IDEAS home Printed from https://ideas.repec.org/a/bla/jrinsu/v70y2003i3p439-460.html
   My bibliography  Save this article

Equity Risk, Conversion Risk, and the Demand for Insurance

Author

Listed:
  • Rod Garratt
  • John M. Marshall

Abstract

Existing insurance theory fails when applied to real property because it does not account for variations in the economic environment. The article studies optimal property insurance in the presence of two sources of variation: equity risk and conversion risk. Equity risk is randomness of the value of a property. It tends to raise demand for conventional insurance. In contrast, conversion risk is randomness in the value the property would have if, after severe damage, it were converted to the highest‐valued use. It is distinct from equity risk because the highest‐valued use is typically not the current one. Under independent conversion risk, the optimum upper limit is a compromise among underlying conversion thresholds. Absent independence, the optimum can be quite different. Conversion risk can raise or lower the demand for property insurance. Insurance contracts that fail to address conversion tend to undermine the orderly disposition of obligations and reduce the gains from reallocation of risks through insurance.

Suggested Citation

  • Rod Garratt & John M. Marshall, 2003. "Equity Risk, Conversion Risk, and the Demand for Insurance," Journal of Risk & Insurance, The American Risk and Insurance Association, vol. 70(3), pages 439-460, September.
    • Handle: RePEc:bla:jrinsu:v:70:y:2003:i:3:p:439-460
    DOI: 10.1111/1539-6975.t01-1-00059
    as

    Download full text from publisher

    File URL: https://doi.org/10.1111/1539-6975.t01-1-00059
    Download Restriction: no
    File URL: https://libkey.io/10.1111/1539-6975.t01-1-00059?utm_source=ideas
    LibKey link: if access is restricted and if your library uses this service, LibKey will redirect you to where you can use your library subscription to access this item
    ---><---

    Other versions of this item:

    References listed on IDEAS

    as
    1. Kimball, Miles S, 1990. "Precautionary Saving in the Small and in the Large," Econometrica, Econometric Society, vol. 58(1), pages 53-73, January.
    2. J.M. Bourgeon & P. Picard, 1999. "Reinstatement or insurance payment in corporate fire insurance," THEMA Working Papers 99-46, THEMA (THéorie Economique, Modélisation et Applications), Université de Cergy-Pontoise.
    3. Mayers, David & Smith, Clifford W, Jr, 1983. "The Interdependence of Individual Portfolio Decisions and the Demand for Insurance," Journal of Political Economy, University of Chicago Press, vol. 91(2), pages 304-311, April.
    4. Doherty, Neil A & Schlesinger, Harris, 1983. "Optimal Insurance in Incomplete Markets," Journal of Political Economy, University of Chicago Press, vol. 91(6), pages 1045-1054, December.
    5. Shiller, Robert J & Weiss, Allan N, 1999. "Home Equity Insurance," The Journal of Real Estate Finance and Economics, Springer, vol. 19(1), pages 21-47, July.
    Full references (including those not matched with items on IDEAS)

    Most related items

    These are the items that most often cite the same works as this one and are cited by the same works as this one.
    1. Koeniger, Winfried, 2001. "Labor and Financial Market Interactions: The Case of Labor Income Risk and Car Insurance in the UK 1969-95," IZA Discussion Papers 240, Institute of Labor Economics (IZA).
    2. Luigi Guiso & Tullio Jappelli, 1998. "Background Uncertainty and the Demand for Insurance Against Insurable Risks," The Geneva Risk and Insurance Review, Palgrave Macmillan;International Association for the Study of Insurance Economics (The Geneva Association), vol. 23(1), pages 7-27, June.
    3. Reichel, Lukas & Schmeiser, Hato & Schreiber, Florian, 2021. "Sometimes more, sometimes less: Prudence and the diversification of risky insurance coverage," European Journal of Operational Research, Elsevier, vol. 292(2), pages 770-783.
    4. Patrick L. Brockett & Linda L. Golden & Montserrat Guillen & Jens Perch Nielsen & Jan Parner & Ana Maria Perez‐Marin, 2008. "Survival Analysis of a Household Portfolio of Insurance Policies: How Much Time Do You Have to Stop Total Customer Defection?," Journal of Risk & Insurance, The American Risk and Insurance Association, vol. 75(3), pages 713-737, September.
    5. Eeckhoudt, Louis & Gollier, Christian & Schlesinger, Harris, 1996. "Changes in Background Risk and Risk-Taking Behavior," Econometrica, Econometric Society, vol. 64(3), pages 683-689, May.
    6. Ramaswami, Bharat & Roe, Terry L., 1989. "Incompleteness in Insurance: An Analysis of the Multiplicative Case," Bulletins 7492, University of Minnesota, Economic Development Center.
    7. Lin, Wen-chang & Lu, Jin-ray, 2012. "Risky asset allocation and consumption rule in the presence of background risk and insurance markets," Insurance: Mathematics and Economics, Elsevier, vol. 50(1), pages 150-158.
    8. Michel Denuit & Louis Eeckhoudt & Béatrice Rey, 2010. "Some consequences of correlation aversion in decision science," Annals of Operations Research, Springer, vol. 176(1), pages 259-269, April.
    9. Cohen Alma, 2006. "The Disadvantages of Aggregate Deductibles," The B.E. Journal of Economic Analysis & Policy, De Gruyter, vol. 6(1), pages 1-28, April.
    10. Günter Franke & Harris Schlesinger & Richard C. Stapleton, 2006. "Multiplicative Background Risk," Management Science, INFORMS, vol. 52(1), pages 146-153, January.
    11. Michel Denuit & Louis Eeckhoudt & Mario Menegatti, 2011. "Correlated risks, bivariate utility and optimal choices," Economic Theory, Springer;Society for the Advancement of Economic Theory (SAET), vol. 46(1), pages 39-54, January.
    12. Gollier, Christian & Schlesinger, Harris, 2003. "Preserving preference rankings under background risk," Economics Letters, Elsevier, vol. 80(3), pages 337-341, September.
    13. M M Segovia-Gonzalez & I Contreras & C Mar-Molinero, 2009. "A DEA analysis of risk, cost, and revenues in insurance," Journal of the Operational Research Society, Palgrave Macmillan;The OR Society, vol. 60(11), pages 1483-1494, November.
    14. Georges Dionne & Jingyuan Li, 2012. "Comparative Ross Risk Aversion in the Presence of Quadrant Dependent Risks," Cahiers de recherche 1226, CIRPEE.
    15. Luigi Guiso & Luigi Pistaferri, 2020. "The insurance role of the firm," The Geneva Risk and Insurance Review, Palgrave Macmillan;International Association for the Study of Insurance Economics (The Geneva Association), vol. 45(1), pages 1-23, March.
    16. Anita Mukherjee & Shawn Cole & Jeremy Tobacman, 2021. "Targeting weather insurance markets," Journal of Risk & Insurance, The American Risk and Insurance Association, vol. 88(3), pages 757-784, September.
    17. Louis Eeckhoudt & Neil Doherty, 1995. "Espérance d'utilité et théorie duale de Yaari : implication pour la demande d'assurance," Revue Économique, Programme National Persée, vol. 46(3), pages 933-938.
    18. Crainich, David & Eeckhoudt, Louis & Le Courtois, Olivier, 2014. "Decreasing downside risk aversion and background risk," Journal of Mathematical Economics, Elsevier, vol. 53(C), pages 59-63.
    19. Franke, Gunter & Stapleton, Richard C. & Subrahmanyam, Marti G., 1998. "Who Buys and Who Sells Options: The Role of Options in an Economy with Background Risk," Journal of Economic Theory, Elsevier, vol. 82(1), pages 89-109, September.
    20. Christian Gollier & Miles S. Kimball, 2018. "Toward a Systematic Approach to the Economic Effects of Risk: Characterizing Utility Functions," Journal of Risk & Insurance, The American Risk and Insurance Association, vol. 85(2), pages 397-430, June.

    More about this item

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:bla:jrinsu:v:70:y:2003:i:3:p:439-460. See general information about how to correct material in RePEc.

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a bibliographic reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: Wiley Content Delivery (email available below). General contact details of provider: https://edirc.repec.org/data/ariaaea.html .

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service. RePEc uses bibliographic data supplied by the respective publishers.