Collaborative Research on Contracting with Costly State Falsification: Theory and Empirical Results from Automobile Insurance

The purpose of this project is to undertake theoretical and empirical research into the problem of fraudulent claims filed in insurance markets. A growing body of empirical work aims to document the existence of fraudulent or exaggerated claims in selected insurance markets, and to aid insurers in identifying particular claims which may be fraudulent. Theoretical analyses have focused on designing optimal schemes for the auditing of claims which are filed to detect and deter fraudulent claims. This project fills and an important gap in both the theoretical and empirical literature on insurance fraud by considering contractual mechanisms by which insures might manage the problem of fraud. Rather than simply designing and implementing ex-post situations such as claims audits, the project examines how the initial insurance contract might be designed in order to provide incentives of claimants not to cheat. Since efficient policy approaches to the problem of fraud are likely to entail ex-ante incentives as well as ex-post sanctions, this research promises to provide important insights into a heretofore ignored aspect of effective fraud management. The theoretical contracting model will be tested using a large and detailed dataset on automobile settlements.