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Self-protection against repeated low probability risks

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Abstract

This paper reports the results of experiments designed to test the effect of experience on preferences for self-protection against low and high probability losses. Subjects gained experience by repeatedly making choices about whether or not to invest in a protective activity and then observing the result of their choice. Half of the subjects faced a low probability risk while the other half faced a higher probability risk with the severity of loss scaled down to hold expected value constant. Protection was more common against the high probability risk. Despite receiving full information about the risks in advance, most subjects made choices in response to prior outcomes. This led to a great deal of experimentation when losses were common (the high probability risk) but very little experimentation when losses were infrequent (the low probability risk).

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Notes

  1. The third empirical regularity noted by Erev and Barron (2005) is loss aversion. Since all gambles in this paper are entirely in the loss domain, loss aversion cannot explain behavior in this paper’s experiments.

  2. See also Thaler et al. (1997) and Bellemare et al. (2005) for additional experiments on the equity premium puzzle.

  3. Only the low cost treatments played the fourth part.

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Acknowledgements

The author thanks Paan Jindapon, Jason Lepore, Eric Fisher, Daniel Friedman, the Journal of Risk and Uncertainty Editorial Board, and an anonymous reviewer for helpful comments. Thanks to the Orfalea College of Business for financial support.

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  1. Department of Economics, Orfalea College of Business, California Polytechnic State University, San Luis Obispo, CA, 93407, USA

    Aric P. Shafran

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Shafran, A.P. Self-protection against repeated low probability risks. J Risk Uncertain 42, 263–285 (2011). https://doi.org/10.1007/s11166-011-9116-2

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  • DOI: https://doi.org/10.1007/s11166-011-9116-2

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