IDEAS home Printed from https://ideas.repec.org/a/eee/jeborg/v202y2022icp82-104.html
   My bibliography  Save this article

Demand for Weather Index Insurance among Smallholder Farmers under Prospect Theory

Author

Listed:
  • Shin, Soye
  • Magnan, Nicholas
  • Mullally, Conner
  • Janzen, Sarah

Abstract

Index insurance offers an innovative risk management solution for uninsured agricultural weather risk. We investigate the theoretical relationship between prospect theory risk preferences and characteristics of index insurance. We pair these theoretical findings with data from a lab-in-the-field experiment in Kenya. Empirically, we find that insurance demand is decreasing in loss aversion, and the negative marginal effect of loss aversion on insurance demand increases with basis risk and the insurance premium. Our theoretical and empirical results combined illustrate the importance of considering both risk and loss aversion, as well as basis risk, in understanding index insurance decisions.

Suggested Citation

  • Shin, Soye & Magnan, Nicholas & Mullally, Conner & Janzen, Sarah, 2022. "Demand for Weather Index Insurance among Smallholder Farmers under Prospect Theory," Journal of Economic Behavior & Organization, Elsevier, vol. 202(C), pages 82-104.
    • Handle: RePEc:eee:jeborg:v:202:y:2022:i:c:p:82-104
    DOI: 10.1016/j.jebo.2022.07.027
    as

    Download full text from publisher

    File URL: http://www.sciencedirect.com/science/article/pii/S016726812200261X
    Download Restriction: Full text for ScienceDirect subscribers only
    File URL: https://libkey.io/10.1016/j.jebo.2022.07.027?utm_source=ideas
    LibKey link: if access is restricted and if your library uses this service, LibKey will redirect you to where you can use your library subscription to access this item
    ---><---

    As the access to this document is restricted, you may want to search for a different version of it.

    References listed on IDEAS

    as
    1. Dean Karlan & Robert Osei & Isaac Osei-Akoto & Christopher Udry, 2014. "Agricultural Decisions after Relaxing Credit and Risk Constraints," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 129(2), pages 597-652.
    2. Tversky, Amos & Kahneman, Daniel, 1992. "Advances in Prospect Theory: Cumulative Representation of Uncertainty," Journal of Risk and Uncertainty, Springer, vol. 5(4), pages 297-323, October.
    3. Hans P. Binswanger-Mkhize, 2012. "Is There Too Much Hype about Index-based Agricultural Insurance?," Journal of Development Studies, Taylor & Francis Journals, vol. 48(2), pages 187-200, February.
    4. Yu, Jisang & Vandeveer, Monte & Volesky, Jerry D. & Harmoney, Keith, 2019. "Estimating the Basis Risk of Rainfall Index Insurance for Pasture, Rangeland, and Forage," Journal of Agricultural and Resource Economics, Western Agricultural Economics Association, vol. 44(1), January.
    5. Travis J. Lybbert & Christopher B. Barrett & Solomon Desta & D. Layne Coppock, 2004. "Stochastic wealth dynamics and risk management among a poor population," Economic Journal, Royal Economic Society, vol. 114(498), pages 750-777, October.
    6. Ajzen, Icek, 1991. "The theory of planned behavior," Organizational Behavior and Human Decision Processes, Elsevier, vol. 50(2), pages 179-211, December.
    7. Ulrich Schmidt, 2016. "Insurance Demand Under Prospect Theory: A Graphical Analysis," Journal of Risk & Insurance, The American Risk and Insurance Association, vol. 83(1), pages 77-89, January.
    8. Jensen, Nathaniel D. & Mude, Andrew G. & Barrett, Christopher B., 2018. "How basis risk and spatiotemporal adverse selection influence demand for index insurance: Evidence from northern Kenya," Food Policy, Elsevier, vol. 74(C), pages 172-198.
    9. Bruce A. Babcock, 2015. "Using Cumulative Prospect Theory to Explain Anomalous Crop Insurance Coverage Choice," American Journal of Agricultural Economics, Agricultural and Applied Economics Association, vol. 97(5), pages 1371-1384.
    10. Ruth Vargas Hill & John Hoddinott & Neha Kumar, 2013. "Adoption of weather-index insurance: learning from willingness to pay among a panel of households in rural Ethiopia," Agricultural Economics, International Association of Agricultural Economists, vol. 44(4-5), pages 385-398, July.
    11. A. Colin Cameron & Jonah B. Gelbach & Douglas L. Miller, 2008. "Bootstrap-Based Improvements for Inference with Clustered Errors," The Review of Economics and Statistics, MIT Press, vol. 90(3), pages 414-427, August.
    12. Ruth Vargas Hill & Miguel Robles & Francisco Ceballos, 2016. "Demand for a Simple Weather Insurance Product in India: Theory and Evidence," American Journal of Agricultural Economics, Agricultural and Applied Economics Association, vol. 98(4), pages 1250-1270.
    13. Steffen Andersen & Glenn Harrison & Morten Lau & E. Rutström, 2009. "Elicitation using multiple price list formats," Experimental Economics, Springer;Economic Science Association, vol. 12(3), pages 365-366, September.
    14. Xavier Giné & Robert Townsend & James Vickery, 2008. "Patterns of Rainfall Insurance Participation in Rural India," The World Bank Economic Review, World Bank, vol. 22(3), pages 539-566, October.
    15. Michael Carter & Alain de Janvry & Elisabeth Sadoulet & Alexandros Sarris, 2017. "Index Insurance for Developing Country Agriculture: A Reassessment," Annual Review of Economics, Annual Reviews, vol. 9(1), pages 421-438, October.
    16. Sarah A. Janzen & Michael R. Carter & Munenobu Ikegami, 2021. "Can insurance alter poverty dynamics and reduce the cost of social protection in developing countries?," Journal of Risk & Insurance, The American Risk and Insurance Association, vol. 88(2), pages 293-324, June.
    17. Levon Barseghyan & Francesca Molinari & Ted O'Donoghue & Joshua C. Teitelbaum, 2013. "The Nature of Risk Preferences: Evidence from Insurance Choices," American Economic Review, American Economic Association, vol. 103(6), pages 2499-2529, October.
    18. Quang Nguyen & Colin Camerer & Tomomi Tanaka, 2010. "Risk and Time Preferences Linking Experimental and Household Data from Vietnam," Post-Print halshs-00547090, HAL.
    19. Daniel Kahneman & Amos Tversky, 2013. "Prospect Theory: An Analysis of Decision Under Risk," World Scientific Book Chapters, in: Leonard C MacLean & William T Ziemba (ed.), HANDBOOK OF THE FUNDAMENTALS OF FINANCIAL DECISION MAKING Part I, chapter 6, pages 99-127, World Scientific Publishing Co. Pte. Ltd..
    20. Johnson, Eric J & Hershey, John & Meszaros, Jacqueline & Kunreuther, Howard, 1993. "Framing, Probability Distortions, and Insurance Decisions," Journal of Risk and Uncertainty, Springer, vol. 7(1), pages 35-51, August.
    21. Luigi Guiso, 2012. "Trust and Insurance Markets," Economic Notes, Banca Monte dei Paschi di Siena SpA, vol. 41(1-2), pages 1-26, February.
    22. Angela Robinson & Graham Loomes & Michael Jones-Lee, 2001. "Visual Analog Scales, Standard Gambles, and Relative Risk Aversion," Medical Decision Making, , vol. 21(1), pages 17-27, February.
    23. Hill, Ruth Vargas & Kumar, Neha & Magnan, Nicholas & Makhija, Simrin & de Nicola, Francesca & Spielman, David J. & Ward, Patrick S., 2019. "Ex ante and ex post effects of hybrid index insurance in Bangladesh," Journal of Development Economics, Elsevier, vol. 136(C), pages 1-17.
    24. Shawn Cole & Xavier Gine & Jeremy Tobacman & Petia Topalova & Robert Townsend & James Vickery, 2013. "Barriers to Household Risk Management: Evidence from India," American Economic Journal: Applied Economics, American Economic Association, vol. 5(1), pages 104-135, January.
    25. Lybbert, Travis J. & Magnan, Nicholas & Spielman, David J. & Bhargava, Anil K. & Gulati, Kajal, 2012. "Farmers' Heterogeneous Valuation of Laser Land Leveling in Eastern Uttar Pradesh: An Experimental Auction Approach to Informing Segmentation & Subsidy Strategies," 2012 Conference, August 18-24, 2012, Foz do Iguacu, Brazil 126806, International Association of Agricultural Economists.
    26. Mobarak, A. Mushfiq & Rosenzweig, Mark R., 2012. "Selling formal Insurance to the Informally Insured," Center Discussion Papers 121671, Yale University, Economic Growth Center.
    27. Sarah Janzen & Nicholas Magnan & Conner Mullally & Soye Shin & I. Bailey Palmer & Judith Oduol & Karl Hughes, 2021. "Can Experiential Games and Improved Risk Coverage Raise Demand for Index Insurance? Evidence from Kenya," American Journal of Agricultural Economics, John Wiley & Sons, vol. 103(1), pages 338-361, January.
    28. Mario J. Miranda & Katie Farrin, 2012. "Index Insurance for Developing Countries," Applied Economic Perspectives and Policy, Agricultural and Applied Economics Association, vol. 34(3), pages 391-427.
    29. Benson K Kenduiywo & Michael R Carter & Aniruddha Ghosh & Robert J Hijmans, 2021. "Evaluating the quality of remote sensing products for agricultural index insurance," PLOS ONE, Public Library of Science, vol. 16(10), pages 1-24, October.
    30. Daniel J. Clarke, 2016. "A Theory of Rational Demand for Index Insurance," American Economic Journal: Microeconomics, American Economic Association, vol. 8(1), pages 283-306, February.
    31. Nathaniel D. Jensen & Christopher B. Barrett & Andrew G. Mude, 2016. "Index Insurance Quality and Basis Risk: Evidence from Northern Kenya," American Journal of Agricultural Economics, Agricultural and Applied Economics Association, vol. 98(5), pages 1450-1469.
    32. Han Bleichrodt & Jose Luis Pinto & Peter P. Wakker, 2001. "Making Descriptive Use of Prospect Theory to Improve the Prescriptive Use of Expected Utility," Management Science, INFORMS, vol. 47(11), pages 1498-1514, November.
    33. Elaine M. Liu, 2013. "Time to Change What to Sow: Risk Preferences and Technology Adoption Decisions of Cotton Farmers in China," The Review of Economics and Statistics, MIT Press, vol. 95(4), pages 1386-1403, October.
    34. Carter, Michael R. & Lybbert, Travis J., 2012. "Consumption versus asset smoothing: testing the implications of poverty trap theory in Burkina Faso," Journal of Development Economics, Elsevier, vol. 99(2), pages 255-264.
    35. Tomomi Tanaka & Colin F. Camerer & Quang Nguyen, 2010. "Risk and Time Preferences: Linking Experimental and Household Survey Data from Vietnam," American Economic Review, American Economic Association, vol. 100(1), pages 557-571, March.
    36. John C. Hershey & Paul J. H. Schoemaker, 1985. "Probability Versus Certainty Equivalence Methods in Utility Measurement: Are they Equivalent?," Management Science, INFORMS, vol. 31(10), pages 1213-1231, October.
    37. Luigi Guiso, 2012. "Trust & Insurance Markets," EIEF Working Papers Series 1207, Einaudi Institute for Economics and Finance (EIEF), revised Jul 2012.
    38. Drazen Prelec, 1998. "The Probability Weighting Function," Econometrica, Econometric Society, vol. 66(3), pages 497-528, May.
    39. Platteau, Jean-Philippe & De Bock, Ombeline & Gelade, Wouter, 2017. "The Demand for Microinsurance: A Literature Review," World Development, Elsevier, vol. 94(C), pages 139-156.
    40. Lampe, Immanuel & Würtenberger, Daniel, 2020. "Loss aversion and the demand for index insurance," Journal of Economic Behavior & Organization, Elsevier, vol. 180(C), pages 678-693.
    41. Peter A. Diamond & Jerry A. Hausman, 1994. "Contingent Valuation: Is Some Number Better than No Number?," Journal of Economic Perspectives, American Economic Association, vol. 8(4), pages 45-64, Fall.
    42. Babcock, Bruce, 2015. "Using Prospect Theory to Explain Anomalous Crop Insurance Coverage Choice," 2015 Allied Social Sciences Association (ASSA) Annual Meeting, January 3-5, 2015, Boston, Massachusetts 189682, Agricultural and Applied Economics Association.
    43. Justin Sydnor, 2010. "(Over)insuring Modest Risks," American Economic Journal: Applied Economics, American Economic Association, vol. 2(4), pages 177-199, October.
    44. Ceballos, Francisco & Robles, Miguel, 2020. "Demand heterogeneity for index-based insurance: The case for flexible products," Journal of Development Economics, Elsevier, vol. 146(C).
    45. Ghada Elabed & Marc F. Bellemare & Michael R. Carter & Catherine Guirkinger, 2013. "Managing basis risk with multiscale index insurance," Agricultural Economics, International Association of Agricultural Economists, vol. 44(4-5), pages 419-431, July.
    46. Clarke,Daniel Jonathan & Mahul,Olivier & Rao,Kolli Nageswara & Verma,Niraj, 2012. "Weather based crop insurance in India," Policy Research Working Paper Series 5985, The World Bank.
    47. Michael Carter & Alain de Janvry & Elisabeth Sadoulet & Alexandros Sarris, 2017. "Index Insurance for Developing Country Agriculture: A Reassessment," Annual Review of Resource Economics, Annual Reviews, vol. 9(1), pages 421-438, October.
    Full references (including those not matched with items on IDEAS)

    Most related items

    These are the items that most often cite the same works as this one and are cited by the same works as this one.
    1. Sarah Janzen & Nicholas Magnan & Conner Mullally & Soye Shin & I. Bailey Palmer & Judith Oduol & Karl Hughes, 2021. "Can Experiential Games and Improved Risk Coverage Raise Demand for Index Insurance? Evidence from Kenya," American Journal of Agricultural Economics, John Wiley & Sons, vol. 103(1), pages 338-361, January.
    2. Lampe, Immanuel & Würtenberger, Daniel, 2020. "Loss aversion and the demand for index insurance," Journal of Economic Behavior & Organization, Elsevier, vol. 180(C), pages 678-693.
    3. Immanuel Lampe & Daniel Würtenberger, 2019. "Loss Aversion And The Demand For Index Insurance," Working Papers on Finance 1907, University of St. Gallen, School of Finance.
    4. Petraud, Jean & Boucher, Stephen & Carter, Michael, 2015. "Competing theories of risk preferences and the demand for crop insurance: Experimental evidence from Peru," 2015 Conference, August 9-14, 2015, Milan, Italy 211383, International Association of Agricultural Economists.
    5. Quentin Stoeffler & Michael Carter & Catherine Guirkinger & Wouter Gelade, 2022. "The Spillover Impact of Index Insurance on Agricultural Investment by Cotton Farmers in Burkina Faso," The World Bank Economic Review, World Bank, vol. 36(1), pages 114-140.
    6. Stoeffler, Quentin & Opuz, Gülce, 2022. "Price, information and product quality: Explaining index insurance demand in Burkina Faso," Food Policy, Elsevier, vol. 108(C).
    7. Matthieu Stigler & David Lobell, 2020. "On the benefits of index insurance in US agriculture: a large-scale analysis using satellite data," Papers 2011.12544, arXiv.org, revised Nov 2021.
    8. Glenn W. Harrison & Jia Min Ng, 2019. "Behavioral insurance and economic theory: A literature review," Risk Management and Insurance Review, American Risk and Insurance Association, vol. 22(2), pages 133-182, July.
    9. Boyd, Chris M. & Bellemare, Marc F., 2022. "Why not insure prices? Experimental evidence from Peru," Journal of Economic Behavior & Organization, Elsevier, vol. 202(C), pages 580-631.
    10. Ceballos, Francisco & Robles, Miguel, 2020. "Demand heterogeneity for index-based insurance: The case for flexible products," Journal of Development Economics, Elsevier, vol. 146(C).
    11. Aurélien Baillon & Owen O'Donnell & Stella Quimbo & Kim van Wilgenburg, 2022. "Do time preferences explain low health insurance take‐up?," Journal of Risk & Insurance, The American Risk and Insurance Association, vol. 89(4), pages 951-983, December.
    12. Lichtenberg, Erik & Iglesias, Eva, 2022. "Index insurance and basis risk: A reconsideration," Journal of Development Economics, Elsevier, vol. 158(C).
    13. Stigler, Matthieu M. & Lobell, David, 2020. "Suitability of index insurance: new insights from satellite data," 2020 Annual Meeting, July 26-28, Kansas City, Missouri 304663, Agricultural and Applied Economics Association.
    14. Doidge, Mary & Feng, Hongli & Hennessy, David A., 2018. "Farmers’ valuation of changes to crop insurance coverage level – a test of third generation prospect theory," 2018 Annual Meeting, August 5-7, Washington, D.C. 274478, Agricultural and Applied Economics Association.
    15. Hongli Feng & Xiaodong Du & David A. Hennessy, 2020. "Depressed demand for crop insurance contracts, and a rationale based on third generation Prospect Theory," Agricultural Economics, International Association of Agricultural Economists, vol. 51(1), pages 59-73, January.
    16. Sarah A. Janzen & Michael R. Carter & Munenobu Ikegami, 2021. "Can insurance alter poverty dynamics and reduce the cost of social protection in developing countries?," Journal of Risk & Insurance, The American Risk and Insurance Association, vol. 88(2), pages 293-324, June.
    17. Jensen, Nathaniel D. & Mude, Andrew G. & Barrett, Christopher B., 2018. "How basis risk and spatiotemporal adverse selection influence demand for index insurance: Evidence from northern Kenya," Food Policy, Elsevier, vol. 74(C), pages 172-198.
    18. Mogge, Lukas, 2023. "A District-Level Analysis of the Effect of Risk Exposure on the Demand for Index Insurance in Mongolia," Ruhr Economic Papers 1018, RWI - Leibniz-Institut für Wirtschaftsforschung, Ruhr-University Bochum, TU Dortmund University, University of Duisburg-Essen.
    19. Vieider, Ferdinand M. & Truong, Nghi & Martinsson, Peter & Pham Khanh Nam & Martinsson, Peter, 2013. "Risk preferences and development revisited: A field experiment in Vietnam," Discussion Papers, WZB Junior Research Group Risk and Development SP II 2013-403, WZB Berlin Social Science Center.
    20. Platteau, Jean-Philippe & De Bock, Ombeline & Gelade, Wouter, 2017. "The Demand for Microinsurance: A Literature Review," World Development, Elsevier, vol. 94(C), pages 139-156.

    More about this item

    Keywords

    Basis risk; index insurance; loss aversion; prospect theory; risk aversion; D81; G22; Q14;
    All these keywords.

    JEL classification:

    • D81 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Criteria for Decision-Making under Risk and Uncertainty
    • G22 - Financial Economics - - Financial Institutions and Services - - - Insurance; Insurance Companies; Actuarial Studies
    • Q14 - Agricultural and Natural Resource Economics; Environmental and Ecological Economics - - Agriculture - - - Agricultural Finance

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:eee:jeborg:v:202:y:2022:i:c:p:82-104. See general information about how to correct material in RePEc.

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a bibliographic reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: Catherine Liu (email available below). General contact details of provider: http://www.elsevier.com/locate/jebo .

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service. RePEc uses bibliographic data supplied by the respective publishers.