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The Association between Complexity and Managerial Discretion in the Property and Casualty Insurance Industry

M. Martin Boyer (), Elijah Brewer () and Willie Reddic
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Elijah Brewer: DePaul University, Department of Finance, 1 E. Jackson Blvd., DePaul Center 5500, Chicago, IL 60604, USA
Willie Reddic: DePaul University, School of Accountancy & MIS, 1 E. Jackson Blvd., DePaul Center 6049, Chicago, IL 60604, USA

Quarterly Journal of Finance (QJF), 2019, vol. 09, issue 03, 1-33

Abstract: This paper investigates whether the setting of loss reserves depends on an insurer’s complexity, which is defined by the number of business lines an insurer underwrites and on the insurer’s expertise in those lines. Our results suggest that insurers with higher levels of complexity tend to over-reserve. We also find that, as complexity increases, insurers that are financially weak and smooth their earnings, tend to under-reserve (i.e., bias their loss reserves upward). Further, we find that as complexity increases, insurers with high tax liabilities tend to bias their loss reserves downward (i.e., over-reserve), suggesting that tax strategies are important issues for insurers. An insurer’s degree of complexity is particularly salient when determining the extent to which loss reserves can be aggressively set.

Keywords: Operational complexity; managerial discretion; loss reserves error (search for similar items in EconPapers)
Date: 2019
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DOI: 10.1142/S2010139219500083

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