People have a truly terrible understanding of risk and its mitigation, particularly risks with catastrophic consequences that unfold slowly.
Yes, I am thinking about climate change but it is true of any similar risk: drinking, smoking, caloric intake, etc.
How much money or time should you spend if the risk is catastrophic but only has a 1/10 of 1% chance of occurring? If it’s truly catastrophic, then you’d spend much, much more than 1/10 of 1% of your budget (if you don’t believe me, ask literally any insurance actuary).
So let’s think about it like an actuary would, just for fun.
First, check this report. Here are some highlights.
The value at risk to manageable assets from climate change calculated in this report is US$4.2trn, in present value terms
The tail risks are more extreme; 6°C of warming could lead to a present value loss worth US$13.8trn, using private-sector discount rates.
From the public-sector perspective, 6°C of warming represents present value losses worth US$43trn—30% of the entire stock of the world’s manageable assets.
Remember, there is no “average” climate change but there is potential existential risk — so this is not a normal actuarial calculation! It’s more appropriate to consider tail risk here, with some premia thrown in for existential risk. Again, not a normal calculation, so what do insurance companies do when insurance is hard to calculate? That’s right, it gets much more expensive. Ever checked Lloyd’s rates? I have, and oh boy. In other words, to put it in more formal insurance terms, the actuarial assumptions here are extremely shaky so the price goes up.
However, to get an idea, and to avoid worthless disputation, we’ll just use basic insurance ratios only. Going simple here is better since many of the risks, though relatively high (in both magnitude and likelihood) are nearly impossible to estimate. (And I know already that the “simple” scenario will still be very expensive.)
I’m skipping over a lot here, but insurance companies calculate something called “Loss Cost” or as its sometimes called, “Pure Premium.” This is the measure of the average loss per exposure. Further, the premium (what you pay) is calculated using this number. However, given the “you” is “all civilization” these two in our case will be the same.
When you do this calculation with global climate change, it produces some very funny numbers indeed. Because when insurance companies calculate loss cost, the equation is “losses, divided by number of exposures.” But what happens when you do this in the case of climate change? The loss cost is $43 trillion (remember, insurance premia definitionally are based on potential worst-case losses, not actual) and $43 trillion divided by 1 exposure is…$43 trillion.
So we’ve come ’round to the same number we started with, using standard insurance actuarial calculations. Huh. Fancy that.
(In reality, there is a further calculation that is done in insurance that determines the actual paid premium [sort of] by dividing the premium by number of exposures, but that will be the same here as well.)
A better way to think about this, though, given both the simple truth and absurd results I mentioned above is how much should each human on earth pay as a “premium” to forestall, mitigate, or prevent the tail risk of $43 trillion of losses? And that calculation comes out to be about $600 for every woman, man and child on the planet.
Given that a significant percentage of the population doesn’t and never will have that much cash, and is less responsible for global warming than others, how about the richest 500 million? What’s their premium?
It’d be about $8,600.
So that’s how much every well-off person in the world should be paying to “insure” against climate change: about $8,600, In reality, as already mentioned it should be higher as there is no actuarial past data, mostly, to establish a true risk profile and the risk is potentially infinite (existential). However, as also mentioned, I chose to use very simple and well-accepted insurance industry calculations for exposure to determine my premium as those are much harder to object to for any quibblers.
