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Social Discount Rate

Social Discount Rate. Scott Matthews Courses: 12-706 and 73-359 Lecture 14 - 10/20/2004. Admin Issues. Midterms Due Midterm Grades next week 50% HW average, 50% midterm 90+% A, 80-90 B, etc (conservative) Scheduling of Project Presentations. Social Discount Rate.

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Social Discount Rate

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  1. Social Discount Rate Scott Matthews Courses: 12-706 and 73-359 Lecture 14 - 10/20/2004

  2. Admin Issues • Midterms Due • Midterm Grades next week • 50% HW average, 50% midterm • 90+% A, 80-90 B, etc (conservative) • Scheduling of Project Presentations 12-706 and 73-359

  3. Social Discount Rate • Discounting rooted in consumer preference • We tend to prefer current, rather than future, consumption • Marginal rate of time preference (MRTP) • Face opportunity cost (of foregone interest) when we spend not save • Marginal rate of investment return 12-706 and 73-359

  4. Intergenerational effects • We have tended to discuss only short term investment analyses (e.g. 5 yrs) • What about effects in distant future? • Called intergenerational effects • Economists agree that discounting should be done for public projects • Do not agree on positive discount rate 12-706 and 73-359

  5. An example • Someone offers you choice of $1000 now and $1200 in one year • If you have no preference (indifferent) then your MRTP is 20% 12-706 and 73-359

  6. Discounting handout • How much do/should we care about people born after we die? • Higher the discount rate, the less future values will count compared to today • Ethically, no one’s interests should count more than another’s • Implies there is no justification for discounting across long time periods • Called ‘equal standing’ 12-706 and 73-359

  7. Climate Change • Discussions ongoing about how best to manage global CO2 emissions to limit effects of global change • Should we sacrifice short-run economic growth to do something to improve environment and leave resources for the future? • Really asking 2 separate questions! 12-706 and 73-359

  8. Two Questions • What duty do we have to make sacrifices for future generations? • If we sacrifice, what is the optimal policy to maximize benefit? • So we should compare global change proposals with alternatives • Perhaps higher R&D spending on science or medicing would have higher benefits! 12-706 and 73-359

  9. Hume’s Law • Thus discounting issues are normative vs. positive battles • Hume noted that facts alone cannot tell us what we should do • Any recommendation embodies ethics and judgment • E.g. focusing on ‘highest NPV’ implies net benefits is only goal for society 12-706 and 73-359

  10. Some evidence • Cropper et al surveyed 3000 homes • Asked about saving lives in the future • Found a 4% discount rate for lives 100 years per now • Equal standing does not imply different generations have equal claims to present resources! • Harsanyi says only do so if their marginal gain is higher than our loss 12-706 and 73-359

  11. More evidence • If future generations will be better off than us anyway • Then we might have no reason to make additional sacrifices • There might be ‘special standing’ in addition to ‘equal standing’ • Immediate relatives vs. distant relatives • Different discount rates over time • Why do we care so much about future and ignore some present needs (poverty) 12-706 and 73-359

  12. Government Discount Rates • US Government Office of Management and Budget (OMB) Circular A-94 • http://www.whitehouse.gov/omb/circulars/a094/a094.html • Discusses how to do BCA and related performance studies • Match real values with real discount rates, etc • How to do sensitivity analysis / which inputs to vary • What discount, inflation, etc. rates to use 12-706 and 73-359

  13. OMB Circular A-94, Appendix C • Provides the current suggested values to use for federal government analyses • http://www.whitehouse.gov/omb/circulars/a094/a94_appx-c.html • Revised yearly, usually “good until January of the next year” • How would the government decide its discount rates? • What is the government’s MARR? 12-706 and 73-359

  14. Historic Nominal Interest Rates (from OMB A-94) 12-706 and 73-359

  15. Real Discount Rates (from A-94) 12-706 and 73-359

  16. Effect of these Discount Rates • These are ‘effectively zero’ • What does this mean for projects and project selection decisions? • What does it say about intergenerational effects? 12-706 and 73-359

  17. Valuation of Seniors handouts • What did the EPA proposal implictly suggest about the value of their lives? • What did it suggest about how they should be discounted or valued? • Does this match with the social discount rates set by OMB? 12-706 and 73-359

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