Financial Development And Economic Growth-Credit and Risk Managment-Lecture Notes, Study notes of Credit and Risk Management

Download Financial Development And Economic Growth-Credit and Risk Managment-Lecture Notes and more Study notes Credit and Risk Management in PDF only on Docsity! LECTURE – 43 FINANCIAL DEVELOPMENT AND ECONOMIC GROWTH • As financial intermediaries, insurance companies perform the same types of functions and provide similar generic benefits to a national economy as other financial intermediaries. – Financial services generally and insurance in particular are of primordial importance to economic development. • Financial services offer the possibility of providing such externalities, thereby enhancing economic growth. – Non-life insurance, life insurance and banking are all shown to be important predictors of economic productivity. Thus, the more developed and efficient a country’s financial market, the greater will be its contribution to economic prosperity. Benefits of Insurance in Economic Growth • Promote financial stability – By indemnifying those who suffer or harm, insurance helps stabilize the financial situation of individuals, families and organizations. – It encourages individuals and firms to invest and create wealth. – Peach of mind and financial carelessness. • Substitutes for and complements government security programs – Private insurance can relieve pressure on social insurance system, preserving government resources for essential social security. – Pension fund and life insurance – Natural disaster indemnity plan • Facilitates trade and commerce – Many products and services are produced and sold only if adequate liability insurance is available to cover any claims for negligence. – Innovation – Credit enhancement • Helps mobilize savings – Insurance and financial intermediation – Insurance enhance financial system efficiency in three ways • Reduce transaction costs associated with bringing together savers and borrowers • Create liquidity • Facilitate economies of scale in investment – Financial intermediaries vs. financial markets • The more developed a country’s financial system, the greater the reliance on markets and the less the reliance on intermediaries. – Insurers vs. other financial intermediaries • Commercial banks – short-term deposits • Contractual saving institutions – long-term view • Enables risk to be managed more efficiently – Risk pricing – greater the expected loss, higher the price (u/w and investment) – Risk transformation – risk exposures can be transferred to an insurer for a price – Risk pooling and reduction (1) insurers make reasonably accurate estimates as to the pool’s overall losses. (2) insurers diversify their portfolios. docsity.com • Encourages loss mitigation – If pricing is tied to loss experience, insureds have economic incentives to control losses. – Ex. experience rating, no claim bonus • Fosters a more efficient capital allocation – Insurers will monitor the companies to reduce risk-increasing behavior and act in the best interests of their various stakeholders. – A watch-dog role. The Costs of Insurance to Society • Insurers incur sales, servicing, administration and investment management expenses. – The higher are such expenses, the less efficient are. • The existence of insurance encourages moral hazard. – All such moral hazard caused behavior causes premiums to be higher than they would be otherwise, represents a deadweight loss to society, can lead to disruptions in otherwise well-functioning markets, and truly is a societal cost of insurance. Determinants of Insurance Market Structure Economic Factors • Income – The higher an economy’s income, the more it spends on all types of insurance. – The income elasticity of insurance premium • The relative change in insurance premiums written for a given change in national income. • Inflation – Considered as detrimental to life insurance supply and demand. Demographic Factors • Aging populations – A greater demand for savings-based life insurance products, long-term care insurance. e.g. longevity risk • Education – The more educated population, the greater the likelihood of understanding the need for insurance. • Household structure docsity.com