Decomposing Asymmetric Information in China's Automobile Insurance Market

Distinguishing between adverse selection and moral hazard is a difficult but important issue in insurance economics. In the present work, we model and evaluate the distinct roles of adverse selection, ex ante moral hazard, and ex post moral hazard in China's automobile insurance market. Our econometric analysis supports the following conclusions: (1) the effect of asymmetric information on the probability of claims is significant; (2) the effect of ex ante moral hazard on the probability of claims is not significant, establishing adverse selection as the underlying source of information asymmetry; (3) the effect of asymmetric information (including ex ante moral hazard) on the severity of claims is not significant; and (4) the impact of ex post moral hazard on claim severity is significant for a subset of lower-coverage policyholders. Consequently, it may be advisable for Chinese automobile insurance companies to allocate greater resources to both underwriting (i.e., selecting policyholders) and auditing claims.