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Ambiguity and climate policy

Millner, Antony and Dietz, Simon and Heal, Geoffrey (2010) Ambiguity and climate policy. Centre for Climate Change Economics and Policy and Grantham Research Institute on Climate Change and the Environment, 24. Centre for Climate Change Economics and Policy and Grantham Research Institute on Climate Change and the Environment, London, UK.

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Identification Number: 24

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.

Item Type: Monograph (Working Paper)
Official URL: http://www2.lse.ac.uk/GranthamInstitute/Home.aspx
Additional Information: © 2010 The Author
Subjects: G Geography. Anthropology. Recreation > GE Environmental Sciences
H Social Sciences > HC Economic History and Conditions
Sets: Departments > Geography and Environment
Research centres and groups > Grantham Research Institute on Climate Change and the Environment
Collections > Economists Online
Date Deposited: 26 Jul 2011 13:51
Last Modified: 02 Aug 2011 14:05
URI: http://eprints.lse.ac.uk/id/eprint/37595

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