Events Calendar

DSAS Colloquium - Mario Ghossoub

Thursday, October 25, 2018
3:30 pm
Western Science Centre (WSRC)
Room: 240

Speaker: Mario Ghossoub

Title: Optimal Insurance Design: Belief Heterogeneity and Ambiguity
We re-examine the problem of demand for insurance indemnification when the insured and the insurer disagree about the likelihoods associated with the realizations of the insurable loss. For ease of comparison with the classical literature, we adopt the original setting of Arrow, but allow for divergence in beliefs between the insurer and the insured. We do not impose the no sabotage condition on admissible indemnities. Instead, we impose a state-verification cost that the insurer can incur in order to verify the loss severity, which rules out ex post moral hazard issues that could otherwise arise from possible misreporting of the loss by the insured. Moreover, unlike the existing literature, we do not impose conditions on the type or level of disagreement about probabilities, and we allow in particular for singularity between the beliefs, that is, disagreement about zero-probability events. We characterize the optimal indemnity for any type or level of belief heterogeneity, and we show that it has a simple two-part structure: full insurance on an event to which the insurer assigns zero probability, and a variable deductible on the complement of this event. We then examine the effect of ambiguity in beliefs on the shape of optimal indemnities, and we provide a closed-form characterization optimal indemnities in the case of unilateral and bilateral probability weighting, thereby extending several results in the literature.


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