policy, 2005, Joseph J. Cordes, Robert D. Ebel, Jane Gravelle, Urban Institute, p. 219)

So in this spirit I will continue to use the term to mean costs associated with the grantmaking system that do not go toward producing anything – in essence, the costs associated with unsuccessful grant applications.

There are three major components to deadweight losses defined in this way:

1. The cost to applicants of developing proposals for unsuccessful grant applications
2. The cost to funders of administering and processing unsuccessful applications
3. The cost to reviewers of considering applications

How big is deadweight loss in Australian arts funding? Is it big enough to try to do anything about? I have done a VERY rough ‘back of the envelope’ estimate to get an idea of the magnitude of deadweight losses associated with the Australia Council’s grants system: $3.6 million.

The table below summarises the calculations. A discussion follows about how the estimates are derived and what they mean.
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How are the estimates derived?
In 2009-10, the Australia Council received 4,700 grant applications, of which 1,873 were approved for a total grant pool of $27.53 million. (Figures from the Australia Council’s Annual report).

This means that 2,827 grant applications did not receive funding. The costs associated with these unsuccessful applications – their deadweight loss – is made up of three components:

Applicant costs
The calculations assume that an applicant takes forty hours to prepare a grant application. At the minimum wage of $15 per hour, this equates to $600 per grant. This translates to $1.7 million for all unsuccessful grants.

How sensitive is this estimate? If an application takes half as long, deadweight loss would be $850,000.If it takes twice as long, deadweight loss would be $3.4 million. At a more generous wage of $25 per hour, deadweight loss would be $2.83 million.

Funder costs
This is extremely hard for anyone outside of the Australia Council to estimate. I have simply assumed that processing costs make up 10 percent of the Council’s grants budget. By this very basic measure, the funder spends just under $600 procesessing each grant, for a total deadweight loss of $1.7 million.

A processing cost of $600 per grant is miniscule by lawyers’ standards – the cost of a lawyer’s quick loo break, or a sneeze while on the phone to a client. By the standards of arts administration, however, a marginal expense like this is nothing to sneeze at. The estimate may well be on the high side. On the other hand, processing takes not just staff-related costs, but also a portion of fixed costs such as computer, communications and other office expenses.

Peer reviewers’ costs[1]
Peer reviewer costs are mainly ‘in kind’ rather than financial. The calculation here is based on the ‘opportunity cost’ of a peer’s time. At an hourly rate equivalent to the minimum wage and the assumption that each application takes a peer the equivalent of half an hour to review, each applications represents $7.50 in peer opportunity cost.

Assessment panels consist of board members and peers, and seem to vary from between six to ten members. For numerical simplicity, it is assumed here that each application is reviewed on average by 10 peers. This means that the ‘peer’ costs of reviewing each application is $75, which adds up to $212,000 for all unsuccessful grants in 2009-10.

To consider the sensitivity of this estimate, if the opportunity cost of reviewers’ time was $25 (still low considering peers’ likely skills and experience), deadweight loss would be $353,400. If each grant takes only 15 minutes to review, the deadweight loss would be $106,000 at the minimum wage rate.

Total deadweight loss
When added together, these three components come to $3.6 million dollars in deadweight losses in 2009-10. Using some of the high/low figures described here, the total might be between $1.8 and $7.2 million (a very large range admittedly, but reflective of the rough guesses that have been made).

What does it mean?
Is this deadweight loss significant? There is no rule to determine whether or not this deadweight loss is large or small. It is, however, equivalent to 13 percent of total grants given. (With high/low estimates ranging from 7 to 26 percent of total grants given)

While it is not possible to say whether this is significant, it is certainly a loss that would be worth reducing through the sort of partnership put forward in Crowdsourcing arts funding, in which unsuccessful applications for Australia Council funding go into a second round crowdfunding process. If successful at the second stage, the costs associated with these applications would not be wasted, and deadweight loss reduced. If one in four grants sent to a second crowdfunding round were successful, this would recoup just over $890,000 of deadweight losses.

Savings in this region may not seem a lot from a policy point of view, but it represents a good supplement to the other benefits from government funders employing crowdfunding. And remember, part of this ($420,000 of it) is a recouping of expenses incurred by applicants – artists, arts groups and arts organisations – that operate on shoestring budgets. The $420,000 in recouped deadweight losses to the arts sector is equivalent to the average creative income of 25 artists (based on the latest artists’ survey, An economic study of professional artists in Australia)

Any system that brings savings for this group in the region of hundreds of thousands of dollars should surely be welcome benefit, even if it is somewhat hidden and so more difficult to gain credit for.

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[1] I use the term ‘peer’ to mean anyone who assesses grant applications, which, in Australia Council parlance, means both ‘peers’ and art form board members present at assessment meetings.