Investment Incentives and the Discounting of Depreciation Allowances

This paper examines the discounting of depreciation allowances both theoretically and empirically. Economic theory suggests that depreciation tax shields should be discounted at the after tax riskless rates. However, a survey of 200 major corporations indicates that they employ much higher discount rates to depreciation allowances. Typical discount rates are in the 15 percent range. This finding suggests that "frontloaded" incentives like the ITC provide maximal stimulus to corporate investment.