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An experimental study of charity hazard: The effect of risky and ambiguous government compensation on flood insurance demand

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  • Peter John Robinson
  • W.J.W. Botzen
  • F. Zhou

Abstract

This paper examines the problem of “charity hazard†, which is the crowding out of private insurance demand by government compensation. In the context of flood insurance and disaster financing, charity hazard is particularly worrisome given current trends of increasing flood risks as a result of climate change and more people choosing to locate in high-risk areas. We conduct an experimental analysis of the influence on flood insurance demand of risk and ambiguity preferences and the availability of different forms of government compensation for disaster damage. Certain and risky government compensation crowd out demand, confirming charity hazard, but this is not observed for ambiguous compensation. Ambiguity averse subjects have higher insurance demand when government compensation is ambiguous relative to risky. Policy recommendations are discussed to overcome charity hazard

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  • Peter John Robinson & W.J.W. Botzen & F. Zhou, 2019. "An experimental study of charity hazard: The effect of risky and ambiguous government compensation on flood insurance demand," Working Papers 19-19, Utrecht School of Economics.
    • Handle: RePEc:use:tkiwps:1919
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    3. Tesselaar, Max & Botzen, W.J. Wouter & Robinson, Peter J. & Aerts, Jeroen C.J.H. & Zhou, Fujin, 2022. "Charity hazard and the flood insurance protection gap: An EU scale assessment under climate change," Ecological Economics, Elsevier, vol. 193(C).
    4. Osberghaus, Daniel & Reif, Christiane, 2021. "How do different compensation schemes and loss experience affect insurance decisions? Experimental evidence from two independent and heterogeneous samples," Ecological Economics, Elsevier, vol. 187(C).

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    More about this item

    Keywords

    Ambiguity preferences; charity hazard; economic experiment; flood insurance demand; risk preferences;
    All these keywords.

    JEL classification:

    • C91 - Mathematical and Quantitative Methods - - Design of Experiments - - - Laboratory, Individual Behavior
    • G52 - Financial Economics - - Household Finance - - - Insurance

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