Resistance economics of transgenic crops under uncertainty - A real option approach

The development of pest resistance is one of the many concerns about the long-term success of transgenic crops. This chapter discusses resistances as additional irreversible costs related to the release of transgenic crops. These irreversible costs, their uncertainty, and the uncertainty about future direct benefits result in a real option value favoring a delay in the release of transgenic crops. This is a result well known in real option theory but ignored n most of the cost-benefit studies on transgenic crops. In addition to irreversible costs, however, a release of transgenic crops also may provide irreversible benefits. For example, a reduction in pesticide use reduces pest resistance to pesticides and has positive impacts on human health, groundwater quality, and biodiversity. These irreversible benefits provide an incentive for an immediate release of transgenic crops in the environment. The optimal decision to release transgenic crops depends not only on the direct costs and benefits, which we call additional net benefits, but also on the trade-off between irreversible environmental costs and benefits. Assuming uncertain additional net benefits, constant irreversible costs and benefits and applying the real options approach allows us to define the maximal tolerable irreversible costs as an important benchmark value. The real option approach was applied by using contingent claim analysis, which allows deriving solutions that are independent of risk and time preference. Those concerned about the environmental risks of transgenic crops and those who just want to maximize their income would come to the same conclusion about the timing of release. The effects of policies on the timing of releasing transgenic crops are analyzed by identifying the impact of marginal parameter changes on the maximum tolerable irreversible costs. The most counterintuitive result was the increase in the likelihood of an earlier release with a decrease in additional net benefits. This result was explained by the opposite impact that simultaneous changes in the growth rate and the variance rate have on the maximum tolerable irreversible costs. Mandatory refuge areas for pest resistance management and a tax on transgenic crops to compensate for possible environmental risks have this kind of effect on the timing of release.