Intergenerational Equity and the Discount Rate for Cost-benefit Analysis Revised Version

For two independent principles of intergenerational equity, the implied discount rate equals the growth rate of real percapita income, say 2%, thus falling right into the range suggested by the U.S. Office of Management and Budget. To prove this, we develop a simple tool to evaluate small policy changes affecting several generations, by reducing the dynamic problem to a static one. A necessary condition is time-invariance, which is satisfied by any common solution concept in an overlapping generations model with exogenous growth. This tool is applied to derive the discount rate for cost-benefit analysis under two different utilitarian welfare functions: classical and relative. It is only with relative utilitarianism that the discount rate is well-defined for a heterogeneous society, is corroborated by an independent principle equating values of human lives, and equals the growth rate of real per-capita income. Date: February 3, 2009. 2000 Mathematics Subject Classification. 91B14, 91B62 J.E.L. Classification numbers. D31, D61, D63, E60, H43.