The Social Discount Rate for Canada

Theory and Evidence

Bibliographic Data

ID11967293
AuthorsDavid F Burgess (corresponding author)
Year1981
Volume7
Issue3
Pages383-383
Publication date1981-01-01
Peer ReviewedYes
Open AccessNo
TypeARTICLE
VenueCanadian Public Policy (JOURNAL)
Journal identifiersISSN: 0317-0861 • E-ISSN: 1911-9917
PublisherJSTOR (PUBLISHER)
DOI10.2307/3549636
OpenAlexW2078961784
LanguageEN
Citations received14
References cited7

The social discount rate is defined as the minimum real rate of return that a public investment must earn if it is to be worth while undertaking. It is intended to reflect the real rate of return foregone in the private sector when resources are shifted into the public sector. The economy's real income will increase only if the public investment yields a return in excess of the social opportunity cost of the resources withdrawn from the private sector. In the economist's stylized world of perfect competition, full employment, non-distorting taxation, perfect certainty, etc., the market rate of interest would reflect the marginal valuation of resources in all sectors. Thus, it would not matter which sectors were 'crowded out' as resources were drawn into the government sector. But actual economies differ markedly from this idealized model: risk and monopolistic elements cause post-tax rates of return to be higher in certain sectors than others; differences in effective corporate tax rates between sectors also cause pre-tax (i.e., social) rates of return earned on investments to differ between sectors; corporate and personal income taxes together drive a wedge between the overall social rate of return earned on investment and the rate of return available to savers; and taxes on labour income and restrictions on foreign trade may cause the prevailing market prices for labour and foreign exchange to misrepresent their true economic values. In such a setting the social discount rate is no longer represented by the market rate of interest. The appropriate discount rate is a weighted average of the genuine rates of return in the sectors from which resources are withdrawn, where the weights reflect the extent of each sector's contribution. The resources for public investment in Canada come from essentially three sources: displaced private domestic investment; postponed domestic consumption (incremental domestic saving); and external funding from abroad. The 10 per cent figure which The Treasury Board (1976) has indicated is the appropriate social discount rate for Canada is intended to reflect the relevant weighted average of the pre-tax rate of return on displaced private domestic investment, the post-tax rate of return on domestic saving, and the rate of return required to induce incremental foreign funding. The figure originates from the work of Glenn Jenkins (1973, 1977), who estimates that 75 per cent of every dollar borrowed to finance a public project will come from displaced private domestic investment that would have earned a social rate of return of 11.45 per cent, 20 per cent will come from incremental foreign funding available at a social cost of 6.11 per cent, and 5 per cent will come from incremental domestic saving (postponed consumption) available at a social time preference rate of 4.14 per cent

Econometrics · Economics · Financial economics · Financial Literacy, Pension, Retirement Analysis · Fiscal Policies and Political Economy · Fiscal Policy and Economic Growth

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