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Insurance Purchase for Low-Probability Losses

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

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
File Function: First version, 2008
Download Restriction: no

File URL: http://excen.gsu.edu/workingpapers/GSU_EXCEN_WP_2008-13.pdf
File Function: Revised version, 2008
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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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Web page: http://excen.gsu.edu/

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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. 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.
  3. Camerer, Colin F. & Hogarth, Robin M., 1999. "The Effects of Financial Incentives in Experiments: A Review and Capital-Labor-Production Framework," Working Papers 1059, California Institute of Technology, Division of the Humanities and Social Sciences.
  4. 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.
  5. 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.
  6. 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.
  7. 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.
  8. 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.
  9. 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.
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