7
$\begingroup$

Question Moved from Money StackExchange: https://money.stackexchange.com/questions/74002/do-stock-markets-price-in-existential-risk-i-e-global-nuclear-war

Q: Do stock markets price in existential risk?

The Cuban Missile Crisis in November 1962 is an example of coming to the brink of global nuclear war, and while the markets were down until its resolution, the index price did not seem to reflect anything resembling "imminent end of the world".

Dow Jones Stock Market Cuban Missile Crisis

More recently, Putin's declaration to escalate nuclear weapon systems development, Trump's comments on expanding nuclear capabilities, and Noam Chomsky declaring the exchange "very frightening" suggests that we're in a period of elevated nuclear war risk.

However, the US stock markets are at their historical highs. How can this be resolved? I can think of two possibilities:

  1. Markets accurately reflect the risk. Cuban crisis was a real, but small risk, thus the market dip. Today, the risk is nearly zero, thus the markets are not down.
  2. Markets ignore existential risk. Rational investors expect a return on investment, but if the investors believe an event would kill them and their estate, the loss due to that event is irrelevant. Thus the risk of existential, planet destroying events, does not correlate with the stock market prices.

Is this true, can stock market price be trusted to reliably reflect existential risk?

$\endgroup$
  • 1
    $\begingroup$ One good piece of market advice is probably "bet against Noam Chomsky". $\endgroup$ – kbelder Dec 24 '16 at 0:11
1
$\begingroup$

I don't have anything to say on the empirical side.

On the theoretical side, I think that is an interesting question, even in a standard framework with "rational" agents. The possibility of the end of the world reduces the expected stream of income from assets (e.g. a share of a firm) because maybe the firm will not be there any more to distribute dividends.

Maybe you will not be there (that's the existential risk). About this the prediction of the standard microeconomic theory is the same as in the science fiction movies : your preference for present should rise, the 'natural' interest rate and the actualization rate with it. (If you fear to be dead tomorrow, you will not lend your money today... unless for a very high interest rate.) That means the value of future income falls and you want to consume everything now.

So both effects go in the same direction and "standard" prediction would be that the stock prices should fall.

$\endgroup$
-1
$\begingroup$

If the Great Depression and the recent Great Recession, economic dislocations in both banking and investment systems, are valid predictors of personal and societal adverse economic consequence from similar future events; one need only predict that the economic confusion caused by a major loss event (from a natural disaster like a massive San Andreas earthquake to a new Korean Peninsula war, with or without nuclear weapons, et al.) would itself cause a major economic downturn lasting about 3 years even with adequate governmental counter stimulus to nearly a decade for a return to full organic economic growth (as these were apparent results in both the Great Depression and Recession).

$\endgroup$

Your Answer

By clicking “Post Your Answer”, you agree to our terms of service, privacy policy and cookie policy

Not the answer you're looking for? Browse other questions tagged or ask your own question.