Optimal Insurance with Counterparty Default Risk

Biffis, Enrico; Millossovich, Pietro

doi:10.2139/ssrn.1634883

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Optimal Insurance with Counterparty Default Risk

41 Pages Posted: 6 Jul 2010 Last revised: 30 Apr 2012

See all articles by Enrico Biffis

Pietro Millossovich

The Business School (formerly Cass); University of Trieste - Dipartimento di Scienze Aziendali Economiche Matematiche e Statistiche B. de Finetti

Date Written: April 15, 2012

Abstract

We study the design of optimal insurance contracts when the insurer can default on its obligations. In our model default arises endogenously from the interaction of the insurance premium, the indemnity schedule and the insurer's assets. This allows us to understand the joint effect of insolvency risk and background risk on optimal contracts. The results may shed light on the aggregate risk retention schedules observed in catastrophe reinsurance markets, and can assist in the design of (re)insurance programs and guarantee funds.

Keywords: insurance demand, default risk, catastrophe risk, limited liability, incomplete markets

JEL Classification: D52, D81, G22

Suggested Citation: Suggested Citation

Biffis, Enrico and Millossovich, Pietro, Optimal Insurance with Counterparty Default Risk (April 15, 2012). Available at SSRN: https://ssrn.com/abstract=1634883 or http://dx.doi.org/10.2139/ssrn.1634883