An experimental study of charity hazard: The effect of risky and ambiguous government compensation on flood insurance demand

Peter John Robinson; W. J.Wouter Botzen; Fujin Zhou

doi:10.1007/s11166-021-09365-6

An experimental study of charity hazard: The effect of risky and ambiguous government compensation on flood insurance demand

Peter John Robinson^*
, W. J.Wouter Botzen
, Fujin Zhou

^*Corresponding author for this work

Environmental Economics

Research output: Contribution to Journal › Article › Academic › peer-review

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Abstract

This paper examines the problem of “charity hazard,” which is the crowding out of private insurance demand by government compensation. In the context of flood insurance and disaster financing, charity hazard is particularly worrisome given current trends of increasing flood risks as a result of climate change and more people choosing to locate in high-risk areas. We conduct an experimental analysis of the influence on flood insurance demand of risk and ambiguity preferences and the availability of different forms of government compensation for disaster damage. Certain and risky government compensation crowd out demand, confirming charity hazard, but this is not observed for ambiguous compensation. Ambiguity averse subjects have higher insurance demand when government compensation is ambiguous relative to risky. Policy recommendations are discussed to overcome charity hazard.

Original language	English
Pages (from-to)	275-318
Number of pages	44
Journal	Journal of Risk and Uncertainty
Volume	63
Issue number	3
Early online date	4 Dec 2021
DOIs	https://doi.org/10.1007/s11166-021-09365-6
Publication status	Published - Dec 2021

Bibliographical note

Funding Information:
This research was supported by the Netherlands Organisation for Scientific Research (NWO), Vidi grant number 45214005. The authors would like to thank colleagues at the Institute for Environmental Studies, VU University Amsterdam for helping with the implementation pre-tests. Peter Wakker provided useful suggestions for developing the theoretical framework. We appreciate the comments of Mark Andor on the experiment design.

Publisher Copyright:
© 2021, The Author(s), under exclusive licence to Springer Science+Business Media, LLC, part of Springer Nature.

Funding

This research was supported by the Netherlands Organisation for Scientific Research (NWO), Vidi grant number 45214005. The authors would like to thank colleagues at the Institute for Environmental Studies, VU University Amsterdam for helping with the implementation pre-tests. Peter Wakker provided useful suggestions for developing the theoretical framework. We appreciate the comments of Mark Andor on the experiment design.

UN SDGs

This output contributes to the following UN Sustainable Development Goals (SDGs)

SDG 13 Climate Action

Keywords

Ambiguity preferences
Charity hazard
Economic experiment
Flood insurance demand
Risk preferences

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10.1007/s11166-021-09365-6

Robinson2021_Article_AnExperimentalStudyOfCharityHazardFinal published version, 1.84 MBLicence: Article 25fa Dutch Copyright Act

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title = "An experimental study of charity hazard: The effect of risky and ambiguous government compensation on flood insurance demand",

abstract = "This paper examines the problem of “charity hazard,” which is the crowding out of private insurance demand by government compensation. In the context of flood insurance and disaster financing, charity hazard is particularly worrisome given current trends of increasing flood risks as a result of climate change and more people choosing to locate in high-risk areas. We conduct an experimental analysis of the influence on flood insurance demand of risk and ambiguity preferences and the availability of different forms of government compensation for disaster damage. Certain and risky government compensation crowd out demand, confirming charity hazard, but this is not observed for ambiguous compensation. Ambiguity averse subjects have higher insurance demand when government compensation is ambiguous relative to risky. Policy recommendations are discussed to overcome charity hazard.",

keywords = "Ambiguity preferences, Charity hazard, Economic experiment, Flood insurance demand, Risk preferences",

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N2 - This paper examines the problem of “charity hazard,” which is the crowding out of private insurance demand by government compensation. In the context of flood insurance and disaster financing, charity hazard is particularly worrisome given current trends of increasing flood risks as a result of climate change and more people choosing to locate in high-risk areas. We conduct an experimental analysis of the influence on flood insurance demand of risk and ambiguity preferences and the availability of different forms of government compensation for disaster damage. Certain and risky government compensation crowd out demand, confirming charity hazard, but this is not observed for ambiguous compensation. Ambiguity averse subjects have higher insurance demand when government compensation is ambiguous relative to risky. Policy recommendations are discussed to overcome charity hazard.

AB - This paper examines the problem of “charity hazard,” which is the crowding out of private insurance demand by government compensation. In the context of flood insurance and disaster financing, charity hazard is particularly worrisome given current trends of increasing flood risks as a result of climate change and more people choosing to locate in high-risk areas. We conduct an experimental analysis of the influence on flood insurance demand of risk and ambiguity preferences and the availability of different forms of government compensation for disaster damage. Certain and risky government compensation crowd out demand, confirming charity hazard, but this is not observed for ambiguous compensation. Ambiguity averse subjects have higher insurance demand when government compensation is ambiguous relative to risky. Policy recommendations are discussed to overcome charity hazard.

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KW - Charity hazard

KW - Economic experiment

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An experimental study of charity hazard: The effect of risky and ambiguous government compensation on flood insurance demand

Abstract

Bibliographical note

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UN SDGs

Keywords

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