Insurance Decision-Making For Rare Events: The Role Of Emotions

Howard Kunreuther, Mark Pauly

NBER Working Paper No. 20886
Issued in January 2015
NBER Program(s):Technical Working Papers

This paper describes the results of a web-based multi-period insurance purchasing experiment focusing on how individuals make insurance choices for low-probability, high-consequence events. Participants were told the probability and resulting losses of a hurricane occurring and were informed that these were stable from period to period. We contrast the model of informed expected utility [E(U)] maximization with alternative behavioral models of choice as explanations for what we observe. The majority of individuals (63 percent) behaved in ways that were consistent with expected utility theory, although we do not know whether these individuals were utilizing other decision rules. A sizeable number of uninsured individuals decided to purchase insurance after learning that they had suffered a loss and revealing that they were unhappy about having been uninsured. In this sense, the study shows that a loss coupled with emotions is likely to play an important role in convincing an uninsured person to buy coverage. In contrast, insured individuals who did not suffer a loss rarely dropped coverage. The paper concludes by raising questions regarding the welfare implications of this behavior.

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Document Object Identifier (DOI): 10.3386/w20886

Published: Howard Kunreuther & Mark V. Pauly, 2018. "Dynamic Insurance Decision-Making for Rare Events: The Role of Emotions," The Geneva Papers on Risk and Insurance - Issues and Practice, vol 43(2), pages 335-355.

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