Informal Insurance in the Presence of Poverty Traps: Evidence from Southern Ethiopia

Abstract

This paper explores the consequences of nonlinear wealth dynamics on the formation of informal insurance networks. Building on recent empirical work among a poor population that finds evidence consistent with the hypothesis of poverty traps, and using original primary data on social networks and transfers, we find that asset transfers respond to recipients' losses, but only so long as the recipients are not "too poor". The persistently poor are excluded from social networks and do not receive transfers in response to shocks. We also find some evidence that the threshold at which wealth dynamics bifurcate may serve as a focal point at which transfers are concentrated. Our results suggest that, in the context of poverty traps, asset transfers may aim to insure the permanent component of income generation, rather than the transitory component, as standard insurance models assume.

Keywords: risk, informal insurance, social networks, poverty traps, Ethiopia