Participating Insurance Contracts and the Rothschild-Stiglitz Equilibrium Puzzle

Pierre Picard

The Geneva Risk and Insurance Review, 2014, vol. 39, issue 2, 153-175

Abstract: We extend the Rothschild-Stiglitz (RS) insurance market model with adverse selection by allowing insurers to offer either non-participating or participating policies, that is, insurance contracts with policy dividends or supplementary calls for premium. It is shown that an equilibrium always exists in such a setting. Participating policies act as an implicit threat that dissuades deviant insurers who aim to attract low-risk individuals only. The model predicts that the mutual corporate form should be prevalent in insurance markets where second-best Pareto efficiency requires cross-subsidisation between risk types.

Date: 2014
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Working Paper: Participating insurance contracts and the Rothschild-Stiglitz equilibrium puzzle (2009)
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