Guidelines for Insurers in Pricing Deductibles

Abstract

Properly pricing deductible may help insurers to meet business objectives such as minimizing adverse selection, eliminating small claims, maintaining risk charges, and minimizing policyowner dissatisfaction. Technical considerations-such as the nature of loss data, the effect of inflation, and the effect of deductibles on operating costs-impose constraints on pricing procedures. After analyzing these business objectives and technical considerations, this paper concludes that a deductible pricing decision may involve compromises among competing requirements and objectives. Furthermore, some of the accepted wisdom of deductibles-such as their effect in reducing nuisance claims-is opened to serious question. Although an insurer's problem of setting rate credits for deductibles is at least as complex and worthy of study as the insurance buyer's problem of selecting a deductible, the insurance seller's decision has not received the intensive analysis long focused on the buyer's problem. This paper seeks partially to correct this imbalance by setting forth guidelines insurers may follow rationally in pricing deductibles for property insurance coverages. Pricing guidelines emanate from two sources: an insurer's business objectives and technical considerations which underlie proper rate credits. To meet its business objectives, one of which presumably is an underwriting profit, an insurer should offer deductibles and set deductible credits which,