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Expected utility theory and the tyranny of catastrophic risks

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  • Buchholz, Wolfgang
  • Schymura, Michael

Abstract

Expected Utility theory is not only applied to individual choices but also to social decisions, e.g. in cost–benefit analysis of climate change policy measures that affect future generations and hence incorporate an ethical dimension. In this context the crucial question arises whether EU theory is able to deal with “catastrophic risks”, i.e. risks of high, but very unlikely losses, in an ethically appealing way. In this paper we show that this is not the case. Rather, if in the framework of EU theory a plausible level of risk aversion is assumed, a “tyranny of catastrophic risk” (TCR) emerges, i.e. project evaluation is dominated by the catastrophic event. Or, contrary to that, with low degrees of risk aversion, the catastrophic risk eventually has no impact at all (“negligence of catastrophic risk” (NCR)) which is ethically not acceptable as well.

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Bibliographic Info

Article provided by Elsevier in its journal Ecological Economics.

Volume (Year): 77 (2012)
Issue (Month): C ()
Pages: 234-239

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Handle: RePEc:eee:ecolec:v:77:y:2012:i:c:p:234-239

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Web page: http://www.elsevier.com/locate/ecolecon

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Keywords: Expected Utility Theory; Catastrophic risks;

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Cited by:
  1. Edilio Valentini & Paolo Vitale, 2014. "Optimal Climate Policy for a Pessimistic Social Planner," Working Papers 2014.33, Fondazione Eni Enrico Mattei.
  2. Michielsen, T.O., 2013. "Environmental Catastrophes Under Time-inconsistent Preferences," Discussion Paper 2013-013, Tilburg University, Center for Economic Research.
  3. Chanel, Olivier & Chichilnisky, Graciela, 2013. "Valuing life: Experimental evidence using sensitivity to rare events," Ecological Economics, Elsevier, vol. 85(C), pages 198-205.
  4. Thomas Michielsen, 2013. "Environmental Catastrophes under Time-Inconsistent Preferences," Working Papers 2013.55, Fondazione Eni Enrico Mattei.
  5. Frank Ackerman & Elizabeth Stanton & Ramón Bueno, 2013. "Epstein–Zin Utility in DICE: Is Risk Aversion Irrelevant to Climate Policy?," Environmental & Resource Economics, European Association of Environmental and Resource Economists, vol. 56(1), pages 73-84, September.

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