Willingness to pay, surplus and Insurance policy under dual theory

TL;DR

This paper explores how willingness to pay for risk reduction and insurance policies are influenced by dual theory of decision, highlighting the relationship between risk aversion, probability reduction, and surplus in insurance choices.

Contribution

It establishes new properties of willingness to pay under dual theory and links risk reduction with insurance supply, emphasizing the role of surplus in these decisions.

Findings

Risk-averse decision makers pay less than neutral ones for partial risk reduction.

Strongly risk-averse individuals prefer high probability risk reductions.

Reducing risk probability and supplying insurance can be complementary when surplus increases with risk reduction.

Abstract

In this paper, we aims to state some proprieties of willingness to pay (WTP) for partial risk reduction and links with insurance within the dual theory of decision. In the case of partial reduction, we get as Langlais (2005) that a risk-averse decision maker (DM) can have a willingness to pay small than this of a neutral one. By decomposition the WTP as Courbage and al (2008), we get that a strong averse DM is willing to give more for a reduction of a high probability portion rather than a low probability one. The main result is that in the dual theory, reducing probability of risk and supply insurance can be complementary if the surplus is increasing in risk reduction.