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Saturday, September 17, 2011

Solving information asymmetry in insurance-examples

     While reading up on the insurance industry, I noted the following clause/contract types which go a long way
     towards reducing information asymmetry issues.
  1. Utmost good faith:-Within a stipulated period, the insurer can repudiate the contract if any intentional misstatement is found in the contract
  2. Renewal discount/No claim bonus:- The lure of getting steep renewal discounts for good track record, may deter petty claims.
  3. Average clause:- This encourages the insured to go for 100%+ insurance, so that when loss occurs he is totally covered.
  4. group insurance discount/mandatory insurance cheaper since lemons problem absent.
  5. Universal insurance-Adverse selection problem is avoided here.
  6. Treaty reinsurance over facultative reinsurance(optional;- It just means that neither party can pick and choose the polices which they will submit/accept for reinsurance. This ensures that cherry picking is minimized by informed originator. 
  7. Use of insurance brokers to give confidence to both client(about rates) and underwriters(about client risk). The primary role of the broker is to inspire in underwriters, on a case-by-case basis, the confidence to accept the risk presented. Market now works on guide wordings that can be modified to suit a client`s needs. These are negotiated accordingly and the risk transfer negotiated with skill in structuring policy wordings acceptable to the insurer and providing protection to the client.

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