From an insurance viewpoint we should be much more concerned about climate change than most of us are. The focus of IPCC reports is on a likely global average temperature increase forecast of 3oC by 2100 in a range of perhaps 2oC to 4.5oC. The mid-point of this range would lead to dramatic changes in the way people live and work on planet earth. The high point of the range would lead to dramatic changes in our lives – the loss of key agricultural regions, water supply problems and so on.
But what of the prospects of much higher climate changes? In a recent paper Weitzman (2009) examines the prospects for catastrophic climate change. His estimates are based on 22 stochastic simulation models provided in IPCC (2007, p 721-722, 798-799). Weitzman argues that if only gradually ramped up remedies are applied that in two centuries the probability distributions of temperature outcomes have decidedly ‘fat’- tails:
· With probability 0.05 the increase in mean global surface temperatures will be greater than 10oC.
· With probability 0.01 the increase in mean global surface temperatures will be greater than 20oC.
Such temperatures have not existed on earth for hundreds of millions of years and the rate of such increases has possibly not been experienced for billions of years. With a 1-5% probability (not a negligible range of probabilities) there is the prospect of a worldwide catastrophe.
In fact when we insure our health or our homes we are much more concerned with extreme events than with moderate misfortunes that we can (with some inconvenience) handle ourselves with our own resources. I am fearful of the remote chance of my house burning down more than having my TV set stolen. I am much more fearful of contracting a serious though uncommon chronic disease than the common cold.
It seems to me exactly the same with climate change. Extreme events that occur with low – though not negligible probability – should be the focus of attention rather than average events. In doing a cost benefit analysis (CBA) of the case for social insurance to offset the effects of such ‘fat’- tailed probability distributions Weitzman writes that ‘CBA is likely to be dominated by considerations and concepts related more to catastrophic insurance than to the consumption smoothing consequences of long term discounting – even at empirically plausible interest rates’.
Unless the consequences of rapid climate change cannot be offset by policy actions now this suggests urgency – a rational alarmism – with respect to climate change policy. Being alarmist in this sense is not irrational but accords with every day notions of insuring at relatively low cost against the prospects of extreme events.
M. Weitzman, On Modeling and Interpreting the Economics of Catastrophic Climate Change, The Review of Economics and Statistics, 91, 2009, 1-19.