Regulation-induced Price Instability in Swiss Motor Car Liability Insurance

Abstract

It has been known for a long time that regulation induces firms to behave inefficiently. Most analytical work on this question relates to static inefficiency effects of regulation such as overmanning or overcapitalisation. This chapter looks at the dynamic inefficiencies created by regulation. It is shown that the price formation rules, as specified in the regulatory laws, can create price fluctuations and are thus an autonomous factor of instability. Dynamic inefficiency of regulation has received little attention up to now (cf. Klevorick, 1973; Hubka and Obermann, 1977). It is shown to be present in the Swiss motor car liability insurance. The rules of the legal framework are translated into a system of equations. The solutions to this system of equations represent the outcomes of the regulatory process. This mathematical treatment of regulatory rules reveals properties of law which are not apparent from the purely verbal analysis traditionally used by the legal profession. The regulation-induced price instabilities caused political opposition and protests, effects which are contrary to the objectives of the regulatory scheme.

The authors are indebted to C. C. von Weizsacker, H. Kunreuther, D. C. Mueller, B. A. Weisbrod, Fr. Schneider and to Dr Dubey, Dr Bichsel and Mr Diethelm for their helpful comments. The authors are, however, responsible for all remaining errors in this chapter.