Irreversible effects do play an important role in private as well as public decision making. The basis for the Precautionary Principle, an important principle in environmental policy, is uncertainty about irreversible costs of particular actions (e.g. the release of GMOs).
This course will address the issue of irreversibility from an economic point of view. Different approaches dealing with irreversibilities have emerged in the economic literature. The two most prominent once are the quasi option and real option value theory. Application of both approaches requires technical skills most students find difficult.
The objective of the course is to introduce the origins of the quasi option value and real option values, to teach the methods most commonly used (discrete methods such as decision trees; continuous time, continuous state models using stochastic processes; Itó calculus), and to discuss and practice various applications including non-renewable resource use, technology adoption, climate change, forestry, and food- and bio-safety.
After successful completion participants are expected to be able to:
- know the economic implications and relevance of the irreversibility effect
- understand economic papers that apply real option models
- apply discrete state models for decision under uncertainty and irreversibility
- know the steps from discrete time, discrete state to continuous time, continuous stat models
- develop real option models and anlyse the results using numerical simulation methods
- Lectures on the skills needed (25%)
- Practicals deepening the skills obtained (25%)
- Course paper applying the skills obtained (50%)
Course paper between 10 and 20 pages.
Assumed prior knowledge
Good micro-economic knowledge and in particular calculus (derivatives, integrals), basic knowledge in stochastic processes and differential equations is an advantage.