Economics of Tail Events with an Application to Climate Change, The. Nordhaus, W. D. Review of Environmental Economics and Policy, 5(2):240–257, June, 2011. ![Economics of Tail Events with an Application to Climate Change, The [link]](https://bibbase.org/img/filetypes/link.svg "link")
Paper doi abstract bibtex From time to time, something occurs that is outside the range of what is normally expected. For reasons that will soon become clear, I call this a tail event. Some tail events are unremarkable, such as an e-mail about a large inheritance that awaits you in Nigeria. Others may change the course of history. Momentous tail events include the detonation of the first atomic weapon over Hiroshima in 1945, the sharp rise in oil prices in 1973, the 23 percent fall in stock prices in October 19, 1987, the destruction of the World Trade Center towers in 2001, and the meltdown of the world financial system in 2007–2008. A tail event is an outcome, which, from the perspective of the frequency of historical events or perhaps only from intuition, should happen only once in a thousand or million or centillion years. Tail events are more than statistical curiosities. In some cases, they may be so important that they dominate the way we think about our options and our strategies. Obviously, tail events dominate thinking about nuclear weapons. Less obvious is how to deal with tail events in economics. One example of how tail risk has changed economic policy is in the area of finance. In response to the meltdown of the banking system in 2007–2008, the theoretical approach to bank regulation has moved toward containing ‘‘systemic risk’’ rather than individual bank risk. Is there a general theory of economic policy concerning tail events? In an important paper, Weitzman (2009) has proposed what he calls a dismal theorem. He summarizes the theorem as follows: ‘‘[T]he catastrophe-insurance aspect of such a fat-tailed unlimited-exposure situation, which can never be fully learned away, can dominate the social-discounting aspect, the pure-risk aspect, and the consumption-smoothing aspect.’’1 The general idea is that under limited conditions concerning the structure of uncertainty and societal preferences, the expected loss from certain risks such as climate change is infinite and that standard economic analysis cannot be applied.
@article{nordhaus_economics_2011,
title = {Economics of {Tail} {Events} with an {Application} to {Climate} {Change}, {The}},
volume = {5},
issn = {1750-6816, 1750-6824},
url = {https://academic.oup.com/reep/article-lookup/doi/10.1093/reep/rer004},
doi = {10.1093/reep/rer004},
abstract = {From time to time, something occurs that is outside the range of what is normally expected. For reasons that will soon become clear, I call this a tail event. Some tail events are unremarkable, such as an e-mail about a large inheritance that awaits you in Nigeria. Others may change the course of history. Momentous tail events include the detonation of the first atomic weapon over Hiroshima in 1945, the sharp rise in oil prices in 1973, the 23 percent fall in stock prices in October 19, 1987, the destruction of the World Trade Center towers in 2001, and the meltdown of the world financial system in 2007–2008. A tail event is an outcome, which, from the perspective of the frequency of historical events or perhaps only from intuition, should happen only once in a thousand or million or centillion years. Tail events are more than statistical curiosities. In some cases, they may be so important that they dominate the way we think about our options and our strategies. Obviously, tail events dominate thinking about nuclear weapons. Less obvious is how to deal with tail events in economics. One example of how tail risk has changed economic policy is in the area of finance. In response to the meltdown of the banking system in 2007–2008, the theoretical approach to bank regulation has moved toward containing ‘‘systemic risk’’ rather than individual bank risk. Is there a general theory of economic policy concerning tail events? In an important paper,
Weitzman (2009) has proposed what he calls a dismal theorem. He summarizes the theorem as follows: ‘‘[T]he catastrophe-insurance aspect of such a fat-tailed unlimited-exposure situation, which can never be fully learned away, can dominate the social-discounting aspect, the pure-risk aspect, and the consumption-smoothing aspect.’’1 The general idea is that under limited conditions concerning the structure of uncertainty and societal preferences, the expected loss from certain risks such as climate change is infinite and that standard economic analysis cannot be applied.},
language = {en},
number = {2},
urldate = {2017-09-19},
journal = {Review of Environmental Economics and Policy},
author = {Nordhaus, W. D.},
month = jun,
year = {2011},
keywords = {KR, Untagged},
pages = {240--257},
}
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Momentous tail events include the detonation of the first atomic weapon over Hiroshima in 1945, the sharp rise in oil prices in 1973, the 23 percent fall in stock prices in October 19, 1987, the destruction of the World Trade Center towers in 2001, and the meltdown of the world financial system in 2007–2008. A tail event is an outcome, which, from the perspective of the frequency of historical events or perhaps only from intuition, should happen only once in a thousand or million or centillion years. Tail events are more than statistical curiosities. In some cases, they may be so important that they dominate the way we think about our options and our strategies. Obviously, tail events dominate thinking about nuclear weapons. Less obvious is how to deal with tail events in economics. One example of how tail risk has changed economic policy is in the area of finance. In response to the meltdown of the banking system in 2007–2008, the theoretical approach to bank regulation has moved toward containing ‘‘systemic risk’’ rather than individual bank risk. Is there a general theory of economic policy concerning tail events? In an important paper, Weitzman (2009) has proposed what he calls a dismal theorem. He summarizes the theorem as follows: ‘‘[T]he catastrophe-insurance aspect of such a fat-tailed unlimited-exposure situation, which can never be fully learned away, can dominate the social-discounting aspect, the pure-risk aspect, and the consumption-smoothing aspect.’’1 The general idea is that under limited conditions concerning the structure of uncertainty and societal preferences, the expected loss from certain risks such as climate change is infinite and that standard economic analysis cannot be applied.","language":"en","number":"2","urldate":"2017-09-19","journal":"Review of Environmental Economics and Policy","author":[{"propositions":[],"lastnames":["Nordhaus"],"firstnames":["W.","D."],"suffixes":[]}],"month":"June","year":"2011","keywords":"KR, Untagged","pages":"240–257","bibtex":"@article{nordhaus_economics_2011,\n\ttitle = {Economics of {Tail} {Events} with an {Application} to {Climate} {Change}, {The}},\n\tvolume = {5},\n\tissn = {1750-6816, 1750-6824},\n\turl = {https://academic.oup.com/reep/article-lookup/doi/10.1093/reep/rer004},\n\tdoi = {10.1093/reep/rer004},\n\tabstract = {From time to time, something occurs that is outside the range of what is normally expected. For reasons that will soon become clear, I call this a tail event. Some tail events are unremarkable, such as an e-mail about a large inheritance that awaits you in Nigeria. Others may change the course of history. Momentous tail events include the detonation of the first atomic weapon over Hiroshima in 1945, the sharp rise in oil prices in 1973, the 23 percent fall in stock prices in October 19, 1987, the destruction of the World Trade Center towers in 2001, and the meltdown of the world financial system in 2007–2008. A tail event is an outcome, which, from the perspective of the frequency of historical events or perhaps only from intuition, should happen only once in a thousand or million or centillion years. Tail events are more than statistical curiosities. In some cases, they may be so important that they dominate the way we think about our options and our strategies. Obviously, tail events dominate thinking about nuclear weapons. 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