Cherbonnier, Frédéric and Gollier, Christian (2023) Fixing Our Public Discounting Systems. Annual Review of Financial Economics, vol. 15. pp. 147-164.

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Identification Number : 10.1146/annurev-financial-102921-111749


Most Western countries use a single discount rate to evaluate public investments and policies. This ignores the differential cost of risk, in a world where most risk markets exhibit surprisingly large prices of risk. The current discounting guidelines generate a misallocation of capital that entails a large welfare cost. We claim that the well-established asset pricing literature provides a strong normative justification in favor of risk-adjusting discount rates. More specifically, project-specific discount rates should be increasing in the income elasticity of the project's net benefit. This will favor projects whose net benefit materializes preferentially in low-income states, thereby recognizing their insurance benefit ex ante. The intuition is simple, the welfare benefit of the reform is large, and the methodology only requires evaluators to estimate an income elasticity on top of what is required in the current approach. It is time to fix our public discounting systems.

Item Type: Article
Language: English
Date: November 2023
Refereed: Yes
Place of Publication: Palo Alto
Uncontrolled Keywords: discounting, risk adjustment, carbon pricing, cost-benefit analysis
JEL Classification: G12 - Asset Pricing; Trading volume; Bond Interest Rates
H43 - Project Evaluation; Social Discount Rate
Q54 - Climate; Natural Disasters
Divisions: TSE-R (Toulouse)
Site: UT1
Date Deposited: 20 Mar 2024 07:21
Last Modified: 28 Mar 2024 09:31
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