Distribution Systems and Operating Leverage

This paper presents a model in which firms compete in a Cournot-Nash game. Firms can choose an exclusive agency (EA) or an independent agency (IA) distribution system. Firms can enter and exit the market and switch distribution systems with no cost. The only difference between an EA system and an IA system is the operating leverage or cost structure. An EA firm incurs low (per unit) variable cost but high fixed cost. An IA firm incurs high variable cost but low fixed cost. Under the different operating leverages, we investigate the equilibrium outcome in which no entry, no exit, and no switching occur. We find that coexistence is possible when IA firms are less efficient than EA firms. IA firms can dominate in the market even if IA firms are inefficient. An EA firm produces more than an IA firm. IA firms tend to dominate more in high risk lines than in low risk lines. We provide numerical examples showing how an inefficient system can survive and even dominate in the market.
Publisher
Asia-Pacific Risk and Insurance Association (APRIA)
Issue Date
2005
Description

The author(seogsh@kgsm.kaist.ac.kr) wishes to thank the journal referees, Soon-Jae Lee (Co-editor), and seminar participants at Asia-Pacific Risk and Insurance Association Conference and American Risk and Insurance Association meeting, both in 2002, for their comments. The author would also like to thank Thi Nha Chau for her support. This work is supported by KAIST Research Fund of 2004. In this paper, the exclusive agency system includes direct writing systems.

Keywords

distribution systems; operating leverage; coexistence; insurance market

Citation

Asia-Pacific Journal of Risk and Insurance, Vol.1, no.1, pp.45-61

ISSN
1793-2157
URI
http://hdl.handle.net/10203/6440
Link
http://www.apria.org/APJRI.htm
Appears in Collection
KGSF-Journal Papers(저널논문)
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