Separation Without Mutual Exclusion in Financial Insurance

18 Pages Posted: 10 Apr 2012

See all articles by Eric Stephens

Eric Stephens

University of Alberta

James R. Thompson

University of Waterloo - School of Accounting and Finance

Date Written: April 1, 2012

Abstract

In traditional economic models of insurance, sellers typically employ a non-linear pricing scheme to elicit type information from buyers. In financial insurance contracts, such a policy is not possible since contracts are non-exclusive. In addition, counterparty risk in financial contracts can be particularly problematic relative to traditional insurance. Accordingly, we relax the standard assumption of contract exclusivity and allow the insured to contract with many sellers, some of which may be unstable. In contrast to the traditional insurance model, we show that separation of risk types among insured parties can be achieved with linear pricing when there is aggregate counterparty risk. This result is shown to collapse when contracts are cleared through a central counterparty, suggesting that such an arrangement can create opacity.

Keywords: Insurance, Separation, Mutual Exclusion, Counterparty Risk

Suggested Citation

Stephens, Eric and Thompson, James R., Separation Without Mutual Exclusion in Financial Insurance (April 1, 2012). Available at SSRN: https://ssrn.com/abstract=2038033 or http://dx.doi.org/10.2139/ssrn.2038033

Eric Stephens

University of Alberta ( email )

8-14 Tory Building
Edmonton, Alberta T6G 2H4
Canada

James R. Thompson (Contact Author)

University of Waterloo - School of Accounting and Finance ( email )

200 University Avenue West
Waterloo, Ontario N2L 3G1 N2L 3G1
Canada

HOME PAGE: http://arts.uwaterloo.ca/~james

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