Journal
EUROPEAN JOURNAL OF OPERATIONAL RESEARCH
Volume 239, Issue 1, Pages 166-176Publisher
ELSEVIER SCIENCE BV
DOI: 10.1016/j.ejor.2014.04.042
Keywords
Decision making; Catastrophic risk; Safety-first principle; Risk aversion; Nuclear power plant
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A nonstandard probabilistic setting for modeling of the risk of catastrophic events is presented. It allows random variables to take on infinitely large negative values with non-zero probability, which correspond to catastrophic consequences unmeasurable in monetary terms, e.g. loss of human lives. Thanks to this extension, the safety-first principle is proved to be consistent with traditional axioms on a preference relation, such as monotonicity, continuity, and risk aversion. Also, a robust preference relation is introduced, and an example of a monotone robust preference relation, sensitive to catastrophic events in the sense of Chichilnisky (2002), is provided. The suggested setting is demonstrated in evaluating nuclear power plant projects when the probability of a catastrophe is itself a random variable. (C) 2014 Elsevier B.V. All rights reserved.
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