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How Should Benefits and Costs Be Discounted in an Intergenerational Context? The Views of an Expert Panel

  • Arrow, Kenneth J.
  • Cropper, Maureen L.

    ()

    (Resources for the Future)

  • Gollier, Christian
  • Groom, Ben
  • Heal, Geoffrey M.
  • Newell, Richard G.
  • Nordhaus, William D.
  • Pindyck, Robert S.
  • Pizer, William A.
  • Portney, Paul R.
  • Sterner, Thomas
  • Tol, Richard S. J.
  • Weitzman, Martin L.

In September 2011, the US Environmental Protection Agency asked 12 economists how the benefits and costs of regulations should be discounted for projects that affect future generations. This paper summarizes the views of the panel on three topics -- the use of the Ramsey formula as an organizing principle for determining discount rates over long horizons, whether the discount rate should decline over time, and how intra- and intergenerational discounting practices can be made compatible. The panel members agree that the Ramsey formula provides a useful framework for thinking about intergenerational discounting. We also agree that theory provides compelling arguments for a declining certainty-equivalent discount rate. In the Ramsey formula, uncertainty about the future rate of growth in per capita consumption can lead to a declining consumption rate of discount, assuming that shocks to consumption are positively correlated. This uncertainty in future consumption growth rates may be estimated econometrically based on historic observations, or it can be derived from subjective uncertainty about the mean rate of growth in mean consumption or its volatility. Determining the remaining parameters of the Ramsey formula is, however, challenging.

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Paper provided by Resources For the Future in its series Discussion Papers with number dp-12-53.

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Date of creation: 19 Dec 2012
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Handle: RePEc:rff:dpaper:dp-12-53
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  1. Cameron Hepburn & Phoebe Koundouri & Ekaterini Panopoulou & Theologos Pantelidis, 2006. "Social Discounting Under Uncertainty: A cross-country comparison," The Institute for International Integration Studies Discussion Paper Series iiisdp177, IIIS.
  2. Lawrence H. Goulder & Roberton C. Williams, 2012. "The Choice Of Discount Rate For Climate Change Policy Evaluation," Climate Change Economics (CCE), World Scientific Publishing Co. Pte. Ltd., vol. 3(04), pages 1250024-1-1.
  3. Cochrane, John H, 1988. "How Big Is the Random Walk in GNP?," Journal of Political Economy, University of Chicago Press, vol. 96(5), pages 893-920, October.
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  5. Ekaterini Panopoulou & B. Groom & P. Koundouri & Theologos Pantelidis, 2005. "Discounting the distant future: How much does model selection affect the certainty equivalent rate?," Economics, Finance and Accounting Department Working Paper Series n1480105, Department of Economics, Finance and Accounting, National University of Ireland - Maynooth.
  6. GOLLIER Christian, 2008. "Discounting with fat-tailed economic growth," LERNA Working Papers 08.19.263, LERNA, University of Toulouse.
  7. Gollier, Christian, 2002. "Time Horizon and the Discount Rate," Journal of Economic Theory, Elsevier, vol. 107(2), pages 463-473, December.
  8. Narayana R. Kocherlakota, 1996. "The Equity Premium: It's Still a Puzzle," Journal of Economic Literature, American Economic Association, vol. 34(1), pages 42-71, March.
  9. Christian Gollier & Phoebe Koundouri & Theologos Pantelidis, 2008. "Declining discount rates: Economic justifications and implications for long-run policy," Economic Policy, CEPR;CES;MSH, vol. 23, pages 757-795, October.
  10. Pizer, William & Newell, Richard, 2000. "Discounting the Distant Future: How Much Do Uncertain Rates Increase Valuations?," Discussion Papers dp-00-45, Resources For the Future.
  11. Robert J. Barro, 2007. "Rare Disasters, Asset Prices, and Welfare Costs," NBER Working Papers 13690, National Bureau of Economic Research, Inc.
  12. Christian Gollier, 2012. "Pricing the Planet's Future: The Economics of Discounting in an Uncertain World," Economics Books, Princeton University Press, edition 1, volume 1, number 9894, April.
  13. Barro, Robert, 2006. "Rare Disasters and Asset Markets in the Twentieth Century," Scholarly Articles 3208215, Harvard University Department of Economics.
  14. Donald Meyer & Jack Meyer, 2005. "Relative Risk Aversion: What Do We Know?," Journal of Risk and Uncertainty, Springer, vol. 31(3), pages 243-262, December.
  15. Weitzman, Martin L., 1998. "Why the Far-Distant Future Should Be Discounted at Its Lowest Possible Rate," Journal of Environmental Economics and Management, Elsevier, vol. 36(3), pages 201-208, November.
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