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The Nature of Risk Preferences: Evidence from Insurance Choices

Author Info

  • Levon Barseghyan
  • Francesca Molinari
  • Ted O'Donoghue
  • Joshua C. Teitelbaum

Abstract

We use data on insurance deductible choices to estimate a structural model of risky choice that incorporates "standard" risk aversion (diminishing marginal utility for wealth) and probability distortions. We find that probability distortions - characterized by substantial overweighting of small probabilities and only mild insensitivity to probability changes - play an important role in explaining the aversion to risk manifested in deductible choices. This finding is robust to allowing for observed and unobserved heterogeneity in preferences. We demonstrate that neither Kõszegi-Rabin loss aversion alone nor Gul disappointment aversion alone can explain our estimated probability distortions, signifying a key role for probability weighting.

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Paper provided by CESifo Group Munich in its series CESifo Working Paper Series with number 3933.

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Date of creation: 2012
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Handle: RePEc:ces:ceswps:_3933
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Find related papers by JEL classification:
  • D01 - Microeconomics - - General - - - Microeconomic Behavior: Underlying Principles
  • D03 - Microeconomics - - General - - - Behavioral Microeconomics: Underlying Principles
  • D12 - Microeconomics - - Household Behavior - - - Consumer Economics: Empirical Analysis
  • 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

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  1. Thierry Post & Martijn J. van den Assem & Guido Baltussen & Richard H. Thaler, 2008. "Deal or No Deal? Decision Making under Risk in a Large-Payoff Game Show," American Economic Review, American Economic Association, vol. 98(1), pages 38-71, March.
  2. Quiggin, John, 1982. "A theory of anticipated utility," Journal of Economic Behavior & Organization, Elsevier, vol. 3(4), pages 323-343, December.
  3. Jaap H. Abbring & Pierre-Andre Chiappori, 2004. "Moral Hazard and Dynamic Insurance Data," 2004 Meeting Papers 316, Society for Economic Dynamics.
  4. Erik Snowberg & Justin Wolfers, 2010. "Explaining the Favorite-Longshot Bias: Is it Risk-Love or Misperceptions?," NBER Working Papers 15923, National Bureau of Economic Research, Inc.
  5. Levon Barseghyan & Jeffrey Prince & Joshua C. Teitelbaum, 2011. "Are Risk Preferences Stable across Contexts? Evidence from Insurance Data," American Economic Review, American Economic Association, vol. 101(2), pages 591-631, April.
  6. Syngjoo Choi & Raymond Fisman & Douglas Gale & Shachar Kariv, 2007. "Consistency and Heterogeneity of Individual Behavior under Uncertainty," American Economic Review, American Economic Association, vol. 97(5), pages 1921-1938, December.
  7. David Schmeidler, 1989. "Subjective Probability and Expected Utility without Additivity," Levine's Working Paper Archive 7662, David K. Levine.
  8. Jaap H. Abbring & James J. Heckman & Pierre-André Chiappori & Jean Pinquet, 2003. "Adverse Selection and Moral Hazard In Insurance: Can Dynamic Data Help to Distinguish?," Journal of the European Economic Association, MIT Press, vol. 1(2-3), pages 512-521, 04/05.
  9. Kliger, Doron & Levy, Ori, 2009. "Theories of choice under risk: Insights from financial markets," Journal of Economic Behavior & Organization, Elsevier, vol. 71(2), pages 330-346, August.
  10. Adrian Bruhin & Helga Fehr-Duda & Thomas Epper, 2010. "Risk and Rationality: Uncovering Heterogeneity in Probability Distortion," Econometrica, Econometric Society, vol. 78(4), pages 1375-1412, 07.
  11. Hey, John D & Orme, Chris, 1994. "Investigating Generalizations of Expected Utility Theory Using Experimental Data," Econometrica, Econometric Society, vol. 62(6), pages 1291-1326, November.
  12. Harless, David W & Camerer, Colin F, 1994. "The Predictive Utility of Generalized Expected Utility Theories," Econometrica, Econometric Society, vol. 62(6), pages 1251-89, November.
  13. Loomes, G. & Moffatt, P.G. & Sugden, R., 1998. "A Microeconometric Test of Alternative Stochastic Theories of Risky Choice," University of East Anglia Discussion Papers in Economics 9806, School of Economics, University of East Anglia, Norwich, UK..
  14. 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 557-71, March.
  15. Bruno Jullien & Bernard Salanie, 2000. "Estimating Preferences under Risk: The Case of Racetrack Bettors," Journal of Political Economy, University of Chicago Press, vol. 108(3), pages 503-530, June.
  16. Alma Cohen & Peter Siegelman, 2009. "Testing for Adverse Selection in Insurance Markets," NBER Working Papers 15586, National Bureau of Economic Research, Inc.
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