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Disasters with Unobservable Duration and Frequency: Intensified Responses and Diminished Preparednes

Author

Listed:
  • Acharya, Viral
  • Johnson, Timothy
  • Sundaresan, Suresh
  • Zheng, Steven

Abstract

We study an economy subject to recurrent disasters when the frequency and duration of the disasters are unobservable parameters. Imprecise information about transition intensities increases the probability of the current state effectively lasting forever. In a disaster, uncertainty about duration makes disasters subjectively much worse and can make the welfare value of information extremely high. However, in advance of a disaster, uncertainty about the arrival rate can be welfare-increasing. Agents optimally invest less in mitigation than under full information and pay less for insurance against the next disaster.

Suggested Citation

  • Acharya, Viral & Johnson, Timothy & Sundaresan, Suresh & Zheng, Steven, 2023. "Disasters with Unobservable Duration and Frequency: Intensified Responses and Diminished Preparednes," CEPR Discussion Papers 18026, C.E.P.R. Discussion Papers.
    • Handle: RePEc:cpr:ceprdp:18026
    as

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    More about this item

    Keywords

    Rare disasters; Parameter uncertainty; Mitigation; Welfare costs; overreaction;
    All these keywords.

    JEL classification:

    • D6 - Microeconomics - - Welfare Economics
    • D8 - Microeconomics - - Information, Knowledge, and Uncertainty
    • E21 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Consumption; Saving; Wealth
    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
    • G10 - Financial Economics - - General Financial Markets - - - General (includes Measurement and Data)

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