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Increases in Risk and the Welfare State

  • Thomas Eichner
  • Andreas Wagener

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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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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  1. Jonas Agell, 2000. "On the Determinants of Labour Market Institutions: Rent-Sharing vs. Social Insurance," CESifo Working Paper Series 384, CESifo Group Munich.
  2. Robert Holzmann & Steen Jørgensen, 2001. "Social Risk Management: A New Conceptual Framework for Social Protection, and Beyond," International Tax and Public Finance, Springer, vol. 8(4), pages 529-556, August.
  3. Hans-Werner Sinn, 1996. "Social insurance, incentives and risk taking," International Tax and Public Finance, Springer, vol. 3(3), pages 259-280, July.
  4. Guiso, Luigi & Jappelli, Tullio & Terlizzese, Daniele, 1996. "Income Risk, Borrowing Constraints, and Portfolio Choice," American Economic Review, American Economic Association, vol. 86(1), pages 158-72, March.
  5. 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.
  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. 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).
  8. Bird, Edward J., 2001. "Does the welfare state induce risk-taking?," Journal of Public Economics, Elsevier, vol. 80(3), pages 357-383, June.
  9. Hans-Werner Sinn, 1994. "A Theory of the Welfare State," NBER Working Papers 4856, National Bureau of Economic Research, Inc.
  10. Rothschild, Michael & Stiglitz, Joseph E., 1970. "Increasing risk: I. A definition," Journal of Economic Theory, Elsevier, vol. 2(3), pages 225-243, September.
  11. 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.
  12. 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.
  13. 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.
  14. Meyer, Jack, 1987. "Two-moment Decision Models and Expected Utility Maximization," American Economic Review, American Economic Association, vol. 77(3), pages 421-30, June.
  15. Varian, Hal R., 1980. "Redistributive taxation as social insurance," Journal of Public Economics, Elsevier, vol. 14(1), pages 49-68, August.
  16. 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.
  17. 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.
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