George B. Flanigan

Returns to Scale in the Property and Liability Insurance Industry

Important public policy implications derive from the question of whether or not there are returns to scale in the property-liability insurance industry. This study employs methodological and data management techniques designed to explore the question more reliably. These are the use of a large sample capturing over 90 percent of industry premiums, the classification of insurers according to four marketing systems rather than two, and the acknowledgement of corporate relationship among insurers in the form of groups. Findings are at variance with those of prior studies in indicating the existence of returns to scale.

Cost Implications of No-Fault Automobile Insurance.

No fault advocates commonly predict automobile insurance cost savings for consumers in states adopting no-faults statutes in place of a tort system. For states implementing no-fault, the cost results have been mixed. This study compares the loss costs of no-fault from 1974 through 1985. Not surprisingly, the findings suggest that the bodily injury liability loss costs were lower on average in no-fault states than in tort states after controlling for the influence of wages, population density, and the presence of comparative negligence. However, total bodily injury related costs were not significantly lower on average in no-fault states, and they were significantly higher in states with compulsory add-on laws and to a lesser extent in states with high tort thresholds. Whether the lack of estimated cost savings on average in no-fault states in attributable to selection bias or not, the causes of this result are important issues for further research.

Experience from Early Tort Reforms: Comparative Negligence Since 1974.

Insurance consumers in states that have adopted comparative negligence pay more for automobile liability insurance than do consumers in states that retain contributory negligence. Through the use of a transformed generalized least squares regression model, allowance is made for: no-fault, population density, state-specific price-level, and automobile safety/fatality differences. States with pure comparative have much higher costs than do states with modified comparative negligence; states with modified comparative have higher costs than those with contributory negligence. The influence of alternative liability rules on the cost of insurance is of public concern. In recent years many states have changed from contributory negligence to either pure or modified comparative negligence. This article examines the cost of automobile insurance under three liability rules. The authors conclude that states with either type of comparative negligence have higher automobile insurance costs.

Some Findings on the Costs and Benefits of Mutual Fund Insurance

Insurance against the loss of ones investment in open-ended mutual fund shares is new on the American insurance scene.1 It is marketed only by Harleysville Mutual Insurance Company, and is available to investors in those mutual funds that have entered into an agreement with Harleysville. The insurance guarantee can be summarized as follows: the investor is guaranteed that at the end of 10 years the investment will equal at least the amount of the original outlay (including the sales commission) plus the direct cost of the insurance program (8 percent of original outlay).2 What the guarantee amounts to is an opportunity for the investor to seek the sometimes abundant returns of the stock market through the mutual fund medium while being completely shielded from downside risk.3 The primary purpose of this article is to evaluate the costs and benefits to the investor of this shield, with a secondary purpose being to speculate about what sort of underwriting performance the company may have.

Cost Effectiveness of Marketing Channels Used by the Property and Liability Insurance Industry

The relative cost effectiveness of distribution channels used in the property and liability insurance industry was determined through multiple regression analysis. Study results suggest that a step function exists which describes the relative costliness of the various distribution systems. In the current study, the highest cost system appeared to be the independent agency system, followed by the exclusive agency system. Next was the salaried employee system, and finally the mail order system.

Exceptions to Current Risk Dichotomies

Risk and insurance writers have devised a number of general distinctions into which risk situations can be separated. The two primary sets of distinctions are speculative versus pure risks and fundamental versus particular risks. Literally all basic risk and insurance texts (for example, Bickelhaupt, Greene) distinguish between pure and speculative risks in terms of whether or not a situation enjoys the potential of profit. Pure risks contain in them only the possibility of loss, while speculative risks contain both the possibility of gain and the possibility of loss. Textbooks generally suggest that pure risks are insurable and speculative risks are uninsurable because profit is the reward for risk-taking. It follows that if insurance were provided, the premium, if accurately derived, would exhaust the expected profit. Of course the same reasoning applies to insurance on investments. Expected investment rates of return conventionally are characterized as consisting of a risk-free component plus a risk premium. The risk-free component is the reward for sacrificing current consumption for future consumption (the time value of money). The risk premium is the reward for bearing risk-the possibility that the investment will sour and some or all of the capital will be lost. In the face of competition, no insurance mechanism can insure all or part of the risk premium because the insurer must levy an insurance charge sufficient to cover anticipated losses. Thus, both the insurance charge and the risk premium are based on the same anticipated losses, and consequently, the insurance charge must exhaust the risk premium. The possibility of short-run aberrations exists, but the risk premium on risky investments is not insurable in the long-run. Either the insurance mechanism will go bankrupt from not charging enough for protection, or investors, observing excess returns after allowance for the cost of insurance, will enter, drive up the price of financial assets, and decrease the rate of return. Similarly, risk situations are separated into fundamental and particular. Kulp and Hall are credited with this distinction and their book serves to summarize it succinctly: