INFORMAL INSURANCE IN POOR COUNTRIES: Evidence from Malawi of the downside of having a big extended family

Larger informal insurance groups need not provide better insurance in low-income settings. That is the conclusion of a study by Emla Fitzsimons, Bansi Malde and Marcos Vera-Hernandez, published in the July 2018 issue of the Economic Journal. Their research indicates that in the event of a crop loss in rural Malawi, women with a large number of brothers fare considerably worse than those with fewer brothers.

In low-income settings, households have few savings and often very limited access to credit and insurance products. This, combined with limited government-provided safety nets, means that households rely on gifts, transfers and loans from social contacts to cope with the consequences of widespread risk.

Informal insurance arrangements rely on an implicit quid pro quo: I help you today on the understanding that you will help me tomorrow when I need help. Such arrangements evolve among groups with high levels of trust, or with credible enforcement mechanisms. Extended family and kinship groups are key.

Features of informal insurance groups determine how well they can protect a household’s welfare following an adverse event. The new research studies the effects of group size.

From an economic perspective, the size of the group plays an important role in providing insurance. Large groups can, on the one hand, better diversify risk: it is less likely that all members of the group will experience a loss at the same time, allowing them to provide more insurance.

On the other hand, large groups are more vulnerable to members walking away from the arrangement, because they have the option of forming an alternative sub-group. For example, members receiving a positive windfall may decide not to help those who experience an adverse event, in order to consume their windfall, and instead form a smaller group among themselves to help insure each other in the future.

Consequently, those experiencing a loss can ask for less help; and in some cases, insurance arrangements break down. Thus, the relationship between the size of a group and how well it protects households following adverse events is unclear.

The study uses rich data from the Mchinji district in rural Malawi to shed light on whether and how group size matters. Malawi is one of the poorest countries in sub-Saharan Africa, with around 75% of its population living on less than $1.25 a day. Mchinji is a primarily rural district with a population of around 455,000, and where maize, groundnuts and tobacco constitute the most important crops.

Households in Mchinji rely primarily on rain-fed agriculture for their livelihoods. Crop losses are widespread: 24% of households in the data used in this study experienced a crop loss over a two-year period, with the average loss equating to around five weeks of consumption. Formal credit and insurance markets are practically non-existent.

The extended family plays a crucial role in helping households cope with the consequences of risk. Historical and well-documented norms among the Chewa, the main ethnic group in Mchinji, dictate that once a woman marries, her brothers take on an important role in ensuring her household’s wellbeing.

In particular, her eldest brother becomes responsible for ensuring access for her family to production resources, healthcare and other resources that are important for household welfare, including financial support.

The researchers’ analysis indicates that women who have a large number of brothers fare considerably worse than those who have fewer brothers: their total household consumption drops considerably following a crop loss, unlike when she has few brothers.

This finding, that large groups provide considerably worse insurance than small ones, suggests that there is a potential role for governments and other agencies to implement policies to counteract these effects.

Group Size and the Efficiency of Informal Risk Sharing’ by Emla Fitzsimons, Bansi Malde and Marcos Vera-Hernandez is published in the July 2018 issue of the Economic Journal.