Catastrophic Risk and Egalitarian Principles for Risk Transfer Mechanisms

Abstract

Financial aid for the worst off victims of earthquakes and other catastrophes seems tobe a morally unquestioned principle for the allocation of public funds. This paper shows however, that this principle is ambiguous if the decision is viewed as a dynamic choice problem where such resources need to be allocated in two periods: before and after the event takes place (before and after uncertainty is resolved). The literature on social choice suggests that utilitarian principles fare better in such situations. This paper provides a uniform formal framework to relate one such result, namely a multi-profile version of Harsanyis 1955 theorem by Mongin (1994) to another one by Myerson (1981), stated in a somewhat unconventional social choice framework. It shows that the Linearity condition, that is met only by welfare functions of the utilitarian type, has a natural interpretation in terms of an equivalence of ex ante and ex post evaluation, a concept that is related to but not equivalent with dynamic consistency. <italic>JEL Classification: G22, H42, I3, Q54</italic>