Who Benefits from Building Insurance Groups? A Welfare Analysis of Optimal Group Capital Management

Sebastian Schlütter and Helmut Gründl
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Sebastian Schlütter: Faculty of Economics and Business Administration, Goethe-Universit&aauml;t Frankfurt am Main, International Center for Insurance Regulation, Grüneburgplatz 1, Frankfurt/Main 60323, Germany.

The Geneva Papers on Risk and Insurance - Issues and Practice, 2012, vol. 37, issue 3, 593 pages

Abstract: This paper compares the shareholder-value-maximising capital structure and pricing policy of insurance groups against that of stand-alone insurers. Groups can utilise intra-group risk diversification by means of capital and risk transfer instruments. We show that using these instruments enables the group to offer insurance with less default risk and at lower premiums than is optimal for stand-alone insurers. We also take into account that shareholders of groups could find it more difficult to prevent inefficient overinvestment or cross-subsidisation, which we model by higher dead-weight costs of carrying capital. The trade-off between risk diversification on the one hand and higher dead-weight costs on the other can result in group‐building being beneficial for shareholders but detrimental for policyholders.

Date: 2012
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