Selling Formal Insurance to the Informally Insured

42 Pages Posted: 24 Feb 2012

See all articles by Ahmed Mushfiq Mobarak

Ahmed Mushfiq Mobarak

Yale School of Management; Yale University - Cowles Foundation

Mark R. Rosenzweig

Yale University - Economic Growth Center; Yale University - Cowles Foundation

Date Written: February 1, 2012

Abstract

Unpredictable rainfall is an important risk for agricultural activity, and farmers in developing countries often receive incomplete insurance from informal risk-sharing networks. We study the demand for, and effects of, offering formal index-based rainfall insurance through a randomized experiment in an environment where the informal risk sharing network can be readily identified and richly characterized: sub-castes in rural India. A model allowing for both idiosyncratic and aggregate risk shows that informal networks lower the demand for formal insurance only if the network indemnifies against aggregate risk, but not if its primary role is to insure against farmer-specific losses. When formal insurance carries basis risk (mismatches between payouts and actual losses due to the remote location of the rainfall gauge), informal risk sharing that covers idiosyncratic losses enhance the benefits of index insurance. Formal index insurance enables households to take more risk even in the presence of informal insurance. We find substantial empirical support of these nuanced predictions of the model by conducting the experiment (randomizing both index insurance offers, and the locations of rainfall gauges) on castes for whom we have a rich history of group responsiveness to household and aggregate rainfall shocks.

Keywords: insurance, risk sharing, basis risk

JEL Classification: O17, O13, O16

Suggested Citation

Mobarak, Ahmed Mushfiq and Rosenzweig, Mark Richard, Selling Formal Insurance to the Informally Insured (February 1, 2012). Yale Economics Department Working Paper No. 97; Yale University Economic Growth Center Discussion Paper No. 1007. Available at SSRN: https://ssrn.com/abstract=2009528 or http://dx.doi.org/10.2139/ssrn.2009528

Ahmed Mushfiq Mobarak (Contact Author)

Yale School of Management ( email )

135 Prospect Street
P.O. Box 208200
New Haven, CT 06520-8200
United States
203-432-5787 (Phone)

HOME PAGE: http://mba.yale.edu/faculty/profiles/mobarak.shtml

Yale University - Cowles Foundation

Box 208281
New Haven, CT 06520-8281
United States

Mark Richard Rosenzweig

Yale University - Economic Growth Center ( email )

Box 208269
New Haven, CT 06520-8269
United States
203-432-3620 (Phone)

Yale University - Cowles Foundation

Box 208281
New Haven, CT 06520-8281
United States

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