Insurance companies of the poor

Stefan Dercon and Tessa Bold

No 10278, CEPR Discussion Papers from C.E.P.R. Discussion Papers

Abstract: We model the emergence of formal insurance institutions as equilibria under limited contract enforceability where groups are required to be coalition-proof but also can use fines for enforcement. The model can generate coexistence of formal and informal groups without requiring heterogeneity in insurance demand, because coalition-proof equilibria can fail to exist. It also predicts where formal insurance is likely to flourish: insurance groups that hold savings become more prevalent the more enforcement power communities have, and the more enforcement power, the better insurance. We use data on Ethiopian funeral insurance groups and their members to motivate and test our model. Those which hold savings and collect regular premia provide better insurance than informal ones, and both sets of groups employ a variety of punishment mechanisms to induce their members to share risk. Despite the observed positive correlation between formality and the quality of insurance, informal and formal groups co-exist. Consistent with predictions generated by the model, we find that standard measures of social cohesion are linked to the use of punishment mechanisms, the quality of insurance and the prevalence of formal insurance institutions.

Keywords: Institutions; Insurance; Limited commitment; Savings; Social capital (search for similar items in EconPapers)
JEL-codes: C73 D02 E21 (search for similar items in EconPapers)
Date: 2014-12
New Economics Papers: this item is included in nep-ias, nep-iue and nep-mfd
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (1)

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