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On the Relation between Discounting of Climate Change and Edgeworth-Pareto Substitutability

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  • Kögel, Tomas

Abstract

To justify substantial carbon emission reductions, recent literature on cost-benefit analysis of climate change suggests discounting environmental quality at a lower discount rate than the standard consumption discount rate. Recent literature also shows that a theoretical foundation for such a lower environmental discount rate requires rising willingness-to-pay for environmental quality (WTP). A widely believed better alternative is however to adjust instead future environmental benefits for rising WTP and to discount those benefits at the consumption discount rate. According to this latter approach, rising WTP is usually assumed not to change the consumption discount rate itself. Assuming environmental resource scarcity, the present paper shows that an unchanged consumption discount rate is however, by and large, only an appropriate assumption in the knife-edge case in which environmental quality and goods consumption are neither substitutes nor complements in the Edgeworth-Pareto sense (substitutes, respectively, complements in the Edgeworth-Pareto sense implies the marginal utility of goods consumption to be decreasing, respectively, increasing in environmental quality).

Suggested Citation

  • Kögel, Tomas, 2009. "On the Relation between Discounting of Climate Change and Edgeworth-Pareto Substitutability," Economics - The Open-Access, Open-Assessment E-Journal (2007-2020), Kiel Institute for the World Economy (IfW Kiel), vol. 3, pages 1-12.
    • Handle: RePEc:zbw:ifweej:7612
    DOI: 10.5018/economics-ejournal.ja.2009-27
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    2. Stefan Baumgärtner & Alexandra Klein & Denise Thiel & Klara Winkler, 2015. "Ramsey Discounting of Ecosystem Services," Environmental & Resource Economics, Springer;European Association of Environmental and Resource Economists, vol. 61(2), pages 273-296, June.
    3. Birol, Ekin & Koundouri, Phoebe & Kountouris, Yiannis, 2010. "Assessing the economic viability of alternative water resources in water-scarce regions: Combining economic valuation, cost-benefit analysis and discounting," Ecological Economics, Elsevier, vol. 69(4), pages 839-847, February.
    4. Echazu Luciana & Nocetti Diego & Smith William T., 2012. "A New Look into the Determinants of the Ecological Discount Rate: Disentangling Social Preferences," The B.E. Journal of Economic Analysis & Policy, De Gruyter, vol. 12(1), pages 1-44, April.
    5. Kögel, Tomas, 2011. "The social cost of carbon on an optimal balanced growth path," Economics Discussion Papers 2011-35, Kiel Institute for the World Economy (IfW Kiel).

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    More about this item

    Keywords

    Discounting; cost-benefit analysis; climate change;
    All these keywords.

    JEL classification:

    • H43 - Public Economics - - Publicly Provided Goods - - - Project Evaluation; Social Discount Rate
    • Q51 - Agricultural and Natural Resource Economics; Environmental and Ecological Economics - - Environmental Economics - - - Valuation of Environmental Effects
    • Q54 - Agricultural and Natural Resource Economics; Environmental and Ecological Economics - - Environmental Economics - - - Climate; Natural Disasters and their Management; Global Warming

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