Role of insurance in reducing losses from disasters

Abstract

This chapter synthesizes the main findings of studies on individuals’ decision-making processes for purchasing insurance against disasters in the face of climate change. It highlights the role that insurance can play in incentivizing those at risk to invest in loss prevention measures by reducing premiums due to lower expected claim payments from future disasters. Moreover, by providing funds to rebuild damaged properties, insurance plays a key role in aiding the recovery process should one suffer damage from a disaster. On the basis of a review of the literature on behavioral economics, we focus on the impact that cognitive biases and heuristics may have on individuals’ decisions as to whether to prepare for disasters. We then show how a behavioral risk audit can improve decisions with respect to purchasing insurance and investing in cost-effective protective measures. The chapter concludes by proposing a risk management strategy for using insurance and choice architecture to communicate and frame the risk in a way that people will pay attention to it. We then discuss how this strategy could be coupled with short-term economic incentives and well-enforced regulations and standards to promote the implementation of measures that mitigate damage from future disasters.