Abstract
The interest of policy makers today is in transferring responsibility for risk to the private sector, and in more efficiently directing resources to cleanup and compensation. This chapter discusses the potential role that insurance can play in managing societal risks. Section I provides an historical perspective on insurance and its use in reducing and controlling losses from risks such as fire. Section II examines the specific features of insurance that make it particularly attractive for managing societal risks. Section HI discusses the role of reinsurance, which enables firms (particularly smaller insurers) to offer coverage at a price that will create a market. The final section analyzes the transaction costs associated with utilizing insurance as a policy tool for dealing with liability problems, to include environmental liability.
This is a preview of subscription content, log in via an institution to check access.
Access this chapter
Tax calculation will be finalised at checkout
Purchases are for personal use only
Preview
Unable to display preview. Download preview PDF.
Notes
The following historical account is taken from Covello, V. J. and Mumpower, “Risk Analysis and Risk Management: An Historical Perspective,” Risk Analysis, 5, 1985, pp. 103–120.
Bainbridge, John, Biography of an Idea: The Story of Mutual Fire and Casualty Insurance, Double-day & Co., Garden City, N. Y., 1952.
A mutual company is an insurance company which is owned and operated by its policyholders and run for their benefit. The policyholders elect a board of directors who, in turn, elect officers to manage the company.
To illustrate this point, consider the following account of an inspection of a New England textile mill in 1865 by Edward Manton, President of the Boston Manufacturers, one of the first mutual insurance companies providing fire insurance coverage to these mills: “Renew at same if an additional force pump is added. If not, renew for $10,000 at 1 1/4.” (from: Bainbridge, John, Biography of an Idea: The Story of Mutual Fire and Casualty Insurance, Doubleday & Co., Garden City, N. Y., 1952.) The interpretation of 1 1/4 is that the mill would pay an additional 1 1/4 cents per $100 if they didn’t have the additional force pump.
Ibid.
Ibid.
Rejda, George, Principles of Insurance, Scott, Foresman & Co., Glenview, IL, 1982.
For a more mathematically technical discussion of this phenomenon, see Priest, George L., “The Government, the Market, and the Problem of Catastrophic Loss,” Journal of Risk and Uncertainty, 1996.
Hypothetical example.
Bainbridge, John, Biography of an Idea: The Story of Mutual Fire and Casualty Insurance, Double-day & Co., Garden City, N. Y., 1952.
Greene, Mark and James Trieschmann, Risk and Insurance, South-Western Publishing Co., Cincinnati, OH, 1988.
Er, Jwee Ping, Howard Kunreuther, and Isadore Rosenthal, “Challenges in Utilizing Third Party Inspections for Preventing Major Chemical Accidents,” Wharton School: Risk Management and Decision Processes Center Working Paper, 1996.
A less common form of reinsurance is a facultative contract. It covers a specific risk of a ceding insurer and often is written for business that presents a significant potential for loss, such as an airplane crash.
Dixon, Lloyd S., Deborah S. Drezner and James K. Hammitt, Private Sector Cleanup Expenditures and Transaction Costs at 18 Superfund Sites, RAND Institute for Civil Justice, Santa Monica, CA, 1993, Table 4.1, p. 30. and Kakalik, J. S., et al., Costs of Asbestos Litigation, RAND Institute for Civil Justice, Santa Monica, CA, 1983, Table 6.2, p. 40.
Bhagavatula, Raja, et al, Public Policy Monograph, August 1995, “Costs Under Superfund: A Summary of Recent Studies and Comments on Reform,” American Academy of Actuaries, Washington, DC, August 1995. p. 4.
Dixon, Lloyd S., Deborah S. Drezner and James K. Hammitt, Private Sector Cleanup Expenditures and Transaction Costs at 18 Superfund Sites, RAND Institute for Civil Justice, Santa Monica, CA, 1993, Table 4.1, p. 30. Note that we used “small-to medium-sized firms” of $100 million or less in annual revenue. The figure for larger firms is approximately 32%. Using small-to medium-sized firms is more relevant to our comparison, since these firms generally purchase more insurance, as described in the 1994 Cost of Risk Survey, Towers Perrin and the Risk and Insurance Management Society (RIMS), New York, 1994, Table 5, p. 39.
Excluded are property damage and bodily injury claims made by third parties, which could add considerably to the percentages listed above. RAND excluded these figures since they are not directly related to cleanup. Note that third party property damage and bodily injury claims are covered under available insurance policies.
Bhagavatula, Raja et al., Public Policy Monograph, August 1995. “Costs Under Superfund: A Summary of Recent Studies and Comments on Reform,” American Academy of Actuaries, Washington, DC, August 1995. p. 4.
Kakalik, J. S. et al.. Costs of Asbestos Litigation, RAND Institute for Civil Justice, Santa Monica, CA, 1983.
Ibid., Table 6.2, p. 40. Table 2.1 is slightly modified from Table 6.2 to focus on net compensation.
Hensler, Deborah R., Asbestos Litigation in the United States: A Brief Overview, The RAND Institute for Civil Justice, Santa Monica, CA, P-7776-ICJ, 1991, p. 10.
Best’s Aggregates and Averages — Property-Casualty: 1995 Edition, A. M. Best, Oldwick, NJ, 1995, p. 175. Table is entitled “Cumulative by Line Underwriting Experience — Industry” and row item is “Other Liability.”
O’Connell, Jeffrey, et al, “Consumer Choice in the Auto Insurance Market,” Maryland Law Review, 52(4), 1993, 1993, pp. 1019–1020.
Levin, Alan M, CFA, “Standard & Poor’s Environmental Liability Report, March 13, 1996: Environmental Liability and the Insurance Industry,” Insurance News Network, March 13, 1996, http://www.insure.com/ratings/reports/sp_environmental.html
What remains unknown from the percentage of the premium paid for claims is the amount expended in plaintiff costs. No reliable statistical information has been found on this issue. Comparisons cannot be made with plaintiff costs in pure tort liability cases, because sometimes claims are paid with little or no litigation. It might be inferred from this latter fact that plaintiff costs would be, in general, significantly less than plaintiff costs in pure tort liability cases.
Author information
Authors and Affiliations
Rights and permissions
Copyright information
© 1997 Springer Science+Business Media New York
About this chapter
Cite this chapter
Freeman, P.K., Kunreuther, H. (1997). Managing Risk through Insurance. In: Managing Environmental Risk Through Insurance. Studies in Risk and Uncertainty, vol 9. Springer, Dordrecht. https://doi.org/10.1007/978-94-011-5360-7_4
Download citation
DOI: https://doi.org/10.1007/978-94-011-5360-7_4
Publisher Name: Springer, Dordrecht
Print ISBN: 978-94-010-6253-4
Online ISBN: 978-94-011-5360-7
eBook Packages: Springer Book Archive