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Discounting and confidence

  • Traeger, Christian P.


    (University of California, Berkeley. Dept of agricultural and resource economics)

The paper analyzes the discount rate under uncertainty. The analysis complements the probabilistic characterization of uncertainty by a measure of confidence. Special cases of the model comprise discounting under smooth ambiguity aversion as well as discounting under a disentanglement of risk aversion from aversion to intertemporal substitution. The paper characterizes the general class of preferences for which uncertainty implies a reduction of the discount rate. It also characterizes how the more comprehensive description of uncertainty changes the discount rate with respect to the standard model. The paper relates different results in the literature by switching between different risk measures. It presents a parametric extension of the Ramsey discounting formula that takes into account confidence into future growth estimates and a measure of aversion to the lack of confidence. If confidence decreases in the futurity of the growth forecast, the discount rates have a falling term structure even in the case of an iid growth process.

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Paper provided by University of California at Berkeley, Department of Agricultural and Resource Economics and Policy in its series CUDARE Working Paper Series with number 1117R.

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Length: 41 pages
Date of creation: Jun 2011
Date of revision: Sep 2011
Handle: RePEc:are:cudare:1117r
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  1. Weil, Philippe, 1990. "Nonexpected Utility in Macroeconomics," The Quarterly Journal of Economics, MIT Press, vol. 105(1), pages 29-42, February.
  2. Kimball, Miles S, 1990. "Precautionary Saving in the Small and in the Large," Econometrica, Econometric Society, vol. 58(1), pages 53-73, January.
  3. Peter Klibanoff & Massimo Marinacci & Sujoy Mukerji, 2002. "A smooth model of decision making under ambiguity," ICER Working Papers - Applied Mathematics Series 11-2003, ICER - International Centre for Economic Research, revised Apr 2003.
  4. Miles Kimball & Philippe Weil, 2009. "Precautionary Saving and Consumption Smoothing across Time and Possibilities," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 41(2-3), pages 245-284, 03.
  5. Kreps, David M & Porteus, Evan L, 1978. "Temporal Resolution of Uncertainty and Dynamic Choice Theory," Econometrica, Econometric Society, vol. 46(1), pages 185-200, January.
  6. Gierlinger, Johannes & Gollier, Christian, 2008. "Socially Efficient Discounting under Ambiguity Aversion," IDEI Working Papers 561, Institut d'Économie Industrielle (IDEI), Toulouse.
  7. Ravi Bansal & Amir Yaron, 2000. "Risks for the Long Run: A Potential Resolution of Asset Pricing Puzzles," NBER Working Papers 8059, National Bureau of Economic Research, Inc.
  8. Klibanoff, Peter & Marinacci, Massimo & Mukerji, Sujoy, 2009. "Recursive smooth ambiguity preferences," Journal of Economic Theory, Elsevier, vol. 144(3), pages 930-976, May.
  9. Gollier, Christian, 2002. "Time Horizon and the Discount Rate," Journal of Economic Theory, Elsevier, vol. 107(2), pages 463-473, December.
  10. Gilboa, Itzhak & Schmeidler, David, 1989. "Maxmin expected utility with non-unique prior," Journal of Mathematical Economics, Elsevier, vol. 18(2), pages 141-153, April.
  11. Traeger, Christian P., 2011. "Subjective Risk, Confidence, and Ambiguity," Department of Agricultural & Resource Economics, UC Berkeley, Working Paper Series qt0gw7t7vn, Department of Agricultural & Resource Economics, UC Berkeley.
  12. William D. Nordhaus, 2007. "A Review of the Stern Review on the Economics of Climate Change," Journal of Economic Literature, American Economic Association, vol. 45(3), pages 686-702, September.
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