October 19, 2021, 12:45–13:45
Room Auditorium 4
Exposed to multiple risks and without access to formal insurance, poor households in developing countries opt for low-risk low-return production technologies in order to limit income volatility ex ante. While there is evidence that production risk induces such costly risk-avoiding strategies, little is known whether other risks in the households' environment, that not directly influence income generation, affect investment decisions of households as well. We study in a lab experiment with slum dwellers in Nairobi whether such background risk induces ex ante income risk avoidance. We find that risk-averse subjects choose indeed less risky, profitable investments when background risk is present. However, relaxing these risk constraints by the provision of insurance has no effect (free insurance) or even a negative impact (fair insurance) on risk taking. We find suggestive evidence that these unexpected results are driven by difficulty understanding of insurance and experience effects. Moreover, constantly low investment under fair insurance suggests a dampening effect of the certain premium that dominates the positive risk-reducing effect of insurance. Our results imply that providing poor households with instruments that reduce background risk exposure is important to encourage entrepreneurial risk taking. However, insurance might not be the optimal policy in the short term, since it may, if not sufficiently understood or valued, even reduce willingness to invest compared to the status quo.
Renate Strobl (University of Basel), “Background risk, insurance and investment behaviour: Experimental evidence from Kenya”, IAST Lunch Seminar, Toulouse: IAST, October 19, 2021, 12:45–13:45, room Auditorium 4.