Efficient Competitive Equilibria with Adverse Selection

Bisin, Alberto; Gottardi, Piero

doi:10.1086/503754

Cited by 98 publications

(91 citation statements)

References 25 publications

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“…2 Pareto efficiency differs between risk sharing and private insurance. Whereas in our case the resource feasibility constraint has to be satisfied in every state, it only needs be satisfied in expectation in the case of private insurance (see Crocker and Snow, 1985; Rochet, 1987 or Bisin andGottardi, 2006 The main findings of this paper are the following: First of all, under complete information, equal sharing is obviously optimal when the agents are identical. It remains optimal when they are different provided the heterogeneity of risks is not too high and risk aversion not too low.…”

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confidence: 86%

Risk-sharing Contracts with Asymmetric Information

Bourlès

Henriet

2011

Geneva Risk Insur Rev

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We examine how risk-sharing is impacted by asymmetric information on the probability distribution of wealth. We define the optimal incentive compatible agreements in a two-agent model with two levels of wealth. When there is complete information on the probability of the different outcomes, the resulting allocation satisfies the mutuality principle (which states that everyone's final wealth depends only upon the aggregate wealth of the economy). This is no longer true when agents have private information regarding their probability distribution of wealth. Asymmetry of information (i) makes ex-post equal sharing unsustainable between two low-risk agents, and (ii) induces exchanges when agents have the same realization of wealth. The Geneva Risk and Insurance Review (2012) 37, 27-56. doi:10.1057/grir.2011.2; published online 22 March 2011Keywords: risk-sharing; asymmetric information; mechanism design IntroductionTransactions over the counter (OTC) are commonly used among financial institutions as a complement to the market. For instance, debt owners can use OTC contracts to transfer default risk to other financial organizations. Such contracts are also used by insurance companies when they group together for reinsurance purposes. These pools of insurance companies are designed to share risk and avoid recourse to a reinsurance company, under what amounts to a "mutual risk-sharing agreement". At the opposite end of the financial world, mutual agreements in small communities or villages are other examples of such risk-sharing mechanisms. The purpose of these agreements is essentially to mitigate risk for both parties through mutual diversification.When individual probability distributions of wealth are identically distributed (but not necessarily independent) the optimal agreement is obviously always to equally divide the total wealth. By aggregating and dividing The Geneva Risk and Insurance Review, 2012, 37, (27-56) r 2012 The International Association for the Study of Insurance Economics 1554-964X/12 www.palgrave-journals.com/grir/ identically distributed risks, these contracts indeed minimize risk in the sense of the mean-preserving spread criterion. 1 In this paper, we introduce heterogeneity (individual risks are not identically distributed) and asymmetry of information (individuals don't know their partner's risk). The question adressed here is to investigate the optimal risksharing contracts with such features. Indeed, when individual probability distributions of wealth are not identically distributed, a simple equal sharing of the total bundle can be unacceptable for "low-risk" individuals. When, moreover, these distributions are private information, a low-risk party can be reluctant to share risk, fearing that the other may be highly exposed. In these cases, equal sharing must be replaced by more sophisticated contracts. We precisely study this problem in this paper and analyse the consequences of hereterogeneity on the one hand and asymmetry of information on the other. In particular, we derive the ma...

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confidence: 86%

Risk-sharing Contracts with Asymmetric Information

Bourlès

Henriet

2011

Geneva Risk Insur Rev

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“…However, there are various ways to overcome this problem. For instance, Riley (1979) has restored existence by considering a reactive equilibrium concept that involves deviators anticipating their competitors' reaction, and Bisin and Gottardi (2006) show that the Rothschild-Stiglitz separating allocation is always a Walrasian equilibrium when agents are restricted to trade incentive-compatible consumption bundles contingent on the states h, l. Similarly, Guerrieri, Shimer, and Wright (2010) demonstrate that the nonexistence problem vanishes in a setting with capacity constraints or search frictions.…”

Section: A Market Foundationsmentioning

confidence: 99%

“…The following lemma characterizes the solution of this problem (see also, e.g., Bisin and Gottardi 2006).…”

Section: A a Benevolent Government Without Commitmentmentioning

confidence: 99%

Competitive Markets without Commitment

Netzer

Scheuer

2010

Journal of Political Economy

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In the presence of a time-inconsistency problem with agency contracts, we show that competitive markets can implement allocations that Pareto-dominate those achieved by a benevolent government, and they induce more effort. We analyze a model with moral hazard and a two-sided lack of commitment. After agents have chosen their work, firms can modify contracts and agents can switch firms. If the ex post market outcome satisfies a weak notion of competitiveness and sufficiently separates individuals, it is Pareto superior to a government's allocation with a complete breakdown of incentives. Moreover, competitive markets without commitment implement more effort in equilibrium under general conditions. http://www.jstor.org/page/info/about/policies/terms.jsp JSTOR is a not-for-profit service that helps scholars, researchers, and students discover, use, and build upon a wide range of content in a trusted digital archive. We use information technology and tools to increase productivity and facilitate new forms of scholarship. For more information about JSTOR, please contact support@jstor.org. The University of Chicago Press is collaborating with JSTOR to digitize, preserve and extend access to Journal of Political Economy.http://www.jstor.org 1079 [Journal of Political Economy, 2010, vol. 118, no. Competitive Markets without Commitment Nick Netzer University of Zurich Florian Scheuer Stanford UniversityIn the presence of a time-inconsistency problem with agency contracts, we show that competitive markets can implement allocations that Pareto-dominate those achieved by a benevolent government, and they induce more effort. We analyze a model with moral hazard and a two-sided lack of commitment. After agents have chosen their work, firms can modify contracts and agents can switch firms. If the ex post market outcome satisfies a weak notion of competitiveness and sufficiently separates individuals, it is Pareto superior to a government's allocation with a complete breakdown of incentives. Moreover, competitive markets without commitment implement more effort in equilibrium under general conditions.

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“…Nevertheless, the case for redistrib- 11 Bisin and Gottardi (2006) show that instead of a tax, the transfer can be e¤ected by a tradeable consumption right. To sell the low-premium policy, insurers must buy permits issued to the whole population.…”

Section: Redistributive Insurance Taxationmentioning

confidence: 99%

“…Crocker and Snow (1985) demonstrate that Pareto e¢ cient redistribution can sometimes be e¤ected through a tax on incomplete cover contracts and a subsidy to full cover policies. A system of tradeable permits to sell low cover policies similarly implements this outcome, as analyzed by Bisin and Gottardi (2006). The quali…cation in all these cases is that a …rm able to issue a menu of o¤ers can replicate the Pareto improving scheme and therefore devise a pro…table deviation.…”

Section: Introductionmentioning

confidence: 97%

The deadweight gain of insurance taxation when risky activities are optional

Meza¹,

Xie²

2014

Journal of Public Economics

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Some risky activities are optional, for example motoring. Participation in them is most attractive for good risks, creating a tendency for advantageous selection in the associated insurance market. Taxing insurance consequently yields e¢ ciency gains when type is hidden. Results are strengthened if optimism is present. Finally, endogenising participation implies that the standard "positive correlation" test for the presence of policy relevant asymmetric information may fail.

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Efficient Competitive Equilibria with Adverse Selection

Cited by 98 publications

References 25 publications

Risk-sharing Contracts with Asymmetric Information

Risk-sharing Contracts with Asymmetric Information

Competitive Markets without Commitment

The deadweight gain of insurance taxation when risky activities are optional

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