OMB Negative Discount Rate Means Concrete Even More Competitive
Editor’s Note: This is the second of this three-part series about the OMB’s discount rate and why it’s important to transportation construction officials in both the industry and public sector. Look for part three in our next issue of ACPA TODAY.*
The discount rate published by OMB annually in Appendix C of OMB Circular No. A-94 is recommended for use by the Federal government and state agencies as the real discount rate to use when performing life cycle cost analyses of pavement alternatives and other government projects.
In a life-cycle cost analysis (LCCA) the real discount rate impacts the calculated total life-cycle cost or total ownership cost for a given alternative. As the real discount rate decreases, the financial impact of future expenditures (maintenance, preservation, and resurfacing) on the net present value of alternate increases. The impact can be very significant as seen in the accompanying chart for two pavement alternatives (concrete and asphalt). The chart shows the difference in total net present value as the real discount rate changes from a low of minus 1 percent to a high of 7 percent.
The chart reveals that because there are more future costs for the asphalt alternative, its total ownership cost varies more (by about $8 million dollars versus $2.5 million dollars) over the range of discount rates from minus 1.0 percent to 7.0 percent. The chart also shows that at a real discount rate of 3 percent, the analysis favors the asphalt alternative by about $1 million dollars, but under current economic conditions (-0.3 percent) the concrete alternative is favored by over $1 million dollars. The impact of inflation and interest, reflected through the real discount rate, clearly makes a dramatic difference in the total ownership cost comparison.
The graph was developed comparing alternatives presented in ACPA’s Engineering Bulleting (EB011) on Life-Cycle Cost Analysis. In the example, the initial cost of the asphalt is 33 percent less than that of the concrete pavement (a large and in many cases unrealistic difference). But when future maintenance/preservation activities over a 50-year period are included in the analysis using the OMB-recommended discount rate, the concrete option clearly becomes the better buy even with a wide and unrealistic difference in first cost.