Empirical study of adverse selection and moral hazard in the property and liability reinsurance market

This study empirically tests the asymmetric information problem in the property and liability reinsurance market by separating adverse selection from moral hazard. Using the panel data from NAIC and A.M. Best Company, adverse selection is shown to exist between affiliated insurers and non-affiliated reinsurers, while there are mixed evidences on the presence of moral hazard for non-affiliated insurers. When affiliated insurers mostly use inside reinsurance within the group, the adverse selection problem still exists. For non-affiliated insurers, adverse selection instead of moral hazard arises from asymmetric information. Overall, our results, consistent with Garven and Grace (2007), provide supportive evidence on the presence of adverse selection, but mixed evidence on moral hazard in the reinsurance market.