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Yes, we should discount the far-distant future at its lowest possible rate: a resolution of the Weitzman-Gollier puzzle

  • Freeman, Mark C.
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    In this paper the author proves that the Expected Net Future Value (ENFV) criterion can lead a risk neutral social planner to reject projects that increase expected utility. By contrast, the Expected Net Present Value (ENPV) rule correctly identifies the economic value of the project. While the ENFV increases with uncertainty over future interest rates, the expected utility decreases because of the planner's desire to smooth consumption across time. This paper therefore shows that Weitzman (1998) is right and that, within his economy, the far-distant future should be discounted at its lowest possible rate.

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    Paper provided by Kiel Institute for the World Economy in its series Economics Discussion Papers with number 2009-42.

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    Date of creation: 2009
    Date of revision:
    Handle: RePEc:zbw:ifwedp:200942
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    1. Freeman, Mark C., 2009. "The practice of estimating the term structure of discount rates," Global Finance Journal, Elsevier, vol. 19(3), pages 219-234.
    2. Martin L. Weitzman, 2007. "A Review of the Stern Review on the Economics of Climate Change," Journal of Economic Literature, American Economic Association, vol. 45(3), pages 703-724, September.
    3. Gollier, Christian, 2003. "Maximizing the Expected Net Future Value as an Alternative Strategy to Gamma Discounting," IDEI Working Papers 213, Institut d'Économie Industrielle (IDEI), Toulouse.
    4. Gollier, Christian, 2010. "Expected net present value, expected net future value, and the Ramsey rule," Journal of Environmental Economics and Management, Elsevier, vol. 59(2), pages 142-148, March.
    5. Gollier, Christian, 2009. "Should we Discount the Far-Distant Future at its Lowest Possible Rate?," Economics - The Open-Access, Open-Assessment E-Journal, Kiel Institute for the World Economy, vol. 3, pages 1-14.
    6. Eric Jacquier & Alex Kane & Alan J. Marcus, 2005. "Optimal Estimation of the Risk Premium for the Long Run and Asset Allocation: A Case of Compounded Estimation Risk," Journal of Financial Econometrics, Society for Financial Econometrics, vol. 3(1), pages 37-55.
    7. Hepburn, Cameron & Groom, Ben, 2007. "Gamma discounting and expected net future value," Journal of Environmental Economics and Management, Elsevier, vol. 53(1), pages 99-109, January.
    8. Newell, Richard G. & Pizer, William A., 2003. "Discounting the distant future: how much do uncertain rates increase valuations?," Journal of Environmental Economics and Management, Elsevier, vol. 46(1), pages 52-71, July.
    9. Martin L. Weitzman, 2001. "Gamma Discounting," American Economic Review, American Economic Association, vol. 91(1), pages 260-271, March.
    10. 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.
    11. Partha Dasgupta, 2008. "Discounting climate change," Journal of Risk and Uncertainty, Springer, vol. 37(2), pages 141-169, December.
    12. Wolfgang Buchholz & Jan Schumacher, 2008. "Discounting the Long-Distant Future: A Simple Explanation for the Weitzman-Gollier-Puzzle," CESifo Working Paper Series 2357, CESifo Group Munich.
    13. Lucas, Robert E, Jr, 1978. "Asset Prices in an Exchange Economy," Econometrica, Econometric Society, vol. 46(6), pages 1429-45, November.
    14. Andrew Ang & Jun Liu, 2004. "How to Discount Cashflows with Time-Varying Expected Returns," Journal of Finance, American Finance Association, vol. 59(6), pages 2745-2783, December.
    15. Phoebe Koundouri & Theologos Pantelidis & Ben Groom & Ekaterini Panopoulou, 2007. "Discounting the distant future: How much does model selection affect the certainty equivalent rate?," Journal of Applied Econometrics, John Wiley & Sons, Ltd., vol. 22(3), pages 641-656.
    16. Gollier, Christian, 2002. "Discounting an uncertain future," Journal of Public Economics, Elsevier, vol. 85(2), pages 149-166, August.
    17. 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.
    18. 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.
    19. Newell, Richard G. & Pizer, William A., 2004. "Uncertain discount rates in climate policy analysis," Energy Policy, Elsevier, vol. 32(4), pages 519-529, March.
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