The demand for life insurance in OECD countries

Journal of Risk and Insurance, Sept, 2007 by Donghui Li, Fariborz Moshirian, Pascal Nguyen, Timothy Wee

Life Expectancy

Following the theoretical development of Lewis (1989), in which the goal is to maximize the dependents' expected lifetime utility, life insurance consumption is hypothesized to increase with the wage earner's probability of death. Considering that life expectancy is inversely related to the probability of death, we expect to find a negative relationship between life expectancy and insurance consumption. Browne and Kim (1993), Outreville (1996), and Beck and Webb (2003) test this relationship. In all these studies, the effect of life expectancy is found to lack statistical significance. One explanation may be that a longer life expectancy also decreases the price of life insurance and therefore tends to stimulate its consumption.

Number of Dependents

Campbell (1980) and Burnett and Palmer (1984) argue that the protection of dependents against financial hardships is the major force driving life insurance consumption. As shown in Lewis (1989), the demand for life insurance increases with the expected value of the dependents' lifetime consumption. This expected value obviously increases with the number of dependents. Hence, the greater need to safeguard them against the premature death of the wage earner. To capture this relationship on aggregate data, most studies use the dependency ratio defined as the ratio of dependents--under 15 and over 64--to the working-age population aged between 15 and 64. Beenstock, Dickinson, and Khajuria (1986) and Browne and Kim (1993) find a significant positive relationship. Beck and Webb (2003) suggest that aged dependency (above 64) is actually more important than young dependency (below 15).

Level of Education

The level of education positively affects the demand for life insurance in two respects. Truett and Truett (1990) argue that a higher level of education is associated with a stronger desire to protect dependents and safeguard their standard of living. Browne and Kim (1993) explain that a higher level of education results in a greater awareness of life's uncertainties and hence highlights the benefit of life insurance coverage. Outreville (1996) also supports the view expressed by Browne and Kim (1993). In addition, the level of education is associated with the duration of the offspring's dependency, resulting in an increased need for protecting beneficiaries through life insurance. We measure a country's level of education by its tertiary gross enrollment ratio (GER), defined by the UNESCO Institute of Statistics as the total enrolment in tertiary education, regardless of age, expressed as a proportion of the eligible school-age population. Beck and Webb (2003) use the average years of schooling in the population over 25 years of age as an alternative method more appropriate for measuring educational level in developing countries.

Social Security Expenditure

Social security is expected to decrease the demand for life insurance. Browne and Kim (1993) explain that social security expenditure is a proxy for national wealth, which can be viewed as a substitute for life insurance coverage (or self-coverage). Skipper and Klein (2000) indicate that generous social welfare programs reduce the cost of dependence. Following his theoretical development, Lewis (1989) argues that social security expenditure is a form of mandatory life insurance that can displace the need for private insurance. Furthermore, given that social security benefits come from taxes, which reduce available income to purchase life insurance, high social security expenditure is hypothesized to reduce the consumption of life insurance. Beenstock, Dickinson, and Khajuria (1986) find strong evidence of a negative relationship between social security and life insurance demand among developed countries. The results of Browne and Kim (1993) suggest, however, that the relationship may not be robust to the inclusion of developing countries. As in previous studies, social security expenditure is measured by aggregate public social expenditure (since detailed expenditure by type of beneficiaries is unavailable for most countries).