Use and misuse of the net present value in environmental studies

Abstract

Environmental studies regularly use the net present value (NPV) to value benefits and costs of projects. However, the NPV disregards whether the stream of net benefits is steady or volatile and ignores the distribution of net benefits among different groups of people. Here we test alternatives to NPV, building on two example cases: 1) We use discounted utility (DU) to evaluate land-use projects and calculate opportunity costs for avoided deforestation. 2) We simulate decision-making on tropical deforestation, whereby we use multiple decision criteria to consider the distribution of net benefits between two groups: farmers and conservationists. Results show considerable differences in the ranking of projects between DU and NPV, when projects are not marginal. Compared to DU, NPV regularly overestimates the value of forest plantations. Moreover, NPV tends to overstate the opportunity costs of avoiding deforestation in terms of saved carbon emissions. Not accounting for the distribution of net benefits when optimizing land-use allocation leads to sub-optimal simulated deforestation scenarios. We therefore suggest that future studies should either also use DU to value economic consequences of projects or that they use the NPV as only one among several socio-economic and ecological decision criteria.