Untimely Death, The Value Of Certain Lifetime And Macroeconomic Dynamics

In the past few years, several studies have documented the fact that terrorism has a negative impact on economic activity. The present study attempts to provide an explanation that rests on two pillars. The first pillar expands on Eckstein and Tsiddon (2004) to account explicitly for a subjective assessment of the probability of death due to an act of terror; the second explicitly accounts for the dissatisfaction that derives from untimely death. In the first pillar, individuals estimate the risk of death by invoking the cumulative-prospect theory (Kahneman and Tversky, 1992). Since the probability of death in a terrorist attack is low, decision weights are higher than the actual probabilities. Needless to say, while cumulative-prospect theory governs individuals' behavior, the economy is governed by actual probabilities. The second pillar on which our explanation rests is the disutility that emerges from an individual's untimely and unnatural death. When calibrated, the integration of both explanations seems to show that terror has a rather strong impact on economic activity, one that may be observed in terror-affected regions.