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The Massachusetts Model of Profit Regulation in Nonlife Insurance: An Appraisal and Extensions

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Part of the Huebner International Series on Risk, Insurance and Economic Security book series (HSRI,volume 6)

Abstract

In the late 1970s, a number of economists applied the Capital Asset Pricing Model (CAPM) to the problem of pricing insurance contracts (e.g., Munch and Smallwood 1978, Fairley, 1979, and Hill 1979). The CAPM offered a means of systematically accounting for the investment income of insurance companies and an operational definition of the risk of underwriting. In 1977, William Fairley used the CAPM to build a model for the regulatory determination of profit margins in Massachusetts. The Fairley model has played a major role in rate hearings in Massachusetts since its introduction. It has become generally known as the “Massachusetts” model of profit regulation. The purpose of this chapter is to provide a critical appraisal of the use of the Fairley model as a regulatory tool. The theoretical foundations of the model are reviewed, several extensions of its basic specification are suggested, and additional empirical evidence on its reliability and stability is provided.

Keywords

  • Risk Premium
  • Systematic Risk
  • Profit Margin
  • Capital Asset Price Model
  • Treasury Bill

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© 1987 Springer Science+Business Media New York

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Hill, R.D., Modigliani, F. (1987). The Massachusetts Model of Profit Regulation in Nonlife Insurance: An Appraisal and Extensions. In: Cummins, J.D., Harrington, S.E. (eds) Fair Rate of Return in Property-Liability Insurance. Huebner International Series on Risk, Insurance and Economic Security, vol 6. Springer, Dordrecht. https://doi.org/10.1007/978-94-015-7753-3_2

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  • DOI: https://doi.org/10.1007/978-94-015-7753-3_2

  • Publisher Name: Springer, Dordrecht

  • Print ISBN: 978-94-015-7755-7

  • Online ISBN: 978-94-015-7753-3

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