Evidence of Capacity Constraints in Insurance Markets

This article provides empirical support for the primary predictions of capacity constraint theories of property-casualty insurance cycles. The primary implications concern industry capacity and the difference between the price of insurance and noncapital costs, referred to here as the price-payment margin (PPM). Capacity constraint theories predict that low capacity will lead to higher PPMs and that capacity growth will follow PPM increases as insurers rebuild capacity. Price-payment margin and capacity series are constructed using industry time series for 1949-90. The estimation finds that PPM growth varies inversely with capacity at the beginning of the period and also inversely with changes in capacity. In addition, declines in capacity are associated with PPM growth next period, while increases in capacity generally have no significant effect on next period's PPM growth. Furthermore, current capacity growth is positively correlated with last period's PPM growth. Copyright 1994 by the University of Chicago.