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Ambiguity and Climate Policy

  • Antony Millner
  • Simon Dietz
  • Geoffrey Heal

Economic evaluation of climate policy traditionally treats uncertainty by appealing to expected utility theory. Yet our knowledge of the impacts of climate change may not be of sufficient quality to justify probabilistic beliefs. In such circumstances it has been argued that the axioms of expected utility theory may not be the the correct standard of rationality. By contrast several recently-proposed axiomatic frameworks account for ambiguous beliefs. We follow this approach and apply static and dynamic versions of a smooth ambiguity model to climate policy, obtaining general results on the comparative statics of optimal abatement and ambiguity aversion and illustrating this sufficient condition in some simple examples. Greater ambiguity aversion may lead to more or less abatement depending on the details of the model. We then extend our analysis to a dynamic setting and adopt a well-known integrated assessment model to show that the value of emissions abatement increases as ambiguity aversion increases, and that this "ambiguity premium" can in some plausible cases be very large.

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 16050.

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Date of creation: Jun 2010
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Publication status: published as “Scientific ambiguity and climate policy”, with Geoffrey Heal and Simon Dietz, Environmental and Resource Economics, Vol 55 (1), pp 21-46, 2013. Also appeared as NBER Working Paper no. 16050.
Handle: RePEc:nbr:nberwo:16050
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