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Wealth Management and Uncertain Tipping Points

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  • Steinar Strøm
  • Jon Vislie

Abstract

We analyze optimal wealth management, within a global setting, where accumulation of GHGs caused by extraction of fossil resources affects the probability distribution for hitting a threshold or tipping point, indicating a climate change. We derive an optimal strategy for overall wealth management, within a Ramsey-Hotelling-framework. We have two assets; one being reproducible (reversible capital equipment) and another being non-reproducible (stock of exhaustible natural resources – fossil fuels). Resources, along with capital equipment, are inputs in the production of an aggregate output allocated to consumption and net investment. Resource extraction adds to a stock of GHGs that affects the likelihood for a catastrophic event. If, and when, such an event occurs there is a downscaling of production opportunities. We derive a first-best precautionary global tax on using fossil fuel, which internalizes the present value of (conditional) expected welfare loss of hitting a threshold, as well as a set of risk-modified optimality conditions for overall wealth management, as long as no catastrophe has occurred.

Suggested Citation

  • Steinar Strøm & Jon Vislie, 2019. "Wealth Management and Uncertain Tipping Points," CESifo Working Paper Series 7487, CESifo.
    • Handle: RePEc:ces:ceswps:_7487
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    File URL: https://www.cesifo.org/DocDL/cesifo1_wp7487.pdf
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    References listed on IDEAS

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    More about this item

    Keywords

    wealth management; stochastic tipping points; catastrophic outcome; precautionary taxation; social rates of discount;
    All these keywords.

    JEL classification:

    • E21 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Consumption; Saving; Wealth
    • O44 - Economic Development, Innovation, Technological Change, and Growth - - Economic Growth and Aggregate Productivity - - - Environment and Growth
    • Q32 - Agricultural and Natural Resource Economics; Environmental and Ecological Economics - - Nonrenewable Resources and Conservation - - - Exhaustible Resources and Economic Development

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