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Consumption Externality and Equilibrium Underinsurance
Author(s) -
Huang Rachel J.,
Tzeng Larry Y.
Publication year - 2008
Publication title -
journal of risk and insurance
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 1.055
H-Index - 63
eISSN - 1539-6975
pISSN - 0022-4367
DOI - 10.1111/j.1539-6975.2008.00296.x
Subject(s) - keeping up with the joneses , externality , economics , consumption (sociology) , microeconomics , social welfare , welfare , general equilibrium theory , asset (computer security) , government (linguistics) , growth model , market economy , social science , computer security , sociology , political science , computer science , law , linguistics , philosophy
Relative consumption has been found to be crucial in many areas, such as asset pricing, the design of taxation, and economic growth. This article extends this line of research to the individual's insurance decision. We first define “keeping up with the Joneses” in the purchase of insurance and find that jealousy does not necessarily give rise to “keeping up with the Joneses.” We also identify several sufficient conditions that cause the optimal coverage in the private market to be less than the social optimum (equilibrium underinsurance). Jealousy is found to be neither a sufficient nor a necessary condition for equilibrium underinsurance. We further show that a social welfare maximizing government could adopt a tax system to correct for the consumption externality and make individuals better off.