Title: Environmental economics and cost-benefit analysis: the choice of an appropriate discount rate

Authors: Anthony B. Lumby, Adrian D. Saville

Addresses: University of Natal, Durban, South Africa. ' University of Natal, Durban, South Africa

Abstract: Notwithstanding earlier approbation from economists on the use of the discounting technique, the past twenty or thirty years have witnessed a growing acceptance of the use of this technique in cost-benefit analysis. Nevertheless, there is no general agreement on the type of discount rate to be employed, nor whether it would be more appropriate to employ a (lower) social discount rate, especially in the case of long-term projects or those which are assessed to have significant environmental impacts. Furthermore, in recent years, the earlier debate against the use of the discounting technique has re-emerged in somewhat different form. Against this background, this paper seeks to explain the different types of market discount rates available - namely, the consumption rate of interest, the investment rate of interest and the accounting rate of interest - and explores the argument for employing a (lower) social discount rate. Thereafter, attention is focused on the more recent debate against the use of the discounting technique in general. Finally, an attempt is made to assess alternative approaches to the conventional discounting technique: a zero discount rate, the internal rate of return and the use of so-called quasi-discount rates. The latter is found to offer a more pragmatic approach to the use of the discounting technique, and is considered more appropriate for cost-benefit analysis involving projects which have significant environmental impacts.

Keywords: environmental economics; ecological economics; cost-benefit analysis; market discount rates; social discount; environmental impact; consumption rate of interest; investment rate of interest; accounting rate of interest; discounting; zero discount rate; internal rate of return; quasi-discount rates.

DOI: 10.1504/IER.1999.053849

Interdisciplinary Environmental Review, 1999 Vol.1 No.2, pp.144 - 161

Published online: 13 May 2013 *

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