Robert Gagné

Replacement Cost Endorsement and Opportunistic Fraud in Automobile Insurance

Traditional insurance contracts do not offer protection against the replacement value of a vehicle. A replacement cost endorsement gives the opportunity to get a new vehicle in the case of a total theft or in the case of total destruction of the car in a road accident. This type of protection was introduced in Canada in the late 1980s. It is also offered in France and many insurers in the United States are going to move in that direction. We propose tests that separate moral hazard from adverse selection in the analysis of the effect of this additional protection on car theft. We show that holders of car insurance policies with a replacement cost endorsement have a higher probability of theft near the end of this additional protection (usually 24 months following the acquisition of a new car). Our tests indicate that this result is a form of ex post moral hazard or opportunistic insurance fraud.

Debt, moral hazard and airline safety An empirical evidence

Abstract For many years, there has been a proliferation of theoretical articles on ex-ante moral hazard without any strong empirical measure of its effect on resource allocation. In this article, we present a detailed analysis of the relationship between the financial structure of airlines and the private safety decisions of managers. We show that an increase in the debt-equity ratio is theoretically ambiguous on safety: there is a trade-off between efficiency in investment and moral hazard. All estimated models do not reject the Poisson distribution assumption. Many financial variables are significant when explaining the distribution of accidents. More particularly, our results indicate that the moral hazard effect on safety is dominated by the investment effect for carriers in good financial conditions, while the moral hazard effect dominates for those experiencing financial difficulties.

DEDUCTIBLE CONTRACTS AGAINST FRAUDULENT CLAIMS: EVIDENCE FROM AUTOMOBILE INSURANCE

Insurance fraud is now recognized as a significant resource-allocation problem in many markets. The object of this study is to verify how straight deductible contracts may affect the equilibrium level of falsification in automobile insurance. This type of contract is observed in many markets, even if it is not optimal under costly state falsification. A higher deductible may create incentives to fraud or cheat, particularly when the insured anticipates that the claim has a small probability of being audited. To verify this proposition, we estimate a loss equation for which one of the determinants is the amount of the deductible, using a data set of claims filed for damages following an automobile accident with twenty insurance companies in Quebec in 1992. Because we have access only to reported losses, a higher deductible also implies a lower probability of reporting small losses. To isolate the fraud effect related to the presence of a deductible in the contract, we jointly estimate a loss equation and a threshold equation. The threshold is the amount over which an insured decides to report a given loss. It can be interpreted as a personal deductible, and it is not observable. Our results indicate, among other things, that with an appropriate correction for selectivity the amount of the deductible is a significant determinant of the reported loss, at least when no other vehicle is involved in the accident; in other words, when the presence of witnesses is less likely.

Efficiency of Insurance Firms With Endogenous Risk Management and Financial Intermediation Activities

Risk management is now present in many economic sectors. However, none of existing studies consider risk management as a potential determinant of firm performance. In this paper, we investigate the role of risk management and financial intermediation in creating value for financial institutions by analyzing U.S. property-liability insurers. Our main goal is to test how risk management and financial intermediation activities create value for insurers by enhancing economic efficiency through cost reductions. We consider these two activities as intermediate outputs and estimate their shadow prices. Insurer cost efficiency is measured using an econometric cost function. The econometric results show that both activities significantly increase the efficiency of the property-liability insurance industry.

On the Choice of Functional Forms: Summary of a Monte Carlo Experiment

The use of flexible functional forms is a standard practice in applied econometrics. Many flexible forms have been proposed. In this study, we investigate the behavior of three of them—the translog, the symmetric McFadden, and the symmetric generalized Barnett. Based on Monte Carlo experiments, we assess the ability of these forms to test theoretical properties and to measure technological characteristics.

On the Relevant Elasticity Estimates for Cost Structure Analyses of the Trucking Industry

The effects of output qualities on costs of trucking firms could be evaluated at a given number of ton-kilometers or at a given number of shipments. This note shows that false interpretations of potential output qualities effects could occur when these effects are evaluated at a given number of ton-kilometers. Copyright 1990 by MIT Press.

Inferring technological parameters from incomplete panel data

This paper contributes to production economics by providing a procedure to estimate cost models with incomplete panel data and by illustrating how this procedure can be implemented using a panel data set of trucking firms. Most panel data sets of firms presently available are incomplete for numerous reasons, including mergers, acquisitions, bankruptcies, incomplete surveys, etc. Hence, in this type of sample, when a firm is missing for at least one period, all the variables relevant to this firm are missing for the same period. Our method jointly considers the cost-input demand system and a bivariate probit selection model of entry to and exit from the sample. Random firm-specific effects are included in both the cost and selection models. The inclusion of random effects in the models makes their joint estimation more delicate. However, some restrictions are imposed on the distribution of the random variables in order to simplify the analysis. For instance, we assume that the variances and covariances of the random variables are constant over time. The method is applied to an incomplete panel of Ontario (Canada) trucking firms. A test for selectivity bias on this panel reveals potential bias related to exit but not to entry. Estimation results indicate that the bias can be reduced and even eliminated with an appropriate specification of the cost model, at least for the sample used.

The cost and technological structure of aluminium smelters worldwide

A cost model is developed for the estimation of several technological parameters describing the production process of aluminium smelters worldwide. The model is similar to Baltagi and Griffins (1988), but, instead of estimating technological change using a panel data set of firms, we estimate, among other things, the vintage effect, using a cross-section of aluminium smelters in operation throughout 1994. The vintage effect is defined as the variable cost differential that may be attributed to the utilization of a specific technical vintage in the production of aluminium in relation to another. Other technological measurements are also discussed: the scale effect or returns to scale and technological characteristic effects, i.e. the variable cost elasticities with respect to pot size and current intensity. The results show that considerable cost reductions may be expected from the change of old technical vintages to more recent ones. Also, results show that for a majority of smelters in the sample, returns to scale seem to be exhausted. Finally, variable costs are very sensitive to pot size in the sense that large cost reductions can be expected from the increase in pot size, an important characteristic of the technology used by smelters. Copyright

Testing Optimal Punishment Mechanisms Under Price Regulation: The Case of the Retail Market for Gasoline

We analyse the effects of a price floor on price wars (or deep price cuts) in the retail market for gasoline. Bertrand supergame oligopoly models predict that price wars should last longer in the presence of price floors. In 1996, the introduction of a price floor in the Quebec retail market for gasoline serves as a natural experiment with which to test this prediction. We use a Markov Switching Model with two latent states to simultaneously identify the periods of price-collusion/price-war and estimate the parameters characterizing each state. Results support the prediction that price floors reduce the intensity of price wars but increase their expected duration.

The Effect of Technological Change and Technical Inefficiencies on the Performance of Functional Forms

Technological change is one of the most important determinants of the technological structure of the firm. Unfortunately, this crucial factor is often unobserved and must therefore be approximated. It is also well recognized that firms are not necessarily located on their efficient production frontier, a phenomenon known as technical inefficiency. This paper compares the performance of three flexible functional forms (the Translog, Symmetric McFadden and Symmetric Generalized Barnett) to properly infer theoretical properties and technology measurements when: (i) unobserved technological change is approximated by a time trend in the variable-cost-function specification and, (ii) firms may be technically inefficient. Our results indicate that no functional form dominates and that measuring the shifts of the production (cost) function has a clear and negative effect on the performance of the functional forms. Furthermore, we find that technical inefficiencies have a significant and negative effect on the measurement of, notably, returns to scale and the implicit rental price of capital. However, all forms over-reject theoretical properties and provide adequate technology measurements only on a sample-average basis. In addition, the performance of the functional forms is closely related to the true underlying rate of technological change.