Imperfect Insurance Markets: An Economic Analysis of Externalities and Consumer Diversity
The focus of this thesis is on consumer diversity. Incorporating consumer heterogeneity into economic analysis is well-established in industrial organization literature; this aspect is, however, often neglected in microeconomic insurance models. A first new approach lies in analyzing risk interdependencies. When risks are interdependent, an agent’s decision to selfprotect affects the loss probabilities faced by others. Due to these externalities, economic agents invest too little in prevention relative to the socially efficient level by ignoring marginal external costs or benefits conferred on others. We analyze an insurance market with externalities of loss prevention. It is shown in a model with heterogenous agents and imperfect information that a monopolistic insurer can achieve the social optimum by engaging in pre-mium discrimination. An insurance monopoly reduces not only costs of risk selection, but may also play an important social role in loss prevention. This result can be empirically confirmed. We also deal with the impact of intermediation on insurance market transparency and performance. In a differentiated insurance market under imperfect information, uninformed consumers may become informed about product suitability by consulting an intermediary. We analyze current broker compensation systems: commissions and fees. While insurers' equilibrium profits are equivalent under both systems, social welfare under fees is first-best efficient. Both systems may offer the opportunity to increase profits via collusion. Under a commission system, collusion enables insurers to separate consumers into groups purchasing different contracts. Insurers may then extract additional rents from some consumers. This might explain why intermediaries tend to be compensated by insurers in practice. Finally, we study optimal monopoly pricing given imperfect information and heterogenous policyholders.
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aﬀect assumptions aversion become informed beneﬁt brokers coinsurance collusion commission system competitive insurance market concave contingent commissions customers demand for insurance diﬀerent distribution eﬀects eﬃcient engaging in premium expected loss expected proﬁt expected utility expected value fair premium ﬁnal wealth ﬁnd ﬁrms ﬁrst ﬁxed loading fee full insurance given Hence imperfect information incentive increase indiﬀerent indirect risk individual risk ineﬃcient insurance coverage insurance demand insurance monopolies insurance premium insurance products insurance providers interdependent risks intermediaries intermediation invest in loss invest in prevention liability loss prevention loss reduction market transparency maximum mismatch monopolistic insurer moral hazard Nash equilibrium optimal insurance optimal pricing premium discrimination premium loading pricing strategy probability of loss product diﬀerentiation product varieties proﬁtable pure strategy Risk and Insurance risk neutral risk preferences risk premium risk-averse risk-averse agents Schlesinger social prevention level social welfare Stiglitz strict liability suﬃcient uninformed consumers utility function zero