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Loss Volatility, Bankruptcy, and the Demand for Reinsurance

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  • Hoerger, Thomas J
  • Sloan, Frank A
  • Hassan, Mahmud

Abstract

Insurers in our model reinsure to lower the risk of bankruptcy. In the conceptual part of the study, we show that given bankruptcy cost, reinsurance may be demanded even if the insurer is risk-neutral. The model allows us to assess how the insurer's surplus, size, and volatility of losses affect the amount of reinsurance the insurer purchases. As predicted by our comparative statics analysis, we find empirically that property/casualty and medical malpractice insurers with higher prereinsurance loss volatility, lower surplus-to-premium ratios, and smaller sizes demand more reinsurance. Copyright 1990 by Kluwer Academic Publishers

Suggested Citation

  • Hoerger, Thomas J & Sloan, Frank A & Hassan, Mahmud, 1990. "Loss Volatility, Bankruptcy, and the Demand for Reinsurance," Journal of Risk and Uncertainty, Springer, vol. 3(3), pages 221-245, September.
  • Handle: RePEc:kap:jrisku:v:3:y:1990:i:3:p:221-45
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    References listed on IDEAS

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    1. Christian Gollier, 2001. "Should we beware of the Precautionary Principle?," Economic Policy, CEPR;CES;MSH, vol. 16(33), pages 301-328, October.
    2. Gollier, Christian & Treich, Nicolas, 2003. "Decision-Making under Scientific Uncertainty: The Economics of the Precautionary Principle," Journal of Risk and Uncertainty, Springer, vol. 27(1), pages 77-103, August.
    3. Christian Gollier, 2008. "Discounting with fat-tailed economic growth," Journal of Risk and Uncertainty, Springer, vol. 37(2), pages 171-186, December.
    4. Gollier, Christian & Jullien, Bruno & Treich, Nicolas, 2000. "Scientific progress and irreversibility: an economic interpretation of the 'Precautionary Principle'," Journal of Public Economics, Elsevier, vol. 75(2), pages 229-253, February.
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    7. Kahneman, Daniel & Tversky, Amos, 1979. "Prospect Theory: An Analysis of Decision under Risk," Econometrica, Econometric Society, vol. 47(2), pages 263-291, March.
    8. Shane Frederick & George Loewenstein & Ted O'Donoghue, 2002. "Time Discounting and Time Preference: A Critical Review," Journal of Economic Literature, American Economic Association, vol. 40(2), pages 351-401, June.
    9. William D. Nordhaus, 2007. "A Review of the Stern Review on the Economics of Climate Change," Journal of Economic Literature, American Economic Association, vol. 45(3), pages 686-702, September.
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    Cited by:

    1. J. David Cummins & Georges Dionne & Robert Gagné & Abdelhakim Nouira, 2008. "The Costs and Benefits of Reinsurance," Cahiers de recherche 08-04, HEC Montréal, Institut d'économie appliquée.
    2. Kenneth A. Froot, 2007. "Risk Management, Capital Budgeting, and Capital Structure Policy for Insurers and Reinsurers," Journal of Risk & Insurance, The American Risk and Insurance Association, vol. 74(2), pages 273-299.
    3. Selim Mankaï & Aymen Belgacem, 2013. "Interactions Between Risk-Taking, Capital, and Reinsurance for Property-Liability Insurance Firms," EconomiX Working Papers 2013-23, University of Paris Nanterre, EconomiX.
    4. repec:bla:jrinsu:v:84:y:2017:i:2:p:599-629 is not listed on IDEAS
    5. Adams, Mike & Hardwick, Philip & Zou, Hong, 2008. "Reinsurance and corporate taxation in the United Kingdom life insurance industry," Journal of Banking & Finance, Elsevier, vol. 32(1), pages 101-115, January.
    6. Jean-Baptiste, Eslyn L. & Santomero, Anthony M., 2000. "The Design of Private Reinsurance Contracts," Journal of Financial Intermediation, Elsevier, vol. 9(3), pages 274-297, July.
    7. J. David Cummins & Mary A. Weiss, 2009. "Convergence of Insurance and Financial Markets: Hybrid and Securitized Risk-Transfer Solutions," Journal of Risk & Insurance, The American Risk and Insurance Association, vol. 76(3), pages 493-545.
    8. Dionne, Georges & Desjardins, Denise, 2017. "Reinsurance Demand and Liquidity Creation," Working Papers 17-3, HEC Montreal, Canada Research Chair in Risk Management.
    9. repec:bla:jrinsu:v:83:y:2016:i:4:p:1007-1043 is not listed on IDEAS
    10. Yueyun Chen & Iskandar Hamwi & Tim Hudson, 2001. "The effect of ceded reinsurance on solvency of primary insurers," International Advances in Economic Research, Springer;International Atlantic Economic Society, vol. 7(1), pages 65-82, February.
    11. Chen Yueyun & Hamwi Iskandar S., 2012. "Why Some Disaster Insurance Does not Exist," Asia-Pacific Journal of Risk and Insurance, De Gruyter, vol. 6(1), pages 1-16, February.
    12. Adiel, Ron, 1996. "Reinsurance and the management of regulatory ratios and taxes in the property--casualty insurance industry," Journal of Accounting and Economics, Elsevier, vol. 22(1-3), pages 207-240, October.
    13. Zanjani, George, 2002. "Pricing and capital allocation in catastrophe insurance," Journal of Financial Economics, Elsevier, vol. 65(2), pages 283-305, August.
    14. repec:kap:iaecre:v:7:y:2001:i:1:p:65-82 is not listed on IDEAS

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