Induced Discounting and Its Implications to Catastrophic Risk Management

7054 18 4956 2 12010 document 4956 IR-03-029.pdf application/pdf 9a8f1b186dfb342887e4fed537c7248c MD5 100220 2016-01-15 02:15:56 https://pure.iiasa.ac.at/id/eprint/7054/1/IR-03-029.pdf 7054 1 1 text en public

IR-03-029.pdf

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IR-03-029.pdf

http://eprints.org/relation/isVersionOf https://pure.iiasa.ac.at/id/document/4956 http://eprints.org/relation/isVolatileVersionOf https://pure.iiasa.ac.at/id/document/4956 http://eprints.org/relation/isCoversheetVersionOf https://pure.iiasa.ac.at/id/document/4956 archive 351 disk0/00/00/70/54 2016-01-15 02:15:56 2021-08-27 17:18:21 2016-01-15 02:15:56 monograph show 2 Ermolieva T.Y. 7638 Ermoliev Y.M. 1445 Hepburn C. Nilsson S. 1357 Obersteiner M. 7255 0000-0001-6981-2769 Induced Discounting and Its Implications to Catastrophic Risk Management pub iis_ecn iis_for iis_rsk prog_for The implication of risks for justifying long-term investment remains a controversial issue. For example, how can we justify mitigation efforts for a 200-year flood that may, in fact, occur in one year or in 300 years? Discount rates obtained from capital markets are linked to assets with lifespans of a few decades and, as such, may significantly underestimate the results of long-term mitigations. In this paper, we show that the explicit treatment of extreme catastrophic events and related uncertain time horizons and risks induce dynamically adjusted discount rates, conditional on the degree of social commitment to mitigate risk. In particular, the standard time geometric (exponential) discount factors are induced by an event with time horizons characterized by a "memoryless" geometric (exponential) probability distribution. A set of such events induces declining time inconsistent discount rates that are dominated by least probable extreme events. In general, risk affects discount rates, which alter the optimal mitigation efforts that in turn, change the risk. We show that the induced discount factors can be analyzed by solving stochastic optimization problems. Our simulation results indicate that the misperception of time inconsistency associated with induced discounting may dramatically effect - delay or provoke - the possibility of catastrophic collapse. 2003-07 published IR-03-029 IR-03-029 83 338 217 219 public interim_report IIASA, Laxenburg, Austria 19 FALSE info:eu-repo/semantics/book