Homeland security: a case study in risk aversion for public decision-making

Abstract

Governments and their regulatory agencies normally exhibit risk-neutral attitudes in their decision-making. However, for low probability-high consequence events many decision-makers tend to be risk-averse because of the catastrophic or dire nature of the hazard or event. The degree of risk averseness can be described by utility theory. This paper will infer utility functions that reflect the level of risk averseness of regulatory agencies when adopting new safety measures – such as investing $75 billion per year of the homeland security budget to avert terrorist attacks in the USA. The utility analysis considers threat probability, risk reduction caused by regulatory action, cost of regulatory action, and losses. The expected utilities using an identical risk-averse utility function for: This means that both policy options are equally preferable so if the decision-maker is more risk-averse than suggested by the risk-averse utility function then regulatory action is preferable. It will be shown that the level of risk averseness needed to justify current expenditures for homeland security is considerable.