Adverse Selection in the Credit Life Insurance Market

Abstract

Adverse selection plays a prominent role in the insurance literature due to its negative implications for insurer financial performance and stability. However, there is a paucity of empirical evidence consistent with the existence of adverse selection in the U.S. insurance market. Potential reasons for the lack of evidence include: (1) that insurers effectively use underwriting and pricing to counteract adverse selection; or (2) that consumers either do not have, or fail to take advantage of, private information. We test for the existence of adverse selection in the credit life insurance market where opportunities to exploit asymmetric information are pronounced due to the lack of underwriting and highly regulated prices. Our analysis provides evidence consistent with adverse selection in the credit life market and suggests that the lack of empirical evidence regarding adverse selection may be due to effective underwriting rather than consumers failing to use informational advantages to their benefit.