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Risks 2017, 5(3), 46; doi:10.3390/risks5030046

Optimal Insurance Policies in the Presence of Costs

Norwegian School of Economics, 5045 Bergen, Norway
Received: 2 June 2017 / Revised: 3 August 2017 / Accepted: 25 August 2017 / Published: 6 September 2017
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We reconsider costs in insurance, and suggest a new type of cost function, which we argue is a natural choice when there are relatively small, but frequent, claims. If a fixed cost is incurred each time a claim is made, we obtain a Pareto optimal deductible even if the cost function does not vary with the indemnity. The classical result says that deductibles appear if and only if costs are variable. This implies that when the claims are relatively small, it is not optimal for the insured to be compensated, since the costs outweigh the benefits and a deductible will naturally occur. When we constrain the contract to contain a cap, a non-trivial deductible is Pareto optimal regardless of the assumptions about the cost structure, which is what is known as an XL-contract. View Full-Text
Keywords: Pareto optimal risk sharing; administrative costs in insurance; household insurance; reinsurance; XL-contracts Pareto optimal risk sharing; administrative costs in insurance; household insurance; reinsurance; XL-contracts
This is an open access article distributed under the Creative Commons Attribution License which permits unrestricted use, distribution, and reproduction in any medium, provided the original work is properly cited. (CC BY 4.0).

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Aase, K.K. Optimal Insurance Policies in the Presence of Costs. Risks 2017, 5, 46.

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