Consumption Equivalent Public Capital Method and a Three Generations Model

There is an ongoing dispute among economists about the proper theoretical value of the so-called social discount rate. The descriptive position votes in favor of high rates refering to the observable market rate of interest. In contrast, the prescriptive approach rejects the discounting away of future wellbeing as discrimination of future generations. Within optimal growth theory the difference of these two views is generated by the pure rate of social time preference as a part of the right hand side of the Ramsey rule. This G-problem corresponds to another conflict within standard theory of public cost-benefit analysis. Here opportunity costs of public capital are normally thought to be considered by the discount rate analogous to the well-known capital value method of management science. Costs and benefits which do not influence the public budget are mixed with public cashflows. This implausible mixture together with the G-problem mentioned is the reason for a general doubt (O-problem) that one could implement opportunity costs of public capital simply by the choice of the discount rate.
The main result is that within standard public cost-benefit analysis opportunity costs of public capital have to be considered by additional cost positions and not by the discount rate. Market rates of interest co-determine a factor which has to be multiplied with initial public cashflows in order to implement opportunity cost considerations of public capital sufficiently. The resulting approach is called consumption equivalent public capital method (CEPCM) It is a straightforeward generalization of the consumption equivalence method (CEM) a là Bradford on which public cost-benefit analysis is based. In addition it eleminates some standard simplifying assumptions like the generalized Arrow-Kurz assumption due to Lind. Instead of discounting all costs and benefits with an observable rate of interest the theoretical correct procedure is to revalue initial public cashflows by the multiplication with consumption equivalent public capital prices whereas the discount rate should be chosen for a political weighting of intergenerational consumption within the limits of the observable versus optimal social rate of time preference. In the latter case the pure element of social time preference has to be ignored. In summary, the dispute is homemade by the guild of economists. Their widespread discrimination of the prescriptive approach as naive ethical attitude contradicts to the maximization of intertemporal welfare integral and is rooted in the limited understanding of the CEM. The CEPC-approach is new, currently highly relevant in the literature, and solves the two problems mentioned. But essentially it may represent the first correct public CBA which is based on standard methodology since 1982 and simultaneously does not add another example to the set of theoretically unjustified compromises which propose decreasing discounting factors. These approaches are exhibited to societys permanent regret and may be much more an expression of political opportunism.
In addition, a three generations model (3GM) reveals that the major logical birfucation is whether preferences with respect to future generations depend on time distances or not. The prescriptive view respresents a special case of timeless discounting (TLD) and corresponds to the classical refutation of a pure rate of social time preference by Ramsey, Pigou et al. The descriptive approach much more fits to a time-dependent interpersonal discount factor (TD). Another important result is that a long-term public investment can be more favorable than an alternative chain of short-term investments even if this chain reveals a higher compounded rate of return. The reason is that the advantage to avoid a self-fish additional decision option by an intermediate generation can overcompensate the rate of return aspect. In contrast, if the rate of return on long-term investment exceeds the short-term rate, nevertheless, we can exclude a corresponding chance for an attractivity of short-term investment driven by preferences. Hence, there is the asymmetric theoretical result that there exclusively is a potential for a bias in favor of long-term investments called social self-control.