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The Cost of Legal Restrictions on Experience Rating

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  • Levon Barseghyan
  • Francesca Molinari
  • Darcy Steeg Morris
  • Joshua C. Teitelbaum

Abstract

We investigate the cost of legal restrictions on experience rating in auto and home insurance. The cost is an opportunity cost as experience rating can mitigate the problems associated with unobserved heterogeneity in claim risk, including mispriced coverage and resulting demand distortions. We assess this cost through a counterfactual analysis in which we explore how risk predictions, premiums, and demand in home insurance and two lines of auto insurance would respond to unrestricted multiline experience rating. Using claims data from a large sample of households, we first estimate the variance‐covariance matrix of unobserved heterogeneity in claim risk. We then show that conditioning on claims experience leads to material refinements of predicted claim rates. Last, we assess how households’ demand for coverage would respond to multiline experience rating. We find that the demand response would be large.

Suggested Citation

  • Levon Barseghyan & Francesca Molinari & Darcy Steeg Morris & Joshua C. Teitelbaum, 2020. "The Cost of Legal Restrictions on Experience Rating," Journal of Empirical Legal Studies, John Wiley & Sons, vol. 17(1), pages 38-70, March.
    • Handle: RePEc:wly:empleg:v:17:y:2020:i:1:p:38-70
    DOI: 10.1111/jels.12242
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    Cited by:

    1. Zifeng Zhao & Peng Shi & Xiaoping Feng, 2021. "Knowledge Learning of Insurance Risks Using Dependence Models," INFORMS Journal on Computing, INFORMS, vol. 33(3), pages 1177-1196, July.

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