I usually find the CASNET to be a relatively tame place, but my recent
posting seems to have raised a couple of issues. Rather than respond to
all them, I would like to address the one concern which seems to be the
most controversial.
Specifically, Mr. Blanchard is concerned about our hypothesis that the
price of insurance in a competitive market will be a function of the
organizational structure the firm chooses to conduct its business. Our
hypothesis states, all other things equal, that multi-insurer groups have
the option to allow a troubled subsidiary to become insolvent. Stated
another way, in some instances it would be a rational decision for a group
to allow a subsidiary to fail rather than bailing it out. Unless the
parent organization has engaged in fraud or some other abnormal behavior,
creditors are not allowed to "pierce the corporate veil" to reach the
assets of the parent organization, providing the basis for the option.
However, we do not believe and do not argue that this is likely to happen
in the normal course of events. In the vast majority of cases, the owners
are likely to rescue a failing subsidiary to protect the group's
reputational or franchise value. However, in extreme cases, the group is
likely to exercise its option to allow the sub to fail. Thus, we predict
that insurance groups in which liabilities are widely dispersed among
subsidiaries will command lower prices than unaffiliated single insurers or
insurance groups where business is heavily concentrated among the principal
affiliates. The important lesson, if this hypothesis is true, is that
insurance company managers should carefully consider how they design the
organizational structure of their groups.
A second issue raised by Mr. Blanchard was the way we conduct the research
and specifically how we control for reinsurance and also the effects of the
payout tail on price. We in fact do take these effects into account and
would be happy to provide details privately (off CASNET) how we do that for
anyone who is interested.
Respectfully submitted
Richard D. Phillips
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Department of Risk Management and Insurance
Georgia State University Work: (404)651-3397
PO Box 4036 Fax: (404)651-4219
Atlanta, GA 30302-4036 E-Mail: rphillips@gsu.edu
Visit the CAS Web Site at http://www.casact.org
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