Yi, F., Zhou, M., & Zhang, Y. Y. (2020). Value of incorporating ENSO forecast in crop insurance programs. American Journal of Agricultural Economics, 102(2), 439-457

"Equilibrium in Competitive Insurance Markets under Endogenous Adverse Selection" (Job Market Paper)

In the standard adverse-selection model of Rothschild-Stiglitz (RS), the riskiness of agents is exogenously determined and independent of the contract provided. Yet, agents may change their riskiness by engaging in preventive effort. Thus, this study extends Rothschild and Stiglitz (1976)’s analysis of market equilibrium under imperfect information by endogenizing agents' riskiness. In the basic two-agent model, the existence of equilibrium not only depends on the distribution of the risk preference (same in RS) but also on the magnitude of risk aversion, which is new compared to exogenous riskiness. Especially when potential mitigators’ incentive compatibility constraint is binding, the separating equilibrium always exists. We further extend the model to the case of continuous risk preference. The results demonstrate that the distribution of risk preference plays an important role in the features of the equilibrium. When the cost of separating is high, it is possible to have a contract that attracts both mitigators and non-mitigators in the equilibrium set.