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Soft information in insurer lending and reinsurance under capital regulation

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  • Xuelian Li
  • Zehe Song
  • Jyh-Horng Lin

Abstract

The paper develops a capped call option framework, explicitly integrating the borrowing-firm credit risk. Moreover, modelling the structural breaks in assets and volatility captures soft information about the insurer’s borrowing firm. We show that favourable soft information increases the optimal guaranteed rate and thus enhances policyholder protection. The negative effect of the reinsurance on the optimal guaranteed rate is more significant when obtaining negative soft information than when getting favourable soft information. The positive impact of stringent capital regulation on the optimal guaranteed rate in the negative soft information is less significant than that in the favourable soft information. Stringent capital regulation increases policyholder protection and the market-to-book equity value when the strict capital regulation is high, thereby contributing to insurance stability.

Suggested Citation

  • Xuelian Li & Zehe Song & Jyh-Horng Lin, 2021. "Soft information in insurer lending and reinsurance under capital regulation," Applied Economics, Taylor & Francis Journals, vol. 53(21), pages 2457-2466, May.
    • Handle: RePEc:taf:applec:v:53:y:2021:i:21:p:2457-2466
    DOI: 10.1080/00036846.2020.1861210
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