Deregulation and Gains to Search in the Property Liability Insurance Market

Abstract

The dispersion of insurance prices offers a payoff to those searching for lower prices. This paper examines the expected gain to search in the insurance market by price conscious buyers both before and after rate deregulation. It shows that the gains to be achieved from search increase as price dispersion increases. Deregulation plausibly will lead to an increase in price dispersion. Evidence presented shows that the expected gain to search increases after deregulation. A reasonable assumption is that buyers of insurance are not perfectly informed about the prices charged by all potential sellers of insurance in the market.' Price dispersion will result and searching in the market will yield lower expected purchase prices. This paper examines the expected benefits of consumer search in the property and liability insurance market both before and after price deregulation. The results indicate that the expected gain from search is greater after deregulation. Consequently, consumers have an incentive to increase their stocks of price information. This observation, in turn, suggests that price deregulation may enhance the competitive character of the market. The next section demonstrates that an increase in the dispersion of prices causes an increase in the expected gain from search. A plausible argument is that rate deregulation will lead to an increase in price dispersion. Empirical data are provided that measure the expected gain to search both L. Dean Hiebert, Ph.D., is assistant professor of economics at Illinois State University. The author is grateful to Michael B. Johnson for supplying the data used in the study and for helpful suggestions of two anonymous Journal reviewers. Professor Hiebert has published previously in The Journal of Risk and Insurance. Joskow [3] persuasively supports this view: Undoubtedly, there is no other product for which consumer ignorance is so prevalent. Many consumers are unaware that there are price differences among insurance companies and that it is not necessary to go through an independent agent to obtain insurance. Comparative price shopping is very difficult since price differences for comparable coverages are not readily available in printed form and because it is difficult to obtain information from friends and neighbors. I can get good information on price differences and price levels for all kinds of products from the fellow in the next office if he has purchased these products and/or shopped around for them. Asking him about his insurance is of little value since he is in a different risk class, lives in a different community, and drives a different kind of car. [3, p. 404]