Insuring large stakes: A normative and descriptive analysis of households' flood insurance coverage

Abstract

Households' insurance coverage against severe losses is central to their financial resilience. Features of the US National Flood Insurance Program offer insights into consumers' coverage over large stakes that are not typically possible in other markets. We examine the coverage limits (the amount of a home's value that is insured) of over 100,000 households. We determine the optimal coverage based on a standard expected utility calibration. This model indicates that consumers should purchase a low limit and retain much of their exposure due to the high premium loads in our sample. Instead, households in the sample typically fully insure their homes, paying premiums well above their contract's expected value. We investigate possible explanations for homeowners' coverage limits

Probability weighting and insurance demand in a unified framework

“…Their focus is on the willingness to pay for insurance. Similar studies include Harrison and Ng (2018), Hansen et al (2016), andCollier et al (2021). We, in turn, derive new results about optimal insurance demand without approximating the utility function and without functional form assumptions on the probability weighting function.…”

Abandoning disaster relief and stimulating insurance demand through premium subsidies

“…Jaspersen et al (2022) show that individuals who overestimate probabilities buy more insurance. Similarly, Collier et al (2022) demonstrate how overestimation of small probabilities can explain unexpectedly high insurance demand. When individuals experience losses and update their probability estimation, loss experience leads to an increase in insurance demand.…”

Encouraging resiliency through autoenrollment in supplemental flood insurance coverage

“…Our findings add to prior survey evidence suggesting that bundling flood insurance as an autoenrollment feature of standard homeowner property insurance (which does not cover floods) might help close the flood insurance gap (see Kunreuther, 2018; Robinson et al, 2020). By tying future investments in flood mitigation to states of the world in which severe flooding occurs, demand for this product may also relate to a tendency for consumers to prioritize states of the world in which severe flooding occurs as indicated by Collier et al (2022) in insurance coverage choices. More broadly, our findings point to the need for researchers and firms estimating insurance demand through purchases to account for the influence of default options and other contextual factors, like simplicity and information salience, that shape these choices (see, e.g., Handel & Jonathan, 2015 in the context of health insurance).…”