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Insurance, Consumption, and Saving: A Dynamic Analysis in Continuous Time

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  • R.A. Somerville
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    Abstract

    This paper shows how the demand for non-life insurance interacts with consumption and saving. The analysis is set in continuous time, using the maximum principle. When insurance is actuarially fair, the insurance and consumption decisions are separable. With loaded premiums, and alternatively without insurance, optimal consumption is dynamically related to the growth rate of the loss probability, and a growing loss probability generates precautionary saving. With loaded premiums, less than full insurance is demanded at each instant, and optimal cover varies over time, whether or not the loss probability is constant.

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    File URL: http://www.aeaweb.org/articles.php?doi=10.1257/0002828042002642
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    Bibliographic Info

    Article provided by American Economic Association in its journal American Economic Review.

    Volume (Year): 94 (2004)
    Issue (Month): 4 (September)
    Pages: 1130-1140

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    Handle: RePEc:aea:aecrev:v:94:y:2004:i:4:p:1130-1140

    Note: DOI: 10.1257/0002828042002642
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    1. Dionne, Georges & Eeckhoudt, Louis, 1984. "Insurance and saving: some further results," Insurance: Mathematics and Economics, Elsevier, vol. 3(2), pages 101-110, April.
    2. David F. Bradford & Kyle Logue, 1996. "The Effects of Tax-Law Changes on Property-Casualty Insurance Prices," NBER Working Papers 5652, National Bureau of Economic Research, Inc.
    3. Olivia S. Mitchell & James M. Poterba & Mark J. Warshawsky, 1997. "New Evidence on the Money's Worth of Individual Annuities," NBER Working Papers 6002, National Bureau of Economic Research, Inc.
    4. DREZE, Jacques H. & MODIGLIANI, Franco, . "Cosumption decisions under uncertainty," CORE Discussion Papers RP -119, Université catholique de Louvain, Center for Operations Research and Econometrics (CORE).
    5. Rothschild, Michael & Stiglitz, Joseph E, 1976. "Equilibrium in Competitive Insurance Markets: An Essay on the Economics of Imperfect Information," The Quarterly Journal of Economics, MIT Press, vol. 90(4), pages 630-49, November.
    6. Cooper, Russell & Hayes, Beth, 1987. "Multi-period insurance contracts," International Journal of Industrial Organization, Elsevier, vol. 5(2), pages 211-231.
    7. Joseph G. Eisenhauer, 2002. "Relative Effects of Premium Loading and Tax Deductions on the Demand for Insurance," Journal of Insurance Issues, Western Risk and Insurance Association, vol. 25(1), pages 47-62.
    8. Mayers, David & Smith, Clifford W, Jr, 1983. "The Interdependence of Individual Portfolio Decisions and the Demand for Insurance," Journal of Political Economy, University of Chicago Press, vol. 91(2), pages 304-11, April.
    9. Eeckhoudt, Louis & Meyer, Jack & Ormiston, Michael B, 1997. "The Interaction between the Demands for Insurance and Insurable Assets," Journal of Risk and Uncertainty, Springer, vol. 14(1), pages 25-39, January.
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    Cited by:
    1. Frédéric Gannon & Vincent Touze, 2007. "Insurance and Optimal Growth," Sciences Po publications info:hdl:2441/4422, Sciences Po.
    2. repec:spo:wpecon:info:hdl:2441/4422 is not listed on IDEAS

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