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The Cost of Financial Frictions for Life Insurers

Author

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  • Ralph S. J. Koijen
  • Motohiro Yogo

Abstract

During the financial crisis, life insurers sold long-term policies at deep discounts relative to actuarial value. The average markup was as low as ?19 percent for annuities and ?57 percent for life insurance. This extraordinary pricing behavior was due to financial and product market frictions, interacting with statutory reserve regulation that allowed life insurers to record far less than a dollar of reserve per dollar of future insurance liability. We identify the shadow cost of capital through exogenous variation in required reserves across different types of policies. The shadow cost was $0.96 per dollar of statutory capital for the average company in November 2008.

Suggested Citation

  • Ralph S. J. Koijen & Motohiro Yogo, . "The Cost of Financial Frictions for Life Insurers," Staff Report, Federal Reserve Bank of Minneapolis.
    • Handle: RePEc:fip:fedmsr:500
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    References listed on IDEAS

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    Cited by:

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    2. Aiello, Darren J., 2022. "Financially constrained mortgage servicers," Journal of Financial Economics, Elsevier, vol. 144(2), pages 590-610.
    3. Axel Möhlmann, 2021. "Interest rate risk of life insurers: Evidence from accounting data," Financial Management, Financial Management Association International, vol. 50(2), pages 587-612, June.
    4. Berdin, Elia & Pancaro, Cosimo & Kok Sørensen, Christoffer, 2016. "A stochastic forward-looking model to assess the profitability and solvency of European insurers," SAFE Working Paper Series 137, Leibniz Institute for Financial Research SAFE, revised 2016.
    5. Berdin, Elia, 2016. "Interest rate risk, longevity risk and the solvency of life insurers," ICIR Working Paper Series 23/16, Goethe University Frankfurt, International Center for Insurance Regulation (ICIR).
    6. Craig B. Merrill & Taylor D. Nadauld & Philip E. Strahan, 2019. "Final Demand for Structured Finance Securities," Management Science, INFORMS, vol. 65(1), pages 390-412, January.

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    More about this item

    Keywords

    Capital regulation; Annuities; Leverage; Life insurance; Financial crisis;
    All these keywords.

    JEL classification:

    • G22 - Financial Economics - - Financial Institutions and Services - - - Insurance; Insurance Companies; Actuarial Studies
    • G01 - Financial Economics - - General - - - Financial Crises
    • G28 - Financial Economics - - Financial Institutions and Services - - - Government Policy and Regulation

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