Risk Aversion and the Willingness to Pay for Insurance: A Cautionary Discussion of Adverse Selection

Textbooks frequently describe adverse selection as an almost inevitable feature of insurance markets with heterogeneous buyers and asymmetric information. But if low-risk applicants are more risk averse than their high-risk counterparts, the former may be as willing or more willing than the latter to purchase insurance at any given price. The present article discusses this possibility in several forms suitable for different levels of instruction, to help bridge the gap between insurance education and current research on this topic.