Risk preferences in response to earthquake risk: Property value and insurance

It is well established that individuals tend not to be very good at utilizing all available information when making decisions involving rare risks. It is also widely accepted that individuals tend to underinsure against low-probability, high-loss events relative to high-probability, low-loss events. The dynamics aspects of changes in rare event risk preference for property value and insurance has, however, not been studied. We use the 2010/11 Canterbury earthquakes to confirm that some households underestimate earthquake risk prior to earthquake experience, and substantially re-evaluate those risk perceptions after a quake. We show that these changes are complex, and time dynamic. We further use a novel risk proxy based on smoking rates to show that uniform disaster insurance premiums reduce information clarity and encourage households to make sub-optimal property location choices, which contradict their risk preferences, thus causing ex-ante subjective risk perception to depart from underlying objective risk.