The Influence of Sellers on Contract Choice: Evidence from Flood Insurance

46 Pages Posted: 1 May 2018 Last revised: 17 Aug 2018

See all articles by Benjamin Collier

Benjamin Collier

Temple University - Risk Management & Insurance & Actuarial Science

Marc A. Ragin

University of Georgia - Department of Insurance, Legal Studies, Real Estate; University of Georgia

Date Written: April 11, 2018

Abstract

We examine the ability of insurers to influence the coverage limit decisions of 180,000 households in the National Flood Insurance Program. In this program, private insurers sell identical flood contracts at identical rates and bear no risk of paying claims. About 12% of new policyholders overinsure, selecting coverage limits that exceed their home's estimated replacement cost. Overinsuring implicitly covers the risk that losses exceed the estimated replacement cost, a risk in which the seller has an informational advantage. Overinsuring is also expensive relative to expected loss, making it difficult to explain with standard decision-making models. The rate of overinsuring differs substantially across insurers, ranging from zero to one-third of new policies. Insurer effects are statistically significant after controlling for the insured's characteristics. Additionally, some insurers seem to encourage households to overinsure in percentage terms (e.g., buy 110% of replacement cost) while others encourage rounding up in dollars (e.g., to the next $10,000). Finally, we find that insurers' distribution systems and commission rates influence whether their policyholders overinsure. Our results show that insurers help select households' flood insurance contracts.

Keywords: Insurance Demand, Flood Insurance, Catastrophe Insurance, Biased Advice

JEL Classification: D81, D83, G22, L14

Suggested Citation

Collier, Benjamin and Ragin, Marc A., The Influence of Sellers on Contract Choice: Evidence from Flood Insurance (April 11, 2018). Fox School of Business Research Paper No. 18-017. Available at SSRN: https://ssrn.com/abstract=3162388 or http://dx.doi.org/10.2139/ssrn.3162388

Benjamin Collier (Contact Author)

Temple University - Risk Management & Insurance & Actuarial Science ( email )

Fox School of Business and Management
1301 Cecil B. Moore Ave.
Philadelphia, PA 19122
United States

Marc A. Ragin

University of Georgia - Department of Insurance, Legal Studies, Real Estate ( email )

Athens, GA 30602-6254
United States

University of Georgia ( email )

Athens, GA 30602-6254
United States

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