| Abstract: |
One of the most intriguing questions in insurance is the preference of
consumers for low or zero deductible insurance policies. This stands in sharp
contrast to a theorem proved by Mossin, 1968, that under quite common
assumptions when the price of insurance is higher than its actuarial value,
then full coverage is not optimal. We show in a series of experiments that
amateur subjects tend to underestimate the value of a policy with a deductible
and that the degree of underestimation increases with the size of the
deductible. We hypothesize that this tendency is caused by the anchoring
heuristic. In particular, in pricing a policy with a deductible subjects first
consider the price of a full coverage policy. Then they anchor on the size of
the deductible and subtract it from the price of the full coverage policy.
However, they do not adjust the price enough upward to take into account the
fact that there is only a small chance that the deductible will be applied
toward their payments. We also show that professionals in the field of
insurance are less prone to such a bias. This implies that a policy with a
deductible priced according to the true expected payments may seem
“overpriced” to the insured and therefore may not be purchased. Since the
values of full coverage policies are not underestimated the insured may find
them as relatively better “deals”. |