Best Things First

by Bjørn Lomborg

Even adjusted for inflation, a promise of a hundred dollars in a year is worth less than getting a hundred dollars today. So, any policy benefits that arrive next year have to be adjusted with a discount rate to account for that drop in value. This might seem counterintuitive: Whether today or in a year, it’s the same amount of money. But there are four factors to consider. First, waiting introduces risk. If you accept my hundred-dollar bill now, you’re sure to get it. In a year, I might have forgotten our deal, we might have fallen out, I could have gone bankrupt, or either of us could have died. Second, waiting a year means losing out on investing the hundred dollars now so that you’ll have more in the bank by this time next year. Third, if you live in a fast-growing economy, you will probably be richer next year. If making $100 for a job feels right today, by next year, $100 will likely feel too little. Fourth, we’re all just impatient. We would simply rather have $100 of opportunities now rather than next year. A discount rate tries to take into account all these facts and tell us how much $100 in a year is worth now. In rich countries, the discount rate is typically somewhat lower, and in poorer countries, it is somewhat higher.