Flooded

One analysis shows that every post-World War II economic downturn in the U.S. except one has followed a surge in oil prices.

Some interventions are out of America’s control, such as whether a foreign government will bail out an overseas bank that is a primary dealer in U.S. Treasuries. Others are hemmed in by politics. It’s easy enough to forbid rebuilding on the uninsured floodplain, in theory. When cable news is awash in video of shivering families searching through the splinters of their demolished homes, it’s harder to say no.

Second, if individuals and markets can’t or won’t adequately price the risk of certain behaviors, someone must aggressively manage it. We must require higher down payments and stricter credit standards for mortgage borrowers. We must enforce more-stringent capital requirements for shadow banks, without loopholes.

For inspiration, look to Coca-Cola. Two years ago, the world’s largest beverage vendor began declaring a new risk in its annual filing with the Securities and Exchange Commission: “Climate change may negatively affect our business.” It was a simple H2O problem. The company relies on water for its bottling plants across the globe, and it was beginning to worry about the supply. Executives noticed that droughts that typically would have lasted six months were persisting for three years; 500-year floods were recurring once a decade.

“Without water, we don’t have a business,” says Jeff Seabright, Coke’s vice president for environment and water resources. “If you sort of look at the climate science, the way in which global climate change is being manifested on the planet is through the hydrological cycle.” Later, he added: “You can’t predict the future, but you can prepare for it.”

Led by Seabright, and in partnership with the World Wildlife Fund, Coke has launched a corporate-sustainability plan to adapt to extreme weather and nail down less-vulnerable water sources. The company has dramatically reduced its carbon footprint and led industry pushes to reduce deforestation and the use of refrigerant hydrofluorocarbons, or HFCs, both major contributors to greenhouse-gas emissions. Coke’s chairman led a delegation of CEOs to the climate negotiations in Cancun last year to urge world leaders to impose a price on carbon.

Environmental economists and some conservation groups are increasingly hopeful that a risk-based pitch for climate action could sway conservative lawmakers who have adopted near-uniform doubts about the validity of climate science. You don’t have to believe that economically painful climate change will happen to embrace that view; you just need to agree that it could happen. Then we all can tussle over the odds and the appropriate price. Anyone who says that the right price is “zero” risks comparisons to the farmers who refused to believe that the Mississippi could ever flood their fields.

“You get into this debate with people about the certainty of the science, and it entirely misses the point,” says Carter Roberts, president and CEO of the World Wildlife Fund. “It’s not about certainty. It’s about uncertainty. And the uncertainty’s the risk.”

The final step to a healthy risk relationship is some soul-searching. Americans should ask themselves, and their neighbors, whether overconfidence is clouding their risk perceptions. Writing about the financial crisis in his recent e-book, The Great Stagnation, economist Tyler Cowen of George Mason University concludes that “many millions of people were complicit, whether intentionally or not,” in the risks that led up to the crash. The possibility that the financial system would go bad was always there, Cowen writes. “For the most part, we as a society let this possibility slip because we felt so invulnerable.”

Gollier, the Toulouse economist directing Georgia State’s social decision-making program, has, along with several colleagues, advanced a theory that people manipulate their own beliefs to maximize their present welfare. “You know the truth, but you don’t want to believe in the truth,” he says. “You change your mind.” Your risk perceptions change accordingly. You downplay the possibility of contracting lung cancer because you enjoy the pleasure of smoking. You up your optimism about stock-market performance
and invest in an overly risky portfolio so you can reduce the amount of money you save for retirement.

Of all the steps the United States needs to rebalance its risk approach, the most important might be honesty. We need to stop pretending we live on the high ground. The first move in disaster prep is to recognize you’re on the floodplain. That’s especially true now, as the national economic outlook looks sunnier than it has for a couple of years. It would be tempting to stow the hip waders and break out the flip-flops. But be careful. Don’t rule out more rain. Weather’s been awfully strange lately.

Clifford Marks contributed

This article appears in the March 12, 2011, edition of National Journal.

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