RSS | Stefan Baumgärtner ‘A decision criterion for Knightian uncertainty’

28 February, 2018 12:30 pm - 2:00 pm
Stefan Baumgärtner
London School of Economics, Tower 2, Room 9.04, Clement's Inn Passage, London, WC2A 2AZ

Stefan Baumgärtner, Chair of Environmental Economics and Resource Management
University of Freiburg, will be the speaker for this seminar.


Decision-making about ecological-economic systems is often characterized by deep uncertainties.  Knightian uncertainty denotes income lotteries with known payoffs over known states of nature, but unknown probabilities of these outcomes (Keynes 1921, Knight 1921).

We provide an axiomatic foundation of preferences over lotteries with known payoffs over known states of nature and unknown probabilities of these outcomes (“Knightian uncertainty”’). We elaborate the fundamental idea that preferences over Knightian lotteries can be represented by an entropy function (sensu Lieb and Yngvason 1999) of these lotteries. Based on nine axioms on the preference relation and three assumptions on the set of lotteries, we show that there uniquely (up to linear-affine transformations) exists an additive and extensive real-valued function (“entropy function”) that represents uncertainty preferences. It represents non-satiation and (constant) uncertainty aversion.

As a concrete functional form, we propose a one-parameter function based on Rényi’s (1961) generalized entropy. We show that the parameter captures the degree of uncertainty aversion.

We employ this concept to study land management for ecosystem services in coastal regions that are affected by climate change.  Empirical data comes from several project sites along the North Sea and Baltic Sea coasts of Germany. Data was obtained through field experiments, model simulations and stakeholder interviews, including data on socio-economic characteristics of stakeholders, hydrological variables, coastal vegetation, and plant and bird diversity. Nine ecosystem services are considered in this application – crop production, forage production, drinking water for livestock, energy generation, climate regulation, risk of flooding, amenity values, feeling of safety and species conservation. We consider four land management options (“LMO”): (i) trend or business as usual, (ii) water management, (iii) carbon sequestration, and (iv) stakeholder based. For each LMO, two cases of sea level rise (0.25m and 0.80m) are considered with three temperature change scenarios (temperature increases of 1.8ºC, 2.8ºC and 3.6ºC over the next 100 years) within each. This makes for six climate change scenarios. While we know the outcome in terms of ecosystem service provision in each of these scenarios, we do not know which scenario will be realized as a consequence of climate change, not even as a matter of probability. That is, there is Knightian uncertainty about the consequences of different land management options under climate change. We then study trade-offs between different ecosystem services among the different land management options under Knightian uncertainty.

This seminar is open to all LSE staff and students. If you are from outside the LSE and would like to attend, please email Gri.Events@lse.ac.uk to register for a place.

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