1 00:00:00,040 --> 00:00:02,460 The following content is provided under a Creative 2 00:00:02,460 --> 00:00:03,970 Commons license. 3 00:00:03,970 --> 00:00:06,910 Your support will help MIT OpenCourseWare continue to 4 00:00:06,910 --> 00:00:10,660 offer high quality educational resources for free. 5 00:00:10,660 --> 00:00:13,460 To make a donation or view additional materials from 6 00:00:13,460 --> 00:00:17,390 hundreds of MIT courses, visit MIT OpenCourseWare at 7 00:00:17,390 --> 00:00:18,640 ocw.mit.edu. 8 00:00:25,790 --> 00:00:27,290 PROFESSOR: So what I want to do is continue 9 00:00:27,290 --> 00:00:29,370 talking about risk. 10 00:00:29,370 --> 00:00:35,170 We've already talked about risk quite a bit last time. 11 00:00:35,170 --> 00:00:42,910 And what I want to do partly is sort of emphasize some 12 00:00:42,910 --> 00:00:51,380 specific points and, I think, partly go over some of the 13 00:00:51,380 --> 00:00:54,310 ideas that have to do with a community 14 00:00:54,310 --> 00:00:56,210 sharing its own risk. 15 00:00:56,210 --> 00:01:03,650 So rather than risk through formal insurance markets, talk 16 00:01:03,650 --> 00:01:07,080 about what happens if people try to insure each other. 17 00:01:07,080 --> 00:01:11,610 And what that does is it creates a nice context for 18 00:01:11,610 --> 00:01:17,450 thinking about institutions in general and the fact that 19 00:01:17,450 --> 00:01:23,930 people live together, how that might actually change their-- 20 00:01:23,930 --> 00:01:25,920 I think it's the display settings. 21 00:01:25,920 --> 00:01:26,900 I think we need to move to-- 22 00:01:26,900 --> 00:01:27,740 SPEAKER 1: [INAUDIBLE]. 23 00:01:27,740 --> 00:01:28,990 PROFESSOR: OK. 24 00:01:32,260 --> 00:01:37,110 So how the fact that people live together in one place and 25 00:01:37,110 --> 00:01:40,510 have to deal with each other on a long run basis, how that 26 00:01:40,510 --> 00:01:44,410 affects the ways in which they can structure their economic 27 00:01:44,410 --> 00:01:46,280 lives to help each other. 28 00:01:46,280 --> 00:01:49,770 So it gets into a question which is beyond, I think, 29 00:01:49,770 --> 00:01:54,000 moving us beyond what we'd usually be talking about, 30 00:01:54,000 --> 00:01:57,380 which is individual decision making, towards a more 31 00:01:57,380 --> 00:02:00,370 collective action kind of perspective. 32 00:02:00,370 --> 00:02:05,640 So we want to slowly move towards not just what happens 33 00:02:05,640 --> 00:02:10,050 at the level of the individual, by why doesn't the 34 00:02:10,050 --> 00:02:14,390 collectivity together generate good outcomes? 35 00:02:14,390 --> 00:02:18,150 And this is a good in to that question. 36 00:02:18,150 --> 00:02:20,500 So we're going to talk. 37 00:02:20,500 --> 00:02:24,060 So I'll give you a set of examples of collective action, 38 00:02:24,060 --> 00:02:28,100 and we'll start talking a bit about the collective efforts 39 00:02:28,100 --> 00:02:29,580 to improve things. 40 00:02:29,580 --> 00:02:34,340 I'm not sure what's happening. 41 00:02:34,340 --> 00:02:37,920 But we'll figure this out. 42 00:02:37,920 --> 00:02:47,100 So the first, just to remind you, we were talking about 43 00:02:47,100 --> 00:02:53,680 risk and, in particular, the fact that poor people face 44 00:02:53,680 --> 00:02:56,170 extremely high levels of risk. 45 00:03:00,260 --> 00:03:04,320 I said that yesterday, and today I'll show you some 46 00:03:04,320 --> 00:03:08,640 numbers on that just to get us on to that. 47 00:03:08,640 --> 00:03:12,950 Just to summarize where we were last time, what we talked 48 00:03:12,950 --> 00:03:17,540 about primarily were sort of both that the poor face a lot 49 00:03:17,540 --> 00:03:20,560 of risk and that they do a lot of things to mitigate risk, 50 00:03:20,560 --> 00:03:23,020 but those things are not necessarily good for them. 51 00:03:23,020 --> 00:03:26,690 So the examples we talked about or, for example, going 52 00:03:26,690 --> 00:03:30,960 to work when your income goes down. 53 00:03:30,960 --> 00:03:33,460 But when you go to work when your income goes down, 54 00:03:33,460 --> 00:03:35,290 typically that's when everybody else's 55 00:03:35,290 --> 00:03:36,400 income also went down. 56 00:03:36,400 --> 00:03:38,000 So they also all go to work. 57 00:03:38,000 --> 00:03:40,460 That drives wages down and makes everybody 58 00:03:40,460 --> 00:03:41,720 potentially worse off. 59 00:03:46,830 --> 00:03:50,060 And the second example-- 60 00:03:50,060 --> 00:03:54,000 what's another example of a costly thing you could do to 61 00:03:54,000 --> 00:03:55,924 mitigate risk? 62 00:03:55,924 --> 00:03:56,830 Yep. 63 00:03:56,830 --> 00:03:59,243 AUDIENCE: Farm separate pieces of land that are far apart 64 00:03:59,243 --> 00:04:00,350 from each other. 65 00:04:00,350 --> 00:04:00,560 PROFESSOR: Right. 66 00:04:00,560 --> 00:04:02,610 Farm separate pieces of land far apart so that they don't 67 00:04:02,610 --> 00:04:05,266 have the same risk profile. 68 00:04:05,266 --> 00:04:07,711 AUDIENCE: You could choose not to take a crop that might be 69 00:04:07,711 --> 00:04:11,623 more successful because you're worried that if you spend 70 00:04:11,623 --> 00:04:14,945 money to buy new seeds and it doesn't turn to be as 71 00:04:14,945 --> 00:04:17,246 successful then you loose more money than if you just used 72 00:04:17,246 --> 00:04:20,425 your seeds from the previous crop. 73 00:04:20,425 --> 00:04:23,359 PROFESSOR: Any other? 74 00:04:23,359 --> 00:04:25,350 AUDIENCE: Choosing a bunch of different jobs instead of 75 00:04:25,350 --> 00:04:27,440 specializing in one. 76 00:04:27,440 --> 00:04:29,180 PROFESSOR: Yep. 77 00:04:29,180 --> 00:04:32,634 Choosing a bunch of different jobs rather than doing one. 78 00:04:32,634 --> 00:04:35,882 Why do you want to specialize? 79 00:04:35,882 --> 00:04:37,274 AUDIENCE: It allows you to become more 80 00:04:37,274 --> 00:04:38,870 productive, more skilled. 81 00:04:38,870 --> 00:04:41,170 PROFESSOR: So you give up-- 82 00:04:41,170 --> 00:04:42,150 sorry? 83 00:04:42,150 --> 00:04:44,600 AUDIENCE: I was just going to say efficiency. 84 00:04:44,600 --> 00:04:45,580 PROFESSOR: Efficiency, exactly. 85 00:04:45,580 --> 00:04:49,010 You just get better at a job if you do it more with more 86 00:04:49,010 --> 00:04:49,500 [INAUDIBLE]. 87 00:04:49,500 --> 00:04:50,480 Yeah. 88 00:04:50,480 --> 00:04:51,730 AUDIENCE: [INAUDIBLE]. 89 00:04:54,890 --> 00:04:55,870 PROFESSOR: Yeah. 90 00:04:55,870 --> 00:04:56,850 AUDIENCE: [INAUDIBLE] 91 00:04:56,850 --> 00:05:01,375 Like, if you were doing 15 classes [INAUDIBLE]. 92 00:05:01,375 --> 00:05:03,283 PROFESSOR: 15 is a high number. 93 00:05:03,283 --> 00:05:06,942 [LAUGHTER] 94 00:05:06,942 --> 00:05:07,340 PROFESSOR: OK. 95 00:05:07,340 --> 00:05:10,040 So I think you can see the logic of this. 96 00:05:10,040 --> 00:05:15,200 So the question is we already talked a bit about kind of the 97 00:05:15,200 --> 00:05:17,950 market for insurance. 98 00:05:17,950 --> 00:05:23,010 What we didn't talk as much about is why don't people help 99 00:05:23,010 --> 00:05:24,120 each other? 100 00:05:24,120 --> 00:05:27,720 One solution to this problem is just helping each other. 101 00:05:37,760 --> 00:05:42,890 So the logic of helping each other is very, very simple. 102 00:05:53,780 --> 00:06:02,070 We each get maybe independent shocks and so it's quite 103 00:06:02,070 --> 00:06:08,340 likely that, you know, when somebody else gets a shock, I 104 00:06:08,340 --> 00:06:11,360 don't and vice versa. 105 00:06:11,360 --> 00:06:14,700 So we can kind of split the shock. 106 00:06:14,700 --> 00:06:17,960 So if anything bad happens, we don't bear all of it. 107 00:06:17,960 --> 00:06:22,190 We can pass on a part of it to somebody else. 108 00:06:22,190 --> 00:06:25,410 That seems straightforward. 109 00:06:25,410 --> 00:06:28,840 So why doesn't that solve most problems? 110 00:06:28,840 --> 00:06:31,030 That's sort of the question that we're going to spend some 111 00:06:31,030 --> 00:06:31,780 time thinking about. 112 00:06:31,780 --> 00:06:34,110 It's a very simple idea, right? 113 00:06:37,280 --> 00:06:40,910 We don't need to go to an insurance company. 114 00:06:40,910 --> 00:06:42,990 We can just pool together our own risk. 115 00:06:49,509 --> 00:06:52,467 AUDIENCE: [INAUDIBLE] 116 00:06:52,467 --> 00:06:54,932 like, the cost of living [INAUDIBLE] cost? 117 00:06:54,932 --> 00:06:57,643 Like, how many people are you going to pool 118 00:06:57,643 --> 00:06:58,876 together for that? 119 00:06:58,876 --> 00:07:00,601 And sometimes people think that they shouldn't have to 120 00:07:00,601 --> 00:07:01,350 pay for someone else's-- 121 00:07:01,350 --> 00:07:05,330 PROFESSOR: How many people should we pool together? 122 00:07:05,330 --> 00:07:08,550 AUDIENCE: As many as possible. 123 00:07:08,550 --> 00:07:10,020 PROFESSOR: Why as many as possible? 124 00:07:10,020 --> 00:07:12,370 AUDIENCE: Because then it's more diversified. 125 00:07:12,370 --> 00:07:12,840 PROFESSOR: Right. 126 00:07:12,840 --> 00:07:16,040 So if we think that-- 127 00:07:16,040 --> 00:07:23,700 so you have the example, the probability, here, let's say 128 00:07:23,700 --> 00:07:27,060 they have independent probabilities. 129 00:07:27,060 --> 00:07:31,270 Two people, they have a probability of a quarter that 130 00:07:31,270 --> 00:07:37,130 they both end up with a bad shock, right? 131 00:07:37,130 --> 00:07:42,930 What's that probability if there were n people? 132 00:07:42,930 --> 00:07:44,180 AUDIENCE: 1/n squared? 133 00:07:47,640 --> 00:07:49,930 PROFESSOR: N squared. 134 00:07:49,930 --> 00:07:51,980 Think about what were the probability. 135 00:07:51,980 --> 00:07:54,070 The probability is half that-- 136 00:07:57,290 --> 00:07:59,230 I think you meant the other. 137 00:07:59,230 --> 00:08:01,570 You just inverted the exponents. 138 00:08:01,570 --> 00:08:04,500 It's 1 over 2 to the power n. 139 00:08:04,500 --> 00:08:07,694 I think you're writing it in-- 140 00:08:07,694 --> 00:08:09,330 it's 1 over 2 to the power n. 141 00:08:09,330 --> 00:08:14,770 So as n goes to infinity, the number of people who get 142 00:08:14,770 --> 00:08:16,820 shocks together is going to 0. 143 00:08:16,820 --> 00:08:19,510 So that's sort of a very simple idea. 144 00:08:19,510 --> 00:08:22,000 So the question is why doesn't it happen? 145 00:08:22,000 --> 00:08:24,850 And that's sort of what we're going to spend our time 146 00:08:24,850 --> 00:08:26,100 talking about. 147 00:08:30,080 --> 00:08:31,940 So it does happen. 148 00:08:31,940 --> 00:08:33,795 The first answer is it does happen. 149 00:08:33,795 --> 00:08:37,372 So here's a nice, nice example. 150 00:08:37,372 --> 00:08:40,730 And it says something about-- 151 00:08:40,730 --> 00:08:44,010 actually, it's an interesting example. 152 00:08:44,010 --> 00:08:56,590 So it turns out that the way to work in Nigeria, I don't 153 00:08:56,590 --> 00:08:59,070 actually give you money. 154 00:08:59,070 --> 00:09:01,990 I don't actually give you money when something bad 155 00:09:01,990 --> 00:09:03,530 happens to you. 156 00:09:03,530 --> 00:09:04,780 What do I do? 157 00:09:10,382 --> 00:09:18,910 I loan you money and in particular if you're expected 158 00:09:18,910 --> 00:09:22,880 to pay me back, I ask for less payback. 159 00:09:22,880 --> 00:09:26,300 If I'm expected to pay you back, I pay you more than what 160 00:09:26,300 --> 00:09:28,680 I was supposed to owe you. 161 00:09:28,680 --> 00:09:33,490 So usually interest contracts tend to be completely 162 00:09:33,490 --> 00:09:34,040 inflexible. 163 00:09:34,040 --> 00:09:48,390 You know, my mortgage is quarter of 5.4%. 164 00:09:48,390 --> 00:09:52,580 I pay 5.4% every year until the market is paid. 165 00:09:52,580 --> 00:09:56,130 That's not what credit looks like in Nigeria. 166 00:09:56,130 --> 00:10:00,320 In these villages you found that the interest rate itself 167 00:10:00,320 --> 00:10:01,850 is very flexible. 168 00:10:01,850 --> 00:10:11,790 So I pay more than what I owed, in some sense, when you 169 00:10:11,790 --> 00:10:15,190 are doing badly and I pay less than what I owed when you're 170 00:10:15,190 --> 00:10:16,770 doing well. 171 00:10:16,770 --> 00:10:20,480 That's a way to provide insurance, but it goes through 172 00:10:20,480 --> 00:10:21,730 this cover of a loan. 173 00:10:24,035 --> 00:10:26,007 AUDIENCE: How do they determine if someone has an 174 00:10:26,007 --> 00:10:26,993 adverse [INAUDIBLE]? 175 00:10:26,993 --> 00:10:28,965 You know, like, through word of mouth? 176 00:10:28,965 --> 00:10:30,444 PROFESSOR: Perfectly good question. 177 00:10:30,444 --> 00:10:30,937 We'll come back. 178 00:10:30,937 --> 00:10:32,540 Let's come back to that. 179 00:10:32,540 --> 00:10:35,630 I want to spend a minute, before we get to that 180 00:10:35,630 --> 00:10:39,710 question, on a more basic question, which is why do you 181 00:10:39,710 --> 00:10:40,960 think they do this? 182 00:10:50,964 --> 00:10:56,990 Why do you think that they go through this loan mechanism? 183 00:10:56,990 --> 00:11:02,380 So then what they seem to be doing is paying you more on 184 00:11:02,380 --> 00:11:07,790 your loan when you do badly and paying you less on your 185 00:11:07,790 --> 00:11:11,830 loan when the payer is doing badly. 186 00:11:11,830 --> 00:11:14,100 Why does that make any sense? 187 00:11:14,100 --> 00:11:19,402 What could be driving that structure? 188 00:11:19,402 --> 00:11:19,884 Yep. 189 00:11:19,884 --> 00:11:23,740 AUDIENCE: Because they know that later on when they'll 190 00:11:23,740 --> 00:11:25,546 probably be doing badly that they'll get a break and that 191 00:11:25,546 --> 00:11:26,160 it'll help them out. 192 00:11:26,160 --> 00:11:28,500 PROFESSOR: But why don't they just give them money? 193 00:11:28,500 --> 00:11:29,350 Why through the loan? 194 00:11:29,350 --> 00:11:34,110 The question here I'm asking is why is it that I give you a 195 00:11:34,110 --> 00:11:37,270 discount on your loan rather than just 196 00:11:37,270 --> 00:11:40,250 handing you some cash? 197 00:11:40,250 --> 00:11:42,040 What is that pointing to? 198 00:11:47,030 --> 00:11:52,280 AUDIENCE: Desire to not to feel like 199 00:11:52,280 --> 00:11:53,840 you're giving a handout. 200 00:11:53,840 --> 00:11:56,282 PROFESSOR: So one possibility is that you it's sort of a 201 00:11:56,282 --> 00:11:57,310 cover, right? 202 00:11:57,310 --> 00:11:59,090 That's an interesting idea. 203 00:11:59,090 --> 00:12:03,300 It's a cover for I'm giving you the money. 204 00:12:03,300 --> 00:12:11,400 But it's not so much that people are not seeing that I'm 205 00:12:11,400 --> 00:12:12,940 handing you some cash. 206 00:12:12,940 --> 00:12:15,830 They're seeing that I'm actually paying you some money 207 00:12:15,830 --> 00:12:16,780 back for a loan. 208 00:12:16,780 --> 00:12:18,770 So in that sense it's a cover. 209 00:12:23,290 --> 00:12:25,580 Maybe everybody else also knows that you are poor. 210 00:12:25,580 --> 00:12:29,730 It's not so clear that it's so hard, you know. 211 00:12:29,730 --> 00:12:30,980 You had a comment? 212 00:12:34,416 --> 00:12:37,155 AUDIENCE: They don't want them to think that, become 213 00:12:37,155 --> 00:12:40,392 dependent on things like that being free or, like, kind of 214 00:12:40,392 --> 00:12:43,380 expect that they're going to get handouts all the time? 215 00:12:43,380 --> 00:12:45,014 PROFESSOR: Well, why would that be any different? 216 00:12:45,014 --> 00:12:49,240 I could always say that I'm doing badly, and you'll pay me 217 00:12:49,240 --> 00:12:50,900 more on the loan I gave you. 218 00:12:50,900 --> 00:12:52,490 Why would that be any different to loan? 219 00:12:59,820 --> 00:13:02,410 AUDIENCE: Maybe because it creates some sort of 220 00:13:02,410 --> 00:13:04,880 dependence relationship between the two people. 221 00:13:04,880 --> 00:13:07,350 So if you have to agree to it beforehand, the other one can 222 00:13:07,350 --> 00:13:09,820 just say, well, [INAUDIBLE]. 223 00:13:09,820 --> 00:13:12,784 PROFESSOR: I will come back to that. 224 00:13:12,784 --> 00:13:13,278 Yeah. 225 00:13:13,278 --> 00:13:15,501 AUDIENCE: I was just going to say that it sort of sets up a 226 00:13:15,501 --> 00:13:18,382 contractual agreement where when I'm not doing well, you 227 00:13:18,382 --> 00:13:19,916 help me out and when you're not doing 228 00:13:19,916 --> 00:13:20,194 well, I help you out. 229 00:13:20,194 --> 00:13:21,444 PROFESSOR: Right. 230 00:13:24,900 --> 00:13:25,605 Yeah. 231 00:13:25,605 --> 00:13:27,459 AUDIENCE: You could also say that if someone just gives you 232 00:13:27,459 --> 00:13:32,040 money that's kind of expected to get some of the money, 233 00:13:32,040 --> 00:13:35,010 something non zero benefits, a loan that you have to repay, 234 00:13:35,010 --> 00:13:38,227 there isn't really a guarantee how much of a discount you're 235 00:13:38,227 --> 00:13:38,970 going to get. 236 00:13:38,970 --> 00:13:42,960 You can't really take that into account as well. 237 00:13:42,960 --> 00:13:46,880 PROFESSOR: So what you're saying is related to what 238 00:13:46,880 --> 00:13:53,970 they're saying, which is that one thing about a loan is 239 00:13:53,970 --> 00:13:58,190 using the loan suggests that this is making use of a 240 00:13:58,190 --> 00:14:01,630 preexisting financial relationship, so an ongoing 241 00:14:01,630 --> 00:14:02,510 relationship. 242 00:14:02,510 --> 00:14:06,190 The difference between my giving you money seems to be 243 00:14:06,190 --> 00:14:11,330 mostly that in a sense these are people who already had a 244 00:14:11,330 --> 00:14:12,820 financial relationship. 245 00:14:12,820 --> 00:14:18,850 So it's the case that a lot of these people, one owes the 246 00:14:18,850 --> 00:14:21,190 other one money already. 247 00:14:21,190 --> 00:14:24,650 And adjusting the terms of that suggests that it's not so 248 00:14:24,650 --> 00:14:29,740 much-- so in other words, it's not clear that what this isn't 249 00:14:29,740 --> 00:14:34,980 telling us is simply that the people who have these 250 00:14:34,980 --> 00:14:38,770 transactions are already people who've had a stock 251 00:14:38,770 --> 00:14:39,860 against each other. 252 00:14:39,860 --> 00:14:41,730 So it's not the case that-- 253 00:14:41,730 --> 00:14:47,370 so it's, you know, you keep count and say it's not clear. 254 00:14:47,370 --> 00:14:53,780 So instead of thinking of the loan as being a separate 255 00:14:53,780 --> 00:14:56,750 financial product, one way to think about it is 256 00:14:56,750 --> 00:14:59,300 that we keep accounts. 257 00:14:59,300 --> 00:15:01,730 And I've done you five favors. 258 00:15:01,730 --> 00:15:03,470 You've done me three favors. 259 00:15:03,470 --> 00:15:05,250 And the net is two favors. 260 00:15:05,250 --> 00:15:09,325 And the loan amount really reflects our netting out of 261 00:15:09,325 --> 00:15:10,180 those favors. 262 00:15:10,180 --> 00:15:14,580 So in other words, what is nice about a loan is it's a 263 00:15:14,580 --> 00:15:17,010 net I owe you or you owe me. 264 00:15:17,010 --> 00:15:20,370 It's a net accounting device for keeping track of who's 265 00:15:20,370 --> 00:15:23,220 done who how many favors. 266 00:15:23,220 --> 00:15:26,850 So by thinking of it in long terms, it creates a natural 267 00:15:26,850 --> 00:15:30,160 framework for thinking about this as kind of a social 268 00:15:30,160 --> 00:15:32,990 accounting device. 269 00:15:32,990 --> 00:15:34,520 How do I keep track of-- 270 00:15:34,520 --> 00:15:38,840 like, maybe people also say, well, I did you seven favors 271 00:15:38,840 --> 00:15:41,810 and you've not done me one. 272 00:15:41,810 --> 00:15:46,310 I have heard people say things like that, so the same 273 00:15:46,310 --> 00:15:47,170 psychology. 274 00:15:47,170 --> 00:15:49,580 It's a good way to keep track. 275 00:15:49,580 --> 00:15:52,290 Thinking of it in terms of a loan makes it clear that what 276 00:15:52,290 --> 00:15:55,250 you're trying to do is keep track of an ongoing 277 00:15:55,250 --> 00:15:55,930 relationship. 278 00:15:55,930 --> 00:15:57,540 It's a stock. 279 00:15:57,540 --> 00:15:59,150 I gave you 100. 280 00:15:59,150 --> 00:16:01,070 You paid me back 50. 281 00:16:01,070 --> 00:16:03,150 Then I give you 30. 282 00:16:03,150 --> 00:16:04,820 Then you give me 200. 283 00:16:04,820 --> 00:16:09,400 And when I add those up, every stage, what I really care 284 00:16:09,400 --> 00:16:12,390 about is not how many times what happened but the net 285 00:16:12,390 --> 00:16:14,100 amount you owe me. 286 00:16:14,100 --> 00:16:16,780 And that's a good way to account for the relationship 287 00:16:16,780 --> 00:16:22,155 so we can keep track of am I someone who owes you or are 288 00:16:22,155 --> 00:16:25,960 you someone who owes me by sort of counting that amount. 289 00:16:25,960 --> 00:16:28,400 And that way we don't need to keep track of all these other 290 00:16:28,400 --> 00:16:32,660 numbers, whether it was 20 ones and 15 another time. 291 00:16:32,660 --> 00:16:35,470 It's just one number which kind of measures our 292 00:16:35,470 --> 00:16:37,120 collective obligation. 293 00:16:37,120 --> 00:16:46,920 And the reason that we would like-- why would we like to 294 00:16:46,920 --> 00:16:48,645 keep track of the collective obligation? 295 00:16:54,710 --> 00:16:58,170 Why does it matter that we keep track of the collective 296 00:16:58,170 --> 00:16:59,420 obligation? 297 00:17:02,829 --> 00:17:05,234 AUDIENCE: I mean, it promises them security, right? 298 00:17:11,160 --> 00:17:12,634 PROFESSOR: Security for who? 299 00:17:17,504 --> 00:17:19,939 AUDIENCE: I would say that in the community because one 300 00:17:19,939 --> 00:17:23,348 person who was taking thousands of dollars from 301 00:17:23,348 --> 00:17:27,244 someone else, I'd know that if that person asks me for money, 302 00:17:27,244 --> 00:17:28,240 I wouldn't loan the person [INAUDIBLE]. 303 00:17:28,240 --> 00:17:33,450 PROFESSOR: So one advantage of that might be that it kind of 304 00:17:33,450 --> 00:17:37,750 summarizes my status in the collective system. 305 00:17:37,750 --> 00:17:45,840 So it may be that everybody knows I owe you 50. 306 00:17:45,840 --> 00:17:50,050 And then nobody will want to lend me much more because it 307 00:17:50,050 --> 00:17:53,280 looks like I'm just somebody who takes money from everybody 308 00:17:53,280 --> 00:17:54,210 and never gives them. 309 00:17:54,210 --> 00:17:58,160 So it's a good way to keep track of whether there's 310 00:17:58,160 --> 00:18:01,630 someone who sort of tried to beat the system. 311 00:18:01,630 --> 00:18:07,502 But there's another even simpler reason why. 312 00:18:07,502 --> 00:18:11,117 AUDIENCE: I guess [INAUDIBLE], which is 313 00:18:11,117 --> 00:18:12,330 basically the same thing. 314 00:18:12,330 --> 00:18:12,810 PROFESSOR: Speak up. 315 00:18:12,810 --> 00:18:16,684 AUDIENCE: Just to be a way to avoid moral hazard, which is 316 00:18:16,684 --> 00:18:18,090 essentially basically the same thing. 317 00:18:18,090 --> 00:18:20,043 PROFESSOR: Why would they avoid moral hazard? 318 00:18:20,043 --> 00:18:23,424 AUDIENCE: Because it's an accountability system. 319 00:18:23,424 --> 00:18:26,910 So, like, everyone in the community is kind of aware of 320 00:18:26,910 --> 00:18:29,882 it's a way of keeping track of it on a smaller scale at a 321 00:18:29,882 --> 00:18:31,295 larger company. 322 00:18:31,295 --> 00:18:33,180 For example, like, in the city couldn't do it. 323 00:18:33,180 --> 00:18:34,230 PROFESSOR: Right. 324 00:18:34,230 --> 00:18:36,530 That's basically the same thing. 325 00:18:36,530 --> 00:18:39,010 But in some ways I think there's an even simpler reason 326 00:18:39,010 --> 00:18:44,380 why you may want to keep track of it, which is simply it may 327 00:18:44,380 --> 00:18:50,180 well be that I just knew vis-a-vis someone else, he may 328 00:18:50,180 --> 00:18:55,580 want to know, how many times has this guy taken from me? 329 00:18:55,580 --> 00:18:58,890 And I may want to just put a limit to that because I know 330 00:18:58,890 --> 00:19:00,710 that at some level I'm going to die 331 00:19:00,710 --> 00:19:03,840 in 20 years or something. 332 00:19:03,840 --> 00:19:08,750 And so I'm going to say, look, you know, if it's reciprocity, 333 00:19:08,750 --> 00:19:13,150 so that the reason I'm giving him is x, that he will pay me 334 00:19:13,150 --> 00:19:18,110 back eventually, then I want to know whether it's 335 00:19:18,110 --> 00:19:22,440 reasonable to expect that I'll get enough back from him. 336 00:19:22,440 --> 00:19:25,510 So if I think that basically the reason why I'm giving him 337 00:19:25,510 --> 00:19:29,270 the money is because he will eventually give me back the 338 00:19:29,270 --> 00:19:30,360 money when I need it. 339 00:19:30,360 --> 00:19:34,980 Well, if my future is 20 years and I've given him $5 million 340 00:19:34,980 --> 00:19:38,150 dollars, I'm unlikely to get that much back. 341 00:19:38,150 --> 00:19:42,050 So I want to know roughly where I am in that transaction 342 00:19:42,050 --> 00:19:46,440 because that's the only way that I can kind of make a 343 00:19:46,440 --> 00:19:49,165 rational decision about whether it's worth continuing. 344 00:19:52,990 --> 00:19:56,730 If my reason for being in the relationship is that I also 345 00:19:56,730 --> 00:19:59,640 think that I'm going to get some favors from him then 346 00:19:59,640 --> 00:20:05,570 knowing how much he already owes me is a way to keep track 347 00:20:05,570 --> 00:20:09,980 of how much can I reasonably expect to get back from him. 348 00:20:09,980 --> 00:20:13,680 If that number's already way past anything then I don't 349 00:20:13,680 --> 00:20:18,060 need to give him extra favor to get more back. 350 00:20:18,060 --> 00:20:22,350 At some level I'm just not going to be able to collect. 351 00:20:22,350 --> 00:20:28,410 So if there's some kind of a rational-- 352 00:20:28,410 --> 00:20:32,110 so I might want to limit my exposure to him because in 353 00:20:32,110 --> 00:20:34,720 some sense I know that it is never going to pay off to 354 00:20:34,720 --> 00:20:37,330 invest so much in a particular person. 355 00:20:37,330 --> 00:20:39,820 So it might be a useful accounting device. 356 00:20:39,820 --> 00:20:44,770 So I think that Chris Udry, who did this study, his 357 00:20:44,770 --> 00:20:46,400 interpretation very much was this. 358 00:20:46,400 --> 00:20:52,290 They're keeping track of how much they owe each other, that 359 00:20:52,290 --> 00:20:57,780 everybody knows roughly I owe this guy this much, which is 360 00:20:57,780 --> 00:20:59,220 within reasonable limits. 361 00:20:59,220 --> 00:21:00,610 It's not too much. 362 00:21:00,610 --> 00:21:05,890 And, therefore, I can expect to get it back eventually. 363 00:21:05,890 --> 00:21:13,990 So this is a table from Chris's paper. 364 00:21:13,990 --> 00:21:18,440 And it's just a very simple point, but it's worth looking 365 00:21:18,440 --> 00:21:19,410 at the paper. 366 00:21:19,410 --> 00:21:20,730 It's sort of striking. 367 00:21:20,730 --> 00:21:22,600 So it's the monthly interest rate. 368 00:21:22,600 --> 00:21:24,160 These are huge numbers. 369 00:21:24,160 --> 00:21:26,360 That's why it's worth looking at. 370 00:21:26,360 --> 00:21:31,450 The monthly interest rate, when the borrower gets no 371 00:21:31,450 --> 00:21:39,990 shock, he pays four percentage points less per month. 372 00:21:39,990 --> 00:21:42,780 That's a lot, right? 373 00:21:42,780 --> 00:21:43,870 Four percentage points. 374 00:21:43,870 --> 00:21:48,500 What's four percentage per month compounded? 375 00:21:54,060 --> 00:21:56,873 What's the compounded? 376 00:21:56,873 --> 00:21:59,760 AUDIENCE: [INAUDIBLE]. 377 00:21:59,760 --> 00:22:01,550 PROFESSOR: Close to 50%. 378 00:22:01,550 --> 00:22:04,540 So that's like 50% off. 379 00:22:04,540 --> 00:22:08,570 So you're getting, like, 4% per month less. 380 00:22:08,570 --> 00:22:10,260 Now take a look at the number. 381 00:22:10,260 --> 00:22:17,590 When the lender, he has a bad shock, no shock, he charges 382 00:22:17,590 --> 00:22:23,570 basically 10 percentage points less per month than when he 383 00:22:23,570 --> 00:22:26,720 has a shock. 384 00:22:26,720 --> 00:22:32,200 Difference would be minus 7.5 and 2.6, is basically 10 385 00:22:32,200 --> 00:22:33,000 percentage points. 386 00:22:33,000 --> 00:22:35,420 But when he has a shock, he charges 10 387 00:22:35,420 --> 00:22:36,700 percentage points more. 388 00:22:36,700 --> 00:22:38,350 So these are massive numbers. 389 00:22:38,350 --> 00:22:40,930 I mean, those are, like, huge. 390 00:22:40,930 --> 00:22:44,880 The interest rates just move enormously suggesting that 391 00:22:44,880 --> 00:22:47,320 there is actually substantial resource transfer 392 00:22:47,320 --> 00:22:48,570 that's going on. 393 00:22:51,330 --> 00:22:52,720 Yeah. 394 00:22:52,720 --> 00:22:56,845 AUDIENCE: So is this like he actually charges or the person 395 00:22:56,845 --> 00:22:58,165 just chooses to pay more? 396 00:22:58,165 --> 00:22:58,670 PROFESSOR: He chooses. 397 00:22:58,670 --> 00:23:01,560 So we don't know that. 398 00:23:01,560 --> 00:23:05,230 All we observe is that the person pays that much more 399 00:23:05,230 --> 00:23:10,010 when the lender gets a shock. 400 00:23:10,010 --> 00:23:12,890 But the difference, just to get the order of magnitude, 401 00:23:12,890 --> 00:23:14,510 these are very, very large numbers. 402 00:23:14,510 --> 00:23:19,320 So these are substantial transfers going on in both 403 00:23:19,320 --> 00:23:20,160 directions. 404 00:23:20,160 --> 00:23:25,870 On the other hand, there's still 10% of a loan. 405 00:23:25,870 --> 00:23:28,120 So it's like, you know, the stock is much bigger. 406 00:23:28,120 --> 00:23:29,640 So these people have an ongoing 407 00:23:29,640 --> 00:23:31,330 ledger with each other. 408 00:23:31,330 --> 00:23:40,220 And then they change that number by changing the 409 00:23:40,220 --> 00:23:41,470 interest rate by a lot. 410 00:23:45,350 --> 00:23:48,910 Now, what's that also telling us? 411 00:23:48,910 --> 00:23:52,510 It's also telling us something about the scope of this 412 00:23:52,510 --> 00:23:55,350 relationship, right? 413 00:23:55,350 --> 00:24:02,390 So if the way I'm going to get my insurance is by getting 414 00:24:02,390 --> 00:24:04,760 even a 10 percentage point reduction in 415 00:24:04,760 --> 00:24:07,820 the interest rate-- 416 00:24:07,820 --> 00:24:09,610 so let's say the interest rate is 15%. 417 00:24:09,610 --> 00:24:15,270 And I get 10 percentage points off, but I owe you $100. 418 00:24:15,270 --> 00:24:16,520 How much do I save? 419 00:24:30,640 --> 00:24:32,510 I save $5.00, right? 420 00:24:32,510 --> 00:24:38,280 I was going to pay you $15, and I now pay $5. 421 00:24:38,280 --> 00:24:41,390 The main point is that the amount of insurance that you 422 00:24:41,390 --> 00:24:45,190 can get through this system is still very limited by the 423 00:24:45,190 --> 00:24:47,900 amount of loan there is because, you know, if I'm 424 00:24:47,900 --> 00:24:50,910 giving you a discount on a loan then that depends on the 425 00:24:50,910 --> 00:24:52,490 loan amount I had. 426 00:24:52,490 --> 00:24:55,010 So if the loan amount was $1 million then a discount on 427 00:24:55,010 --> 00:24:56,330 that is worth a lot. 428 00:24:56,330 --> 00:25:00,420 If these are poor people and their net loan amount is $10 429 00:25:00,420 --> 00:25:03,090 then the fact that I'm getting a discount from the loan is 430 00:25:03,090 --> 00:25:06,200 not giving me that much insurance. 431 00:25:06,200 --> 00:25:10,050 So the downside of thinking about it in loan terms and in 432 00:25:10,050 --> 00:25:16,100 principle, this could be relatively small number. 433 00:25:16,100 --> 00:25:18,510 So I think these interest rates are high. 434 00:25:18,510 --> 00:25:20,890 But they're not high enough to turn a small number into a 435 00:25:20,890 --> 00:25:22,140 small number. 436 00:25:25,710 --> 00:25:27,530 So that's sort of one thing to keep in mind. 437 00:25:27,530 --> 00:25:30,190 We'll come back to this because I want to talk a 438 00:25:30,190 --> 00:25:32,600 little bit more about other forms of insurance. 439 00:25:32,600 --> 00:25:37,010 So one form of insurance we observe is this loan. 440 00:25:37,010 --> 00:25:38,800 And that has its advantages, and it's a 441 00:25:38,800 --> 00:25:40,290 nice accounting device. 442 00:25:40,290 --> 00:25:42,280 I can keep track of what's going on. 443 00:25:42,280 --> 00:25:48,380 It has the disadvantage that if I haven't given you a loan 444 00:25:48,380 --> 00:25:50,710 then I can't help you. 445 00:25:50,710 --> 00:25:52,430 It sort of goes through this loan. 446 00:25:52,430 --> 00:25:57,910 So if you only owe me $5 then it's not going to be a big 447 00:25:57,910 --> 00:26:00,320 transfer because you can, at most, let off the 448 00:26:00,320 --> 00:26:02,580 interest on the $5. 449 00:26:02,580 --> 00:26:04,990 But the interest on $5 is $0.50. 450 00:26:04,990 --> 00:26:06,840 And that's not going to make a big difference to me. 451 00:26:06,840 --> 00:26:10,590 So in general that limits the scope of the system. 452 00:26:10,590 --> 00:26:12,840 And what I want to talk about is a bit of stuff from 453 00:26:12,840 --> 00:26:20,720 Thailand, which is different because our colleague, Robert 454 00:26:20,720 --> 00:26:22,460 Townsend, has been studying these villages 455 00:26:22,460 --> 00:26:23,980 for many, many years. 456 00:26:23,980 --> 00:26:28,640 And I'll show you some data from what he's collected. 457 00:26:28,640 --> 00:26:32,860 And then we'll see that the way insurance is offered in 458 00:26:32,860 --> 00:26:35,440 Thailand is very different in principle. 459 00:26:38,520 --> 00:26:40,280 And so institutional form-- 460 00:26:40,280 --> 00:26:42,940 in Nigeria it's a loan. 461 00:26:42,940 --> 00:26:44,900 In Thailand we'll see what it is. 462 00:26:44,900 --> 00:26:48,215 So first here's a nice table. 463 00:26:48,215 --> 00:26:51,970 It's sort of a fact that I've been saying many times. 464 00:26:51,970 --> 00:26:55,100 It just says how much risk do people bear? 465 00:26:59,680 --> 00:27:03,940 So what this table is, each row is a farmer. 466 00:27:14,470 --> 00:27:16,450 They don't have data for every farmer. 467 00:27:16,450 --> 00:27:19,120 But two things to note. 468 00:27:19,120 --> 00:27:21,520 One is look at the best year and the worst 469 00:27:21,520 --> 00:27:22,770 year for these farmers. 470 00:27:27,860 --> 00:27:31,600 They're somewhat correlated but not perfectly, right? 471 00:27:31,600 --> 00:27:34,410 The best year for some farmers was '85. 472 00:27:34,410 --> 00:27:37,580 The worst year for some farmers was '85. 473 00:27:37,580 --> 00:27:41,550 The best year for some farmers was '88. 474 00:27:41,550 --> 00:27:44,335 The worst year for some farmers was '88. 475 00:27:49,880 --> 00:27:51,185 Why am I emphasizing the correlation? 476 00:27:57,150 --> 00:27:59,860 These are all within the same village, within one village. 477 00:27:59,860 --> 00:28:01,950 Why am I emphasizing the correlation? 478 00:28:01,950 --> 00:28:03,910 AUDIENCE: To emphasize that the shocks are independent. 479 00:28:03,910 --> 00:28:05,310 PROFESSOR: Yeah. 480 00:28:05,310 --> 00:28:08,950 So that there is scope for insurance. 481 00:28:08,950 --> 00:28:12,870 I can insure you only if we don't both get into trouble at 482 00:28:12,870 --> 00:28:15,140 the same time. 483 00:28:15,140 --> 00:28:18,770 So the worst year for one farmer is not the worst year 484 00:28:18,770 --> 00:28:21,910 for the other farmer. 485 00:28:21,910 --> 00:28:23,500 The second thing is look at the magnitudes. 486 00:28:26,270 --> 00:28:31,350 That last column is the percentage. 487 00:28:31,350 --> 00:28:35,440 If you look at the harvest amounts, the best year and the 488 00:28:35,440 --> 00:28:37,105 worst year, the differences are massive. 489 00:28:43,720 --> 00:28:44,860 It's just the amounts. 490 00:28:44,860 --> 00:28:47,850 I just want you to look the amounts. 491 00:28:47,850 --> 00:28:51,680 The amounts are impressive because think about you got an 492 00:28:51,680 --> 00:28:58,120 income of 50 one year and 115 the next year. 493 00:28:58,120 --> 00:28:59,370 Those are big differences. 494 00:29:25,020 --> 00:29:26,720 Anything else that strikes you? 495 00:29:46,920 --> 00:29:48,520 Now, this may be difficult to see. 496 00:29:48,520 --> 00:29:51,090 But one thing that's interesting is that if you 497 00:29:51,090 --> 00:29:52,380 look at the-- 498 00:29:52,380 --> 00:29:59,040 it's not that the people who have average less harvest, the 499 00:29:59,040 --> 00:30:00,960 risk seems to be independent of that. 500 00:30:00,960 --> 00:30:04,570 So richer people seem to have roughly the same risk as 501 00:30:04,570 --> 00:30:06,200 poorer people. 502 00:30:06,200 --> 00:30:08,720 So everybody seems to be exposed to risk. 503 00:30:08,720 --> 00:30:11,390 It's not that the rich people have less risk. 504 00:30:11,390 --> 00:30:14,570 AUDIENCE: How do you define richness? 505 00:30:14,570 --> 00:30:18,400 PROFESSOR: Take the maximum amount of harvest, the maximum 506 00:30:18,400 --> 00:30:22,320 harvest, the people with the biggest maximum harvest 507 00:30:22,320 --> 00:30:23,110 [INAUDIBLE]. 508 00:30:23,110 --> 00:30:24,810 This table is nice too. 509 00:30:24,810 --> 00:30:27,790 It goes back to answering the implied question. 510 00:30:27,790 --> 00:30:28,580 What's going on? 511 00:30:28,580 --> 00:30:29,830 What's the source of risk? 512 00:30:39,240 --> 00:30:40,630 AUDIENCE: These are all the same households? 513 00:30:40,630 --> 00:30:40,820 PROFESSOR: Sorry? 514 00:30:40,820 --> 00:30:42,590 AUDIENCE: These are all the same households? 515 00:30:42,590 --> 00:30:43,090 PROFESSOR: No. 516 00:30:43,090 --> 00:30:43,870 Yeah. 517 00:30:43,870 --> 00:30:46,360 These are the same households as the previous table, same 518 00:30:46,360 --> 00:30:48,650 numbers, B35, 36. 519 00:30:48,650 --> 00:30:50,030 These are the same households. 520 00:30:50,030 --> 00:30:51,790 They all live in the same village. 521 00:30:51,790 --> 00:30:54,720 And this is asking why did you face risk? 522 00:30:57,260 --> 00:31:02,170 And, again, mostly it has to do with weather. 523 00:31:02,170 --> 00:31:08,030 Though, for some people, there's one person who says 524 00:31:08,030 --> 00:31:11,960 that insects is the biggest source of risk. 525 00:31:46,730 --> 00:31:47,724 Yeah. 526 00:31:47,724 --> 00:31:50,209 AUDIENCE: I don't fully understand how someone's best 527 00:31:50,209 --> 00:31:53,688 year was also someone's worst year, how rain 528 00:31:53,688 --> 00:31:54,682 could be the problem-- 529 00:31:54,682 --> 00:31:56,680 PROFESSOR: Yeah. 530 00:31:56,680 --> 00:31:58,990 Someone else want to suggest the answer? 531 00:32:06,325 --> 00:32:09,748 AUDIENCE: I mean, I think it indicates that-- 532 00:32:09,748 --> 00:32:11,085 I think there's two potential answers. 533 00:32:11,085 --> 00:32:13,158 One, rain could be the answer. 534 00:32:13,158 --> 00:32:15,102 Maybe some of these fields are irrigated. 535 00:32:15,102 --> 00:32:18,018 But judging by the variation on even the wealthiest fields, 536 00:32:18,018 --> 00:32:20,448 which presumably would have the greatest chance of 537 00:32:20,448 --> 00:32:22,878 irrigation, the fact that it's still pretty big fluctuations, 538 00:32:22,878 --> 00:32:24,336 that's probably not the answer. 539 00:32:24,336 --> 00:32:26,401 I mean, I think it's indicative that there's other 540 00:32:26,401 --> 00:32:28,100 factors at work other than rainfall. 541 00:32:28,100 --> 00:32:30,390 PROFESSOR: But they're saying that it's rain. 542 00:32:30,390 --> 00:32:31,688 AUDIENCE: Sure. 543 00:32:31,688 --> 00:32:33,640 I mean, maybe because they don't realize. 544 00:32:33,640 --> 00:32:36,365 I mean, I think if they realize what the other farmer 545 00:32:36,365 --> 00:32:38,610 was doing that [INAUDIBLE] 546 00:32:38,610 --> 00:32:41,060 more successful, they'd probably try to do it. 547 00:32:41,060 --> 00:32:44,000 So maybe they didn't realize that fertilizer-- and maybe 548 00:32:44,000 --> 00:32:46,370 that they got unlucky and got hit with a disease they 549 00:32:46,370 --> 00:32:46,830 weren't able to recognize. 550 00:32:46,830 --> 00:32:47,690 PROFESSOR: They didn't realize. 551 00:32:47,690 --> 00:32:48,980 That could be. 552 00:32:48,980 --> 00:32:49,840 Go ahead. 553 00:32:49,840 --> 00:32:50,860 AUDIENCE: It could be different crops. 554 00:32:50,860 --> 00:32:51,380 PROFESSOR: Yeah. 555 00:32:51,380 --> 00:32:55,990 So most of this explanation is that some of them are doing 556 00:32:55,990 --> 00:32:56,960 very different crops. 557 00:32:56,960 --> 00:33:02,730 So it might be some crops hate water and 558 00:33:02,730 --> 00:33:03,790 others really like it. 559 00:33:03,790 --> 00:33:07,710 Like, rice really adores water. 560 00:33:07,710 --> 00:33:11,540 But cotton or chilies hate water. 561 00:33:11,540 --> 00:33:16,450 So there are crops which you get too much rain, you get 562 00:33:16,450 --> 00:33:23,510 lower output and crops which output is always 563 00:33:23,510 --> 00:33:25,000 increasing in rain. 564 00:33:25,000 --> 00:33:27,970 And so one possible explanation is that they were 565 00:33:27,970 --> 00:33:29,230 planting different crops. 566 00:33:29,230 --> 00:33:32,490 So we both planted the same time. 567 00:33:32,490 --> 00:33:37,290 I'm planting a crop which will hurt if the rain is bad and 568 00:33:37,290 --> 00:33:40,170 will do well when the rain is good and the other way around. 569 00:33:40,170 --> 00:33:41,270 So that's one possibility. 570 00:33:41,270 --> 00:33:44,200 The other possibility is that they're just micro climates, 571 00:33:44,200 --> 00:33:51,200 that the rain is sort of-- 572 00:33:51,200 --> 00:33:57,310 after all, what matters is not so much rain as such but rain 573 00:33:57,310 --> 00:33:58,530 at the right time. 574 00:33:58,530 --> 00:34:02,320 So I plant on a particular day. 575 00:34:02,320 --> 00:34:04,800 My saplings have just come out of the ground. 576 00:34:04,800 --> 00:34:09,320 That's when I need rain, when the plant is young. 577 00:34:09,320 --> 00:34:14,260 And so it may well be that the rain on those five 578 00:34:14,260 --> 00:34:16,030 days was very good. 579 00:34:16,030 --> 00:34:19,070 But then the guy who planted later, he thought the rains 580 00:34:19,070 --> 00:34:20,719 would be better in five days. 581 00:34:20,719 --> 00:34:23,770 And then the rains were really not better. 582 00:34:23,770 --> 00:34:24,920 They were really bad. 583 00:34:24,920 --> 00:34:27,969 So it may very well be that there is either geographical 584 00:34:27,969 --> 00:34:31,969 variation in rainfall within a local area or just over time. 585 00:34:31,969 --> 00:34:35,350 So I planted on a particular day. 586 00:34:35,350 --> 00:34:37,860 I needed the rain 10 days after that when the 587 00:34:37,860 --> 00:34:38,940 saplings came out. 588 00:34:38,940 --> 00:34:41,010 I got the rain. 589 00:34:41,010 --> 00:34:42,440 You didn't get the rain. 590 00:34:42,440 --> 00:34:45,110 So I think both of those are plausible. 591 00:34:45,110 --> 00:34:47,840 So I just wanted you to look at this because I 592 00:34:47,840 --> 00:34:48,840 keep talking of risk. 593 00:34:48,840 --> 00:34:51,340 But this is sort of a much better way to look at it. 594 00:34:51,340 --> 00:34:54,429 You just see the magnitudes of it and the sources of it. 595 00:34:54,429 --> 00:34:56,780 So I thought these tables were very nice. 596 00:34:56,780 --> 00:35:01,950 And what he goes on to do in this paper is asking how do 597 00:35:01,950 --> 00:35:03,200 people deal with risk? 598 00:35:05,740 --> 00:35:14,350 And so he's describing three villages very close to each 599 00:35:14,350 --> 00:35:17,690 other, to the point where one of the villages, people 600 00:35:17,690 --> 00:35:20,580 actually use the financial institutions 601 00:35:20,580 --> 00:35:21,580 in the other villages. 602 00:35:21,580 --> 00:35:23,650 So they're very close to each other. 603 00:35:23,650 --> 00:35:25,480 They're exactly in this area where the 604 00:35:25,480 --> 00:35:26,610 rainfall was measured. 605 00:35:26,610 --> 00:35:28,950 So the risk is roughly what you saw. 606 00:35:31,560 --> 00:35:34,670 So we got a sense of the risk. 607 00:35:34,670 --> 00:35:39,620 And in Nigeria we saw that people respond by borrowing 608 00:35:39,620 --> 00:35:41,240 from each other. 609 00:35:41,240 --> 00:35:44,360 Here, in this particular village, there are five 610 00:35:44,360 --> 00:35:47,430 different funds. 611 00:35:47,430 --> 00:35:49,330 So there's a village savings fund. 612 00:35:49,330 --> 00:35:55,490 And the village savings fund is actually an equity fund. 613 00:35:55,490 --> 00:35:59,220 These guys actually pay you a different rate of return 614 00:35:59,220 --> 00:36:03,740 depending on what the borrowers were willing to pay. 615 00:36:03,740 --> 00:36:09,110 So I put in money into this fund. 616 00:36:09,110 --> 00:36:12,895 And then you come and borrow. 617 00:36:17,750 --> 00:36:19,000 You're willing to pay 20%. 618 00:36:21,510 --> 00:36:24,540 Then that money gets rolled back to me. 619 00:36:24,540 --> 00:36:26,950 So it's a fund which has a variable interest which 620 00:36:26,950 --> 00:36:28,780 depends on the village demand levels. 621 00:36:33,050 --> 00:36:45,730 What do you think should happen to the interest rate in 622 00:36:45,730 --> 00:36:48,235 that fund when the rainfall is good or bad? 623 00:36:55,060 --> 00:36:58,000 How would it pay? 624 00:36:58,000 --> 00:36:59,465 Will it go up when the rainfall is good or down? 625 00:37:12,075 --> 00:37:14,257 AUDIENCE: Won't it go up because people are willing pay 626 00:37:14,257 --> 00:37:15,500 more [INAUDIBLE]? 627 00:37:15,500 --> 00:37:21,370 PROFESSOR: So one possibility it will go up because when the 628 00:37:21,370 --> 00:37:23,810 rainfall is good, productivity is high. 629 00:37:23,810 --> 00:37:27,570 People are willing to buy more inputs to produce. 630 00:37:30,480 --> 00:37:32,295 Is that good for insurance or bad for insurance? 631 00:37:42,520 --> 00:37:43,508 Yeah? 632 00:37:43,508 --> 00:37:45,484 AUDIENCE: [INAUDIBLE] 633 00:37:45,484 --> 00:37:47,353 PROFESSOR: That's good for insurance because the people 634 00:37:47,353 --> 00:37:48,310 who are getting high 635 00:37:48,310 --> 00:37:52,400 productivity shocks are borrowing. 636 00:37:52,400 --> 00:37:56,270 But you would imagine the opposite, which is a fund with 637 00:37:56,270 --> 00:38:00,105 a variable interest rate where we only borrow from it when 638 00:38:00,105 --> 00:38:01,355 we're desperate. 639 00:38:03,030 --> 00:38:05,870 Then you might see the demand for those funds being 640 00:38:05,870 --> 00:38:10,660 particularly high when rainfall is bad because we're 641 00:38:10,660 --> 00:38:14,470 all trying to borrow from that to survive. 642 00:38:14,470 --> 00:38:17,645 And at that point, very few people are going to lend. 643 00:38:17,645 --> 00:38:19,610 The interest rate is going to go up. 644 00:38:19,610 --> 00:38:21,430 That's going to be bad for insurance. 645 00:38:21,430 --> 00:38:24,726 So it depends very much. 646 00:38:24,726 --> 00:38:29,800 Rather a fixed interest fund, a variable interest fund can 647 00:38:29,800 --> 00:38:32,420 be either good or bad for insurance. 648 00:38:32,420 --> 00:38:36,310 Then there is a fund for purchase of pigs. 649 00:38:36,310 --> 00:38:38,440 Here, the interest rate is fixed. 650 00:38:38,440 --> 00:38:40,560 But there's a rollover provision. 651 00:38:40,560 --> 00:38:43,600 Rollover provision is if you are in trouble and you can't 652 00:38:43,600 --> 00:38:47,690 pay, I can let you keep the loan for longer. 653 00:38:47,690 --> 00:38:51,060 You pay more, but you don't have to pay back now. 654 00:38:51,060 --> 00:38:52,440 Is that good for insurance or bad? 655 00:38:58,610 --> 00:39:01,060 AUDIENCE: Well, it depends on the person 656 00:39:01,060 --> 00:39:03,020 that they're insuring. 657 00:39:03,020 --> 00:39:04,980 If the person [INAUDIBLE] 658 00:39:04,980 --> 00:39:08,410 they can keep rolling it over and eventually drop out. 659 00:39:08,410 --> 00:39:13,310 But it could be good if the person is experiencing some 660 00:39:13,310 --> 00:39:16,290 transitory shock [INAUDIBLE]. 661 00:39:16,290 --> 00:39:17,930 PROFESSOR: Assuming that the person is going to pay it 662 00:39:17,930 --> 00:39:19,220 back, it's good for insurance. 663 00:39:19,220 --> 00:39:21,740 Rollovers are good for insurance. 664 00:39:21,740 --> 00:39:24,290 There's a fund for purchase of fertilizer. 665 00:39:24,290 --> 00:39:29,410 So each of these is almost like a proper financial 666 00:39:29,410 --> 00:39:31,040 institution at the village level. 667 00:39:31,040 --> 00:39:34,550 So in this village, the leader has 668 00:39:34,550 --> 00:39:36,280 organized a bunch of funds. 669 00:39:36,280 --> 00:39:44,120 And you can save money to buy pigs in this fund. 670 00:39:44,120 --> 00:39:47,780 And right now if I've saved money and you want to buy 671 00:39:47,780 --> 00:39:51,300 pigs, you can borrow from this fund. 672 00:39:51,300 --> 00:39:54,920 And, likewise, there's money in a fund for buying 673 00:39:54,920 --> 00:40:02,890 fertilizer, a rice bank where the rice I grow I can store. 674 00:40:02,890 --> 00:40:05,640 And when I need rice, I can take rice from it. 675 00:40:05,640 --> 00:40:08,150 And there's a health care fund where we each put in money. 676 00:40:08,150 --> 00:40:11,660 And if somebody gets sick, he gets to spend it. 677 00:40:11,660 --> 00:40:14,700 So this is a village which is rich with financial 678 00:40:14,700 --> 00:40:15,560 institutions. 679 00:40:15,560 --> 00:40:16,810 These are not loans. 680 00:40:16,810 --> 00:40:26,000 In particular, the health care fund or the rollover is 681 00:40:26,000 --> 00:40:32,250 something where I'm making a direct transfer to the people 682 00:40:32,250 --> 00:40:34,250 who are hurting. 683 00:40:37,860 --> 00:40:40,160 But it's not bilateral loans. 684 00:40:40,160 --> 00:40:45,050 These are kind of financing from a financial institution. 685 00:40:45,050 --> 00:40:49,210 So the main point I'm making here is that here you see a 686 00:40:49,210 --> 00:40:51,820 very different sort of insurance. 687 00:40:51,820 --> 00:40:55,260 This is organized through collective action. 688 00:40:55,260 --> 00:40:59,710 Everybody's getting together and lending to everybody else. 689 00:41:04,550 --> 00:41:09,415 Now, he goes down a few more miles from May Wak to a 690 00:41:09,415 --> 00:41:11,580 village called Sop Wak. 691 00:41:11,580 --> 00:41:13,150 And what does he see? 692 00:41:13,150 --> 00:41:14,730 Well, on paper it looks very similar. 693 00:41:19,480 --> 00:41:21,710 But here's the problem. 694 00:41:21,710 --> 00:41:24,300 All the loans are in default. 695 00:41:24,300 --> 00:41:27,580 Not all, but a lot of loans are in default. 696 00:41:30,385 --> 00:41:32,245 Is this good or bad for insurance? 697 00:41:40,680 --> 00:41:41,930 Anybody else? 698 00:41:53,140 --> 00:41:55,080 Why is a default bad for insurance? 699 00:42:02,872 --> 00:42:04,657 AUDIENCE: Because then the people who are putting in the 700 00:42:04,657 --> 00:42:06,300 money won't get any money. 701 00:42:06,300 --> 00:42:08,005 PROFESSOR: But maybe the person who is defaulting is 702 00:42:08,005 --> 00:42:10,400 the one who needs to not pay. 703 00:42:10,400 --> 00:42:13,375 It's so clear that default is bad for insurance. 704 00:42:13,375 --> 00:42:16,730 The problem is with this default then nobody will put 705 00:42:16,730 --> 00:42:19,220 money into the bank. 706 00:42:19,220 --> 00:42:24,510 So default is, in a sense, a form of insurance, right? 707 00:42:24,510 --> 00:42:28,190 I allow you to not pay when you can't pay. 708 00:42:28,190 --> 00:42:32,480 But if there's a lot of default and I think that's 709 00:42:32,480 --> 00:42:36,410 mollified then I may not put money into the bank. 710 00:42:36,410 --> 00:42:39,210 So, again, it's not clear which way it goes. 711 00:42:39,210 --> 00:42:42,320 But he interprets this as saying that these places, 712 00:42:42,320 --> 00:42:44,650 these banks, nobody's putting money into them. 713 00:42:44,650 --> 00:42:46,130 So these banks are kind of defunct. 714 00:42:46,130 --> 00:42:46,962 Yeah. 715 00:42:46,962 --> 00:42:50,025 AUDIENCE: How could it default and not repay? 716 00:42:50,025 --> 00:42:53,580 PROFESSOR: Oh, we could imagine a world where that's 717 00:42:53,580 --> 00:42:55,400 exactly how we provide insurance. 718 00:42:55,400 --> 00:43:04,040 So we each imagine that the rule is. 719 00:43:04,040 --> 00:43:09,820 Year one, if you have a shock this year, you borrow. 720 00:43:09,820 --> 00:43:15,370 Even year two, if you again have a shock then you default. 721 00:43:15,370 --> 00:43:19,520 We write it off, happens in one time out of 10 or 722 00:43:19,520 --> 00:43:20,950 one time out of 20. 723 00:43:20,950 --> 00:43:25,110 But, you know, it can happen to any of us. 724 00:43:25,110 --> 00:43:28,370 And when it's really bad and I've had two shocks in a row, 725 00:43:28,370 --> 00:43:32,412 it's better for me to not have to pay back than you to give 726 00:43:32,412 --> 00:43:34,020 me yet another loan. 727 00:43:34,020 --> 00:43:36,210 There's no particular reason why default would be bad for 728 00:43:36,210 --> 00:43:38,650 insurance if we could make sure that 729 00:43:38,650 --> 00:43:39,900 the default is limited. 730 00:43:42,860 --> 00:43:44,325 AUDIENCE: Doesn't the insurance company just loose 731 00:43:44,325 --> 00:43:45,970 all that money though? 732 00:43:45,970 --> 00:43:46,280 PROFESSOR: Yeah. 733 00:43:46,280 --> 00:43:48,860 But it counts into its-- 734 00:43:48,860 --> 00:43:51,220 the insurance company is losing that money. 735 00:43:51,220 --> 00:43:53,030 But remember, when an insurance company makes a 736 00:43:53,030 --> 00:43:56,260 payment, it also loses money. 737 00:43:56,260 --> 00:43:58,140 So just think of it as a form of payment. 738 00:43:58,140 --> 00:44:01,620 Default could just be a form of insurance because I could 739 00:44:01,620 --> 00:44:04,090 be paying people in the form of default. 740 00:44:04,090 --> 00:44:05,040 You don't have to pay. 741 00:44:05,040 --> 00:44:06,260 Fine. 742 00:44:06,260 --> 00:44:07,620 You don't have any money, you don't have to pay. 743 00:44:07,620 --> 00:44:11,350 That's a perfectly legitimate form of insurance. 744 00:44:11,350 --> 00:44:16,336 Just the question is whether it's deliberate, in which case 745 00:44:16,336 --> 00:44:17,720 there will be too much of it. 746 00:44:17,720 --> 00:44:20,240 And in that case the system won't work. 747 00:44:20,240 --> 00:44:21,228 Yep. 748 00:44:21,228 --> 00:44:24,192 AUDIENCE: That may be the case when there's an insurance 749 00:44:24,192 --> 00:44:27,156 company or a government which is writing off the loan. 750 00:44:27,156 --> 00:44:30,614 But the latest census [INAUDIBLE]. 751 00:44:35,570 --> 00:44:37,990 PROFESSOR: I guess a lot is relative to what they're 752 00:44:37,990 --> 00:44:39,730 willing and what they were planning for. 753 00:44:39,730 --> 00:44:42,470 There's nothing else about a lot of default. 754 00:44:42,470 --> 00:44:43,740 It's just what you're planning for. 755 00:44:43,740 --> 00:44:47,230 I could plan for, you know, one loan out of five will be 756 00:44:47,230 --> 00:44:52,200 defaulted, and the others will just absorb that loss. 757 00:44:52,200 --> 00:44:53,170 It might me fine. 758 00:44:53,170 --> 00:44:54,650 It may be a form of insurance. 759 00:44:54,650 --> 00:44:57,040 Default is a natural form of insurance. 760 00:44:57,040 --> 00:44:58,920 That's a way of understanding. 761 00:44:58,920 --> 00:45:03,420 There is nothing obviously bad about default if it's 762 00:45:03,420 --> 00:45:05,570 completely just I have no choice. 763 00:45:05,570 --> 00:45:06,540 I default. 764 00:45:06,540 --> 00:45:10,030 That's a perfectly good way to insure myself because then I 765 00:45:10,030 --> 00:45:12,680 don't need to pay when I'm in really bad shape. 766 00:45:12,680 --> 00:45:16,620 It's when I start using as an excuse to not pay that it 767 00:45:16,620 --> 00:45:17,888 makes a difference. 768 00:45:17,888 --> 00:45:18,386 Yeah. 769 00:45:18,386 --> 00:45:20,876 AUDIENCE: I think I'm getting tripped up because usually 770 00:45:20,876 --> 00:45:24,860 default is when the intent is for you to get that paid back. 771 00:45:24,860 --> 00:45:28,346 So if you're using default as a form of insurance, to me, 772 00:45:28,346 --> 00:45:29,591 it's no longer default then. 773 00:45:29,591 --> 00:45:32,340 It's just a form of insurance. 774 00:45:32,340 --> 00:45:32,460 PROFESSOR: OK. 775 00:45:32,460 --> 00:45:34,210 I kind of agree with that. 776 00:45:34,210 --> 00:45:37,490 I mean, that seems like we're arguing over words. 777 00:45:37,490 --> 00:45:41,240 So I think default just means I don't pay the loan. 778 00:45:41,240 --> 00:45:43,340 And when I don't pay the loan, that might 779 00:45:43,340 --> 00:45:46,080 very well be desirable. 780 00:45:46,080 --> 00:45:51,910 Now, as you see, their view is a bit that it's not actually 781 00:45:51,910 --> 00:45:56,530 necessarily a good idea to collect because they're taking 782 00:45:56,530 --> 00:46:00,250 the view that these people are defaulting because they need 783 00:46:00,250 --> 00:46:01,170 to default. 784 00:46:01,170 --> 00:46:03,430 So it's not clear what default means here. 785 00:46:03,430 --> 00:46:04,885 And that's worth understanding. 786 00:46:07,760 --> 00:46:10,580 Then he walks down to a third village. 787 00:46:10,580 --> 00:46:13,290 The third village is a few miles down. 788 00:46:13,290 --> 00:46:17,590 And none of these funds exist. 789 00:46:17,590 --> 00:46:20,600 So one village, all the funds are working well. 790 00:46:20,600 --> 00:46:23,130 In the second village, there's lot of default. 791 00:46:23,130 --> 00:46:24,490 The funds are still there. 792 00:46:24,490 --> 00:46:28,310 Third village, no funds except one. 793 00:46:28,310 --> 00:46:30,850 And you are in the Nigerian mode where you're just 794 00:46:30,850 --> 00:46:32,100 borrowing from each other. 795 00:46:36,390 --> 00:46:38,150 So what's the advantage of a fund over 796 00:46:38,150 --> 00:46:39,400 borrowing from each other? 797 00:46:42,630 --> 00:46:47,180 Let me see if someone else wants to answer. 798 00:46:47,180 --> 00:46:48,780 What's the advantage of a fund over 799 00:46:48,780 --> 00:46:50,650 borrowing from each other? 800 00:46:50,650 --> 00:46:53,760 AUDIENCE: They have more resources for you to borrow? 801 00:46:53,760 --> 00:46:54,624 PROFESSOR: Why? 802 00:46:54,624 --> 00:46:57,677 AUDIENCE: One individual has a limited constraint, whereas if 803 00:46:57,677 --> 00:46:59,380 people pool their money together. 804 00:46:59,380 --> 00:46:59,810 PROFESSOR: Right. 805 00:46:59,810 --> 00:47:01,830 It's a way to pool many more people in. 806 00:47:01,830 --> 00:47:06,240 So that's the advantage of a fund. 807 00:47:06,240 --> 00:47:08,730 So what do you think is going on? 808 00:47:08,730 --> 00:47:11,690 Why do these villages, which are very similar, have same 809 00:47:11,690 --> 00:47:15,880 kind of risk next to each other, have 810 00:47:15,880 --> 00:47:17,130 very different patterns? 811 00:47:22,770 --> 00:47:28,515 Think about what it takes for such an institution to exist. 812 00:47:38,076 --> 00:47:40,990 AUDIENCE: They need the trust of the [INAUDIBLE]. 813 00:47:40,990 --> 00:47:41,670 PROFESSOR: Right. 814 00:47:41,670 --> 00:47:50,950 So the way one of these funds works is by saying that I'm 815 00:47:50,950 --> 00:47:54,260 going to put money into it now because I can get money into 816 00:47:54,260 --> 00:47:55,510 it in the future. 817 00:48:00,140 --> 00:48:01,390 What does that assume? 818 00:48:04,946 --> 00:48:05,423 Yeah. 819 00:48:05,423 --> 00:48:06,360 AUDIENCE: It's going to exist in the future. 820 00:48:06,360 --> 00:48:07,800 PROFESSOR: That there is a future. 821 00:48:07,800 --> 00:48:11,930 So in other words, if I think that everybody else is going 822 00:48:11,930 --> 00:48:17,200 to default today, I should default as well because there 823 00:48:17,200 --> 00:48:18,780 will be no fund in the future. 824 00:48:22,920 --> 00:48:33,740 So this is a classic kind of problem of anything that's 825 00:48:33,740 --> 00:48:35,430 sort of sustained by the future. 826 00:48:35,430 --> 00:48:37,760 It depends on there being a future. 827 00:48:37,760 --> 00:48:46,460 So this is the problem that right now a lot of microcredit 828 00:48:46,460 --> 00:48:48,580 organizations are facing. 829 00:48:48,580 --> 00:48:51,930 Microcredit organizations promise you a loan if you pay 830 00:48:51,930 --> 00:48:53,180 back your loan. 831 00:48:55,300 --> 00:49:04,040 Now, suppose you think that nobody else will pay back 832 00:49:04,040 --> 00:49:05,630 their loan. 833 00:49:05,630 --> 00:49:07,365 What's going to happen to the microcredit organization? 834 00:49:14,130 --> 00:49:15,680 It's going to go bankrupt. 835 00:49:15,680 --> 00:49:18,380 If it goes bankrupt, what's going to happen 836 00:49:18,380 --> 00:49:20,672 to your future loan? 837 00:49:20,672 --> 00:49:21,090 AUDIENCE: It doesn't exist. 838 00:49:21,090 --> 00:49:22,460 PROFESSOR: It doesn't exist. 839 00:49:22,460 --> 00:49:27,070 So basically if everybody expects people to default in 840 00:49:27,070 --> 00:49:31,500 the future then I should default now. 841 00:49:31,500 --> 00:49:37,110 So if everybody else is expected to default, it is 842 00:49:37,110 --> 00:49:38,470 rational for me to default. 843 00:49:41,440 --> 00:49:44,470 If everybody expected to pay back in the future then it's 844 00:49:44,470 --> 00:49:49,170 rational for me to pay back because then the fund will be 845 00:49:49,170 --> 00:49:51,020 there for a long time. 846 00:49:51,020 --> 00:49:54,250 So I think this is sort of the reason why funds-- 847 00:49:54,250 --> 00:49:58,760 so all of these kind of informal institutions are 848 00:49:58,760 --> 00:50:03,135 fragile because they rely on this kind of coordination. 849 00:50:05,670 --> 00:50:09,800 I only want to repay if everybody else wants to repay 850 00:50:09,800 --> 00:50:13,410 or at least as long as enough people want to repay that the 851 00:50:13,410 --> 00:50:15,100 fund will be going. 852 00:50:15,100 --> 00:50:17,710 If I expect that lots of people will default in the 853 00:50:17,710 --> 00:50:20,650 future, I should default now because the fund is going to 854 00:50:20,650 --> 00:50:22,330 go out of business. 855 00:50:22,330 --> 00:50:24,610 I'm not going to get anything out of it in the future. 856 00:50:24,610 --> 00:50:28,270 So I might as well just stop having anything to do with it. 857 00:50:28,270 --> 00:50:30,960 So it totally depends on trust. 858 00:50:30,960 --> 00:50:33,580 If I believe that everybody else is going to behave well 859 00:50:33,580 --> 00:50:35,470 then I should behave well. 860 00:50:35,470 --> 00:50:39,880 If I think that everybody else is going to behave badly then 861 00:50:39,880 --> 00:50:41,650 it's over in some sense. 862 00:50:41,650 --> 00:50:45,110 That's one central weakness of these kinds of informal 863 00:50:45,110 --> 00:50:46,475 institutions. 864 00:50:46,475 --> 00:50:55,420 They rely on the expectation that I'm going to behave well 865 00:50:55,420 --> 00:50:57,080 in the future. 866 00:50:57,080 --> 00:50:58,410 Yeah. 867 00:50:58,410 --> 00:51:01,710 AUDIENCE: Well, if everyone else is going to pay back in 868 00:51:01,710 --> 00:51:03,742 the future, wouldn't it still be better for you to default 869 00:51:03,742 --> 00:51:07,410 now if you were being selfish because the fund's still going 870 00:51:07,410 --> 00:51:08,410 to exist whether or not-- 871 00:51:08,410 --> 00:51:08,670 PROFESSOR: No. 872 00:51:08,670 --> 00:51:10,430 But then you can't borrow again. 873 00:51:10,430 --> 00:51:13,280 Then they can say, look, you defaulted. 874 00:51:13,280 --> 00:51:15,550 You didn't pay the money when you needed to. 875 00:51:15,550 --> 00:51:17,390 You were supposed to pay money into the fund. 876 00:51:17,390 --> 00:51:18,390 You didn't pay. 877 00:51:18,390 --> 00:51:20,270 Now you're out. 878 00:51:20,270 --> 00:51:24,620 But if you come and ask me to put money into the fund and I 879 00:51:24,620 --> 00:51:26,620 know that everybody else is planning to default, I'm never 880 00:51:26,620 --> 00:51:27,820 going to do it. 881 00:51:27,820 --> 00:51:31,400 And if I ever get a loan out of it, I'm going to default as 882 00:51:31,400 --> 00:51:32,815 soon as I can because I know everybody else 883 00:51:32,815 --> 00:51:34,040 is planning to default. 884 00:51:34,040 --> 00:51:39,540 So in these kinds of institutions, default is 885 00:51:39,540 --> 00:51:43,010 entirely sort of self-fulfilling. 886 00:51:43,010 --> 00:51:45,620 So if I expect default, I'll have default. 887 00:51:45,620 --> 00:51:48,850 If I expect people to behave well, we'll probably all 888 00:51:48,850 --> 00:51:49,910 behave well. 889 00:51:49,910 --> 00:51:52,970 So probably the reason why these villages are so 890 00:51:52,970 --> 00:51:57,340 different is because of this expectation mechanism which is 891 00:51:57,340 --> 00:51:59,920 very important to understand. 892 00:51:59,920 --> 00:52:03,050 And it's true of lots of financial institutions. 893 00:52:03,050 --> 00:52:08,260 They rely on our future compliance to work. 894 00:52:08,260 --> 00:52:17,850 And that's why, for example, even banks to some extent-- 895 00:52:17,850 --> 00:52:20,060 if I decide that I'm going to withdraw my money from the 896 00:52:20,060 --> 00:52:23,020 bank, everybody is going to withdraw money from the bank 897 00:52:23,020 --> 00:52:26,540 tomorrow, what should I do today? 898 00:52:26,540 --> 00:52:28,040 AUDIENCE: [INAUDIBLE]. 899 00:52:28,040 --> 00:52:29,030 PROFESSOR: I should withdraw today. 900 00:52:29,030 --> 00:52:30,360 That's a bank run. 901 00:52:30,360 --> 00:52:32,370 So a lot of financial institutions have 902 00:52:32,370 --> 00:52:33,570 exactly this feature. 903 00:52:33,570 --> 00:52:36,500 And that's why it's not so surprising to see that some 904 00:52:36,500 --> 00:52:39,650 villages have very good institutions, rich set of 905 00:52:39,650 --> 00:52:41,400 institutions, others don't. 906 00:52:41,400 --> 00:52:43,290 The fact that some villages have default, 907 00:52:43,290 --> 00:52:45,080 it's the same reasoning. 908 00:52:45,080 --> 00:52:47,950 Once people start defaulting, everybody's going to start 909 00:52:47,950 --> 00:52:48,360 defaulting. 910 00:52:48,360 --> 00:52:49,342 Yeah. 911 00:52:49,342 --> 00:52:52,779 AUDIENCE: Could it be possible that in one village a default 912 00:52:52,779 --> 00:52:54,743 is costlier than in another village? 913 00:52:54,743 --> 00:52:57,689 Maybe, like, socially you'll be ostracized or something 914 00:52:57,689 --> 00:53:01,617 like that, and that will help support the program where 915 00:53:01,617 --> 00:53:04,080 everyone pays into the fund? 916 00:53:04,080 --> 00:53:04,680 PROFESSOR: Sure. 917 00:53:04,680 --> 00:53:08,270 So it could very well be that another thing that this tells 918 00:53:08,270 --> 00:53:10,580 us is that, for example, a leader matters. 919 00:53:10,580 --> 00:53:14,850 So if the leader is someone who can enforce punishments in 920 00:53:14,850 --> 00:53:17,020 the village so if I default-- 921 00:53:17,020 --> 00:53:19,900 suppose I'm supposed to pay back, and I know I can pay 922 00:53:19,900 --> 00:53:22,950 back but, you know, I just refuse to do it. 923 00:53:22,950 --> 00:53:28,870 If the leader can basically have me ostracized then, in 924 00:53:28,870 --> 00:53:30,780 some sense, I'm not going to do it. 925 00:53:30,780 --> 00:53:33,130 And then given that I'm not going to do it, everybody else 926 00:53:33,130 --> 00:53:34,620 is willing to pay into the fund. 927 00:53:34,620 --> 00:53:38,150 So it's going to be huge leverage from effective 928 00:53:38,150 --> 00:53:38,690 leadership. 929 00:53:38,690 --> 00:53:41,370 That's the other actually conclusion of this paper is 930 00:53:41,370 --> 00:53:45,760 that there's a good leader in the first village, and he was 931 00:53:45,760 --> 00:53:48,670 very important in setting up these institutions. 932 00:53:48,670 --> 00:53:51,597 He made them work. 933 00:53:51,597 --> 00:53:52,571 Yeah. 934 00:53:52,571 --> 00:53:54,032 AUDIENCE: I was actually going to ask that. 935 00:53:54,032 --> 00:53:58,049 It seems that you have to someone who's a good leader in 936 00:53:58,049 --> 00:53:59,890 order to make these things work. 937 00:53:59,890 --> 00:54:04,773 But what was that guy or girl doing to keep people confident 938 00:54:04,773 --> 00:54:06,023 of the performance? 939 00:54:08,220 --> 00:54:09,960 PROFESSOR: I can't tell you. 940 00:54:09,960 --> 00:54:14,060 It said that the leader was very energetic, et cetera. 941 00:54:14,060 --> 00:54:16,300 There's a description of the leader, but it doesn't tell me 942 00:54:16,300 --> 00:54:19,880 what he was doing so much. 943 00:54:19,880 --> 00:54:23,930 OK, so we already talked about moral hazard-- 944 00:54:23,930 --> 00:54:26,960 other limits of insurance. 945 00:54:26,960 --> 00:54:29,830 But I wanted to emphasize that because I wanted to emphasize 946 00:54:29,830 --> 00:54:31,790 that this is not just a limit of insurance. 947 00:54:31,790 --> 00:54:35,000 It's a limit of any institution that is not 948 00:54:35,000 --> 00:54:36,890 enforced by legal punishments. 949 00:54:36,890 --> 00:54:39,880 Anything that's not enforced by legal punishments is 950 00:54:39,880 --> 00:54:43,440 fragile always. 951 00:54:43,440 --> 00:54:44,860 It will work if it works. 952 00:54:44,860 --> 00:54:46,490 It doesn't work, it doesn't work. 953 00:54:46,490 --> 00:54:50,200 That's sort of the main point of that example. 954 00:54:50,200 --> 00:54:53,370 If we all stop paying money into the fund then 955 00:54:53,370 --> 00:54:54,570 the fund will die. 956 00:54:54,570 --> 00:54:56,600 So I might as well take my money and run. 957 00:55:00,030 --> 00:55:03,550 That's true of not just insurance but of any other 958 00:55:03,550 --> 00:55:05,210 kind of institution. 959 00:55:05,210 --> 00:55:08,810 Now, moral hazard, we've talked about. 960 00:55:08,810 --> 00:55:12,320 I'm going to skip moral hazard. 961 00:55:12,320 --> 00:55:16,800 Here's another problem with informal insurance. 962 00:55:16,800 --> 00:55:18,630 This is all what we've been talking about a bit. 963 00:55:25,690 --> 00:55:30,660 So we've been sort of talking about implicitly default. 964 00:55:30,660 --> 00:55:32,910 But we've also been talking about one thing that an 965 00:55:32,910 --> 00:55:39,240 insurance arrangement demands is that when it's your time to 966 00:55:39,240 --> 00:55:41,580 pay, you pay. 967 00:55:41,580 --> 00:55:43,270 Sometimes you get money from the fund. 968 00:55:43,270 --> 00:55:45,360 Sometimes you pay into the fund. 969 00:55:45,360 --> 00:55:47,370 You have to be willing to pay money into the fund. 970 00:55:47,370 --> 00:55:49,050 That's what keeps it going. 971 00:55:51,920 --> 00:55:55,790 Why do you want to keep putting money in the fund? 972 00:55:55,790 --> 00:55:59,590 We said this already, but just to repeat. 973 00:55:59,590 --> 00:56:01,830 Today I am rich. 974 00:56:01,830 --> 00:56:04,260 I want to put money into the fund so that somebody else can 975 00:56:04,260 --> 00:56:05,290 take it out. 976 00:56:05,290 --> 00:56:06,540 Why would I want to do it? 977 00:56:11,660 --> 00:56:14,968 Why does anyone want to put money into a fund? 978 00:56:14,968 --> 00:56:15,780 AUDIENCE: [INAUDIBLE]. 979 00:56:15,780 --> 00:56:16,752 PROFESSOR: Sorry? 980 00:56:16,752 --> 00:56:18,120 AUDIENCE: To get more money back. 981 00:56:18,120 --> 00:56:18,560 PROFESSOR: Yeah. 982 00:56:18,560 --> 00:56:23,450 Eventually you pay me some return on the fund. 983 00:56:23,450 --> 00:56:26,890 But if it has to have an insurance component then it 984 00:56:26,890 --> 00:56:32,000 has to be that the return I get on it is lower than the 985 00:56:32,000 --> 00:56:36,830 market return because otherwise they could have 986 00:56:36,830 --> 00:56:38,020 borrowed from the market. 987 00:56:38,020 --> 00:56:40,770 It doesn't provide any insurance. 988 00:56:40,770 --> 00:56:45,110 So it can't be just because I want to get the money back. 989 00:56:45,110 --> 00:56:50,080 It must be because I expect that I will be able to borrow 990 00:56:50,080 --> 00:56:53,180 from the fund in the future as well. 991 00:56:53,180 --> 00:56:56,050 So I will be willing to put money into a fund which pays 992 00:56:56,050 --> 00:56:59,500 lower than market rate, which is what insurance is. 993 00:56:59,500 --> 00:57:04,080 Insurance is that I'm willing to lend to someone at lower 994 00:57:04,080 --> 00:57:09,590 than market rates so that when he's in bad shape, he doesn't 995 00:57:09,590 --> 00:57:10,500 suffer too much. 996 00:57:10,500 --> 00:57:11,650 That's what's insurance. 997 00:57:11,650 --> 00:57:14,268 AUDIENCE: It's probably also probably the reason why 998 00:57:14,268 --> 00:57:15,696 wealthier people would be less likely to give 999 00:57:15,696 --> 00:57:16,410 into a fund, right? 1000 00:57:16,410 --> 00:57:19,320 Because they're already exposed to less risk than they 1001 00:57:19,320 --> 00:57:19,390 have already. 1002 00:57:19,390 --> 00:57:21,359 PROFESSOR: Exactly. 1003 00:57:21,359 --> 00:57:23,454 AUDIENCE: I thought you said that why would a 1004 00:57:23,454 --> 00:57:23,854 rich person do it. 1005 00:57:23,854 --> 00:57:25,723 Because I was like, I don't know why a rich 1006 00:57:25,723 --> 00:57:26,710 person would do it. 1007 00:57:26,710 --> 00:57:28,870 PROFESSOR: Well, one reason they may want to do it is that 1008 00:57:28,870 --> 00:57:31,420 they feel the same need as-- 1009 00:57:31,420 --> 00:57:34,940 so what's an insurance fund? 1010 00:57:34,940 --> 00:57:37,370 An insurance fund is a fund where I put in money so that 1011 00:57:37,370 --> 00:57:40,820 other people can be helped in return for the fact that they 1012 00:57:40,820 --> 00:57:43,470 will put in money and I will be helped. 1013 00:57:43,470 --> 00:57:47,720 Why would I put in money now? 1014 00:57:47,720 --> 00:57:49,540 Because I expect to be helped in the future. 1015 00:57:49,540 --> 00:57:51,350 So what are the kinds of people who don't want 1016 00:57:51,350 --> 00:57:53,040 to join that fund? 1017 00:57:53,040 --> 00:57:57,580 You already gave one answer, which is people who are rich. 1018 00:57:57,580 --> 00:57:59,360 They don't expect to get helped. 1019 00:57:59,360 --> 00:58:01,390 So that's why you're going to see that if there's a lot of 1020 00:58:01,390 --> 00:58:05,620 inequality in the village, you're unlikely to see a fund 1021 00:58:05,620 --> 00:58:08,430 because the rich don't really think that they can be helped 1022 00:58:08,430 --> 00:58:09,650 by the poor. 1023 00:58:09,650 --> 00:58:11,730 If they ever need money, they're going to need, you 1024 00:58:11,730 --> 00:58:13,990 know, $100,000. 1025 00:58:13,990 --> 00:58:15,170 The poor won't have it. 1026 00:58:15,170 --> 00:58:17,460 And, otherwise, they won't need money. 1027 00:58:17,460 --> 00:58:18,718 Yeah. 1028 00:58:18,718 --> 00:58:20,200 AUDIENCE: I think the chapter also mentioned 1029 00:58:20,200 --> 00:58:23,164 timing as one factor. 1030 00:58:23,164 --> 00:58:28,104 I mean, if people always postpone, they value future 1031 00:58:28,104 --> 00:58:30,090 outcomes less than [INAUDIBLE]. 1032 00:58:30,090 --> 00:58:30,520 PROFESSOR: Right. 1033 00:58:30,520 --> 00:58:34,010 So you need to be forward looking to be willing to 1034 00:58:34,010 --> 00:58:36,070 behave well and be forward looking. 1035 00:58:36,070 --> 00:58:41,530 If I always think that, well, I'll just not pay now and 1036 00:58:41,530 --> 00:58:43,680 whatever happens in the future, that's 1037 00:58:43,680 --> 00:58:44,370 not going to work. 1038 00:58:44,370 --> 00:58:46,350 You need to be forward looking. 1039 00:58:46,350 --> 00:58:50,830 And what's the point around migration? 1040 00:58:50,830 --> 00:58:52,130 Why is migration important? 1041 00:59:08,722 --> 00:59:11,466 AUDIENCE: Could you say that as you have to expect to be in 1042 00:59:11,466 --> 00:59:12,121 that area to benefit? 1043 00:59:12,121 --> 00:59:12,870 PROFESSOR: In the villiage, yeah. 1044 00:59:12,870 --> 00:59:15,500 You need to be in the village to benefit from the fund. 1045 00:59:15,500 --> 00:59:20,760 If I expect to go away, I don't know whether I'm going 1046 00:59:20,760 --> 00:59:23,010 to be here to benefit from this fund. 1047 00:59:23,010 --> 00:59:25,600 So if there's a lot of mobility in a place then 1048 00:59:25,600 --> 00:59:26,760 everything falls apart. 1049 00:59:26,760 --> 00:59:37,930 So villages that are closer to the road, to a big city, find 1050 00:59:37,930 --> 00:59:40,500 it harder to insure each other. 1051 00:59:40,500 --> 00:59:41,110 Why? 1052 00:59:41,110 --> 00:59:45,300 Because everybody there has a link to the city. 1053 00:59:45,300 --> 00:59:48,870 So they don't know whether they're going to help from the 1054 00:59:48,870 --> 00:59:51,010 village or they're going to go to the city 1055 00:59:51,010 --> 00:59:52,910 and get a job there. 1056 00:59:52,910 --> 00:59:56,850 And so given that I am not committed to being in the 1057 00:59:56,850 --> 00:59:59,510 village, it's very hard to give me insurance. 1058 00:59:59,510 --> 01:00:01,480 So all of these things. 1059 01:00:01,480 --> 01:00:06,570 You need low mobility, low inequality, and forward 1060 01:00:06,570 --> 01:00:07,795 looking people. 1061 01:00:07,795 --> 01:00:08,785 Yeah. 1062 01:00:08,785 --> 01:00:11,095 AUDIENCE: Also we should say there are people who have 1063 01:00:11,095 --> 01:00:14,871 access to ways to save their money Right then-- 1064 01:00:14,871 --> 01:00:15,833 PROFESSOR: That's an excellent point. 1065 01:00:15,833 --> 01:00:19,690 What would a bank account do? 1066 01:00:19,690 --> 01:00:21,260 A bank account would undermine insurance. 1067 01:00:21,260 --> 01:00:21,850 Why? 1068 01:00:21,850 --> 01:00:25,640 Because in a bank account I now can get high 1069 01:00:25,640 --> 01:00:28,530 return on my savings. 1070 01:00:28,530 --> 01:00:33,720 So when I have money, it's more tempting for me to put it 1071 01:00:33,720 --> 01:00:36,050 in the bank account rather than put it in this fund, 1072 01:00:36,050 --> 01:00:38,280 which is going to pay me a lower return because it's 1073 01:00:38,280 --> 01:00:39,970 trying to help out other people. 1074 01:00:39,970 --> 01:00:44,350 So any outside options that you provide-- so financial 1075 01:00:44,350 --> 01:00:47,710 development might undermine local institutions. 1076 01:00:47,710 --> 01:00:50,540 So you might actually see worse institutions where the 1077 01:00:50,540 --> 01:00:54,096 financial system is better formally. 1078 01:00:54,096 --> 01:00:55,088 Yeah. 1079 01:00:55,088 --> 01:00:59,056 AUDIENCE: I misunderstood the whole fund. 1080 01:00:59,056 --> 01:01:02,540 You said that the market rate was higher than the fund rate. 1081 01:01:02,540 --> 01:01:02,872 PROFESSOR: Yes. 1082 01:01:02,872 --> 01:01:03,530 Yes. 1083 01:01:03,530 --> 01:01:07,940 AUDIENCE: So even if there was a bank and you experienced 1084 01:01:07,940 --> 01:01:10,432 some hardship, you would be more inclined to 1085 01:01:10,432 --> 01:01:10,780 borrow money from-- 1086 01:01:10,780 --> 01:01:11,350 PROFESSOR: Oh, absolutely. 1087 01:01:11,350 --> 01:01:12,812 It's the other way around. 1088 01:01:12,812 --> 01:01:15,170 The question is who do you borrow money from? 1089 01:01:15,170 --> 01:01:18,390 If the bank does it, it makes it too easy for me. 1090 01:01:18,390 --> 01:01:20,800 Today, I have money and you need money. 1091 01:01:20,800 --> 01:01:22,900 I'm going to put my money in the bank. 1092 01:01:22,900 --> 01:01:24,520 That's why you can't get money from the fund. 1093 01:01:27,180 --> 01:01:29,020 The fund is a two way street, right? 1094 01:01:29,020 --> 01:01:29,950 I need to put in money. 1095 01:01:29,950 --> 01:01:31,200 You need to take out money. 1096 01:01:34,630 --> 01:01:37,900 As my options of putting money elsewhere get better, it's 1097 01:01:37,900 --> 01:01:39,580 going to be harder and harder to force me to put 1098 01:01:39,580 --> 01:01:41,980 money into the fund. 1099 01:01:41,980 --> 01:01:44,080 AUDIENCE: Even if the rates at the other places are higher 1100 01:01:44,080 --> 01:01:45,330 than the rates at the fund. 1101 01:01:47,780 --> 01:01:49,640 PROFESSOR: Especially, right? 1102 01:01:49,640 --> 01:01:51,130 Let me be clear. 1103 01:01:51,130 --> 01:01:52,290 What are we saying? 1104 01:01:52,290 --> 01:01:53,920 There's a fund. 1105 01:01:53,920 --> 01:01:54,520 What's a fund? 1106 01:01:54,520 --> 01:01:59,260 The fund is that I put money into it. 1107 01:01:59,260 --> 01:02:00,940 I get lower than market rates. 1108 01:02:00,940 --> 01:02:01,240 Why? 1109 01:02:01,240 --> 01:02:03,400 Because I want to give that money to someone else who 1110 01:02:03,400 --> 01:02:07,340 needs it desperately, providing insurance. 1111 01:02:07,340 --> 01:02:10,430 There's also a bank, which pays the market rate. 1112 01:02:10,430 --> 01:02:14,550 Now, as the market rate gets higher, it's harder and harder 1113 01:02:14,550 --> 01:02:18,970 for the guy who has money today to not feel tempted to 1114 01:02:18,970 --> 01:02:22,350 put his money into the bank. 1115 01:02:22,350 --> 01:02:24,064 Yeah, you had a comment. 1116 01:02:24,064 --> 01:02:27,508 AUDIENCE: But, like, there's a threshold, right? 1117 01:02:27,508 --> 01:02:29,609 You have to have a certain amount of money before you can 1118 01:02:29,609 --> 01:02:30,240 open a bank account. 1119 01:02:30,240 --> 01:02:30,510 PROFESSOR: Sure. 1120 01:02:30,510 --> 01:02:33,385 So maybe the bank is not actually available to you. 1121 01:02:33,385 --> 01:02:35,460 But if the bank is available to you, that might actually be 1122 01:02:35,460 --> 01:02:36,710 bad for insurance. 1123 01:02:40,930 --> 01:02:43,630 That's sort of maybe surprising that a bank shows 1124 01:02:43,630 --> 01:02:46,280 up and that actually undermines people's ability to 1125 01:02:46,280 --> 01:02:51,070 insure each other because it's too easy to now park your 1126 01:02:51,070 --> 01:02:53,850 money elsewhere. 1127 01:02:53,850 --> 01:02:57,250 Other reasons why informal insurance doesn't work very 1128 01:02:57,250 --> 01:03:00,350 well, we've also talked about the 1129 01:03:00,350 --> 01:03:04,750 coordination quite a lot already. 1130 01:03:10,420 --> 01:03:13,370 If I expect to default on the fund then you 1131 01:03:13,370 --> 01:03:14,550 will default too. 1132 01:03:14,550 --> 01:03:16,800 That's coordination. 1133 01:03:16,800 --> 01:03:29,470 Also you would expect that these funds only work because 1134 01:03:29,470 --> 01:03:38,050 I know when you really need money and when you don't 1135 01:03:38,050 --> 01:03:41,130 because otherwise you could always say I need money. 1136 01:03:41,130 --> 01:03:45,460 So you're not letting people who are very isolated-- 1137 01:03:45,460 --> 01:03:49,020 so people who are not in the village network don't get into 1138 01:03:49,020 --> 01:03:49,930 these funds. 1139 01:03:49,930 --> 01:03:54,860 They tend to be of people who are relatively well connected 1140 01:03:54,860 --> 01:03:56,100 to the village community. 1141 01:03:56,100 --> 01:03:56,410 Why? 1142 01:03:56,410 --> 01:04:00,240 Because I need to know whether you're lying or not. 1143 01:04:00,240 --> 01:04:03,850 And if you live next to me I know that, yes, your cow died 1144 01:04:03,850 --> 01:04:04,760 or whatever. 1145 01:04:04,760 --> 01:04:11,330 Your pig was eaten up by a tiger or something, whatever 1146 01:04:11,330 --> 01:04:12,390 happens to pigs. 1147 01:04:12,390 --> 01:04:18,790 But if you live far away, how do I know whether you are in 1148 01:04:18,790 --> 01:04:19,890 trouble or not? 1149 01:04:19,890 --> 01:04:26,400 So it tends to be that this is concentrated among people who 1150 01:04:26,400 --> 01:04:28,220 know each other. 1151 01:04:28,220 --> 01:04:30,540 The scope of the insurance is limited. 1152 01:04:36,700 --> 01:04:42,280 And, finally, in some sense, this is a very bad mechanism 1153 01:04:42,280 --> 01:04:44,650 for dealing with shocks which affect everybody in the 1154 01:04:44,650 --> 01:04:47,600 village, obviously. 1155 01:04:47,600 --> 01:04:50,490 If there is one blight in the village which affects 1156 01:04:50,490 --> 01:04:53,180 everybody, this is not going to help anybody because nobody 1157 01:04:53,180 --> 01:04:55,660 can help each other. 1158 01:04:55,660 --> 01:05:00,690 So that takes us back to where we were at the end of the last 1159 01:05:00,690 --> 01:05:03,590 lecture, which is saying on the other hand, formal 1160 01:05:03,590 --> 01:05:06,420 insurance markets are hard to develop. 1161 01:05:06,420 --> 01:05:08,230 That's where we ended last time. 1162 01:05:08,230 --> 01:05:10,530 We said formal insurance markets are hard to develop. 1163 01:05:10,530 --> 01:05:11,110 Why? 1164 01:05:11,110 --> 01:05:13,500 Because people are suspicious of these products. 1165 01:05:13,500 --> 01:05:14,700 They don't understand them. 1166 01:05:14,700 --> 01:05:16,160 They're too complicated. 1167 01:05:16,160 --> 01:05:19,480 They have all these exclusions, which you don't 1168 01:05:19,480 --> 01:05:20,270 understand. 1169 01:05:20,270 --> 01:05:21,170 So you don't like it. 1170 01:05:21,170 --> 01:05:23,680 I was telling the story of all of these women who got really 1171 01:05:23,680 --> 01:05:27,670 upset because one of their friend's husband died. 1172 01:05:27,670 --> 01:05:30,260 But the medical health insurance didn't pay for it. 1173 01:05:30,260 --> 01:05:33,095 Health insurance was actually right in not paying for it in 1174 01:05:33,095 --> 01:05:36,185 formal terms because their contract said we'll only pay 1175 01:05:36,185 --> 01:05:37,740 for people who go to the hospital. 1176 01:05:37,740 --> 01:05:39,080 He died at home. 1177 01:05:39,080 --> 01:05:43,890 But they thought that, well, something bad happened. 1178 01:05:43,890 --> 01:05:45,450 Why aren't you paying for it? 1179 01:05:45,450 --> 01:05:49,820 So they basically got very upset. 1180 01:05:49,820 --> 01:05:52,150 So insurance is confusing. 1181 01:05:52,150 --> 01:05:55,610 Formal insurance has rules, which if you [INAUDIBLE] 1182 01:05:55,610 --> 01:05:56,990 you don't understand. 1183 01:05:56,990 --> 01:06:02,200 It tends to be quite limited in other ways. 1184 01:06:02,200 --> 01:06:06,530 I know a lot about my neighbors. 1185 01:06:06,530 --> 01:06:13,290 I know if his cow was eaten up by a tiger, for example. 1186 01:06:13,290 --> 01:06:16,880 Insurance company doesn't know anything about my neighbor, so 1187 01:06:16,880 --> 01:06:19,640 it can't insure things like that. 1188 01:06:19,640 --> 01:06:20,950 But there's a very nice story. 1189 01:06:25,220 --> 01:06:27,120 So cow insurance-- 1190 01:06:27,120 --> 01:06:29,360 I bring up the example because it's a good example. 1191 01:06:32,190 --> 01:06:35,020 Insuring cows is a big issue in every developing country 1192 01:06:35,020 --> 01:06:36,990 because cows are a major asset. 1193 01:06:36,990 --> 01:06:40,080 In some countries, like in Botswana, it's the single 1194 01:06:40,080 --> 01:06:42,910 biggest asset other than diamonds, it turns out. 1195 01:06:42,910 --> 01:06:45,420 So there only two major assets in Botswana. 1196 01:06:45,420 --> 01:06:48,150 They are cows and diamonds. 1197 01:06:48,150 --> 01:06:49,730 But most people have cows. 1198 01:06:49,730 --> 01:06:51,880 Very few people have diamonds. 1199 01:06:51,880 --> 01:06:58,290 So insurance companies have been trying for a long time to 1200 01:06:58,290 --> 01:06:59,340 insure cows. 1201 01:06:59,340 --> 01:07:04,370 The problem is that you insure cows by saying if the cow 1202 01:07:04,370 --> 01:07:06,380 dies, I'll pay you money. 1203 01:07:06,380 --> 01:07:09,190 But it's convenient for cows to die because 1204 01:07:09,190 --> 01:07:10,970 they turn into steaks. 1205 01:07:10,970 --> 01:07:14,630 And steaks, many people like them. 1206 01:07:14,630 --> 01:07:19,910 So they create a huge moral hazard problem. 1207 01:07:19,910 --> 01:07:23,170 So this company, [INAUDIBLE], had a very clever idea. 1208 01:07:23,170 --> 01:07:28,270 They said that if you claim that your cow has died, you're 1209 01:07:28,270 --> 01:07:29,870 to bring me the ear of the cow. 1210 01:07:33,510 --> 01:07:37,210 Dead cow, you're to cut his ear off and show it to me. 1211 01:07:37,210 --> 01:07:39,210 I don't know. 1212 01:07:39,210 --> 01:07:40,460 What happened? 1213 01:07:42,770 --> 01:07:44,230 AUDIENCE: A lot of earless cows? 1214 01:07:48,166 --> 01:07:51,088 AUDIENCE: So everytime my cow died I would start cutting off 1215 01:07:51,088 --> 01:07:53,320 ears and creating, like, a black market [INAUDIBLE]. 1216 01:07:53,320 --> 01:07:54,420 PROFESSOR: Right. 1217 01:07:54,420 --> 01:07:56,130 So imagine my cow dies. 1218 01:07:56,130 --> 01:07:56,630 I'm not insured. 1219 01:07:56,630 --> 01:07:57,820 What do I do? 1220 01:07:57,820 --> 01:08:00,550 I cut off his ear and sell it to somebody who's insured. 1221 01:08:00,550 --> 01:08:04,210 It created a robust market for cow ears. 1222 01:08:04,210 --> 01:08:06,360 Everybody was buying cow ears to go to the 1223 01:08:06,360 --> 01:08:08,070 bank and collect insurance. 1224 01:08:08,070 --> 01:08:14,180 So that's your primary problem with sort of formal insurance. 1225 01:08:14,180 --> 01:08:16,620 They don't know where the cow died. 1226 01:08:16,620 --> 01:08:18,819 They have to figure out a way to track that down. 1227 01:08:18,819 --> 01:08:23,760 That's not easy to do because of this ear problem. 1228 01:08:23,760 --> 01:08:26,840 So basically we're between a rock and a hard place. 1229 01:08:26,840 --> 01:08:28,540 People don't understand insurance. 1230 01:08:28,540 --> 01:08:35,330 Insurance is incomplete, at best, because you can't really 1231 01:08:35,330 --> 01:08:36,859 insure cows because I don't know when 1232 01:08:36,859 --> 01:08:38,420 your cow died or not. 1233 01:08:38,420 --> 01:08:40,979 On the other hand, if we look at insurance that comes from 1234 01:08:40,979 --> 01:08:44,069 the community, the people who have the information, that is 1235 01:08:44,069 --> 01:08:46,229 too limited for these other reasons we've discussed. 1236 01:08:46,229 --> 01:08:48,779 So we were kind of between a rock and a hard place. 1237 01:08:48,779 --> 01:08:54,560 So I think the message of this particular area is that this 1238 01:08:54,560 --> 01:09:00,470 is a classic area where a government providing some kind 1239 01:09:00,470 --> 01:09:06,359 of insurance that's not expected to break even is much 1240 01:09:06,359 --> 01:09:07,609 more efficient. 1241 01:09:11,700 --> 01:09:15,149 So rather than thinking of insurance 1242 01:09:15,149 --> 01:09:18,340 which is market supplied-- 1243 01:09:18,340 --> 01:09:22,104 for example, a government scheme which says you can come 1244 01:09:22,104 --> 01:09:27,090 to work whenever you need to work and we'll pay you a 1245 01:09:27,090 --> 01:09:34,290 minimum wage is very effective because 1246 01:09:34,290 --> 01:09:35,279 the wage is low enough. 1247 01:09:35,279 --> 01:09:38,090 You're not ever going to take that job if 1248 01:09:38,090 --> 01:09:44,359 you have a real job. 1249 01:09:44,359 --> 01:09:46,689 You only take it when you're desperate. 1250 01:09:46,689 --> 01:09:50,010 So that's a very efficient way to provide insurance. 1251 01:09:50,010 --> 01:09:51,810 Now, the problem is that that's not 1252 01:09:51,810 --> 01:09:53,750 going to fund itself. 1253 01:09:53,750 --> 01:09:58,950 It's a one way payment from the government. 1254 01:09:58,950 --> 01:10:02,490 But on the other hand, it makes sure that anybody who is 1255 01:10:02,490 --> 01:10:05,520 really desperate can find a job and 1256 01:10:05,520 --> 01:10:07,860 therefore it secures them. 1257 01:10:07,860 --> 01:10:09,370 So in some terms this is a classic area-- 1258 01:10:09,370 --> 01:10:11,930 or if you think of insurance where people don't understand 1259 01:10:11,930 --> 01:10:16,000 the product, well, they don't want to buy it because they 1260 01:10:16,000 --> 01:10:16,820 don't understand the product. 1261 01:10:16,820 --> 01:10:18,680 But if you provide it free, they'll take it. 1262 01:10:18,680 --> 01:10:23,210 So if the government were to actually subsidize insurance, 1263 01:10:23,210 --> 01:10:25,960 that might be a very good way to help poor people because 1264 01:10:25,960 --> 01:10:28,730 it's something that they don't understand 1265 01:10:28,730 --> 01:10:29,930 that's good for them. 1266 01:10:29,930 --> 01:10:34,090 The demand is too low because they don't know how to 1267 01:10:34,090 --> 01:10:34,330 interpret it. 1268 01:10:34,330 --> 01:10:37,970 On the other hand, they will get the benefits from it. 1269 01:10:37,970 --> 01:10:42,430 I think insurance is a very, very natural place for public 1270 01:10:42,430 --> 01:10:43,680 intervention. 1271 01:10:43,680 --> 01:10:46,680 And I think that's sort of what makes it really 1272 01:10:46,680 --> 01:10:50,860 interesting is how to design good insurance products for 1273 01:10:50,860 --> 01:10:55,720 poor people which possibly combine some advantage of the 1274 01:10:55,720 --> 01:11:00,540 market and some advantages of public funding. 1275 01:11:00,540 --> 01:11:03,600 So, for example, instead of the government providing 1276 01:11:03,600 --> 01:11:07,340 health care, maybe everybody should have health insurance 1277 01:11:07,340 --> 01:11:11,220 with some appropriately designed coverage. 1278 01:11:11,220 --> 01:11:13,450 And maybe that should be provided free to people. 1279 01:11:13,450 --> 01:11:15,710 If they don't understand the value of it, that's fine. 1280 01:11:15,710 --> 01:11:18,660 In the end, sick people are a burden of the government. 1281 01:11:18,660 --> 01:11:23,930 So they might as well provide it ex-ante. 1282 01:11:23,930 --> 01:11:26,610 Providing a job to everybody-- 1283 01:11:26,610 --> 01:11:29,670 work fair is the word people use in the US-- 1284 01:11:29,670 --> 01:11:34,240 to people who want a job is a way to make sure that people, 1285 01:11:34,240 --> 01:11:37,370 when they're desperate, there's some way of generating 1286 01:11:37,370 --> 01:11:41,050 income and that the wage at that income doesn't go down 1287 01:11:41,050 --> 01:11:43,200 because everybody's demanding a job. 1288 01:11:43,200 --> 01:11:45,470 So in some sense it's a way to secure people. 1289 01:11:45,470 --> 01:11:49,830 And it's a way to do it efficiently, to make sure that 1290 01:11:49,830 --> 01:11:52,210 the right people go to it. 1291 01:11:52,210 --> 01:11:53,330 You don't want to give them money. 1292 01:11:53,330 --> 01:11:56,080 You want to give them a job because a job has the 1293 01:11:56,080 --> 01:11:58,070 advantage that you get targeted. 1294 01:11:58,070 --> 01:12:00,130 So in some sense it's a good domain to think 1295 01:12:00,130 --> 01:12:02,190 about public policy. 1296 01:12:02,190 --> 01:12:03,120 I'll stop here. 1297 01:12:03,120 --> 01:12:04,590 We might talk a little bit more about it later.