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Moral Hazard and Guarantee Arrangements: A Case Study of Lloyd’s

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  • Andrew Bain

Abstract

State guarantees to insurance policy-holders remove the need for counterparty credit risk assessment and create a moral hazard that may result in excessive risk-exposure and underpricing in the insurance industry. The arrangements at Lloyd’s guaranteeing payment on policies written by individual Lloyd’s syndicates can be expected to have similar effects. An analysis of the behaviour of Lloyd’s in the 1970s and 1980s provides a case study that demonstrates some of the practical consequences of this moral hazard: insurers with insufficient capital resources, excessive exposure to high-volatility catastrophe reinsurance business, and underpricing of risks.

Suggested Citation

  • Andrew Bain, "undated". "Moral Hazard and Guarantee Arrangements: A Case Study of Lloyd’s," Working Papers 1999_04, Business School - Economics, University of Glasgow.
  • Handle: RePEc:gla:glaewp:1999_04
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    File URL: http://www.gla.ac.uk/media/media_219065_en.pdf
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    More about this item

    JEL classification:

    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
    • G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading
    • G18 - Financial Economics - - General Financial Markets - - - Government Policy and Regulation
    • G22 - Financial Economics - - Financial Institutions and Services - - - Insurance; Insurance Companies; Actuarial Studies
    • G28 - Financial Economics - - Financial Institutions and Services - - - Government Policy and Regulation

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