Is the Risk-Based Mechanism Always Better? The Risk-Shifting Behavior of Insurers Under Different Insurance Guarantee Schemes

International Center for Insurance Regulation Working Paper Series No. 12/12

28 Pages Posted: 21 May 2014 Last revised: 18 Dec 2017

See all articles by Ming Dong

Ming Dong

Goethe University Frankfurt

Helmut Gründl

Goethe University Frankfurt - Department of Finance; International Center for Insurance Regulation

Sebastian Schluetter

Goethe University Frankfurt - International Center for Insurance Regulation

Multiple version iconThere are 2 versions of this paper

Date Written: May 14, 2014

Abstract

Insurance guarantee schemes (IGSs) aim to protect policyholders from the costs of insurer insolvencies. However, IGSs can also reduce the incentives of insurers to conduct appropriate risk management. We investigate the risk-taking behavior of a stock insurer under insurance guarantee schemes with two di fferent fi nancing alternatives: a flat-rate premium assessment versus a risk-based premium assessment. Previous studies indicate that the flat-rate premium assessment can induce insurers to take more risks, a problem that can be resolved under the risk-based premium assessment. Our results show that the risk-taking incentive of the insurer can also occur under the risk-based IGS. The risk-based mechanism is only superior to the flat-rate one, if an appropriate premium loading is included. Furthermore, we identify which IGS leads to higher policyholders' welfare, measured by their expected utility. We fi nd that the risk-based IGS can be more advantageous in improving the policyholders' welfare due to the limited risk of the insurer, compared to the flat-rate IGS.

Keywords: Insurance guarantee schemes, risk-taking, consumer protection

Suggested Citation

Dong, Ming and Gründl, Helmut and Schluetter, Sebastian, Is the Risk-Based Mechanism Always Better? The Risk-Shifting Behavior of Insurers Under Different Insurance Guarantee Schemes (May 14, 2014). International Center for Insurance Regulation Working Paper Series No. 12/12, Available at SSRN: https://ssrn.com/abstract=2439156 or http://dx.doi.org/10.2139/ssrn.2439156

Ming Dong

Goethe University Frankfurt ( email )

Grüneburgplatz 1
Frankfurt am Main, 60323
Germany

Helmut Gründl (Contact Author)

Goethe University Frankfurt - Department of Finance ( email )

Theodor-W.-Adorno-Platz 3
Frankfurt am Main, Hessen 60323
Germany

HOME PAGE: http://https://www.wiwi.uni-frankfurt.de/en/departments/finance/home.html

International Center for Insurance Regulation ( email )

House of Finance
Campus Westend, Goethe University
Frankfurt am Main, D-60323
Germany

HOME PAGE: http://www.icir.de

Sebastian Schluetter

Goethe University Frankfurt - International Center for Insurance Regulation ( email )

House of Finance
Campus Westend, Goethe University
Frankfurt, D-60323
Germany
+49 (69) 798-33683 (Phone)

HOME PAGE: http://www.icir.de/index.php?option=com_content&view=article&id=329%3Aschluetter&catid=39&Itemid=249

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