Risk Classification and Social Welfare*

In this paper, I provide a selective survey of the literature on the social welfare implications of regulations that restrict insurers' use of classification by personal characteristics. I refer to this practice as regulatory adverse selection. To differentiate this survey from earlier ones, I focus on directly addressing the question “What can canonical models of insurance tell us about policy effects of restrictions on risk classification?” Rather than only focus on efficiency properties of such regulations, I adopt an explicit welfare function approach of the sort inspired by Harsanyi's veil of ignorance. This allows for an explicit trade-off concerning the equity and efficiency effects of regulatory adverse selection. Also, I pay more attention than do earlier surveys to the possibility of pooling equilibria under nonexclusivity of provision and additional considerations that specifically affect the life insurance market. I derive some explicit conditions that determine when such regulations are either welfare enhancing or detrimental. The Geneva Papers (2006) 31, 245–269. doi:10.1057/palgrave.gpp.2510079