Learning and Risk Management Decisions
Munich Risk and Insurance Center Working Paper No. 26
38 Pages Posted: 10 Jul 2015 Last revised: 11 Aug 2015
Date Written: July 1, 2015
Due to the lack of descriptive information about the effectiveness of risk management activities, decision-makers often have to rely on (their own) prior experience with these investments. Thus, we propose a novel, feedback-based approach to examine risk management decisions. We simulate individuals’ decisions over 50 time periods and analyze how distributional properties of different risk management instruments influence subjects’ propensity to invest in self-insurance or self-protection. Our results show that subjects act more risk averse over time because self-insurance take-up rates increase when learners gain more experience. Individuals’ risk management decisions are price-sensitive but we find only limited evidence for a complementary relationship between both risk management options. Our findings provide an alternative explanation for the low demand for risk management investments against low probability risks and can be used to predict developments in new insurance markets with inexperienced policyholders.
Keywords: Learning from experience, Risk Management, Low probability risks
JEL Classification: D81, D83
Suggested Citation: Suggested Citation