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Combining insurance, contingent debt, and self-retention in an optimal corporate risk financing strategy

Author

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  • Gurenko, Eugene
  • Mahul, Olivier

Abstract

The authors provide a conceptual framework for designing a comprehensive risk financing strategy for a firm, using an optimal combination of three instruments: self-retention, contingent debt, and insurance. Using an original conceptual model, the risk management decisions of the firm are first decomposed into two sets-choosing attachment points for each layer of financing used in the overall risk financing structure, and, then determining optimal risk allocation arrangements within each layer of risk. This model allows the authors to show how these optimal risk financing arrangements are driven by the costs of risk management instruments, the risk characteristics, and the firm's borrowing constraints. Finally, the authors provide an original perspective to think about optimal ex ante risk management strategies, based on a combination of insurance, savings, and credit at the microeconomic or macroeconomic levels.

Suggested Citation

  • Gurenko, Eugene & Mahul, Olivier, 2003. "Combining insurance, contingent debt, and self-retention in an optimal corporate risk financing strategy," Policy Research Working Paper Series 3167, The World Bank.
  • Handle: RePEc:wbk:wbrwps:3167
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    References listed on IDEAS

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    1. Siegel, Paul B. & Alwang, Jeffrey & Canagarajah, Sudharshan, 2001. "Viewing microinsurance as a social risk management instrument," Social Protection and Labor Policy and Technical Notes 23305, The World Bank.
    2. Bruce C. Greenwald & Joseph E. Stiglitz, 1993. "Financial Market Imperfections and Business Cycles," The Quarterly Journal of Economics, Oxford University Press, vol. 108(1), pages 77-114.
    3. Gregory W. Brown & Klaus Bjerre Toft, 2002. "How Firms Should Hedge," Review of Financial Studies, Society for Financial Studies, vol. 15(4), pages 1283-1324.
    4. Smith, Clifford W. & Stulz, René M., 1985. "The Determinants of Firms' Hedging Policies," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 20(04), pages 391-405, December.
    5. Froot, Kenneth A & Scharfstein, David S & Stein, Jeremy C, 1993. " Risk Management: Coordinating Corporate Investment and Financing Policies," Journal of Finance, American Finance Association, vol. 48(5), pages 1629-1658, December.
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    Citations

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    Cited by:

    1. Ghesquiere, Francis & Mahul, Olivier, 2007. "Sovereign natural disaster insurance for developing countries : a paradigm shift in catastrophe risk financing," Policy Research Working Paper Series 4345, The World Bank.
    2. Gurenko, Eugene & Olivier, Mahul, 2004. "Enabling productive but asset-poor farmers to succeed : A risk financing framework," Policy Research Working Paper Series 3211, The World Bank.
    3. Victor Cardenas, 2009. "Financiamiento de riesgos catastróficos naturales," Research Department Publications 4613, Inter-American Development Bank, Research Department.
    4. Daniel J. Clarke & Olivier Mahul & Richard Poulter & Tse-Ling Teh, 2017. "Evaluating Sovereign Disaster Risk Finance Strategies: A Framework," The Geneva Papers on Risk and Insurance - Issues and Practice, Palgrave Macmillan;The Geneva Association, vol. 42(4), pages 565-584, October.
    5. Mahul, Olivier & Gurenko, Eugene, 2006. "The macro financing of natural hazards in developing countries," Policy Research Working Paper Series 4075, The World Bank.

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