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MARKET EVIDENCE OF MISPERCEIVED PRICES AND MISTAKEN MORTALITY RISKS Free essay! Download now

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MARKET EVIDENCE OF MISPERCEIVED PRICES AND MISTAKEN MORTALITY RISKS

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Downloads to date: N/A | Words: 10757 | Submitted: 27-May-2012
Spelling accuracy: 97.9% | Number of pages: 34 | Filetype: Word .doc


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MARKET EVIDENCE OF MISPERCEIVED PRICES AND MISTAKEN MORTALITY RISKS  essay previewMARKET EVIDENCE OF MISPERCEIVED PRICES AND MISTAKEN MORTALITY RISKS  essay previewMARKET EVIDENCE OF MISPERCEIVED PRICES AND MISTAKEN MORTALITY RISKS  essay preview

Description

We construct and implement a test of rational consumer behavior in a highstakes financial market. In particular, we test whether consumers make systematic mistakes in perceiving their mortality risks. We implement this test using data from secondary life insurance markets where consumers with a life threatening illness sell their life insurance policies to firms in return for an up-front payment. We compare predictions from two models: one with consumers who correctly perceive their mortality risk, and one with consumers who are misguided about their life expectancy, and find that our data are most consistent with the predictions made by the second model.

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MARKET EVIDENCE OF MISPERCEIVED PRICES AND MISTAKEN MORTALITY
RISKS


ABSTRACT
We construct and implement a test of rational consumer behavior in a highstakes financial market.
In particular, we test whether consumers make systematic mistakes in perceiving their mortality risks.
We implement this test using data from secondary life insurance markets where consumers with a
lifethreatening illness sell their life insurance policies to firms in return for an up-front payment. We
compare predictions from two models: one with consumers who correctly perceive their mortality
risk, and one with consumers who are misguided about their life expectancy, and find that our data
are most consistent with the predictions made by the second model.

1 Introduction
Making insurance and savings decisions is difficult. Traditional economic
models of insurance decisions assume, at a minimum, that consumers can
solve two problems: (1) accurately assess the risks they face; and (2) interpret
the information conveyed by market prices. But are these assumptions
reasonable, especially in markets where consumers face unfamiliar risks?
In this paper, we develop a market-based test of whether consumers make
systematic mistakes in assessing their own mortality risks, and whether they
are able to make ”correct” price comparisons between insurance and credit
markets.1 Our test relies on new data from secondary life insurance markets,
wherein consumers bequeath their life insurance policies to firms in return
for an up-front payment. These markets are good candidates for such a test
because they require consumers to assess risks regarding their own mortality
accurately, as well as decode complicated price signals in an unfamiliar
environment.
To set up this test, we develop an economic model of the consumer decision
to sell life insurance in ...

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