Scale and Scope Economies for Direct Writers in the Property-Liability Insurance Industry

This paper investigates the effect of the distribution system employed by direct writers on their cost effectiveness and market share in the property-liability insurance industry. A generalized translog multi-product cost function is estimated in order to test for economies of scale and economies of scope. The regression results indicate that direct writers experience increasing returns to scale as they expand their level of output at the mean. There is also evidence of diseconomies of scope in their auto and all other lines combined (excluding auto and homeowners insurance). A structural test indicated that the generalized translog cost function is a statistically significant improvement over the Cobb-Douglas functional form which has been commonly used by other researchers. Further research is needed to explore the welfare implications of the finding that the production of direct writers may be characterized by increasing returns to scale.