Uncertainty and Natural Resources - Prudence Facing Doomsday

19 Pages Posted: 29 May 2015

See all articles by Johannes Emmerling

Johannes Emmerling

CMCC - Centro Euro-Mediterraneo sui Cambiamenti Climatici - European Institute onEconomy and the Environment (EIEE)

Date Written: March 13, 2015

Abstract

This paper studies the optimal extraction of a non-renewable resource under uncertainty using a discrete-time approach in the spirit of the literature on precautionary savings. We find that boundedness of the utility function, in particular the assumption about U(0), gives very different results in the two settings which are often considered as equivalent. For a bounded utility function, we show that in a standard two-period setting, prudence is no longer sufficient to ensure a more conservationist extraction policy than under certainty. If on the other hand we increase the number of periods to infinity, we find that prudence is not anymore not anymore necessary to induce a more conservationist extraction policy and risk aversion is sufficient. These results highlight the importance of the specification of the utility function and its behavior at the point of origin.

Keywords: Expected Utility, Non-Renewable Resource, Prudence, Uncertainty

JEL Classification: Q30, D81

Suggested Citation

Emmerling, Johannes, Uncertainty and Natural Resources - Prudence Facing Doomsday (March 13, 2015). FEEM Working Paper No. 49.2015, Available at SSRN: https://ssrn.com/abstract=2611111 or http://dx.doi.org/10.2139/ssrn.2611111

Johannes Emmerling (Contact Author)

CMCC - Centro Euro-Mediterraneo sui Cambiamenti Climatici - European Institute onEconomy and the Environment (EIEE) ( email )

Via Bergognone, 34
Milan
Italy

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