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Discounting when income is stochastic and climate change policies

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  • Boyarchenko, Svetlana
  • Levendorskii, Sergei

Abstract

We introduce stochastic income into the standard exponential discounting model and study dependence of effective discount rates on the type of the underlying stochastic process and agent's current income level. If the income follows a process with i.i.d. increments effective discounting is exponential. If the income follows a mean reverting process, the shape of discount rate curves depends on the margin between the agent's current income and the long-run average. The model is used to study how the willingness to pay for investments in abatement technologies depends on the current wealth of a country.

Suggested Citation

  • Boyarchenko, Svetlana & Levendorskii, Sergei, 2010. "Discounting when income is stochastic and climate change policies," MPRA Paper 27998, University Library of Munich, Germany.
    • Handle: RePEc:pra:mprapa:27998
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    File URL: https://mpra.ub.uni-muenchen.de/27998/1/MPRA_paper_27998.pdf
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    More about this item

    Keywords

    time preference; discounted utility anomalies; uncertainty; willingness to pay;
    All these keywords.

    JEL classification:

    • D81 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Criteria for Decision-Making under Risk and Uncertainty
    • D91 - Microeconomics - - Micro-Based Behavioral Economics - - - Role and Effects of Psychological, Emotional, Social, and Cognitive Factors on Decision Making

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