Austin, Laurel Cecelia; PhD
CARNEGIE-MELLON UNIVERSITY, 1996
PSYCHOLOGY, COGNITIVE (0633); CANADIAN STUDIES (0385); ECONOMICS, GENERAL
This thesis presents an empirical study of four different, but related, real-world
automobile insurance
decisions by 74 Pennsylvania drivers. Expected utility (EU) theory and innovation
diffusion theory, two
theories proposed as describing insurance decisions, were tested. Cognitive
psychology methods were
used to gather and examine verbal data, in order to compare subjects' mental
models of the decision
problems to those theoretical models. These methods minimized imposing researchers'
views of the
decision problem on subjects, something often unavoidable with other methodologies.
Decisions
examined were whether to buy optional collision coverage, choice of deductible,
what liability limits to
carry, and whether to take full or limited tort. Expected utility (EU) theory
is the foundation of most
theoretical insurance research. Three well-accepted EU predictions relating
insurance demand to risk
aversion, wealth, premium, and loss probability and magnitude were tested for
each decision. Diffusion
theory, which predicts that knowing other innovation adopters increases a person's
own probability of
adopting, was primarily tested with the tort decision. This study was largely
designed as a constructive
replication of Kunreuther et al.'s (1978) study where a diffusion model predicted
consumers' flood and
earthquake insurance decisions, but an EU model did not. Whether optional collision
coverage was
carried was predicted by subjects' contingency-price ratios and liability coverage
increased with wealth,
consistent with EU predictions. Neither decision was consistent with other EU
predictions tested, and
deductible levels and tort decisions were not consistent with any of the EU
predictions. Verbal reports
showed overlap between subjects' mental models and EU theory where that theory
made successful
predictions and offered explanations for why other predictions were not observed.
For example,
insurance coverage in general increases with wealth, contrary to the well-accepted
EU prediction that
(property) insurance is an inferior good. More risk averse consumers did not
purchase more insurance, as
EU theory predicts. Analysis of verbal data suggests that consumers' need to
budget limited cash
resources in the short term explains these failures of EU theory, which treats
insurance in isolation of
other consumption and assumes maximization of expected (long-term) utility.
Diffusion theory did not
describe decisions regarding adoption of limited tort, a recent insurance innovation.
Nor did it describe
decisions to drop collision coverage. Failure to replicate Kunreuther et al.'s
findings may be because
consumers use different decision models for different insurance decisions and
because they rely more
on insurance agents regarding automobile insurance than for hazard insurance.
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