A canonical price-normalized form is proposed as a generalization of the ordinary consumer's surplus expression commonly used to evaluate changes in economic welfare. This familiar-looking formula, it is proved, can be rigorously interpreted as representing the first- and second-order terms of a Taylor-series expansion for the equivalent-variation or willingness-to-pay function of a single consumer. In principle, the lowly consumer's surplus triangle-and-rectangle methodology can be rigorously defended as an exact approximation to a theoretically meaningful measure as long as prices are appropriately deflated. The appropriate price deflator is derived, and some implications are discussed.

Prepared under Contract no. EX-76-A-01-2295, Task order 37.

With climate change as prototype example, this paper analyzes the implications of structural uncertainty for the economics of low-probability, high-impact catastrophes. Even when updated by Bayesian learning, uncertain structural parameters induce a critical “tail fattening” of posterior-predictive distributions. Such fattened tails have strong implications for situations, like climate change, where a catastrophe is theoretically possible because prior knowledge cannot place sufficiently narrow bounds on overall damages. This paper shows that the economic consequences of fat-tailed structural uncertainty (along with unsureness about high-temperature damages) can readily outweigh the effects of discounting in climate-change policy analysis.

The sequential nature of activities like research, development, or exploration requires optimal funding criteria to take account of the fact that subsequent funding decisions will be made throughout the future. Thus, there is a continual possibility of reviewing a project's status, based on the latest information. After setting up a model to capture this feature, optimal funding criteria are investigated. In an important special case, an explicit formula is derived. As well as throwing light upon the nature of development activities, the analysis is also relevant to the general theory of information gathering processes.