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Insurance Purchase for Low-Probability Losses

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  • Susan K. Laury
  • Melayne Morgan McInnes
  • J. Todd Swarthout

Abstract

It is widely accepted that individuals tend to underinsure against low-probability, high-loss events relative to high-probability, low-loss events. This conventional wisdom is based largely on field studies, as there is very little experimental evidence. We reexamine this issue with an experiment that accounts for possible confounds in prior insurance experiments. Our results are counter to the prior experimental evidence, as we observe subjects buying more insurance for low-probability events than the higher-probability events, given a constant expected loss and load factor. Our results suggest that, to the extent underinsurance for catastrophic risk is observed in the field, it can be attributed to factors other than the relative probability of the loss events.

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File URL: http://excen.gsu.edu/workingpapers/GSU_EXCEN_WP_2008-03.pdf
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Bibliographic Info

Paper provided by Experimental Economics Center, Andrew Young School of Policy Studies, Georgia State University in its series Experimental Economics Center Working Paper Series with number 2008-03.

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Length: 26
Date of creation: Jan 2008
Date of revision: Oct 2008
Handle: RePEc:exc:wpaper:2008-03

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Keywords: low-probability hazards; insurance; risk; experiments;

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References

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  1. Kunreuther, Howard & Slovic, Paul, 1978. "Economics, Psychology, and Protective Behavior," American Economic Review, American Economic Association, vol. 68(2), pages 64-69, May.
  2. Charles A. Holt & Susan K. Laury, 2005. "Risk Aversion and Incentive Effects: New Data without Order Effects," American Economic Review, American Economic Association, vol. 95(3), pages 902-912, June.
  3. Howard Kunreuther & Mark Pauly, 2004. "Neglecting Disaster: Why Don't People Insure Against Large Losses?," Journal of Risk and Uncertainty, Springer, vol. 28(1), pages 5-21, January.
  4. Ganderton, Philip T, et al, 2000. " Buying Insurance for Disaster-Type Risks: Experimental Evidence," Journal of Risk and Uncertainty, Springer, vol. 20(3), pages 271-89, May.
  5. McClelland, Gary H & Schulze, William D & Coursey, Don L, 1993. " Insurance for Low-Probability Hazards: A Bimodal Response to Unlikely Events," Journal of Risk and Uncertainty, Springer, vol. 7(1), pages 95-116, August.
  6. Camerer, Colin F & Hogarth, Robin M, 1999. "The Effects of Financial Incentives in Experiments: A Review and Capital-Labor-Production Framework," Journal of Risk and Uncertainty, Springer, vol. 19(1-3), pages 7-42, December.
  7. Philip Ganderton & David Brookshire & Michael McKee & Steve Stewart & Hale Thurston, 2000. "Buying Insurance for Disaster-Type Risks: Experimental Evidence," Journal of Risk and Uncertainty, Springer, vol. 20(3), pages 271-289, May.
  8. Glenn W. Harrison & Eric Johnson & Melayne M. McInnes & E. Elisabet Rutstr´┐Żm, 2005. "Risk Aversion and Incentive Effects: Comment," American Economic Review, American Economic Association, vol. 95(3), pages 897-901, June.
  9. Charles A. Holt & Susan K. Laury, 2002. "Risk Aversion and Incentive Effects," American Economic Review, American Economic Association, vol. 92(5), pages 1644-1655, December.
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Cited by:
  1. Ulrich Schmidt, 2012. "Insurance Demand and Prospect Theory," Kiel Working Papers 1750, Kiel Institute for the World Economy.
  2. Ulrich Schmidt, 2012. "Insurance Demand under Prospect Theory:A Graphical Analysis," Kiel Working Papers 1764, Kiel Institute for the World Economy.

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