Risk aversion, wealth, and the DARA hypothesis: A new test

Joseph Eisenhauer

International Advances in Economic Research, 1997, vol. 3, issue 1, 46-53

Abstract: The Pratt-Arrow hypothesis of decreasing absolute risk aversion (DARA) is widely invoked in economic models of uncertainty but empirical tests, especially those using nonexperimental data, have yielded mixed results. This paper reexamines the DARA hypothesis using an expected utility model of life insurance demand and a 23-year sample of aggregate time series data from the U.S. After controlling for household size, age, income, loss probabilities, premium expenses, and inflation, the effect of wealth on insurance demand is found to be positive and statistically significant in linear and loglinear regressions, explaining more than 93 percent of the variation in coverage. Thus, in contrast to the prevailing theory, this empirical test presents evidence of increasing absolute risk aversion. Copyright International Atlantic Economic Society 1997

Date: 1997
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DOI: 10.1007/BF02295000

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