Working Paper: NBER ID: w28653
Authors: Antony Millner; Geoffrey Heal
Abstract: This paper provides a critical review of the literature on choosing social discount rates (SDRs) for public cost-benefit analysis. We discuss two dominant approaches, the first based on market prices, and the second based on intertemporal ethics. While both methods have attractive features, neither is immune to criticism. The market-based approach is not entirely persuasive even if markets are perfect, and faces further headwinds once the implications of market imperfections are recognised. By contrast, the ‘ethical’ approach – which relates SDRs to marginal rates of substitution implicit in a single planner's intertemporal welfare function – does not rely exclusively on markets, but raises difficult questions about what that welfare function should be. There is considerable disagreement on this matter, which translates into enormous variation in the evaluation of long-run payoffs. We discuss the origins of these disagreements, and suggest that they are difficult to resolve unequivocally. This leads us to propose a third approach that recognises the immutable nature of some normative disagreements, and proposes methods for aggregating diverse theories of intertemporal social welfare. We illustrate the application of these methods to social discounting, and suggest that they may help us to move beyond long-standing debates that have bedevilled this field.
Keywords: social discount rates; public cost-benefit analysis; market-based approach; ethical approach; intertemporal welfare
JEL Codes: D61; D71; Q50
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| market-based approach to SDRs (F33) | flawed public investment evaluations (H54) |
| ethical approach (A13) | robust in addressing market failures (D47) |
| normative judgments (D63) | economic evaluations (H43) |
| third approach (B50) | more stable and socially relevant SDRs (P39) |