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r
1 r
mn
1
where: D
tk
is the expected value of the damage component k at time t in
the temporary phase (cost, interimor permanent welfare loss); D
is the
expected value of the annual permanent welfare loss in the permanent
phase; r is the social discount rate.
Under the HEA approach, the NOAA (2006) general formula
equating the sum of the present discounted value of the services lost
at the damaged site with the sum of the present discounted value of
the services provided at the replacement site is:
JV
j
X
n
t0
1 r
mt
b
j
x
j
t
b
j
2
4
3
5
b
j
x
j
tn1
b
j
2
4
3
5
1
r
1 r
mn
2
where: J is the extent of the injury (in physical terms); V
j
is the expected
value of the annual unit value of the services provided by the damaged
resource; P is the number of compensatory/complementary units; V
p
is
the expected value of the annual unit value of the services provided by
the compensatory/complementary project; b
j
is the baseline level of
services provided by the injured resource; x
t
j
is the level of services
provided per unit by the injured resource at time t; b
p
is the initial
level of services provided by the resources at the compensatory/
complementary site; x
t
p
is the level of services provided per unit by the
resources at the compensatory/complementary site at time t; l is the
time when the compensatory/complementary project reaches full
maturity i.e. maximum services provision is reached and the services
provision continues perpetually or the compensatory/complementary
project senesces.
Table 1
Damage components according to four scenarios linked to damage reversibility and resource remediability.
Resource
Remediable Not remediable
Damage Reversible Defensive costs Defensive costs
Monitoring and assessment costs Monitoring and assessment costs
Remediation costs
Interim welfare losses (compensatory remediation) Interim welfare losses (compensatory remediation)
Irreversible Defensive costs Defensive costs
Monitoring and assessment costs Monitoring and assessment costs
Remediation costs
Interim welfare losses (compensatory remediation) Permanent welfare losses (complementary remediation)
Fig. 1. Damage time-prole: interim and permanent welfare losses.
3 E. Defrancesco et al. / Ecological Economics 99 (2014) 19
The restoration scale P is obtained from Eq. (2):
P J
V
j
V
p
X
n
t0
1 r
mt
b
j
x
j
t
b
j
2
4
3
5
b
j
x
j
tn1
b
j
2
4
3
5
1
r
1 r
mn
X
l
t1
1 r
mt
x
p
t
b
p
b
j
" #
x
p
tl1
b
p
b
j
2
4
3
5
1
r
1 r
ml
: 3
3. A Component-based Approach to Discounting
The debate about the social discount is very critical, from the the-
oretical and operational point of view, especially when intergenera-
tional equity problems arise (Hepburn, 2007; Portney and Weyant,
1999) as in the case of permanent welfare losses due to environ-
mental damage.
This paper lacks the space to adequately summarise the current the-
oretical and operational debate on social discounting. Relevant theoret-
ical and empirical reasons justifying a time-declining approach to
discounting over a long time horizon have been provided in the last
years, and numerous papers have critically reviewed this issue (Oxera,
2002; Pearce et al., 2003; Groom et al., 2005; Rambaud and Torrecillas,
2006; Stern et al., 2006; Hepburn, 2007; Almansa and Calatrava, 2007,
among others). In a nutshell, the theoretical and empirical foundations
of time-declining discounting are mainly related to: i) the uncertainty
about the future state of the world, namely, the future path and
persistency of the discount rate (Newell and Pizer, 2003; Weitzman,
1998, 2001), the future growth rate of consumption (Gollier, 2002,
2010, 2011) and life expectancy (Kula, 1984, among others); ii) the
sustainability and intergenerational equity issues that are explicitly
taken into account in order to avoid the dictatorship of one generation
(present or future) over the others (Chichilnisky, 1997; Chichilnisky
and Heal, 1997; Li and Lfgren, 2000); and iii) the increasing
experimental evidence that individuals discount hyperbolically when
making intertemporal choices (for an overview, see Frederick et al.,
2002).
Persuasive theoretical and empirical arguments apart, declining
discounting may help to reduce the tension between intergenerational
equity and efciency, even if it does not eliminate the problem
(Hepburn, 2007). However, the risk of time-inconsistency (Strotz,
1955) of the time-varying rates has been underlined (Oxera, 2002),
while the effective seriousness of the problem is debated (Henderson
and Bateman, 1995; Pearce et al., 2003).
In line with the theoretical ndings, the UK government has provid-
ed a schedule of declining discount rates over a long time horizon in its
Green Book on government project and policy appraisal: 3.5% for the
years between 0 and 30; 3% for the year-range 3175; 2.5% for
76125; 2% for 126200; 1.5% for 201300 and 1% for the years beyond
the 300th (HMTreasury, 2003). Weitzman(1998) and Newell and Pizer
(2003), among others, addressed the rationale of applying a constant
exponential discounting to the time horizon up to 30 years. For the
former, the uncertainty on the discount rate begins beyond the limits
of the nancial markets, while for the latter the short-term rate
forecasts are relatively constant, though persistent uncertainty starts
immediately. More recently, and according to Stern et al. (2006), the
declining rates have been further lowered when major environmental
impacts of climate change are expected and irreversible wealth
transfers occur between generations, raising relevant intergenerational
ethical issues (Lowe, 2008).
A related strand in the recent literature on CBA of climate change
refers to the dual-rate discount approach, which proposes to discount
the whole streamof environmental costs and benets with an Environ-
mental Discount Rate (EDR) lower than the social discount rate used for
nancial ows. The rationale of the approach (that can be traced back to
Fisher and Krutilla's (1975) contribution, despite the fact that those
authors did not use dual rates) is related to the growing scarcity of
natural resources, which increases individual willingness to pay for
environmental services. Dual-rate discounting has also been justied
by the non-substitutability between natural and man-made capital
(Kgel, 2009; Neumayer, 1999) and on the grounds of the need to
acknowledge adaptive management of ecosystems (Carpenter et al.,
2007). More recently, the theoretical foundations of an EDR lower
than the social discount rate reecting non-renewable resources
depletion and the related rise in willingness to pay for environmental
quality have been analysed by Yang (2003), Tol (2004), Almansa and
Calatrava (2007), Kula and Evans (2011), Almansa and Martinez Paz
(2011), among others. Traeger (2007, 2011) and Kgel (2009) have
explored the conditions under which both the EDR and the social
discount rate decline over time. However, the specic choice of EDR
has been questioned as being based on ad hoc assumptions that are
difcult to justify (Tol, 2004).
Specically within NRDA, literature on the choice of the discount
rate has mostly an operational nature. Kopp (1994) frames the issue
in a general analysis, while also pointing out the NRDA specicities;
he discusses the discounting choices and provides operational indica-
tions according to the different damage components, seeming to sug-
gest that different components need different discounting rationales.
The debate continues under a regulatory perspective: recommenda-
tions are providedto discount the damage cost components and welfare
losses at different rates: the former have to be discounted at the rate on
US Treasury securities of comparable maturities to the length of
restoration and assessment, while a lower social discount rate
(3%) is suggested for the latter (NOAA, 1999; US Federal Register,
1996a and b). In the European Union context, REMEDE (2008)
recommends referring exclusively to the ofcial guidelines on social
discounting provided by the member countries. Finally, a number
of papers discuss the issue by specically incorporating it into the
HEA/REA approach (Dunford et al., 2004; Moilanen et al., 2009,
among others).
Fig. 2. Damage time-prole: defensive and remediation costs.
4 E. Defrancesco et al. / Ecological Economics 99 (2014) 19
However, judging from the literature, the debate on discounting
in NRDA seems to have received less attention than in the parallel
CBA context. This is despite the choice of r being equally important,
as it may signicantly affect both the DPV
m
under the monetary
approach and the scale P of compensatory and/or complementary
remedial actions under HEA/REA. This apparently scarce consider-
ation could be explained on the grounds that the underlying theoret-
ical basis on discounting is common to CBA and NRDA, or that the
legal context of the latter requires that social discount rates are
decided upon by public authorities' guidance documents. Whatever
the reasons, we feel that the choice of the social discount rate
deserves to be more specically addressed in the specic context of
NRDA.
Our paper proposes a component-based approach to social
discounting in NRDA that is a hybrid approach combining the ratio-
nale of dual-rate discounting with that of time-declining social
discounting, the latter being the one currently prevailing in the
CBA context.
Sharing the theoretical justications of the dual-rate discounting,
our approach draws the idea fromit that different discount rates should
be used when considering either tangible (cost components) or
medium-long term intangible effects (i.e. welfare losses). In addition,
NRDA focuses on a specic illegal action causing an injury to the envi-
ronment: consequently, lowering the discount rate allows the incorpo-
ration of the uncertainty related to imperfect information on the
resource values outside the incident-specic losses. From a NRDA
operational point of view, this solution is a more feasible alternative
than modelling the impact on values of e.g. the increasing resource
scarcity or reduced availability of substitutes (Yang, 2003; Kgel, 2009,
among others in the CBAcontext). General uncertainty about the future
income growthrate, life expectancy anddiscount rate as well as sustain-
ability and intergenerational equity issues, which support declining
discounting, are also relevant in the NRDAcontext. Our hybrid approach
links all these off-site non environmental- and environmental-related
uncertainty issues, as well as the intra- and inter-generational equity
ones, to the specic time-span of each damage component via the
choice of component-specic rates: the longer the duration of the
damage component the higher the uncertainty. Conversely, most of
the literature indicates that the damage-specic uncertainty about
predicted outcomes should preferably be taken into account by
properly incorporating it into the values of losses due to the injury
and gains from the restoration project (NOAA, 1999; Dunford et al.,
2004; Moilanen et al., 2009, among others). However, the literature
suggests that a lower discount rate can be chosen when a specic
damage component, including a cost, is persistently uncertain
and therefore difcult to evaluate because of its very long time-
span. Consequently, the component-based approach discounts
each damage component with a constant separate rate chosen from
a menu of declining rates. The choice criterion is the duration of
the damage component: the longer the damage effect, the lower
the associated rate. Using constant separate rates for the different
damage components qualies our approach as a multi-rate discounting
scheme, in principle an extension of the dual-rate approach, as it shares
its theoretical foundations.
However, the specic legal context of NRDArequires that the chosen
rates are anchored to social discount rates recommended by public
authorities, especially when societal value judgments based on equity
issues are incorporated, as is the case of rates associated to welfare
losses. To our knowledge, no prescriptions on dual-rates are provided
by governments, apart from in the USA (NOAA, 1999; US Federal
Register, 1996a and b). The component-based approach lls this gap
by making reference to country-specic declining either continuous
or approximated by a discrete schedule rates, which are recommend-
ed in some CBA national frameworks. This link provides a robust
operational support to the choice of the discount rate associated to
each damage component.
Formally, each damage component k is discounted with a selected
social rate r
k
chosen according to its length among those prescribed by
the public authority: the chosen rate is that associated to the last year
in which the signicant effect occurs.
Whenoccurring, the whole permanent welfare losses stream which
constantly continues after moment n andequals D
is discountedat the
lowest social rate r
klo
.
Under these assumptions, and according to the monetary approach
to NRDA, Eq. (1) becomes:
DPV
m
X
n
t0
X
K
k1
D
tk
1 r
k
mt
r
klo
1 r
klo
mn
: 4
Let us focus on the temporary phase, the rst part of Eq. (4), and
dene the total damage at time t:
D
t
X
K
k1
D
tk
: 5
Multiplying and dividing the temporary phase part of Eq. (4) by D
t
,
DPV
m
becomes:
DPV
m
X
n
t0
D
t
X
K
k1
1 r
k
mt
D
tk
D
t
!
r
klo
1 r
klo
mn
: 6
So, within the temporary phase, at a given time t the total damage
(D
t
that is
the weighted average of the discount factors associated to the damage
components (D
tk
); the weight associated to each D
tk
equals its share in
the total observed damage (D
t
):
d
t
1 r
t
mt
X
K
k1
1 r
k
mt
D
tk
D
t
7
while, at each time t, the implicit average social discount rate r
t
is the
solution to Eq. (7).
Consequently, the resulting implicit average rate r
t
varies over
time according to the time-prole and to the relative weight on
the estimated total damage (D
t
is relatively high over the damage time path the cost compo-
nents of the damage prevailing while r
t
is equal to r
klo
in the
permanent phase, where most ethical issues arise.
It is interesting to note that in some frequently-occurring environ-
mental damage cases a not increasing prole of each damage compo-
nent is generally observed
4
and the most relevant costs are usually
concentrated at the initial stage of the temporary phase, while the inter-
im losses damage components show a longer time-prole than that of
the remedial costs. It follows that, in several typical environmental
damage cases, a substantially time-declining prole of the implicit
average rate is obtained.
Our proposed approach can also be adopted under HEA/REA. On the
one hand, in frequent cases, the time-prole of the primary remediation
costs determines a cost-specic time-varying r
t
, where r is constant if
the remedial measures are undertaken within a limited length of time
(e.g. 30 years when HM Treasury social rates schedule is adopted). On
the other, the scale P of the compensatory and/or complementary reme-
diation measures is determined adopting differentiated social rates r
k
chosen according to the partial or total damage remediation trajectories
and the maturation functions of the compensatory and complementary
4
Increasing restorationand/or substitutioncosts canbe observedwhent is very close to
0, so r
t
b
j
x
j
tn1
b
j
2
4
3
5
1
r
j
1 r
j
mn
X
l
t1
1 r
p
mt x
p
t
b
p
b
j
" #
x
p
tl1
b
p
b
j
2
4
3
5
1
r
p
1 r
p
ml
:
8
When the injured resource provides the baseline services at the end
of the temporary phase, the second part of the numerator equals zero
and r
j
is chosen according to the length of recovery time, while r
j
= r
klo
when permanent welfare losses occur. Similarly, in the denominator, r
p
is selected according to the compensatory/complementary maturation
function. If the project senesces at time l, the second part of the denom-
inator equals zero, while r
j
= r
klo
when the service provision continues
perpetually. Consequently, a damage-specic time-varying discount
rate is implicitly determined by the NRDA.
However, when compared to the monetary approach, HEA/REA
requires an additional source of uncertainty to be considered linked to
the non-monetary nature of the remediationactions, since the effective-
ness of both primary and compensatory/complementary measures is
not fully guaranteed. Moilanen et al. (2009) have thoroughly explored
this issue and proposed a framework to incorporate this source of
uncertainty when estimating a robustly fair P. As already pointed out
under the monetary case, solving this problem by adjusting the rate
(e.g. increasing it when the uncertainty regards the success of the
compensatory actions) is not a recommended option.
Stemming from the theoretical discussion of the component-based
approach, some operational rules to help in the choice of the discount
rates r
k
can be sketched out:
each damage component has to be identied, as well as the duration
of its signicant effects;
the damage-specic uncertainty about predicted outcomes should
preferably be taken into account by incorporating it into the
estimations;
the off-site non-environmental and environmental related
uncertainty, as well as the intra- and inter-generational equity
issues, are resolved through the choice of component-specic
rates: the longer the duration of the damage component, the
higher the uncertainty and the equity issues arising and the
lower the associated rate;
given the specic legal context, using social rates recommended
by public authorities lends robustness to the selected rates.
Country specic discrete schedules of declining rates could
provide a credible operational reference to support the choice of
the discount rate to be associated to each damage component:
the chosen rate being that associated to the last year in which its
signicant effect occurs;
the choice of the specic reference schedule, from those recom-
mended by the government (as in the case of the UK), can be
strictly related to the specic damage context: while the HM
Treasury (2003) rates can be generally considered, the lowest
schedule of declining rates (Lowe, 2008) is recommended only
when the extent and/or intensity of the injury to the environment
affects intergenerational welfare in a very relevant way.
4. An Exemplicative Case-Study
The discount rate decisions across a schedule of declining rates
under the component-based approach are exemplied through a
case-study located in Italy, on the Northern Adriatic Sea coast. It
refers to the building of an embankment 800 m long and 35 m wide
(2.8 ha) to protect part of the coastline from storm surges. According
to the project prescriptions, the embankment had to be built using
blocks of natural rock obtained from excavation works and/or inert
material coming from building demolition. In order to create a seaside
recreational area, the project required turng the embankment,
planting trees and building some kiosks. Violating the prescriptions,
the building company used wastes classied as special and hazardous
according to the Italian waste disposal law
5
as material for the embank-
ment. This illegal action caused environmental damage.
An investigation of the material in the embankment was commis-
sioned by the local council in order to identify the specic sources of
pollution (Bevilacqua, 2010; Dazzan et al., 2010) and to assess the risk
of dispersion of pollutants into water and air (Bevilacqua and D'Aprile,
2011). The results led to the zoning of the embankment into four differ-
ently polluted sub-areas. An in-depth CBA (Massiani, 2010; Massiani
and Barbieri, 2013) was performed in order to choose the best remedi-
ation activities with the aim of regaining, as fully as possible, the recre-
ational uses. Two actions were undertaken on the whole area (Table 2)
in order to reduce the risk generated by the polluted materials, namely:
(i) the construction of a permanent steel sheet pile on the sea front to
avoid the pollutants being washed out by the waves; (ii) the implemen-
tation of a monitoring system of the contaminant leaching into the
groundwater and the sea. In addition, other specic defensive and
remedial actions were designed for each sub-area according to the
type and extent of contamination. Table 2 also highlights the original
recreational uses of the different sub-areas (without the damage
representing the baseline) and the present with the damage ones,
after the remedial actions.
Four damage components having different time trajectories and
characteristics are identied (Table 3): i) several defensive and remedi-
al actions, which occur in the rst two years; ii) monitoring of pollut-
ants, which occurs till year 50; iii) permanent recreational welfare
losses affecting both present and future generations, starting at year 2,
when the remedial actions nish; and iv) interim welfare recreational
losses, which affect the present generation from year 2 to 35. The
occurrence of damages, and the moment in which they emerge, are of
course determined by comparing the with the damage scenario to
the without the damage baseline.
6
Under a monetary approach to NRDA, the values have been estimat-
ed andsubsequently discounted to the reference time for the analysis m,
which in our case coincides with the damage occurrence (m = 0). The
following values have been considered:
(i) the defensive and remedial costs, assessed on the basis of the
project estimates;
(ii) the costs for monitoring of pollutants, estimated as 1500 per
year. This long-term monitoring is needed to control the risk of
pollutant losses until recovery stabilisation;
(iii) the permanent recreational welfare losses, due to the unavail-
ability of sub-area 3 for sporting activities, sun-bathing and
swimming. Only 25% of sub-area 3 is affected by these losses,
while the remaining 75% would anyway have been used for in-
frastructure and services, even without the damage. Massiani
(2010) has estimated the permanent recreational losses for the
area using a Value Transfer approach (Spash and Vatn, 2006).
The willingness to pay for sporting activities/sun-bathing/
swimming in the area is 4.90 per person-day in the high season
(MaySeptember). With the more conservative estimate, around
16,000 person-days per year were lost in sub-area 3, giving per-
manent welfare losses of almost 78,000 /year;
5
Legislative Decree 152/2006 prescribes that these types of wastes must only be dis-
posed of in appropriate landlls and cannot be used for building purposes.
6
Evenwithout the damage, the recreational activities could not have takenplace for the
rst two years, since the original project would also have required two years to complete.
6 E. Defrancesco et al. / Ecological Economics 99 (2014) 19
(iv) the interim recreational welfare losses in the other sub-areas,
due to the temporary loss of reputation of the site caused by
pollution. It is well-known that a polluted site, even after reme-
diation, is affected by a loss of appreciation by users (Easterling,
1997; Levi and Kocher, 2006; Miller and Sinclair, 2012) for a
length of time that depends on their risk aversion. The remedia-
tion of the site does not achieve the complete removal of
contaminants: consequently, we have assumed a rather slow
reputation recovery. Under a conservative assumption, we
have considered that risk aversion affects only one third of the
total users and that it exponentially diminishes over time: the
initial value of the interim welfare losses is 503,067 (102,667
lost person-days at 4.90 /person-day) becoming negligible
after the 35th year.
The next step of our component-based approach requires the
duration of each damage component to be analysed and to associate
an appropriate discount rate to each of them. The rates choice problem
has been solved according to the provided operational rules. With
reference to the rates menu of declining rates recommended by HM
Treasury (2003), we have chosen the rates reported in the last column
of Table 3, namely 3.5% for duration until 30 years; 3% for duration
until 75 years and 1% for permanently persisting welfare losses.
This environmental damage example shows a rather common time
prole, with the majority of the costs arising within a limited time
horizon and the welfare losses spanning a longer period of time. In
similar cases, the environmental and economic uncertainty over the
future state of the world affects the welfare-related values in a more
relevant way than the remedial costs. Therefore, lower discount rates
are justied for the former. In our case, discounting the permanent
recreational welfare losses at a lower rate than the interim ones to
account for the higher off-site uncertainty and the intergenerational
equity issues affecting them is even more justied since the same
expected annual unit value is used for both.
Fig. 3 shows the time prole of the implicit average social discount
rate, which, in our example, is declining. The DPV
m
estimated with the
component-based approach is compared with that obtained using
different approaches in Table 4. With our approach, the DPV
m
equals
12.3 million, while directly adopting the Green Book (HM Treasury,
2003) declining rate, it reduces to nearly 8 million. The latter is
signicantly lower as the discount rate is the same for all the damage
components in each moment and therefore the rate declines more
slowly over time when compared to the implicit average rate of our
approach. Finally, the DPV
m
obtained by discounting all the damage
components at the 3.5% constant rate (EU Commission, 2008) provides
the lowest damage estimate ( 6.7 million). These results are obviously
case-specic, depending on the time trajectories of the damage
components.
5. Conclusions
The component-based approach provides a rationale for social
discounting within the NRDA framework, where the issue of
discounting has not been adequately explored, despite the key role
played by the discount rate in the context of environmental damage
being undeniable. Indeed, it can dramatically inuence the DPV
m
when a monetary approach is adopted, but also the scale P of com-
pensatory and/or complementary remedial actions under HEA/REA
approaches.
The proposed approachis a combination of some theoretical founda-
tions of dual-rate discounting and time-declining social discounting.
The former provides the principle that different discount rates should
be used when considering either tangible (cost components) or
medium-long term intangible effects (i.e. welfare losses), the latter
that uncertainty and intergenerational equity issues play in favour of
time-declining social discount rates. Our approach agrees on the princi-
ple that very long-term welfare losses, e.g. the permanent components
of the damage, have to be discounted at a low rate in order to mitigate
the tyranny of the present effect and take into account the relevant
uncertainty affecting the values. Conversely, when the interim welfare
losses time-prole does not exceed the present generation's lifetime, a
Table 3
The damage components, their time trajectories and the associated discount rates.
Damage component Cost / value () Time-trajectory Discount rate (%)
Frequency Duration
Defensive and remedial actions:
Construction of steel sheet pile 800,000 Single sum 0 3.5%
Removal/disposal of special wastes (sub-area 1) 918,000 Single sum 0 3.5%
Removal/disposal of hazardous wastes (sub-area 2) 300,000 Single sum 0 3.5%
Covering with clean topsoil (sub-areas 1 and 2) 480,000 Single sum 1 3.5%
Capping (hard) (sub-area 3) 500,000 Single sum 1 3.5%
Capping (light) (sub-area 4) 420,000 Single sum 1 3.5%
Monitoring of pollutants 1500 Constant annuity 050 3.0%
Interim welfare losses 503,067 Annually declining 235 3.0%
Permanent welfare losses 77,794 Constant annuity 2 1.0%
Table 2
The defensive and remedial actions and the sub-areas uses with and without the damage.
Sub-area 1 Sub-area 2 Sub-area 3 Sub-area 4
Size (m
2
) 13,500 2500 5000 7000
Actions Construction of a steel sheet pile
Implementation of a monitoring system
Removal and disposal of thespecial
and hazardous wastes and
replacement with clean topsoil
Capping (hard) Capping (light)
With-the-damage uses Sports, sun-bathingand swimming Sports, sun-bathing and
swimming + Services
Sports, sun-bathing and swimming
Without-the-damage uses (after remediation) Sports, sun-bathingand swimming Parking + Services Sports, sun-bathing and swimming
7 E. Defrancesco et al. / Ecological Economics 99 (2014) 19
higher social rate is considered. The rationale behind this choice is that
the interimwelfare losses are mainly due to temporarily reduced values
of the damaged resource and individuals may generally adapt their
behaviour to the temporary change, so the tyranny of the future effect
could be mitigated.
Overall, our component-based approach discounts each damage
component with a constant separate rate chosen from a menu of
declining rates prescribed by the government: the choice of the rate is
anchored to the damage component duration. Thus, an implicit average
social discount rate r
t
time-varying prole
(which is declining in some frequently-occurring cases of environmen-
tal damage) is more intrinsically related to the specic time-prole of
each damage component. When the recommended rates incorporate
societal value judgements based on equity issues (Baum, 2009) and
general uncertainty about the future, r
t