Probability of Ruin under Inflationary Conditions or under Experience Rating

Abstract

The effect of inflation of premium income and claims size distribution, but not of free reserves, on the probability of ruin of an insurer is studied.An interesting similarity between this problem and the ruin problem in an experience-rated scheme is exhibited. This similarity allows the deduction of parallel results for the two problems in later sections.It is shown that the probability of ruin is always increased when the (constant) inflation rate is increased.The distribution of aggregate claims under inflationary conditions is described and used to calculate an upper bound on the ruin probability. Some numerical examples show that this bound is not always sharp enough to be practically useful. It is also shown, however, that this bound can be used to construct an approximation of the effect of inflation on ruin probability.It is shown that if inflation occurs at a constant rate, then ruin is certain, irrespective of the smallness of that rate and of the largeness of initial free reserves and the safety margin in the premium. The corresponding result for experiencerated schemes is that a practical and “intuitively reasonable” experience-rating scheme leads eventually to certain ruin.Finally, a simple modification of the techniques of the paper is made in order to bring investment income into account.