Material-Specific Discount Rate: Inappropriate for Life-Cycle Cost Analysis

Economists use life-cycle cost analyses to help calculate the total lifetime costs of a project, including initial construction, rehabilitation, maintenance, and salvage value. Several accepted LCCA models exist, helping state transportation engineers and project planners to best compare the costs of project design alternatives.

Recently, a single report has raised the idea of using material-specific discount rates within life-cycle cost analyses to model differing inflationary pressures for different materials. While the concept sounds interesting, the actual economic model is fundamentally flawed.

In "The Effects of Inflation and Its Volatility on the Choice of Construction Alternatives," the Concrete Sustainability Hub at the Massachusetts Institute of Technology tries to use recent price changes of concrete, asphalt, steel, and lumber to calculate future prices of these commodities over a 50-year period.

Applying a material-specific discount rate is not accepted as valid by the economics profession. It is not recommended or even mentioned in relevant federal, state, academic, or private-sector literature. Furthermore, using historical price inflation data to predict future prices is an unsupported methodology. Standard economic practices caution against trying to forecast future price trends for inflation or highly volatile commodities, such as oil, over periods of time longer than six months.

Beyond these economic flaws, the Concrete Sustainability Hub's report ignores innovations in asphalt engineering already being used to reduce project costs, such as the use of warm-mix asphalt and reclaimed asphalt pavement.

Ultimately, state transportation officials can best conduct LCCAs by using established, accepted methods.

A full examination of the issue is available in the White Paper "An Economic Analysis of the Proposed Material-Specific Discount Rate for Commodity Pricing in Highway Construction Life-Cycle Cost Analyses" (NAPA Special Report 203).

Resources:
Full Report
Executive Summary
One-Page Fact Sheet
Talking Points
Frequently Asked Questions
APA Position Paper on LCCA
FHWA LCCA Primer
Press Release