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Increases in Risk and the Welfare State

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  • Thomas Eichner
  • Andreas Wagener

Abstract

According to many observers, the world is currently getting riskier along many of its dimensions. In this paper we analyse how the welfare state, i.e., social insurance that works through redistributive taxation, should deal with this trend. We distinguish between risks that can be insured by the welfare state and such than cannot (background risks). Insurable risks can be reduced either by individual self-insurance or, through pooling, by social insurance. Both ways are costly in terms of income foregone. We show: (i) Self-insurance will be higher the more costly is the welfare state and the larger are background or insured risks. (ii) Full risk coverage by the welfare state can only be optimal in a costless welfare state. (iii) The optimal size of the welfare state is larger the higher are the risks that it cannot insure. The impact of the size of risks that can be insured is, however, unclear.

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Bibliographic Info

Paper provided by CESifo Group Munich in its series CESifo Working Paper Series with number 685.

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Date of creation: 2002
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Handle: RePEc:ces:ceswps:_685

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Keywords: welfare state; background risks; social insurance;

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  1. Agell, J., 2000. "On the Determinants of Labour Market Institutions: Rent-sharing vs. Social Insurance," Papers 2000:16, Uppsala - Working Paper Series.
  2. Guiso, Luigi & Jappelli, Tullio, 1996. "Background Uncertainty and the Demand for Insurance Against Insurable Risks," CEPR Discussion Papers 1423, C.E.P.R. Discussion Papers.
  3. Sandmo, Agnar, 1971. "On the Theory of the Competitive Firm under Price Uncertainty," American Economic Review, American Economic Association, vol. 61(1), pages 65-73, March.
  4. Varian, Hal R., 1980. "Redistributive taxation as social insurance," Journal of Public Economics, Elsevier, vol. 14(1), pages 49-68, August.
  5. Rothschild, Michael & Stiglitz, Joseph E., 1970. "Increasing risk: I. A definition," Journal of Economic Theory, Elsevier, vol. 2(3), pages 225-243, September.
  6. Cheng, Hsueh-Cheng & Magill, Michael J P & Shafer, Wayne J, 1987. "Some Results on Comparative Statics under Uncertainty," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 28(2), pages 493-507, June.
  7. Gollier, Christian & Pratt, John W, 1996. "Risk Vulnerability and the Tempering Effect of Background Risk," Econometrica, Econometric Society, vol. 64(5), pages 1109-23, September.
  8. Sinn, Hans-Werner, 1996. "Social Insurance, Incentives and Risk Taking," Munich Reprints in Economics 19834, University of Munich, Department of Economics.
  9. DIONNE, George & EECKHOUDT, Louis, . "Self-insurance, self-protection and increased risk aversion," CORE Discussion Papers RP -623, Université catholique de Louvain, Center for Operations Research and Econometrics (CORE).
  10. Bird, Edward J., 2001. "Does the welfare state induce risk-taking?," Journal of Public Economics, Elsevier, vol. 80(3), pages 357-383, June.
  11. Hans-Werner Sinn, 1994. "A Theory of the Welfare State," NBER Working Papers 4856, National Bureau of Economic Research, Inc.
  12. Jack Meyer & Michael B. Ormiston, 1995. "Demand for insurance in a portfolio setting," The Geneva Risk and Insurance Review, Palgrave Macmillan, vol. 20(2), pages 203-211, December.
  13. Meyer, Jack, 1987. "Two-moment Decision Models and Expected Utility Maximization," American Economic Review, American Economic Association, vol. 77(3), pages 421-30, June.
  14. Robert Holzmann & Steen Jorgensen, 2000. "Social risk management : a new conceptual framework for social protection and beyond," Social Protection Discussion Papers 21314, The World Bank.
  15. Guiso, Luigi & Jappelli, Tullio & Terlizzese, Daniele, 1994. "Income Risk, Borrowing Constraints and Portfolio Choice," CEPR Discussion Papers 888, C.E.P.R. Discussion Papers.
  16. Sinn, Hans-Werner, 1990. " Expected Utility, mu-sigma Preferences, and Linear Distribution Classes: A Further Result," Journal of Risk and Uncertainty, Springer, vol. 3(3), pages 277-81, September.
  17. Menezes, C F & Hanson, D L, 1970. "On the Theory of Risk Aversion," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 11(3), pages 481-87, October.
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