An experimental investigation of risk sharing and adverse selection

Does adverse selection hamper the effectiveness of voluntary risk sharing? How do differences in risk profiles affect adverse selection? We experimentally investigate individuals’ willing-ness to share risks with others. Across treatments we vary how risk profiles differ between individuals. We find strong evidence for adverse selection if individuals risk profiles can beranked according to first-order stochastic dominance and only little evidence for adverse selection if risk profiles can only be ranked according to mean-preserving spreads. We observe the same pattern also for anticipated adverse selection. These results suggest thatthe degree to which adverse selection erodes voluntary risk sharing arrangements crucially depends on the form of risk heterogeneity.