Cost-Loss Decision Models with Risk Aversion

Abstract

Extreme meteorological events have increased over the last decades and it is widely accepted that it is due to climate change. Some of the extremes, like drought or frost episodes largely affect agricultural outputs and risk management becomes crucial. The goal of this work it is to analyze farmers’ decisions about risk management, taking into account climatological and meteorological information. We consider a situation in which the farmer, as part of crop management, has available a technology to protect the harvest from weather effects. This approach has been used by Murphy et al. (1985), Katz and Murphy (1990) and others in the case that the farmer maximizes the expected returns. Nevertheless, in our model we introduce the attitude towards risk, so we can evaluate how the optimal decision is affected by the absolute risk aversion coefficient of Arrow-Pratt, and compute the economic value of the information in this context.