- Decreasing returns to capital, the willingness to pay and the willingness to accept compensation, and the limits of cost-benefit analysis
- Number of pages
- Amsterdam: University of Amsterdam
- Document type
- Working paper
- Faculty of Economics and Business (FEB)
- Amsterdam School of Economics Research Institute (ASE-RI)
This paper uses the Kaldor-Hicks compensation principle to compute the present discounted value (PDV) of a non-marginal future event. Three theoretical results stand out: First, decreasing returns to capital create a wedge between the PDV of future generations' willingness to pay (WTP) and the
PDV of their willingness to accept compensation (WTA); second, the discount rates implicit in the computation of the PDVs are endogenous, and rising (declining) over time for the future generations' WTP (WTA); and third, decreasing returns to capital may make it impossible to compensate future generations according to their WTA. A back-of-the-envelope calibration suggests that this last result is realistic in the case of climate change. A CBA based on the Kaldor-Hicks compensation principle may therefore be impossible if future generations are entitled to a world without climate change; and an environmental trust fund - no matter how large it is - may be insuficient to adequately compensate future generations.
- January 30, 2012
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