Abstract
Physicians typically carry virtually complete malpractice insurance coverage. This contradicts standard theoretical predictions that (1) under a negligence rule of liability there should be no demand for insurance, and (2) insurance policies under moral hazard will contain co-payment provisions. It is argued that judicial ‘errors’ in defining negligence generate a demand for liability and legal defense insurance. Physician co-payment undermines the insurer's incentives for legal defense and thus induces a trade-off between loss reduction by injury prevention and by legal defense. Fee-for-service reimbursement further distorts the physician's choice between injury prevention and insurance. Implications for the deterrent function of the tort system are discussed.
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