Advantageous Selection in Insurance Markets

Abstract

This paper reverses the standard conclusion that asymmetric information plus competition results in insu cient insurance provision. Risk-tolerant individuals take few precautions and are disinclined to insure, but are drawn into a pooling equilibrium by the low premiums createdbythepresence of safer, more risk-averse types. Taxing insurance drives out the reckless clients, allowing a strict Pareto gain. This result depends on administrative costs in processing claims and issuing policies, as does the novel nding of a pure-strategy, partial-pooling, sub-game-perfect, Nash equilibrium in the insurance market. We would like to thank Heskey Bar-Issac, John Black, George Bulkley, Konstantinos Koufopoulos and especially the Editor Lars Stole and two referees for exceptionally helpful comments. Wewould also like to thank seminar participants at Universities of Bologna, Bocconi, Edinbugh, Exeter, Oxford, CEMFI, LSE and EARIE 2000 for useful discussions.

Estimating Welfare in Insurance Markets Using Variation in Prices

“…Once again, the source of market ine¢ ciency is that consumers vary in their marginal cost, but …rms are restricted to uniform pricing, and in equilibrium price is based on average cost. However, with advantageous selection the resultant market failure is one of over-insurance rather than under-insurance (i.e., Q ef f < Q eqm in Figure 2), as has been pointed out by de Meza and Webb (2001), among others. Intuitively, insurance providers have an additional incentive to reduce price, as the infra-marginal customers whom they acquire as a result are relatively good risks.…”

Adverse selection in group insurance: The virtues of failing to represent voters

“…It turns out, however, that if customers have hidden information about both their risk preferences and their risk levels, adverse selection need not produce a correlation between insurance quantity and risk level (de Meza and Webb 2001). A more robust prediction of adverse selection is a correlation between insurance quantities purchased and subjective (Finkelstein and McGarry 2003).…”

On the Role of Patience in an Insurance Market With Asymmetric Information

“…Arnott and Stiglitz (1988)), or a combination of both (e.g. de Meza and Webb (2001) or the present model). Both pure theories on their own suggest that in equilibrium a higher cover implies a higher risk, thus leading to a positive correlation between cover and loss probability.…”

“…Before analyzing equilibria of the model, we outline the properties of separating and pooling equilibria, following de Meza and Webb (2001). The outside option contract (no insurance) is denoted by O.…”

“…The aim of this article is to analyze the effects of differences in the personal discount rate of individuals in a competitive insurance market. For this purpose we employ a two-period model with both moral hazard and adverse selection in the spirit of de Meza and Webb (2001). However, it is assumed that the informational asymmetry is not with regard to risk aversion but the individuals' personal discount rate, which can either be high (impatient) or low (patient).…”