Category: Essentials of Economics: 8e Ch 04

Most people are risk-averse: we like certainty and are generally prepared to pay a premium for it. The reason is that certainty gives us positive marginal utility and so as long as the price of insurance (which gives us certainty) is less than the price we place on certainty, we will be willing to pay a positive premium. By having insurance, we know that should the unexpected happen, someone else will cover the risk. As long as there are some risk-averse people, there will always be a demand for insurance.

However, will private companies will be willing to supply it? For private market insurance to be efficient, 5 conditions must hold:

1. Probabilities must be independent
2. Probabilities must be less than one
3. Probabilities must be known or estimable
4. There must be no adverse selection
5. There must be no moral hazard

If these conditions hold or if there are simple solutions, then insurance companies will be willing and able to provide insurance at a price consumers are willing to pay.

There are many markets where we take out insurance – some of them where insurance is compulsory, including home and car insurance. However, one type of insurance that is not compulsory is that for cyclists. No insurance is needed to cycle on the road, but with cycle use increasing and with that the number of accidents involving cyclists also increasing, the calls for cyclists to have some type of insurance is growing. If they are hit by someone without insurance and perhaps suffer from a loss of income; or if they cause vehicle damage, they will receive no compensation. However, whilst the risk of accident is increasing for cyclists, they are still statistically less likely to cause an accident than motorists. Perhaps a mere £30 or £40 per year for a policy is a price worth paying to give cyclists certainty. At least, this is what the Association of British Insurers (ABI) is claiming – hardly surprising when their members made a combined loss of £1.2 billion!


Cyclists ‘urged to get insurance’ BBC News, Maleen Saeed (26/11/11)
Cyclists urged to get more insurance by … insurance companies Road.CC, Tony Farrelly (26/11/11)
The future of cycle insurance Environmental Transport Assocaition (24/11/11)


  1. With each of the above conditions required for private insurance to be possible, explain why each must hold.
  2. What do we mean by no moral hazard and no adverse selection? Why would their existence prevent a private company from providing insurance?
  3. Using the concept of marginal utility theory, explain why there is a positive demand insurance.
  4. What might explain why cyclists are less likely to take out insurance given your answer to the above question?
  5. Do you think cyclist insurance should be compulsory? If governments are trying to encourage more sustainable transport policy, do you think this is a viable policy?

In 2009, Nudge: Improving Decisions about Health, Wealth, and Happiness was published. This book by Richard Thaler and Cass R. Sunstein examines how people are influenced to make decisions or change behaviour.

According to Thaler and Sunstein, people can be ‘nudged’ to change their behaviour. For example, healthy food can be placed in a prominent position in a supermarket or healthy snacks at the checkout. Often it is the junk foods that are displayed prominently and unhealthy, but tasty, snacks are found by the checkout. If fashion houses ceased to use ultra thin models, it could reduce the incentive for many girls to under-eat. If kids at school are given stars or smiley faces for turning off lights or picking up litter, they might be more inclined to do so.

The UK government has been investigating the use of ‘nudges’ as a way of changing behaviour, and the House of Lords Science and Technology Committee has been considering the question. It has just published its report, Behaviour Change. The summary of the report states that:

The currently influential book Nudge by Richard Thaler and Cass Sunstein advocates a range of non-regulatory interventions that seek to influence behaviour by altering the context or environment in which people choose, and seek to influence behaviour in ways which people often do not notice. This approach differs from more traditional government attempts to change behaviour, which have either used regulatory interventions or relied on overt persuasion.

The current Government have taken a considerable interest in the use of “nudge interventions”. Consequently, one aim of this inquiry was to assess the evidence-base for the effectiveness of “nudges”. However, we also examined evidence for the effectiveness of other types of policy intervention, regulatory and non-regulatory, and asked whether the Government make good use of the full range of available evidence when seeking to change behaviour.

The report finds that nudges

… used in isolation will often not be effective in changing the behaviour of the population. Instead, a whole range of measures – including some regulatory measures – will be needed to change behaviour in a way that will make a real difference to society’s biggest problems.

So is there, nevertheless, a role for nudges in changing behaviour – albeit alongside other measures? Read the report and the articles below to find out!


Lords report calls for regulation over persuasion to improve public health Wales Online, David Williamson (19/7/11)
Government’s ‘nudge’ approach to health is not enough, according to House of Lords and Work Foundation HR Magazine, David Woods (20/7/11)
How can I tell if I’ve been nudged Independent, Natalie Haynes (20/7/11)
Healthier behaviour plans are nudge in the wrong direction, say peers Guardian, Sarah Boseley (19/7/11)
‘Nudge’ is not enough, it’s true. But we already knew that Guardian, Jonathan Rowson (19/7/11)
Nudge not enough to change lifestyles – peers BBC News, Nick Triggle (19/7/11)
Why a nudge is not enough to change behaviour BBC News, Baroness Julia Neuberger (19/7/11)
House of Lords findings: why green Nudges are not enough The Green Living Blog, Baroness Julia Neuberger (19/7/11)
Lords Science and Technology Sub-Committee publish report on Behaviour Change YouTube, Baroness Julia Neuberger (14/7/11)


Press Release Lords Science and Technology Select Committee (19/7/11)
Behaviour Change Lords Science and Technology Select Committee (online version) (19/7/11)
Behaviour Change Lords Science and Technology Select Committee (PDF version) (19/7/11)


  1. When may a nudge (a) be enough, (b) not be enough to change behaviour?
  2. What instruments does the government have to change behaviour?
  3. Distinguish between a ‘technical’ and an ‘adaptive’ solution to changing behaviour. Give examples.
  4. Why might adaptive solutions provide more of a challenge to policymakers than technical solutions.
  5. Can a nudge ever be transformative?