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Risk aversion, wealth, and the DARA hypothesis: A new test

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  • Joseph Eisenhauer

Abstract

The Pratt-Arrow hypothesis of decreasing absolute risk aversion (DARA) is widely invoked in economic models of uncertainty but empirical tests, especially those using nonexperimental data, have yielded mixed results. This paper reexamines the DARA hypothesis using an expected utility model of life insurance demand and a 23-year sample of aggregate time series data from the U.S. After controlling for household size, age, income, loss probabilities, premium expenses, and inflation, the effect of wealth on insurance demand is found to be positive and statistically significant in linear and loglinear regressions, explaining more than 93 percent of the variation in coverage. Thus, in contrast to the prevailing theory, this empirical test presents evidence of increasing absolute risk aversion. Copyright International Atlantic Economic Society 1997

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  • Joseph Eisenhauer, 1997. "Risk aversion, wealth, and the DARA hypothesis: A new test," International Advances in Economic Research, Springer;International Atlantic Economic Society, vol. 3(1), pages 46-53, February.
    • Handle: RePEc:kap:iaecre:v:3:y:1997:i:1:p:46-53:10.1007/bf02295000
    DOI: 10.1007/BF02295000
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    Cited by:

    1. Sergio Sousa, 2010. "Small-scale changes in wealth and attitudes toward risk," Discussion Papers 2010-11, The Centre for Decision Research and Experimental Economics, School of Economics, University of Nottingham.
    2. Kenneth A. Baerenklau, 2005. "Toward an Understanding of Technology Adoption: Risk, Learning, and Neighborhood Effects," Land Economics, University of Wisconsin Press, vol. 81(1).
    3. Christophe Courbage & Guillem Montoliu-Montes & Béatrice Rey, 2018. "How vulnerable is risk aversion to wealth, health and other risks? An empirical analysis for Europe," Working Papers 1827, Groupe d'Analyse et de Théorie Economique Lyon St-Étienne (GATE Lyon St-Étienne), Université de Lyon.
    4. repec:ebl:ecbull:v:4:y:2003:i:38:p:1-10 is not listed on IDEAS
    5. Chen Hua & Mahani Reza S., 2012. "Optimal Demand for Insurance with Consumption Commitments," Asia-Pacific Journal of Risk and Insurance, De Gruyter, vol. 6(2), pages 1-26, June.
    6. Kenneth Arrow & Marcel Priebsch, 2014. "Bliss, Catastrophe, and Rational Policy," Environmental & Resource Economics, Springer;European Association of Environmental and Resource Economists, vol. 58(4), pages 491-509, August.
    7. Sergio Sousa, 2010. "Small-scale changes in wealth and attitudes toward risk," Discussion Papers 2010-11, The Centre for Decision Research and Experimental Economics, School of Economics, University of Nottingham.
    8. Anat Bracha, 2004. "Affective Decision Making in Insurance Markets," Yale School of Management Working Papers amz2665, Yale School of Management, revised 01 Sep 2004.
    9. Christophe Courbage & Guillem Montoliu-Montes & Béatrice Rey, 2018. "How vulnerable is risk aversion to wealth, health and other risks? An empirical analysis for Europe," Working Papers halshs-01935846, HAL.
    10. Peter, Richard, 2021. "Prevention as a Giffen good," Economics Letters, Elsevier, vol. 208(C).
    11. Baillon, Aurélien & Placido, Lætitia, 2019. "Testing constant absolute and relative ambiguity aversion," Journal of Economic Theory, Elsevier, vol. 181(C), pages 309-332.

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