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Adjustment Costs from Environmental Change Induced by Incomplete Information and Learning

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Author Info

  • Kolstad, Charles D.
  • Kelly, David L.
  • Mitchell, Glenn

Abstract

The paper begins with the problem of a firm subject to random productivity shocks drawn from a particular distribution. We are concerned with the case whereby the distribution of the shocks changes without the knowledge of the firm. Over time the firm learns about the nature and extent of the change in the distribution of the shock and adjusts, incurring adjustment costs in the process. The long run loss in profits (Ž) due to the shift in the distribution we term the adaptation costs. The transitory profit loss, incurred while the firm is learning about the distribution shift, is termed the adjustment cost. The theory is developed and then applied to the problem of measuring adaptation and adjustment costs in the face of unanticipated and imperfectly observed climate change in agriculture. The empirical part of the paper involves estimating a supply function for corn that depends on actual weather realizations and expected weather, using county level data for the US. We then simulate the effect of an unobserved climate shock, where learning about the climate shock is by observing the weather and updating prior knowledge using Bayes Rule.

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Bibliographic Info

Paper provided by Department of Economics, UC Santa Barbara in its series University of California at Santa Barbara, Economics Working Paper Series with number qt9mx119gc.

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Date of creation: 06 Jun 1999
Date of revision:
Handle: RePEc:cdl:ucsbec:qt9mx119gc

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Related research

Keywords: Adjustment; Costs; Environmental; Change; Induced; Incomplete; Information; Learning;

References

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  1. A.J. Fischer & A.J. Arnold & M. Gibbs, 1996. "Information and the Speed of Innovation Adoption," American Journal of Agricultural Economics, Agricultural and Applied Economics Association, vol. 78(4), pages 1073-1081.
  2. G. Ellison & D. Fudenberg, 2010. "Rules of Thumb for Social Learning," Levine's Working Paper Archive 435, David K. Levine.
  3. Wolak, Frank A & Kolstad, Charles D, 1991. "A Model of Homogeneous Input Demand under Price Uncertainty," American Economic Review, American Economic Association, vol. 81(3), pages 514-38, June.
  4. Fanny Demers & Michel Demers, 1989. "Price Uncertainty, The Competitive Firm and the Dual Theory of Choice Under Risk," Carleton Industrial Organization Research Unit (CIORU) 89-09, Carleton University, Department of Economics.
  5. Blair, Roger D, 1974. "Random Input Prices and the Theory of the Firm," Economic Inquiry, Western Economic Association International, vol. 12(2), pages 214-26, June.
  6. Robert Mendelsohn & William D. Nordhaus & Shaw, Daigee, 1992. "The Impact of Climate on Agriculture: A Ricardian Approach," Cowles Foundation Discussion Papers 1010, Cowles Foundation for Research in Economics, Yale University.
  7. Sandmo, Agnar, 1971. "On the Theory of the Competitive Firm under Price Uncertainty," American Economic Review, American Economic Association, vol. 61(1), pages 65-73, March.
  8. Batra, Raveendra N & Ullah, Aman, 1974. "Competitive Firm and the Theory of Input Demand under Price Uncertainty," Journal of Political Economy, University of Chicago Press, vol. 82(3), pages 537-48, May/June.
  9. Hansen, LeRoy T., 1991. "Farmer Response to Changes in Climate: The Case of Corn Production," Journal of Agricultural Economics Research, United States Department of Agriculture, Economic Research Service, issue 4.
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Citations

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Cited by:
  1. Andrew J. Leach, 2004. "The Climate Change Learning Curve," Cahiers de recherche 04-03, HEC Montréal, Institut d'économie appliquée.
  2. Günter Lang, 2001. "Global Warming and German Agriculture Impact Estimations Using a Restricted Profit Function," Environmental & Resource Economics, European Association of Environmental and Resource Economists, vol. 19(2), pages 97-112, June.

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