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Heterogeneity, Demand for Insurance and Adverse Selection

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  • Johannes Spinnewijn
Abstract
Recent empirical work finds that surprisingly little variation in the demand for insurance is explained by heterogeneity in risks. I distinguish between heterogeneity in risk preferences and risk perceptions underlying the unexplained variation. Heterogeneous risk perceptions induce a systematic difference between the revealed and actual value of insurance as a function of the insurance price. Using a sufficient statistics approach that accounts for this alternative source of heterogeneity, I find that the welfare conclusions regarding adversely selected markets are substantially different. The source of heterogeneity is also essential for the evaluation of different interventions intended to correct inefficiencies due to adverse selection like insurance subsidies and mandates, risk-adjusted pricing and information policies.

Suggested Citation

  • Johannes Spinnewijn, 2012. "Heterogeneity, Demand for Insurance and Adverse Selection," CEP Discussion Papers dp1142, Centre for Economic Performance, LSE.
    • Handle: RePEc:cep:cepdps:dp1142
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    4. Keith Marzilli Ericson & Philipp Kircher & Johannes Spinnewijn & Amanda Starc, 2021. "Inferring Risk Perceptions and Preferences Using Choice from Insurance Menus: Theory and Evidence," The Economic Journal, Royal Economic Society, vol. 131(634), pages 713-744.
    5. Nathaniel Hendren & Camille Landais & Johannes Spinnewijn, 2021. "Choice in Insurance Markets: A Pigouvian Approach to Social Insurance Design," Annual Review of Economics, Annual Reviews, vol. 13(1), pages 457-486, August.
    6. Amy Finkelstein & Nathaniel Hendren & Mark Shepard, 2017. "Subsidizing Health Insurance for Low-Income Adults: Evidence from Massachusetts," NBER Working Papers 23668, National Bureau of Economic Research, Inc.
    7. Benjamin R. Handel & Jonathan T. Kolstad & Johannes Spinnewijn, 2019. "Information Frictions and Adverse Selection: Policy Interventions in Health Insurance Markets," The Review of Economics and Statistics, MIT Press, vol. 101(2), pages 326-340, May.
    8. Cremer, Helmuth & Roeder, Kerstin, 2013. "Long-term care policy, myopia and redistribution," Journal of Public Economics, Elsevier, vol. 108(C), pages 33-43.
    9. Alex Rees-Jones & Dmitry Taubinsky, 2018. "Taxing Humans: Pitfalls of the Mechanism Design Approach and Potential Resolutions," Tax Policy and the Economy, University of Chicago Press, vol. 32(1), pages 107-133.
    10. Klaus Kultti & Yi Zheng, 2022. "Market Inefficiency, Entry Order and Coordination," SN Operations Research Forum, Springer, vol. 3(3), pages 1-22, September.
    11. Johannes Spinnewijn, 2017. "Heterogeneity, Demand for Insurance, and Adverse Selection," American Economic Journal: Economic Policy, American Economic Association, vol. 9(1), pages 308-343, February.
    12. Giles, John & Meng, Xin & Xue, Sen & Zhao, Guochang, 2021. "Can information influence the social insurance participation decision of China's rural migrants?," Journal of Development Economics, Elsevier, vol. 150(C).
    13. Kulawik, Jacek, 2018. "Neoclassical approach to traditional business insurance - introduction to the theory of agricultural insurance," Problems of Agricultural Economics / Zagadnienia Ekonomiki Rolnej 276371, Institute of Agricultural and Food Economics - National Research Institute (IAFE-NRI).
    14. Glenn W. Harrison, 2024. "Risk preferences and risk perceptions in insurance experiments: some methodological challenges," The Geneva Risk and Insurance Review, Palgrave Macmillan;International Association for the Study of Insurance Economics (The Geneva Association), vol. 49(1), pages 127-161, March.
    15. Benjamin L. Collier & Daniel Schwartz & Howard C. Kunreuther & Erwann O. Michel‐Kerjan, 2022. "Insuring large stakes: A normative and descriptive analysis of households' flood insurance coverage," Journal of Risk & Insurance, The American Risk and Insurance Association, vol. 89(2), pages 273-310, June.
    16. Raj Chetty & Amy Finkelstein, 2012. "Social Insurance: Connecting Theory to Data," NBER Working Papers 18433, National Bureau of Economic Research, Inc.
    17. Jisang Yu & Edward D. Perry, 2024. "Premium subsidies and selection in the federal crop insurance program," Journal of Agricultural Economics, Wiley Blackwell, vol. 75(1), pages 280-297, February.
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    19. Katherine R. H. Wagner, 2022. "Adaptation and Adverse Selection in Markets for Natural Disaster Insurance," American Economic Journal: Economic Policy, American Economic Association, vol. 14(3), pages 380-421, August.
    20. Hong Fu & Yuehua Zhang & Yinuo An & Li Zhou & Yanling Peng & Rong Kong & Calum G. Turvey, 2022. "Subjective and objective risk perceptions and the willingness to pay for agricultural insurance: evidence from an in-the-field choice experiment in rural China," The Geneva Risk and Insurance Review, Palgrave Macmillan;International Association for the Study of Insurance Economics (The Geneva Association), vol. 47(1), pages 98-121, March.
    21. Liran Einav & Amy Finkelstein, 2023. "Empirical analyses of selection and welfare in insurance markets: a self-indulgent survey," The Geneva Risk and Insurance Review, Palgrave Macmillan;International Association for the Study of Insurance Economics (The Geneva Association), vol. 48(2), pages 167-191, September.
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    More about this item

    Keywords

    Heterogeneity; adverse selection; risk perceptions; welfare and policy;
    All these keywords.

    JEL classification:

    • D60 - Microeconomics - - Welfare Economics - - - General
    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
    • D83 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Search; Learning; Information and Knowledge; Communication; Belief; Unawareness
    • G28 - Financial Economics - - Financial Institutions and Services - - - Government Policy and Regulation

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