1 The Impact Of Deflation On Insurance Companies Offering Participating Life Insurance

We present a simple model in which the impact of a deflationary economy on life insurers offering participating contracts can be analyzed. Deflation is simply modeled by assuming that some flat interest rate drops to a lower level and stays there for a certain period of time. We find that a deflation would have strong negative effects on insurers offering participating contracts. This is alarming since such contracts account for the largest portion of life insurers ’ liabilities in many countries. Numerous numerical results show that the number of years of deflation that can be endured by an insurer depends on many factors such as the level of reserves that are present at outset and the relation between the level of interest rates before, during and after the deflation. One of the most important factors is the relation between the guarantee term, i.e. the term during which a certain interest rate is guaranteed within the insurance contracts, and the asset term, i.e. the term to maturity of the bonds purchased by the insurer. We propose offering contracts with reviewable interest rate guarantees to reduce the risks resulting from a deflation.