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SPDAs and GICs: like money in the bank?

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  • Richard M. Todd
  • Neil Wallace
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    Abstract

    We argue that changes in the life insurance industry have created a nontrivial moral hazard. We document the industry's shift from sales of life insurance to sales of mainly rate-of-return oriented investments like single premium deferred annuities (SPDAs) and guaranteed investment contracts (GICs). We describe the system of explicit and implicit guarantees that state governments and the industry provide to SPDA and GIC investors. We argue that these guarantees create moral hazards that have contributed to insurance company failures and misallocation of resources. We summarize reformers' proposals to enhance both the explicit guarantees and the regulation of insurance companies and argue that maintaining the degree of regulatory tightness required for such proposals to succeed will be difficult. We suggest an alternative: eliminate guarantees of SPDAs, GICs, and similar products (and possibly promote full disclosure practices and earmarked investments like variable annuities).

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    Bibliographic Info

    Article provided by Federal Reserve Bank of Minneapolis in its journal Quarterly Review.

    Volume (Year): (1992)
    Issue (Month): Sum ()
    Pages: 2-17

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    Handle: RePEc:fip:fedmqr:y:1992:i:sum:p:2-17:n:v.16no.3

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    Related research

    Keywords: Insurance industry;

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    Cited by:
    1. Elijah Brewer, III & William E. Jackson, III, 2002. "Inter-industry contagion and the competitive effects of financial distress announcements: evidence from commercial banks and life insurance companies," Working Paper Series WP-02-23, Federal Reserve Bank of Chicago.
    2. Elijah Brewer III & Thomas H. Mondschean & Philip Strahan, 1996. "The Role of Monitoring in Reducing the Moral Hazard Problem Associated with Government Guarantees: Evidence from the Life Insurance Industry," Center for Financial Institutions Working Papers 96-15, Wharton School Center for Financial Institutions, University of Pennsylvania.
    3. William M. Gentry & Joseph Milano, 1998. "Taxes and Investment in Annuities," NBER Working Papers 6525, National Bureau of Economic Research, Inc.

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