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Minimax regret discounting

  • Iverson, Terrence
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    The paper considers an environmental policy decision in which the appropriate approach for discounting future costs and benefits is unknown. Uncertainty about the discount rate is formulated as a decision under Knightian uncertainty. To solve this, we employ minimax regret, a decision criterion that is much less conservative then the related criterion maximin—in particular, it can be shown to implement a “proportional response” in that it equally balances concern about the mistake of doing too little with that of doing too much. Despite the criterion's balanced nature, the minimax regret solution mimics a policy that maximizes the present discounted value of future net benefits with an effective (certainty-equivalent) discount rate that declines over time to the lowest possible rate. In addition to reinforcing Weitzman's (1998) original limiting result, the approach generates concrete policy advice when decision makers are unable to specify a prior over possible discount rates. We apply it to the Stern–Nordhaus discounting debate and find that the effective discount rate converges to the Stern rate in just under 200years.

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    File URL: http://www.sciencedirect.com/science/article/pii/S0095069613000673
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    Article provided by Elsevier in its journal Journal of Environmental Economics and Management.

    Volume (Year): 66 (2013)
    Issue (Month): 3 ()
    Pages: 598-608

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    Handle: RePEc:eee:jeeman:v:66:y:2013:i:3:p:598-608
    Contact details of provider: Web page: http://www.elsevier.com/locate/inca/622870

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