Insurance, Consumer Search, and Equilibrium Price Distributions
33 Pages Posted: 17 May 2014
Date Written: June 2014
We examine a service market with two frictions: search is required to obtain price quotes, and insurance coverage for the service reduces household search effort. While fewer draws from a price distribution will directly raise a household's average price, the indirect effect of reduced search on price competition has a much greater impact, accounting for at least 89 percent of increased average expenditures. In this environment, a monopolist insurer will exacerbate the moral hazard by offering full insurance. A competitive insurance market typically results in partial insurance and significant price dispersion, yet a second‐best contract would offer even less insurance coverage.
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