Thread by @mattkahn1966

Does deregulation cause an under-investment in robust resilience? How would Professor Demsetz and Professor Stigler answer this "Chicago" Price Theory question? A Thread.
nytimes.com/2021/02/21/us/…

When I was taught the Arrow-Debreu model of complete state contingent markets, we were taught that consumers made their consumption plans while forming rational expectations of the future.

One "state of the world (SOW)" contingent contract would be; "Anyone can purchase X KWH of power on a February 2021 day in Texas even if it is freezing outside for $Z dollars". This price is such that aggregate demand equals supply and no blackouts occur even in that SOW.

In this dynamic investment problem setup, forward looking consumers of electricity would see this extremely high $Z price in this state of the world and say to themselves, "If extreme freezes are now more likely to take place, I should self protect by insulating my home."

On the supply side, electricity suppliers would say to themselves; "Wow, during freezing times in Texas --- we can make $Z per KWH if we can generate some power during those times!" These demand side and supply side dynamic responses fuel adaptation.

The crisis unfolding in Texas in February 2021 occurred because we don't have the full set of Arrow-Debreu state contingent prices "posted". If this vector had been common knowledge, more ex-ante adaptation would have taken place --- as I sketched earlier.

If we expand the model to allow people and firms to have different expectations of the probability of a major February Freeze =>those who are most worried about this risk would be more likely to take self protection steps.

If enough people are concerned, this shaves peak demand. If enough firms are excited about the price spike, they will take costly steps to generate power during these key times. Together these demand and supply adjustments curb price spikes.

I recognize that we don't live in the Arrow-Debreu complete markets world. That's why I wrote this piece on the social benefits of scaling up critical peak pricing. The New York Times is not discussing this approach that fuels adaptation.
greeneconomics.blogspot.com/2021/02/climat…

Finally, PHD economists will note that the Texas freeze is identical to the economics that @dxzhao and I explore in this piece. Two Clark Medalists at MIT have told me that they like this paper.
ideas.repec.org/p/nbr/nberwo/2…