Reconciling the Term Structures of Corporate and Social Discount Rates
25 Pages Posted: 3 Feb 2015
Date Written: February 2, 2015
Abstract
Studies in both corporate fi nance and environmental economics have described how discount rates should vary with the maturity of a project. The former suggests that the cost of capital should increase with the time horizon of the cash flow, while the latter recommends declining term structures of social discount rates. This paper presents a reconciliation and generalization of these two literatures and illustrates the complex interaction between the shape of the term structure and the present value of long-lived projects. In particular, it is demonstrated that the increasing term structure of risky discount rates does not necessarily reduce our willingness to pay for assets with uncertain far-horizon cash flows.
Keywords: Long-term Projects, Discount Rates, Valuation, Net Present Value
JEL Classification: G31, H43, H54, Q51
Suggested Citation: Suggested Citation