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School of Economics and Finance Seminar Precaution, Information and the (Negative) Value of the Precautionary Principle

Speaker: Professor David Martimort, Paris School of Economics

Abstract: We consider a dynamic decision-making problem under irreversibility and uncertainty. A decision-maker enjoys surplus from his current actions but faces the possibility of an irreversible catastrophe, an event that follows a non-homogeneous Poisson process with a rate that depends on the stock of past actions. Passed a tipping point, the probability of a disaster increases once for all. For such a context, the Precautionary Principle has repeatedly been invoked to regulate risk. We ask whether such an institutional commitment to prudent actions in a world of incomplete social contracts has any value and we answer negatively. When only the distribution of possible tipping points is known, the optimal feedback rule should a priori determine actions in terms of first the stock of past actions and second, the beliefs on whether the tipping point has been passed or not. We nevertheless show that Stock-Markov Equilibria, which are sustained with feedback rules that only depend on stock and only allow commitment to actions for infinitesimally short periods of time, suffice to implement an optimal path. However, committing to such limited feedback rules once for all is suboptimal; pointing out at the negative value of the Precautionary Principle.

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