Ambiguity Aversion in the Field of Insurance: Insurers’ Attitude to Imprecise and Conflicting Probability Estimates

Abstract

ABSTRACT. This article presents the results of a survey designed to test, with economically sophisticated participants, Ellsberg's ambiguity aversion hypothesis, and Smithson's conflict aversion hypothesis. Based on an original sample of 78 professional actuaries (all members of the French Institute of Actuaries), this article provides empirical evidence that ambiguity (i.e. uncertainty about the probability) affect insurers' decision on pricing insurance. It first reveals that premiums are significantly higher for risks when there is ambiguity regarding the probability of the loss. Second, it shows that insurers are sensitive to sources of ambiguity. The participants indeed, charged a higher premium when ambiguity came from conflict and disagreement regarding the probability of the loss than when ambiguity came from imprecision (imprecise forecast about the probability of the loss). This research thus documents the presence of both ambiguity aversion and conflict aversion in the field of insurance, and discuses economic and psychological rationales for the observed behaviours.

Attitudes toward uncertainty among the poor: an experiment in rural Ethiopia

“…Ellsberg (1961) suggested that people often prefer to bet on risky prospects instead of ambiguous prospects, even if expected utility theory implies indifference. Confirming Ellsberg's conjecture, ambiguity aversion has been found in many empirical studies, including under market conditions and with monetary incentives (Cabantous 2007;Halevy 2007;Muthukrishnan et al 2009;Sarin and Weber 1993).…”

Decisions with conflicting and imprecise information

“…The second step consists in an aggregation of these evaluations through a multiple weights model. Such a model is compatible with the evidence found by Smithson (1999) and Cabantous (2007). More precisely, a decision maker will satisfy the conflict aversion hypothesis whenever her degree of conflict aversion is higher than her degree of imprecision aversion.…”

“…When there are only two states and ϕ is symmetric, the classical procedure and our approach are equivalent iff the decision maker degree of uncertainty aversion is larger than her degree of conflict aversion. Note that in these situations, the conflict aversion hypothesis described and observed by Smithson (1999) and Cabantous (2007) will not be satisfied. (i) For all P, Q ∈ P, there exists R ∈ P such that Π ⊗ (ϕ(P ), ϕ(Q)) = ϕ(R);…”

“…Cabantous (2007) conducted experiments in a probabilistic setting (very similar to our example) with professional actuaries. She confirms the conflict aversion hypothesis, which means in this context that situation C is preferred to situation B.…”

Uncertainty and ambiguity as the settings of economic decisions

“…np. Cabantous, 2007; podobną ideę na gruncie metodologicznym zaprezentowano w pracy: Domurat, 2011). …”