When Insurers Go Bust: An Economic Analysis of the Role and by Guillaume Plantin

By Guillaume Plantin

Within the Nineteen Nineties, huge insurance firms failed in nearly each significant marketplace, prompting a fierce and ongoing debate approximately the way to higher defend policyholders. Drawing classes from the disasters of 4 insurance firms, while Insurers cross Bust dramatically advances this debate by way of arguing that the present method of coverage law can be changed with mechanisms that duplicate the governance of non-financial firms.
Rather than instantly addressing the trivialities of supervision, Guillaume Plantin and Jean-Charles Rochet first determine a basic monetary intent for supervising the solvency of insurance firms: policyholders are the "bankers" of insurance firms. yet simply because policyholders are too dispersed to successfully display screen insurers, it would be effective to delegate tracking to an institution--a prudential authority. employing contemporary advancements in company finance conception and the industrial conception of businesses, the authors describe in functional phrases how such experts may be created and given the incentives to act precisely like bankers behave towards debtors, as "tough" claimholders.

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Additional info for When Insurers Go Bust: An Economic Analysis of the Role and Design of Prudential Regulation

Example text

But this is precisely why the Modigliani–Miller theorem is a very interesting starting point for corporate-finance theory. It pins down the assumptions that need to be relaxed in order to obtain more realistic models of financial markets: models in which capital structure matters. Relaxing these assumptions has been the main agenda of corporate-finance theory over the last thirty years. In this chapter, we describe some of the important findings of modern corporate finance theory, and apply these findings to the analysis of the role of prudential capital requirements for insurance companies.

But only company insiders, namely the top management and possibly some inside shareholders, seem to react to this in the first place. Instead of cutting their losses, they find it optimal to “gamble for resurrection,” and they are correct from their standpoint. If this does not work, as was the case in the examples presented above, policyholders end up much poorer than before the insiders gambled for resurrection. Why is this scheme more likely to occur and to be more costly for insurance companies than for nonfinancial firms or banks?

Second, as pointed out by Blake (2001, p. 4), the Lords’ decision was internally inconsistent. On the one hand, it stated that all policyholders invested in the same pool of assets should be treated equally. But GAR and non-GAR policyholders had claims of different seniorities on the same pool of assets. It was thus impossible to treat them equally. On the other hand, 24 2. Four Financially Distressed Insurers it also ruled out the possibility of ring-fencing GAR contracts and dedicating assets to them.

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