Risk Attitudes with State-Dependent Indivisibilities in Consumption
32 Pages Posted: 15 Nov 2018
Date Written: October 24, 2018
The existence of state-dependent indivisible consumption opportunities influences a person's risk attitudes. In general, people are not risk averse anymore, even if utility from divisible consumption is concave, because indivisibilities result in the marginal utility of wealth to differ across states. I propose a definition of insurance in the context of state-dependent preferences and investigate the different motives underlying insurance demand. The very reasons that make people not risk-averse turn out to be the basis of a desire to insure. This calls into question the standard approach that bases insurance demand on risk aversion with important implications for policy and research.
Keywords: Risk Preferences, Indivisible Consumption, Insurance, Gambling
JEL Classification: D01, D81
Suggested Citation: Suggested Citation