Consumption Smoothing Responses to Natural Disasters : Evidence from a Quasi-Natural Experiment in Nicaragua

Rural households in developing countries are faced with a variety of risks to both income processes and consumption streams. The literature examining household risk management and coping strategies primarily focuses upon the ability of households to respond to idiosyncratic income shocks in the absence of formal financial markets and credit institutions, but little attention has been paid to the role of the informal mechanisms under systemic shocks that are covariate within their co-insurance groups. In this paper, I exploit a quasi-natural experiment, specifically median rainfall by region from Hurricane Mitch in Nicaragua, to examine the effect of a systemic shock on a household’s ability to smooth consumption when formal and informal mechanisms fail. Results indicate that households are unable to smooth idiosyncratic shocks, as evidenced by decreased expenditure on food items, and that the systemic shock has a much larger effect, especially upon health and education expenditures. Under catastrophic shocks and covariate risk, households rely increasingly upon migration and remittances as ex-post coping mechanisms, but there is little conclusive evidence regarding the effect upon informal social networks