WP 2018-05 Nothing Left to Lose: Risk Attitudes Among Vulnerable Households

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AUTHORS: Arianna Galliera and E. Elisabet Rutström

ABSTRACT: Poverty induces vulnerability in many dimensions, including health, literacy, and finances. Poverty is associated with volatility in both income and expenses. The ability of a person in poverty to manage such multi-dimensional risk depends to a large extent on risk attitudes. In order to design effective tools and solutions that can assist in managing vulnerability it is important to understand the relationship between vulnerability and risk attitudes. This study investigates how risk preferences are related to household characteristics that are indicative of vulnerability due to poverty. We combine survey responses about family characteristics and finances with observed choices in experimental settings with risky choice tasks from a population of working poor individuals. We define measures of vulnerability based on household size and composition, in addition to employment, earnings and education. We find robust significant effects of these measures on the risky choices. Importantly, we find that some vulnerability measures are associated with stronger risk aversion but others are associated with weaker risk aversion. This qualitative heterogeneity in risk attitudes has implications for public policy as well as for the design of insurance and credit instruments for this population. The individual’s choice to either self-insure through savings, or to rely on credit, or to purchase formal insurance products, or to depend on publicly provided safety-nets will vary with what type of vulnerabilities that characterizes their household.