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Ambiguity Aversion: A New Perspective on Insurance Pricing

Published online by Cambridge University Press:  09 August 2013

Lin Zhao  and
Wei Zhu
Lin Zhao
Affiliation:
China Center for Insurance and Risk Management, School of Economics and Management, Tsinghua University, Beijing, 100084, PRC., E-Mail: zhaolin@sem.tsinghua.edu.cn
Wei Zhu
Affiliation:
School of Insurance and Economics, University of International Business and Economics, Beijing, 100029, PRC., E-Mail: zhuwei@uibe.edu.cn
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Abstract

This paper intends to develop a feasible framework which incorporates ambiguity aversion into the pricing of insurance products and investigate the implications of ambiguity aversion on the pricing by comparing it with risk aversion. As applications of the framework, we present the closed-form pricing formulae for some insurance products appearing in life insurance and property insurance. Our model confirms that the effects of ambiguity aversion on the pricing of insurance do differ from those of risk aversion. Implications of our model are consistent with some empirical evidences documented in the literature. Our results suggest that taking advantage of natural hedge mechanism can help us control the effects of model uncertainty.

Type
Research Article
Information
ASTIN Bulletin: The Journal of the IAA , Volume 41 , Issue 1 , May 2011 , pp. 157 - 189
Copyright
Copyright © International Actuarial Association 2011

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