Thursday, 31 October 2013

Competition drives up insurance costs

The UK Competition Commission is investigating the vehicle insurance market, where costs are getting out of control as the Economist's chart shows.
The accompanying article notes in puzzlement that "competition abounds". So what is going on?

The UKCC's issues paper(pdf) suggested that the industry is arranged in an excessively competitive way. Apparently when your car collides with another in the UK, one of the insurance companies ends up paying for both cars. I think its the same here in NZ.

That structure gives the other insurance company an opportunity to raise its rivals' costs by getting an expensive repair job, and loading it up with generous terms for temporary replacement car hire, plus high write-off values so you're more likely to get a new car.

Its not theoretically clear how competition would play out given that market structure - maybe the firms could converge on an implicit deal to economise on repair costs irrespective of who pays. But cartel instability theory suggests that each insurer would be tempted to renege on any such deal, and that everyone might end with higher costs.

That latter story of cartel instability seems to be the UKCC's view. Investigation evidence led it to put the liability/control split at the top of its list of problems in July, and now the Economist reports that insurers are welcoming the prospect of regulation to stop them from competing in this way.

The prospect of rivals welcoming regulations that inhibit competition would normally chill me to the bone, but this one sounds like it could work.

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