Discounting the future

Discounting the future
Cedric Philibert,
International Energy Agency, Energy and Environment Division,
June 2003

Introduction

Discounting is probably one of the most disputed issues in ecological economics.Current human activities may cause immediate and long-term environmentaldamages. Discounting, the usual procedure to give a present value to financial flowsoccurring in the future, seems to give outrageously low values to future damages,and thus, to “play against” the environment and future generations. On the otherhand, low discount rates would imply more sacrifices for present generations,although future generations may be richer. And using various discount rates wouldlead to inefficiencies in selecting investment policies.There might be two different, but not unrelated, ways out of this dilemma. One mayuse decreasing discount rates, in particular to deal with uncertainty on futureeconomic growth. One may also, in light of this discussion, assign non substitutable,non reproducible environmental assets a value growing over time at a pace close tothe discount rate itself.The first section introduces discounting and its rationale. The second challenges theview that discounting might be considered, by itself, “unfair” to future generations.The third section shows that the rate of return on investment cannot be higher thanthe growth rate of the economy for ever. The fourth section reviews how uncertaintyon future economic growth rates affects discount rates. The fifth section discussesthe “reverse side” of the discounting issue – that of valuing environmental amenitiesand assets, as neither reproducible nor substitutable assets. The concluding sectionsummarises and links the various arguments, and then draws a few more generallessons from this analysis.