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In the economic analysis of long-term projects or changes in policy and land use with long term impacts, the cost and benefit flows typically occur in different periods. The process of discounting these flows enables them to be added together and compared with the net present value of alternative courses of action. Discounting is therefore central to intertemporal economic analysis. In the case of the analysis of environmental issues, discounting assumes particular importance, given that economic benefits produced by ecosystems (or damages incurred by their degradation) either (1) occur only in the future (2) increase into the future or (3) subsist at a low level indefinitely. In such cases the difference between a 5 and a 15% discount rate can easily outweigh other considerations in the decision-making process. In a recent analysis of economic incentives for watershed protection in Costa Rica, efforts to value forest productivity and long-term hydrological externalities confronted similar problems. Consultation with local financing agencies, researchers and the literature to determine the source of the discount rate methods and figures employed in practice yielded no satisfactory indication of how rates were developed. Given the paucity of informed expectation regarding such a key variable this paper presents the results of the subsequent effort to develop an informed and defensible position regarding discount rate issues in Costa Rica. The general objectives of the paper are to develop discount rates that can be used in financial and economic analysis within the Costa Rican context. Specifically, the following discount measures were identified (expected use is indicated in parenthesis): • real after-tax private opportunity cost of capital (for discounting all flows in financial analysis) • a consumption rate of interest (CRI), or social rate of time preference (for discounting consumption flows in economic analysis) • development of a shadow cost of capital (for use with the CRI in discounting investment flows in economic analysis) In the process of meeting these objectives, information is also required on imperfections and applicable policy distortions in Costa Rican capital markets and local real riskless interest rates. The final product of the analysis is the calculation of a social discount rate for Costa Rica. Following a presentation of the theory and methods employed, the data and results for Costa Rica are presented.
Monteverde Institute MVI
Aylward, Bruce and Porras, Ina, "An analysis of private and social discount rates in Costa Rica" (1998). Economy and Resource Management [Monteverde Institute]. 1.