Behavioural Economics | KPMG | ZA

Behavioural Economics

Behavioural Economics

Dan Ariely, a world renowned behavioural economist, has described the current insurance model as pretty close to the model you would build if you wanted to get people to behave badly. In part, this is due to the incorrectly designed incentives that are inherently present in the insurer-customer relationship.

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behavioural

Perception is King to reality's court jester

Dan Ariely, a world renowned behavioural economist, has described the current insurance model as pretty close to the model you would build if you wanted to get people to behave badly. In part, this is due to the incorrectly designed incentives that are inherently present in the insurer-customer relationship. Incentives have long been used in a variety of ways as a means for people or organisations to encourage the way in which they want people to behave.

The poor design and structuring of incentives is evidenced in the fact that insurance fraud contributes to an estimated 38 percent of claims. In a study done in Australia, 38 percent of consumers stated that there are no losers if people defrauded insurance companies.

One quarter of participants knew someone who had committed insurance fraud and 20 percent even endorsed insurance fraud. It has clearly become socially acceptable. But why is this?

A simple example

10 participants are asked to make a R10 maximum donation in private to a pot. The administrator will then double the total and the resulting total will be divided between participants. For the first few rounds all members pay the full R10. The pot totals R100 and is doubled to R200 by the administrator. Everyone gets R20 back and makes a profit of R10.

This works for a couple of rounds until 1 participant starts to “game the system”. He puts in no money. All nine other participants put in R10. The total of R90 is doubled to R180 and everyone gets R18 out with nine people making a R8 profit and the “gamer” making R18 profit.

Slowly, more participants figure this out and stop putting money in until only one person puts in R10, the pot is doubled to R20 with everyone getting R2 in return with nine people making a R2 profit and the only contributor making an R8 loss. A lack of transparency in the structure of the game has ruined what was supposed to be a very profitable scheme for all members.

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