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Pricing Climate Risk

Author

Listed:
  • Svenn Jensen

    (OsloMet - Oslo Metropolitan University)

  • Christian P. Traeger

    (University of Oslo - Department of Economics; CESifo (Center for Economic Studies and Ifo Institute) - Ifo Institute)

Abstract

Anthropogenic greenhouse gas emissions are changing the energy balance of our planet. Various climatic feedbacks make the resulting warming over the next decades and centuries highly uncertain. We quantify how this uncertainty changes the optimal carbon tax in a stochastic dynamic programming implementation of an integrated assessment model of climate change. We derive a general analytic formula for the “risk premium” governing the resulting climate policy. The formula generalizes simple precautionary savings analysis to more complex economic interactions and it builds the economic intuition for policy making under uncertainty. It clarifies the distinct roles of risk aversion, prudence, characteristics of the damage formulation, and future policy response. We show that an optimal response to uncertainty substantially reduces the risk premium.

Suggested Citation

  • Svenn Jensen & Christian P. Traeger, 2021. "Pricing Climate Risk," Working Papers 202101, Oslo Metropolitan University, Oslo Business School.
  • Handle: RePEc:oml:wpaper:202101
    DOI: 10.2139/ssrn.3892620
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    Cited by:

    1. Yingjie Niu & Zhentao Zou, 2024. "Robust Abatement Policy with Uncertainty About Environmental Disasters," Environmental & Resource Economics, Springer;European Association of Environmental and Resource Economists, vol. 87(4), pages 933-965, April.
    2. Svenn Jensen & Christian P. Traeger & Christian Träger, 2021. "Pricing Climate Risk," CESifo Working Paper Series 9196, CESifo.

    More about this item

    JEL classification:

    • Q54 - Agricultural and Natural Resource Economics; Environmental and Ecological Economics - - Environmental Economics - - - Climate; Natural Disasters and their Management; Global Warming
    • Q00 - Agricultural and Natural Resource Economics; Environmental and Ecological Economics - - General - - - General
    • D90 - Microeconomics - - Micro-Based Behavioral Economics - - - General
    • C63 - Mathematical and Quantitative Methods - - Mathematical Methods; Programming Models; Mathematical and Simulation Modeling - - - Computational Techniques

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