Discounting and the social cost of carbon: a closer look at uncertainty

Abstract

Recently, in the economics literature, several papers have put forward arguments for using a declining discount rate in social-cost benefit analysis. This paper examines the impact of employing a declining discount rate on the social cost of carbon—the marginal social damage from a ton of emitted carbon. Six declining discounting schemes are implemented in the FUND 2.8 integrated assessment model, including the recent amendments to the Green Book of HM Treasury (Treasury, H.M., 2003. The Greenbook: Appraisal and Evaluation in Central Government. TSO, London). We find that using a declining schedule of discount rates increases the social cost of carbon estimate by as little as 10% or by as much as a factor of 40, depending upon the scenario selected. Although the range of plausible estimates is large, using declining discounting schemes in FUND 2.8 in most cases does not yield values at the £70/tC level suggested by UK DEFRA [Clarkson, R., Deyes, K., 2002. Estimating the social cost of carbon emissions. Government Economic Service Working Paper. HM Treasury, London]. Indeed, only at the higher end of the values of social cost of carbon found here would many climate change related policies – such as the Kyoto Protocol – pass a cost-benefit analysis. This conclusion, however, does not necessarily undermine the ethical and political economic reasons for supporting international collective action on climate change.