Present discounted value

Climate Finance

Climate change is the topic of the day. The World Meteorological Organization tells us that the 2011-20 decade was the warmest on record. Earlier this year, the U.S. government re-joined the Paris Accord, and is proposing a range of new programs to mitigate the long-run impact of climate change. Now that a warming planet has made the Arctic increasingly navigable, national security specialists are concerned about geopolitical risks there. Thousands of economists have endorsed a carbon tax. Even central banks have joined together to form the Network for the Greening of the Financial System—a forum to discuss how to take account of climate change in assessing financial stability.

Against that background, last month, NYU Stern’s Volatility and Risk Institute (VRI) held a conference on finance and climate change. Speakers addressed issues ranging from the modeling and measurement of climate risk in finance to assessing its impact on the resilience of the financial system. In this post, we primarily focus on one of the central challenges facing policymakers and practitioners: what is the appropriate discount rate for evaluating the relative costs and benefits of investments in climate change mitigation that will not pay off for decades? We also comment briefly on several other issues in the rapidly growing field of climate finance research.

Past responses to the discount-rate question vary widely. Some observers call for a discount rate matching the high expected return on long-lived, risky assets—a number as high as 7%. This would imply a very low present value of benefits from investments to mitigate climate change, consistent with only modest current expenditures. Others postulate that climate change could lead to the extinction of humanity. For plausible discount rates, the specter of a nearly infinite loss means that virtually any level of mitigation investment is warranted (see, for example, Holt).

Recent climate finance research that we summarize here comes to the conclusion that over any reasonable horizon, the appropriate discount rate for computing the net present value of investments in climate change mitigation should be relatively low….

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Has the U.S. Distribution of Wealth Worsened?

Wealth inequality in the United States is obvious to everyone. The Federal Reserve’s triennial Survey of Consumer Finance (SCF) documents the glaring and persistent divide between rich and poor, confirming that ownership of financial and real assets in the United States has been highly concentrated for decades (see our earlier post). The most recent 2016 estimates suggest that the top 10% of the wealth distribution own nearly three-quarters of all marketable assets, with the top 1% owning more than half of that. And, Saez and Zucman (SZ) estimate that the U.S. distribution has been getting worse, with the top 1% share of marketable wealth rising by more than 10 full percentage points since 1989.

But, as Catherine, Miller and Sarin (CMS) recently highlight, adding in the present discounted value of Social Security benefits (net of taxes) to construct a more comprehensive measure of wealth alters these patterns. First, according to CMS’s estimates, the share of marketable wealth in total wealth has plunged by more than 18 percentage points since 1989. Second, over the past three decades, the top 1% share of total wealth has risen only modestly, while the share owned by the top 10% has declined somewhat.

In this post, we highlight the CMS results, and decompose their changes in total wealth shares into two parts: the changes in marketable and Social Security wealth shares accruing to each group, and the aggregate decline over time of marketable wealth as a share of total wealth. We show that the latter dominates the overall trend in this more comprehensive measure of inequality….

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Making driving safe

The home page for the Google Self-Driving Car Project contains the following:

Imagine if everyone could get around easily and safely, regardless of their ability to drive. […] Aging or visually impaired loved ones wouldn't have to give up their independence. Time spent commuting could be time spent doing what you want to do. Deaths from traffic accidents—over 1.2 million worldwide every year—could be reduced dramatically, especially since 94% of accidents in the U.S. involve human error.

In some walks of life, we can reduce risks by changing human behavior. In the case of automobiles, we train and license people to make them drive more safely. We also fine and incarcerate them when they don't...

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Investing in College

Most Americans want a college education, but it is expensive. On average, a four-year school costs about $25,000 per year, or $100,000 for a degree. That’s roughly half the median house price – a substantial investment. If you have to borrow to finance a college education – just like you borrow to own a house – is it really worth it?

The answer is yes for most people. But the outcome is not free of risk, especially for those students who borrow heavily relative to their future income prospects....

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