Climatic conditions shape individuals' propensity to take risk

Risk preferences play a role in economic decision-making and the shaping of countries' development and growth prospects. An article published in The Economic Journal pairs panel data on risk preferences from Ethiopia with historical data on rainfall levels to test the hypothesis that risk preferences may adapt to the environment of the decision-maker. The study is co-authored by GSEM Vice Dean for Research Professor Salvatore Di Falco and Ghent University Professor Ferdinand M. Vieider. The study received funding from the Swiss National Science Foundation and the International Development Research Centre.

ABSTRACT

We present incentivized panel data measuring risk preferences of subsistence farmers from across Ethiopia, and pair them with rainfall data. We use these data to test the hypothesis that risk preferences may adapt to the environment of the decision maker. We find rainfall shocks to decrease risk tolerance for the same individuals over time. We also find that historical rainfall characteristics and geographical features can explain 40% of the variation in preferences across individuals. The time-changing effects are perfectly aligned with the geographical effects we document, painting a unified and highly coherent picture. This provides the first real world evidence that preferences may systematically adapt to the environment of the decision maker.

The study is available open access: Environmental Adaptation of Risk Preferences

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