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The Value Of Flexibility In Adapting To Climate Change: A Real Options Analysis Of Investments In Coastal Defense

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  • PETER LINQUITI

    (The Center for International Science and Technology Policy, George Washington University, Washington DC 20052, USA)

  • NICHOLAS VONORTAS

    (The Center for International Science and Technology Policy, George Washington University, Washington DC 20052, USA)

Abstract

Adaptation to climate change is likely to be a significant challenge for developing countries. We examine whether a real options approach that recognizes uncertainty and maintains future flexibility can provide an improved adaptation investment strategy. We use a Monte Carlo model to test four strategies for defending against sea level rise. Two of the strategies are inflexible, with the coastal defense fully specified in the first year of analysis. The other two strategies are flexible real options that allow adjustments in the coastal defense over time. We emphatically show that a real options strategy has the potential to increase the benefits of proactive adaptation. Our results prove to be location-dependent, underscoring the need for location-specific analysis. We find that the quality of the information obtained over time has an important bearing on option value and that a country's institutional capability and the specific mechanisms of international development assistance may affect implementation.

Suggested Citation

  • Peter Linquiti & Nicholas Vonortas, 2012. "The Value Of Flexibility In Adapting To Climate Change: A Real Options Analysis Of Investments In Coastal Defense," Climate Change Economics (CCE), World Scientific Publishing Co. Pte. Ltd., vol. 3(02), pages 1-33.
    • Handle: RePEc:wsi:ccexxx:v:03:y:2012:i:02:n:s201000781250008x
    DOI: 10.1142/S201000781250008X
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    1. R. J. Nicholls & S. Hanson & Celine Herweijer & Nicola Patmore & Stéphane Hallegatte & Jan Corfee-Morlot & Jean Château & Robert Muir-Wood, 2008. "Ranking Port Cities with High Exposure and Vulnerability to Climate Extremes: Exposure Estimates," OECD Environment Working Papers 1, OECD Publishing.
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    3. World Bank, 2010. "Economics of Adaptation to Climate Change : Synthesis Report," World Bank Publications - Reports 12750, The World Bank Group.
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    1. Myung-Jin Kim & Robert J. Nicholls & John M. Preston & Gustavo A. Almeida, 2022. "Evaluation of flexibility in adaptation projects for climate change," Climatic Change, Springer, vol. 171(1), pages 1-17, March.
    2. Golub,Alexander Alexandrovich & Toman,Michael A., 2016. "Economic structural change as an option for mitigating the impacts of climate change," Policy Research Working Paper Series 7637, The World Bank.
    3. Alexander Golub & Michael Brody, 2017. "Uncertainty, climate change, and irreversible environmental effects: application of real options to environmental benefit-cost analysis," Journal of Environmental Studies and Sciences, Springer;Association of Environmental Studies and Sciences, vol. 7(4), pages 519-526, December.
    4. Decker, Christopher, 2018. "Utility and regulatory decision-making under conditions of uncertainty: Balancing resilience and affordability," Utilities Policy, Elsevier, vol. 51(C), pages 51-60.
    5. Daiju Narita & Martin F. Quaas, 2014. "Adaptation To Climate Change And Climate Variability: Do It Now Or Wait And See?," Climate Change Economics (CCE), World Scientific Publishing Co. Pte. Ltd., vol. 5(04), pages 1-28.
    6. Arun S. Malik & Stephen C. Smith, 2012. "Adaptation To Climate Change In Low-Income Countries: Lessons From Current Research And Needs From Future Research," Climate Change Economics (CCE), World Scientific Publishing Co. Pte. Ltd., vol. 3(02), pages 1-22.
    7. Dobes Leo & Jotzo Frank & Stern David I., 2014. "The Economics of Global Climate Change: A Historical Literature Review," Review of Economics, De Gruyter, vol. 65(3), pages 281-320, December.
    8. McDermott, T.K.J. & Surminski, S., 2018. "Normative interpretations of climate risk assessment and how it affects local decision making – a study at the city scale in Cork, Ireland," Working Papers 309607, National University of Ireland, Galway, Socio-Economic Marine Research Unit.
    9. Graeme Guthrie, 2021. "Discounting, Disagreement, and the Option to Delay," Environmental & Resource Economics, Springer;European Association of Environmental and Resource Economists, vol. 80(1), pages 95-133, September.
    10. G. Guthrie, 2021. "Adapting to Rising Sea Levels: How Short-Term Responses Complement Long-Term Investment," Environmental & Resource Economics, Springer;European Association of Environmental and Resource Economists, vol. 78(4), pages 635-668, April.
    11. Hirte, Georg & Nitzsche, Eric & Tscharaktschiew, Stefan, 2018. "Optimal adaptation in cities," Land Use Policy, Elsevier, vol. 73(C), pages 147-169.
    12. Dawson, David A. & Hunt, Alistair & Shaw, Jon & Gehrels, W. Roland, 2018. "The Economic Value of Climate Information in Adaptation Decisions: Learning in the Sea-level Rise and Coastal Infrastructure Context," Ecological Economics, Elsevier, vol. 150(C), pages 1-10.
    13. Paul Watkiss, 2015. "A review of the economics of adaptation and climate-resilient development," GRI Working Papers 205, Grantham Research Institute on Climate Change and the Environment.
    14. Stephen Smith, 2016. "The Two Fragilities: Vulnerability to Conflict,Environmental Stress, and Their Interactions as Challenges to Ending Poverty," Working Papers 2016-1, The George Washington University, Institute for International Economic Policy.
    15. Robert L. Ceres & Chris E. Forest & Klaus Keller, 2017. "Understanding the detectability of potential changes to the 100-year peak storm surge," Climatic Change, Springer, vol. 145(1), pages 221-235, November.
    16. Michalis Skourtos & Dimitris Damigos & Areti Kontogianni & Christos Tourkolias & Alistair Hunt, 2019. "Embedding Preference Uncertainty for Environmental Amenities in Climate Change Economic Assessments: A “Random” Step Forward," Economies, MDPI, vol. 7(4), pages 1-22, October.
    17. Paul Watkiss & Alistair Hunt & William Blyth & Jillian Dyszynski, 2015. "The use of new economic decision support tools for adaptation assessment: A review of methods and applications, towards guidance on applicability," Climatic Change, Springer, vol. 132(3), pages 401-416, October.
    18. Graeme Guthrie, 2019. "Real options analysis of climate-change adaptation: investment flexibility and extreme weather events," Climatic Change, Springer, vol. 156(1), pages 231-253, September.
    19. Adam D. McCurdy & William R. Travis, 2017. "Simulated climate adaptation in stormwater systems: evaluating the efficiency of adaptation strategies," Environment Systems and Decisions, Springer, vol. 37(2), pages 214-229, June.
    20. Maddalen Mendizabal & Nieves Peña & Hans Hooyberghs & Griet Lambrechts & Joel Sepúlveda & Saioa Zorita, 2021. "Lessons Learned from Applying Adaptation Pathways in Heatwave Risk Management in Antwerp and Key Challenges for Further Development," Sustainability, MDPI, vol. 13(20), pages 1-23, October.
    21. Lee, Sangjun & Zhao, Jinhua, 2021. "Adaptation to climate change: Extreme events versus gradual changes," Journal of Economic Dynamics and Control, Elsevier, vol. 133(C).
    22. repec:gwi:wpaper:2012-08 is not listed on IDEAS
    23. Dittrich, Ruth & Wreford, Anita & Moran, Dominic, 2016. "A survey of decision-making approaches for climate change adaptation: Are robust methods the way forward?," Ecological Economics, Elsevier, vol. 122(C), pages 79-89.

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