Szekeres, Szabolcs
(2018):
*Why expected discount factors yield incorrect expected present values.*

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## Abstract

Compound and discount factors determine the relationship between present and future values. When interest rates are stochastic, expected compound factors are computed by probability weighting all possible compound factors. It is customary to proceed likewise to compute expected discount factors. It has been noted that risk neutral certainty equivalent interest rates differ when computed from expected compound or expected discount factors, yielding alternative project rankings. This paper shows that expected discount factors yield incorrect expected present values because, unlike in the deterministic case, they are not the reciprocals of the corresponding expected compound factors.

Item Type: | MPRA Paper |
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Original Title: | Why expected discount factors yield incorrect expected present values |

Language: | English |

Keywords: | Weitzman-Gollier Puzzle, declining discount rates, discounting. |

Subjects: | D - Microeconomics > D6 - Welfare Economics > D61 - Allocative Efficiency ; Cost-Benefit Analysis H - Public Economics > H4 - Publicly Provided Goods > H43 - Project Evaluation ; Social Discount Rate |

Item ID: | 91187 |

Depositing User: | Mr Szabolcs Szekeres |

Date Deposited: | 03 Jan 2019 09:09 |

Last Modified: | 27 Sep 2019 08:01 |

References: | Gollier, Christian (2004), “Maximizing the Expected Net FV as an Alternative Strategy to Gamma Discounting,” Finance Research Letters 1(2), 85–89. Groom, Ben, Cameron Hepburn, Phoebe Koundouri, and David Pearce, “Declining Discount Rates: The Long and the Short of it.” SpringerLink, Kluwer Academic Publishers, link.springer.com/article/10.1007/s10640-005-4681-y. Pazner, Elisha A., and Assaf Razin. "On Expected Value vs. Expected Future Value." The Journal of Finance 30.3 (1975): 875-878 Szekeres, Szabolcs (2017). Checking Gollier and Weitzman’s solution of the “Weitzman–Gollier puzzle”. Economics Discussion Papers, No 2017-11, Kiel Institute for the World Economy. http://www.economics-ejournal.org/economics/discussionpapers/2017-11 Weitzman, Martin L. (1998) “Why the far distant future should be discounted at its lowest possible rate,” Journal of Environmental Management, Volume 36. Zhao, Yajie, and Boru Wang. "Short-Term Interest Rate Models: An Application of Different Models in Multiple Countries." (2017). http://lup.lub.lu.se/student-papers/record/8913006 |

URI: | https://mpra.ub.uni-muenchen.de/id/eprint/91187 |