A multifactor approach to the social discount rate: An application to the Spanish forest system

Abstract

ABSTRACTThis paper focuses on the calculation of the social discount rate to be used in the valuation of long-term investment projects and, more specifically, in the appraisal of public and environmental projects. The key idea is that the instantaneous discount rate of the discount function used for valuation must be equal to the hazard rate of the public good or the mortality rate of the population affected by the project. Previously, this approach has been applied by the authors to a system in which failure depends on a single component, but in this paper, we are going to consider the failure of several independent components which, in combination, give rise to a multivariate hazard rate. In our empirical application, the entire forested area of Spain will be the system, and the forests of the seventeen autonomous communities will be considered the components of the system; the forest fire will be the failure, measured by the number of hectares devastated by fire in each region. Finally, once the failure corresponding to all regions has been aggregated in a multivariate hazard rate, it will be implemented as a part of the social discount rate.