Expected Utility theory and the tyranny of catastrophic risks

Wolfgang Buchholz () and Michael Schymura

No 10-059, ZEW Discussion Papers from ZEW - Leibniz Centre for European Economic Research

Abstract: Expected Utility theory is not only applied to individual choices but also to ethical decisions, e.g. in cost-benefit analysis of climate change policy measures that affect future generations. In this context the crucial question arises whether EU theory is able to deal with 'catastrophic risks', i.e. risks of high, but very unlikely losses, in an ethically appealing way. In this paper we show that this is not the case. Rather, if in the framework of EU theory a plausible level of risk aversion is assumed, a 'tyranny of catastrophic risk' (TCR) emerges, i.e. project evaluation may be dominated by the catastrophic event even if its probability is negligibly small. With low degrees of risk aversion, however the catastrophic risk eventually has no impact at all when its probability goes to zero which is ethically not acceptable as well.

Keywords: utilitarianism; Expected Utility theory; catastrophic risks (search for similar items in EconPapers)
JEL-codes: Q54 (search for similar items in EconPapers)
Date: 2010
New Economics Papers: this item is included in nep-cbe and nep-upt
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Citations: View citations in EconPapers (4)

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Journal Article: Expected utility theory and the tyranny of catastrophic risks (2012)
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Persistent link: https://EconPapers.repec.org/RePEc:zbw:zewdip:10059

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