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Firm’s protection against disasters: are investment and insurance substitutes or complements?

Giuseppe Attanasi (), Laura Concina, Caroline Kamaté and Valentina Rotondi
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Laura Concina: FONCSI
Caroline Kamaté: FONCSI
Valentina Rotondi: Bocconi University

Theory and Decision, 2020, vol. 88, issue 1, No 7, 151 pages

Abstract: Abstract We use a controlled laboratory experiment to study firm’s protection against potential technological damages. The probability of a catastrophic event is known, and the firm’s costly investment in safety reduces it. The firm can also buy an insurance with full or partial refund against the consequences of the catastrophic event, which ultimately reduces the variance of the firm’s investment-in-safety lottery. The firm makes these two choices simultaneously, after observing the insurance contract proposed by an insurer who chooses this contract within a set of premium–deductible combinations. We parametrize the insurer–firm game such that (i) a risk-neutral insurer maximizes his expected profit by offering an actuarially fair contract with full insurance; (ii) a risk-neutral firm is indifferent between investing in safety and accepting a fair insurance contract. We aim at understanding whether investment in safety and insurance are substitutes or complements in the firm’s risk management of catastrophic events. In line with our predictions, the experimental results suggest that they are substitutes rather than complements: the firm’s investment in safety measures is affected by the insurer’s proposed contract, the latter usually involving only partial insurance.

Keywords: Decision under risk; Losses; Small probabilities; Probability reduction; Technological disasters; Insurance; Deductible (search for similar items in EconPapers)
Date: 2020
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Related works:
Working Paper: Firm's protection against disasters: are investment and insurance substitutes or complements? (2019)
Working Paper: Firm's Protection against Disasters: Are Investment and Insurance Substitutes or Complements? (2018) Downloads
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DOI: 10.1007/s11238-019-09703-w

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