week 02

week 02 - Lecture 2: Social insurance 1 The economics of...

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1 Nicholas Barr, EU456/SA4F7 Lecture 2, LT 2010 1 Lecture 2: Social insurance 1 The economics of actuarial insurance 2 Social insurance: unemployment insurance, sick pay, pensions 3 Long-term care: a suitable case for social insurance Nicholas Barr, EU456/SA4F7 Lecture 2, LT 2010 2 1 The economics of actuarial insurance Nicholas Barr, EU456/SA4F7 Lecture 2, LT 2010 3 1.1 Actuarial insurance • Definitions of insurance – A device to protect individuals against risk – An actuarial mechanism Nicholas Barr, EU456/SA4F7 Lecture 2, LT 2010 4 Efficiency arguments: the welfare gains from insurance Assume that high-quality long-term care costs €50,000 per year • If there is no insurance, a person has to save enough to cover the maximum duration, e.g. 20 years at €50,000 per year = €1 million • With insurance, a person has to save enough to cover the average duration, e.g. ½ year = €25,000 Nicholas Barr, EU456/SA4F7 Lecture 2, LT 2010 5 Moral arguments: fairness behind the Veil of Ignorance • Rawls argues that the rules of a just society should be made by people who do not know where they will end up in that society, i.e. behind the Veil of Ignorance • Insurance is an example of solidarity behind the Veil of Ignorance, and hence has moral appeal • Tax finance (e.g. income-tested poverty relief) can be interpreted as another example Nicholas Barr, EU456/SA4F7 Lecture 2, LT 2010 6 How actuarial insurance works Premium = (1+ α ) pL
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2 Nicholas Barr, EU456/SA4F7 Lecture 2, LT 2010 7 Conclusion • Economic efficiency and morality argue in the same direction: in an efficient and humane society people should be able to insure against the need for long-term care Nicholas Barr, EU456/SA4F7 Lecture 2, LT 2010 8 1.2 Technical problems on the supply side Nicholas Barr, EU456/SA4F7 Lecture 2, LT 2010 9 Conditions under which competive insurance will be efficient 1 Probabilities must be independent (individual risk, not common shock) 2 Probability must be less than one (risk, not certainty) 3 Probability must be known or estimable (risk, not uncertainty)
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This note was uploaded on 08/25/2010 for the course EU 456 taught by Professor Barr during the Spring '10 term at LSE.

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week 02 - Lecture 2: Social insurance 1 The economics of...

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