Insurance Decision-Making for Rare Events: The Role of Emotions

21 Pages Posted: 27 Jan 2015

See all articles by Howard Kunreuther

Howard Kunreuther

University of Pennsylvania - Operations, Information and Decisions Department; National Bureau of Economic Research (NBER)

Mark V. Pauly

University of Pennsylvania - Health Care Systems Department; National Bureau of Economic Research (NBER)

Date Written: January 2015

Abstract

This paper describes the results of a web-based multi-period insurance purchasing experiment focusing on how individuals make insurance choices for low-probability, high-consequence events. Participants were told the probability and resulting losses of a hurricane occurring and were informed that these were stable from period to period. We contrast the model of informed expected utility [E(U)] maximization with alternative behavioral models of choice as explanations for what we observe. The majority of individuals (63 percent) behaved in ways that were consistent with expected utility theory, although we do not know whether these individuals were utilizing other decision rules. A sizeable number of uninsured individuals decided to purchase insurance after learning that they had suffered a loss and revealing that they were unhappy about having been uninsured. In this sense, the study shows that a loss coupled with emotions is likely to play an important role in convincing an uninsured person to buy coverage. In contrast, insured individuals who did not suffer a loss rarely dropped coverage. The paper concludes by raising questions regarding the welfare implications of this behavior.

Suggested Citation

Kunreuther, Howard C. and Pauly, Mark V., Insurance Decision-Making for Rare Events: The Role of Emotions (January 2015). NBER Working Paper No. w20886. Available at SSRN: https://ssrn.com/abstract=2555406

Howard C. Kunreuther (Contact Author)

University of Pennsylvania - Operations, Information and Decisions Department ( email )

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National Bureau of Economic Research (NBER)

Mark V. Pauly

University of Pennsylvania - Health Care Systems Department ( email )

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United States

National Bureau of Economic Research (NBER)

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