Discussion paper

DP9864 Hidden Insurance in a Moral Hazard Economy

We consider an economy where individuals privately choose effort and trade competitively priced securities that pay off with effort-determined probability. We show that if insurance against a negative shock is sufficiently incomplete, then standard functional form restrictions ensure that individual objective functions are optimized by an effort and insurance combination that is unique and satisfies first- and second-order conditions. Modeling insurance incompleteness in terms of costly production of private insurance services, we characterize the constrained inefficiency arising in general equilibrium from competitive pricing of non-exclusive financial contracts.


Bertola, G and W Koeniger (2014), ‘DP9864 Hidden Insurance in a Moral Hazard Economy‘, CEPR Discussion Paper No. 9864. CEPR Press, Paris & London. https://cepr.org/publications/dp9864