Economic Criteria for Compulsory Insurance

This paper applies the economic analysis of law through the question of under what conditions should insurance be made compulsory. A distinction is made between first-party (victim) insurance and third-party (liability) insurance. It is argued that under some circumstances compulsory victim insurance may be indicated, for example, when information problems or externalities arise. The major argument in favour of compulsory liability insurance is insolvency of the potential injurer. His insolvency may lead to underdeterrence. This can be cured through making the purchase of insurance compulsory. However, equally a few limits and warnings with respect to the introduction of a duty to insure are presented. If the moral hazard problem cannot be cured or if insurance is not sufficiently available, making insurance compulsory may create more problems than it cures. Also, it is argued that a major disadvantage of compulsory insurance is that it may make governments too dependent on the insurance market.