Economics of Resilience: What Keeps Me Up at Night

Posted: July 18, 2017 at 1:56 pm

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Vanessa N. Vargas, Sandia National Laboratories

Resilience has recently emerged as a national and homeland security priority, with several efforts in progress at the local and national level. It is not a new concept and has a history within the ecological, engineering, and mental health disciplines but there is no common consensus regarding how it should be defined or quantified. There is a considerable range of measures and timeframes used to quantify resilience. Typically, in the field of economics these are ex-post measures of gross domestic product (GDP) or other measures of income. The role of economics is typically limited to quantifying a very narrow set of outcomes associated with resilience. With regard to infrastructure, these ex-post measures of economic health, growth, or expansion do not fully capture the value of the services delivered by infrastructure. In reality, economics can go further to quantify a much larger set of outcomes: market and nonmarket values. Economics can help explain and enhance understanding of behaviors that determine system resilience.

Since 2003 the concept of resilience has begun to sharpen, and the focus has often been on urban areas or communities’ post-disaster response and recovery. A unifying theme of many proposed indicators and methodologies is the inclusion of economics as an attribute of resilience as opposed to a singular mechanism on which to compare resilience efforts. Cutter et al. (2003) devised the Social Vulnerability Index using county-level socioeconomic and demographic data.[1] According to Sherrieb et al. (2010), indicators of resilience can be formed by taking into account the three key elements of economic development: level of economic resources, degree of equality in the distribution of resources, and scale of diversity in economic resources.[2] Oswald et al. (2011) find that established indices fail to use rigorous, repeatable, and quantitative methodologies.[3] Biringer et al. (2013) present the Infrastructure Resilience Analysis Methodology (IRAM), which consists of seven steps applied ex-post or -ante: define infrastructure, disruption, metric, system performance data, resilience costs, structural assessment, and identify resilience enhancement features.[4] Biringer et al. (2013) are concerned with the ability to reduce efficiently both the magnitude and duration of the disruption. Yuab et al. (2014) note that previously developed vulnerability-based indices do not underscore the criticality of inter-industry linkages since much of the focus has been on social demographics.[5] This sample of research, albeit small, is indicative of the focus placed on ex-post measures of resilience.

The majority of infrastructure in the U.S. is privately owned and operated or under some form of public-private partnership. Most effects from either improvements or deteriorations in resilience should be viewed as microeconomic since the actions of firms will be spurred by internal economic decision making that will have impacts on local economies and communities. The difficulty in launching resilience-improving activities is reconciling the public-private nature of infrastructure.

Think of a grocery store choosing between investing in backup generators and buying business disruption insurance. If they stay open after a storm that knocks out power, it will benefit the local community whose food spoiled in their refrigerators. But we would only expect them to invest in backup generators if the expected return exceeds that of simply purchasing business disruption insurance. And the expected return in that situation may also depend on the condition of other public-private infrastructure (e.g., the roads and electric power system). This is particularly important when the goal is achieving system-level resilience, since it requires coordination among numerous private and public entities. Often these entities are at odds with one another when it comes to specific resilience-related investments. If some version of these investments are implemented and resilience is improved then everyone benefits: food is sold, food does not spoil, and children can eat. The set of all of these actions create complementary positive externalities, which can be thought of as snowballing over time leading to improving overall human well-being.

A barrier to increasing resilience of all systems has been convincing public or private owners and managers of infrastructure to take on additional risk. Any investment on their part is a risk, since the future payoff is unknown. In other words, the public-private owners of infrastructure must be convinced of their return on investment. This will require the economics of resilience to be considered beyond being a sub-category of indicators. Economics of resilience should be considered when determining how firms are incentivized to take on additional risk.

Resilience as a Public Good

Actions focused on improving resilience can create positive externalities. Increased resilience over time leads to improvements in human (consumer) well-being, and human well-being can be quantified through either market or non-market valuation. In terms of market valuation, this implies measuring changes in producer income, the supply and price of goods and services for consumers, and morbidity and mortality. For non-market valuation, it implies measuring changes in goods and services not purchased—such as health quality, psychological well-being, and environmental quality, to name a few examples.

Human well-being can be impacted by multiple hazards: cyber, pandemic, water availability/quality, climate variability, and ag/food threats. In general, thinking of resilience as a public good is useful because improvements in resilience result in positive externalities. Resilience is non-rival: that is, the resilience available to one consumer does not reduce the quantity of resilience available for any other consumer. Resilience is also non-excludable: if resilience is supplied, no consumer can be excluded from its benefits.

However, public goods often suffer from what we in the economics call the “free rider” problem. Where not everyone pays for the good, but reaps the benefits. This can generate a kind of stalemate where no one entity has incentive to invest supplying more resilient infrastructure. So, this is what keeps me up at night: how to expand economics in resilience beyond the narrow set of outcome metrics to include the full-set of market and nonmarket values? Given the free-rider problem, how can we incentivize investments in resilience so we are prepared for future threats?

The economics discipline has the potential be a unifying clearing house for proposed infrastructure resilience improvement projects. Traditional economic methods can be of value when comparing or instituting changes in public/private realms of infrastructure. However, efforts should concentrate on ex-ante solutions and valuing the delivery of the “final good” or service being provided by the infrastructure.

Therefore, an economic resilience methodology must be broad enough to encompass the variety of different perspectives and yet specific and detailed enough to support the active interest of organizations such as financial institutions that are concerned about security of collateral and payback of debt financing according to market-acceptable terms and conditions. At the other end of the spectrum are governmental organizations, both state and federal, that are concerned not only about the supply of infrastructure within their jurisdiction but also about the development of new industries and expanded employment opportunities that an expansion of infrastructure projects hopefully will provide.

Included in this type of analysis should be an effort to identify the “equity” effects of any infrastructure or community project. Economic analysis of this type can assist in generating policy conclusions and challenge common policy assumptions. It can demonstrate how government involvement that induces agents to internalize the external effects of their decisions regarding privately owned infrastructure can achieve Pareto improvement[6]. Additionally, an attempt should be made to identify who gains and who loses in an effort to determine whether a Pigouvian compensation criterion[7] can be met. Lastly, economic methods should be applied to the examination of the positive and negative externalities of any change in the resilience of an infrastructure that service communities, ex-ante.

Vanessa N. Vargas, M.A. is a Senior Member of the Technical Staff at Sandia National Laboratories (SNL). She serves as the Lead Economist with the Resilience and Regulatory Effects group at SNL and the Department of Homeland Security’s National Infrastructure Simulation and Analysis Center (NISAC) at SNL, where she has served for over 5 years. While at SNL Vanessa’s research has focused on the development and application of new methods for regional and national economic impact analysis of infrastructure system disruptions and improvements, natural resource economics, and policy analysis. Additional research interests lie in National Security, Climate Effects, and Energy Economics. Vanessa holds B.A. and M.A. degrees in Economics, both from the University of New Mexico.

References

[1] Susan L. Cutter, Bryan J. Boruff, and W. Lynn Shirley, “Social Vulnerability to Environmental Hazards,” Social Science Quarterly 84, no. 2, June 2003, http://www.d.umn.edu/~pfarrell/Natural%20Hazards/Readings/Cutter.%20Socail%20Vulnerability.pdf.

[2] Kathleen Sherrieb, Fran H. Norris, and Sandro Galea, “Measuring Capacities for Community Resilience,” Social Indicators Research 99, no. 2, Nov. 2010: 227-247, https://link.springer.com/content/pdf/10.1007%2Fs11205-010-9576-9.pdf.

[3] Michelle Oswald, Qiang Li, Sue McNeil, and Susanne Trimbath, “Measuring Infrastructure Performance: Development of a National Infrastructure Index,” Public Works Management & Policy 16, Oct. 2011: 373-394, http://journals.sagepub.com/doi/pdf/10.1177/1087724X11410071.

[4]Betty E. Biringer, Eric Vugrin, and Drake E. Warren. Critical Infrastructure System Security and Resiliency (Boca Raton , FL: CRC Press, 2013).

[5] Krista Danielle S. Yuab, Raymond R. Tan, Kathleen B. Avisoc, Michael Angelo B. Promentillac  and Joost R. Santos, “A Vulnerability Index for Post-Disaster Key Sector Prioritization,” Economic Systems Research 26, no. 1, 2014: 81-97, http://www.tandfonline.com/doi/pdf/10.1080/09535314.2013.872603?needAccess=true.

[6] An action in an economy that will benefit at minimum, one person while not harming anyone else in the economy. The theory implies that Pareto improvements will keep being added to the economy until it achieves a Pareto equilibrium, where no more Pareto improvements are achievable.

[7] Negative externalities prevent a market economy from reaching equilibrium when producers do not internalize all costs of production. This negative externality could be neutralized by levying taxes equal to the externalized costs.

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