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The Cost of Financial Frictions for Life Insurers
During the financial crisis, life insurers sold long-term policies at deep discounts relative to actuarial value. The average markup was as low as—19 percent for annuities and — 57 percent for life insurance. This extraordinary pricing behavior was due to financial and product market frictions, interacting with statutory reserve regulation that allowed life insurers to record far less than a dollar of reserve per dollar of future insurance liability. We identify the shadow cost of capital through exogenous variation in required reserves across different types of policies. The shadow cost was $0.96 per dollar of statutory capital for the average company in November 2008.
Journal Article
UNDERSTANDING THE ADVICE OF COMMISSIONS-MOTIVATED AGENTS
We conduct a series of field experiments to evaluate the quality of advice provided by life insurance agents in India. Agents overwhelmingly recommend unsuitable, strictly dominated products that provide high commissions to the agent. Agents cater to the beliefs of uninformed consumers, even when those beliefs are wrong. We also find that agents appear to focus on maximizing the amount of premiums (and therefore their commissions) that customers pay, as opposed to focusing on how much insurance coverage customers need. A natural experiment requiring disclosure of commissions for a specific product results in agents recommending alternative products with high commissions but no disclosure requirement. A follow-up agent survey sheds light on the extent to which poor advice reflects both the commission incentives and agents’ limited product knowledge.
Journal Article
A Consolidated MCDM Framework for Overall Performance Assessment of Listed Insurance Companies Based on Ranking Strategies
The main objective of this study is to analyze the performance of non-life insurance companies operating in the Turkish insurance industry with a hybrid model including Pythagorean Fuzzy Analytic Hierarchy Process (PFAHP) and Multi-Attributive Ideal-Real Comparative Analysis (MAIRCA) methods. For this purpose, the performance assessment indicators, consisting of fourteen sub-criteria in three dimensions are taken into account for comparing five insurance companies traded on the Borsa Istanbul (BIST) over five consecutive years (2015 to 2019). Subsequently, year-wise rankings are aggregated using the Borda count (BC) procedure. The results of PFAHP indicate that service network is the most important main criterion (dimension) for performance assessment of non-life insurance companies, followed by stock market performance and financial ratios that come in the second and third ranks, respectively. Furthermore, the results of MAIRCA based on BC procedure reveal that Halk Sigorta, a state-owned insurance company, is the most successful company in terms of selected performance indicators in the period examined. A comprehensive sensitivity analysis is performed in order to test stability and the robustness of the results from the proposed framework, and the results of sensitivity analysis confirms the rationality and robustness of the suggested integrated MCDM framework. As a result, the suggested assessment framework can be applied by different decision-making groups in the industry as a valuable and practical decision-making tool for monitoring and improving the performance of insurance companies. Finally, some of managerial implications are also discussed.
Journal Article
Reaching for Yield in the Bond Market
This paper studies reaching for yield—investors' propensity to buy riskier assets to achieve higher yields—in the corporate bond market. We show that insurance companies reach for yield in choosing their investments. Consistent with lower rated bonds bearing higher capital requirements, insurance firms prefer to hold higher rated bonds. However, conditional on credit ratings, insurance portfolios are systematically biased toward higher yield, higher CDS bonds. This behavior is related to the business cycle being most pronounced during economic expansions. It is also characteristic of firms with poor corporate governance and for which the regulatory capital requirement is more binding.
Journal Article
PRIVATE INFORMATION AND INSURANCE REJECTIONS
Across a wide set of nongroup insurance markets, applicants are rejected based on observable, often high-risk, characteristics. This paper argues that private information, held by the potential applicant pool, explains rejections. I formulate this argument by developing and testing a model in which agents may have private information about their risk. I first derive a new no-trade result that theoretically explains how private information could cause rejections. I then develop a new empirical methodology to test whether this no-trade condition can explain rejections. The methodology uses subjective probability elicitations as noisy measures of agents' beliefs. I apply this approach to three nongroup markets: long-term care, disability, and life insurance. Consistent with the predictions of the theory, in all three settings I find significant amounts of private information held by those who would be rejected; I find generally more private information for those who would be rejected relative to those who can purchase insurance, and I show it is enough private information to explain a complete absence of trade for those who would be rejected. The results suggest that private information prevents the existence of large segments of these three major insurance markets.
Journal Article