The possibility of catastrophic risk means more stringent action required. This is not a surprising conclusion but is the correct way to look at the discounting issue in my opinion.
Models-as-Usual for Unusual Risks? On the Value
of Catastrophic Climate Change
Antoine
Bommier (Chair for Integrative Risk Management and Economics - ETH Zurich)
Bruno Lanz (Center for International Environmental Studies - Graduate Institute
Geneva)
Stéphane Zuber (CES - Centre d'économie de la Sorbonne - CNRS : UMR8174 -
Université Paris 1 - Panthéon-Sorbonne, EEP-PSE - Ecole d'Économie de Paris -
Paris School of Economics - Ecole d'Économie de Paris)
http://d.repec.org/n?u=RePEc:hal:cesptp:halshs-00973491&r=env
We study the
role of alternative intertemporal preference representations in a model of
economic growth, stock pollutant and endogenous risk of catastrophic collapse.
We contrast the traditional "discounted utility" model, which assumes
risk neutrality with respect to intertemporal utility, with a multiplicative
choice model that displays risk aversion in that dimension. First, we show that
both representations of preferences can rationalize the same "business as
usual" economy for a given interest rate and no pollution externality.
Second, once we introduce a collapse risk whose hazard rate is a function of
the pollution stock, multiplicative preferences recommend a much more stringent
policy response. An illustration in the context of climate change indicates
that switching to the multiplicative preference representation has a similar
effect, in terms of policy recommendations, as scaling up the schedule of the
hazard rate by a factor of 100.
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