Disentangling risk and time for optimal prevention

Abstract We study the effect of prudence on optimal prevention in two periods with Kreps and Porteus (1978) and Selden (1978) (KPS) preferences. We use consumption smoothing as the benchmark and consider risk-averse decision-makers. In this framework, prudence has a positive effect on prevention, generalizing findings of Menegatti (2009). We extend this result to risk lovers and comparative risk aversion. When saving is endogenized, the preference over the timing of uncertainty resolution becomes irrelevant for prevention, and only the curvature of marginal utility matters. This result allows us to identify a class of decision-makers who are prudent in the KPS model but whose prevention effort coincides with that of a risk-neutral agent. Our findings highlight that the structure of intertemporal preferences critically shapes the link between prudence and prevention.