Journal Article

No. 2009-27 | June 12, 2009 (Version 2: January 03, 2011)
On the Relation between Discounting of Climate Change and Edgeworth-Pareto Substitutability PDF Icon

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).

JEL Classification

H43 Q51 Q54

Versions

Citation

Tomas Kögel (2009). On the Relation between Discounting of Climate Change and Edgeworth-Pareto Substitutability. Economics: The Open-Access, Open-Assessment E-Journal, Vol. 3, 2009-27 (Version 2) . http://dx.doi.org/10.5018/economics-ejournal.ja.2009-27

Assessment

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Comments and Questions


Editorial Office - Version 2
January 03, 2011 - 08:36

In Version 2 of the article the author has added the following sentences on page 4 ahead of equation 3:

Efficient allocation requires the relative price of environmental quality to be equal to the marginal rate of substitution between environment quality and goods consumption. In turn, as is shown ...[more]

... in the appendix, the growth rate of the relative price of environmental
quality is derived as: