Ambiguity and climate policy

Antony Millner, Simon Dietz and Geoffrey Heal

LSE Research Online Documents on Economics from London School of Economics and Political Science, LSE Library

Abstract: Economic evaluation of climate policy traditionally treats uncertainty by appealing to expected utility theory. Yet our knowledge of the impacts of climate policy 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 correct standard of rationality. By contrast, several axiomatic frameworks have recently been proposed that account for ambiguous beliefs. In this paper, we apply static and dynamic versions of a smooth ambiguity model to climate mitigation policy. We obtain a general result on the comparative statics of optimal abatement and ambiguity aversion and illustrate this sufficient condition in some simple examples. We then extend our analysis to a more realistic, dynamic setting, and adapt a well-known empirical model of the climate-economy system 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.

JEL-codes: C0 Q51 Q54 (search for similar items in EconPapers)
Pages: 29 pages
Date: 2010-12
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (32)

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http://eprints.lse.ac.uk/37595/ Open access version. (application/pdf)

Related works:
Working Paper: Ambiguity and climate policy (2010)
Working Paper: Ambiguity and Climate Policy (2010)
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Persistent link: https://EconPapers.repec.org/RePEc:ehl:lserod:37595

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