, Volume 45, Issue 1, pp 25-50
Date: 15 Jul 2012

Failing to learn from experience about catastrophes: The case of hurricane preparedness

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Abstract

This paper explores the question of whether there are inherent limits to our ability to learn from experience about the value of protection against low-probability, high-consequence, events. Findings are reported from two controlled experiments in which participants have a monetary incentive to learn from experience making investments to protect against hurricane risks. A central finding is that investments display a short-term forgetting effect consistent with the use of reinforcement learning rules, where a significant driver of investments in a given period is whether storm losses were incurred in the precious period. Given the relative rarity of such losses, this reinforcement process produces a mean investment level below that which would be optimal for most storm threats. Investments are also found to be insensitive to the censoring effect of protection itself, implying that the size of experienced losses—rather than losses that are avoided—is the primary driver of investment decisions.

The author thanks Howard Kunruether for comments on an earlier draft of this manuscript, and to Carol Heller for Editorial Assistance.