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on Insurance Economics |
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Issue of 2006‒05‒06
three papers chosen by Soumitra K Mallick Indian Institute of Social Welfare and Bussiness Management |
| By: | De Donder, Philippe; Hindriks, Jean J.G. |
| Abstract: | Empirical testing of asymmetric information in the insurance market has uncovered a negative correlation between risk levels and insurance purchases, rather than the positive correlation predicted by the standard insurance theory. Hemenway (1990) proposes an explanation for this negative correlation, called 'propitious selection''. He argues that potential insurance buyers have different tastes for risk and that 'individuals who are highly risk avoiding are more likely both to try to reduce the hazard and to purchase insurance' (p. 1064). Chiappori and Salanié (2000) also suggest that this line of argument, which they call 'cherry picking', may explain the observed negative correlation. In this paper, we show that the propitious selection argument does not imply negative correlation between risk levels and insurance purchases, be-cause it fails to take into account the supply side of the insurance market. To illustrate this claim, we provide a model where, although we assume that individuals differ in risk aversion and that the more risk averse individuals exert more precaution and buy more insurance, we end up with a positive correlation between risk and insurance purchases at equilibrium. The reason is that, in any separating equilibrium, the more risk averse individuals face insurance overprovision which, combined with moral hazard, increases their risk relative to the less risk averse individuals. To obtain the negative correlation between risk and insurance purchases, one further needs the extra condition of decreasing marginal willingness to pay for the less risk averse individuals. Finally, we find that propitious selection has profound policy implications for social insurance. |
| Keywords: | cherry picking; precaution; preference-based adverse selection; social insurance |
| JEL: | D82 G22 |
| Date: | 2006–04 |
| URL: | http://d.repec.org/n?u=RePEc:cpr:ceprdp:5640&r=ias |
| By: | Keith H. Coble; J. Corey Miller (Department of Agricultural Economics, Mississippi State University) |
| Abstract: | Producer and other interest groups are beginning to consider farm policy positions in anticipation of hearings and possible serious farm bill debates during late 2006 and 2007. An idea gaining attention and support among some groups is deemphasizing or eliminating the current commodity “price” programs (loan deficiency payments and counter-cyclical payments) and replacing them with programs based on “revenue insurance” designs. Suggested designs include a multi-tiered farm payment program based on individual revenue guarantees and shortfalls in county revenue. Another example of such an alternative design is a whole-farm revenue design that issues program payments when adjusted gross farm revenue falls below a historical five-year baseline. Interestingly, programs quite similar to both proposals have been offered by USDA’s Risk Management Agency (RMA) since 1999 as part of the federal crop insurance program. In this paper, we evaluate the implications of using revenue-based designs as the primary U.S. farm support program. Our analysis considers implementation issues, distributional effects of such a change, and implications for compliance with WTO rules. |
| Keywords: | farm policy, revenue insurance, WTO. |
| JEL: | E32 R10 |
| Date: | 2006–01 |
| URL: | http://d.repec.org/n?u=RePEc:mss:wpaper:9602&r=ias |
| By: | Randell P. Ellis (Institute for Economic Development, Boston University); Germano M. Mwabu (University of Nairobi, Kenya) |
| URL: | http://d.repec.org/n?u=RePEc:bos:iedwpr:dp-140&r=ias |