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Market-Based Solutions to Vital Economic Issues


Kenan Institute 2024 Grand Challenge: Business Resilience
Market-Based Solutions to Vital Economic Issues
May 1, 2022

Insurers As Asset Managers and Systemic Risk


Financial intermediaries often provide guarantees resembling out-of-the-money put options, exposing them to undiversifiable tail risk. We present a model in the context of the U.S. life insurance industry in which the regulatory framework incentivizes value-maximizing insurers to hedge variable annuity (VA) guarantees, though imperfectly, and shift risks into high-risk and illiquid bonds. We calibrate the model to insurer-level data and identify the VA-induced changes in insurers’ risk exposures. In the event of major asset and guarantee shocks and absent regulatory intervention, these shared exposures exacerbate system-wide fire sales to maintain capital ratios, plausibly erasing over half of insurers’ equity capital.

Note: Research papers posted on SSRN, including any findings, may differ from the final version chosen for publication in academic journals.

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