TR-473 A Review of Discounting Natural Resources

Authors: L.R. Dutton, M.E. Rister, R.D. Lacewell, A.W. Sturdivant

With increasing population and global economic growth, the pressure on natural resources becomes more intense. Water is a prime example of increasing demand among many users, including environmental priorities. A typical approach for increasing water availability is to look to conservation and/or alternative technological developments for water supply. These strategies involve issues with investment, recurring costs, and a temporal evaluation. Capital budgeting methodology of discounting future streams of costs and benefits to estimate a present value is well established. Applying capital budgeting techniques to water management strategies is an effective method to account for and compare alternative annual water saving levels and expected useful lives. This methodology includes ‘normalizing’ such flows by calculating the respective alternative projects’ net present values and associated annuity equivalents using a discount rate. The issue of “appropriate discount” rate is not the point of this paper, but rather, if dollars are discounted, what are the perspectives on discounting future water savings to a present value. The issue does not lend itself to a consensus, but rather, provides interesting implications, particularly when prioritizing alternative projects. Presented herein are attitudes across resource specialists with arguments related to what to include in a discount rate, private sector versus public sector, and the impact of also discounting physical units such as water on the priority of alternative projects. A case study of three alternative water conservation projects and how the ranking is impacted by alternative assumptions in financial and physical water discounting is presented.