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How does one alter consumer demand for suboptimal financial products?

Abdul is a high school teacher in a school in Delhi. He has a stable income source, a job that is unlikely to disappear and most likely the first stable income earner in his family. Abdul’s household is a representative Indian household: financial dependents that are old (parents) and young (children), inadequate insurance cover, and insufficient savings for when he is old. When faced with an endowment insurance product — a combination of insurance cover, with guaranteed returns at the end of the cover period — Abdul’s immediate reaction was that it gave him both, and seemed to be a good deal. It is no surprise that Abdul was willing to purchase the endowment insurance product because he believed that there are no other products or a set of products that would allow him to do both.

Consumer demand for financial products is an important market force that determines whether or not the product should exist in the market. Abdul’s demand for endowment insurance was not irrational nor badly thought through. He simply did not possess the information that would allow him to assess his needs, unpack the product, understand its features and map it to his needs, and learn about alternative products, or a set of products that would result in a better outcome while being both insured and have a tidy savings at the end of a period.

However, our analysis indicates that a typical endowment product in the Indian market does not provide for as much insurance cover as term insurance and does not provide as much return on investment as traditional savings products such as the public provident fund (PPF). If one were to purchase the two products separately, the same amount of premium as for an endowment product would give households that opt for PPF a much larger insurance cover and a higher rate of return on their saving. This piece of information is hardly known to households, and Abdul is no different.

One may ask whether products such as endowment will simply disappear when there is more competition on the supply side as a competing firm may have an incentive to inform consumers about the term insurance product and an unbundled savings product, resulting eventually in such suboptimal products being driven out of the market. Academic work by Xavier Gabaix and David Laibson suggests that firms may not be able to profitably educate consumers about their competitors’ product. While most effort in public policy has been about supply side interventions and improved disclosure regimes that depend on firms to disclose information about the product, little evidence exists that this is sufficient to jump start market forces and drive bad products away from the market.

Abdul’s choice was simply a result of lack of information about two dimensions of decision-making. First, he did not know all the features of the product despite lengthy disclosure requirements. Second, he did not know that there are alternatives that can achieve better outcomes for the same amount of money. In our Bharat Inclusion study, we are therefore designing and studying two types of information interventions to see whether Abdul’s choice can be improved by improving the information set with which Abdul takes his decision.

Our benchmark set of consumers, against whom we study the effect of our information intervention, will have all relevant disclosures about the product before they make a purchase decision, as required by regulation. This is one step better than standard practice in the field whereby households get disclosinure documents well after their decision has been made and just before they purchase the product as distributors rationally prefer to minimize frictions that reduce the likelihood of a sale.

The first type of information intervention is designed to make households ask questions that unpack the features of the endowment product completely, in a manner closely aligned with how rational consumers think through such products. Such a “checklist’’ will enable households to think through returns, inflation, surrender value, and insurance cover. In addition to providing this checklist, we also provide consumers with a benchmark for two components of the endowment product: a term insurance and a standard savings instrument. The insurance component will provide information on what the price of the lowest amount of cover in a term insurance is. The savings component will provide information on what the rate of return on a comparable product such as the public provident fund.

The second type of information intervention provides all the information as in the first, except that it also provides significant advice in the form of constructing an optimal combination of term insurance and a savings product to obtain greater cover, and returns, for the same price.

From our pilot experience, we recognise that making unaware consumers sufficiently aware to take better decisions is not easy. There are two steps to improve consumer decision-making, and these form our measures of success in our study. We begin by assessing whether the intervention helps towards unshrouding product features by way of testing consumers on their knowledge of the endowment product. As stated earlier, our hypothesis is that Abdul did not make a better decision because he did not possess all the necessary information to make one. In order to establish that any decision taken after our intervention reflects new knowledge, we establish our first measure of interest to be about information. We then intend to ask whether such unshrouding results in a different action from consumers when faced with a purchase decision. This measure is important as it directly measures the consumer decision with increased information.

If Abdul’s measure of informativeness improves with either of our interventions, relative to the benchmark consumer (or the control group), and his actions during a purchase decision is negative towards the endowment product, we believe that our work will go a long way in helping design solutions to enable consumer demand to drive away bad financial products from the market.

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