The Current Life Insurance Crisis: How the Law Should Respond

This article explores some of the issues raised by the new evidence of underinsurance. Part I explores the initial theoretical question: why do people buy life insurance? Put differently, what function does life insurance serve? Part II provides some background on the life insurance market as it currently exists. Thus, Part II summarizes the major types of life insurance that are currently offered and summarizes the main elements of the current regulatory regime for life insurance companies. Part III then provides support for the claim that households tend to drastically underconsume life insurance. Section A of that Part summarizes the existing empirical evidence, which finds substantial and widespread underinsurance. As I will point out, however, the scholars conducting those studies take pains to avoid reaching any normative conclusions based on their findings. In other words, although they do find substantial and widespread underinsurance, (almost paradoxically) they assert that such a finding does not imply that too little insurance is being bought. There is no paradox, however. The economists are simply demonstrating their awareness of the theoretical difficulty of specifying the right amount of life insurance coverage. Although it is impossible to answer that question definitively, in section B, this article favors a baseline that defines adequacy as that amount of life insurance necessary to maintain the survivors\u27 standard of living, which happens to be the baseline that the researchers used in their empirical studies. That standard-of-living baseline will be controversial in some circles and, after a period of public debate, may be ultimately rejected. That outcome would be perfectly acceptable, so long as the debate takes place and households are forced to think seriously about what the right amount of life insurance is for their needs. Indeed, the main objective of this article is to start such a discussion. However, this article seeks to push the debate one step beyond the adequacy question. Therefore, Part IV reviews a number of theoretical reasons why the economists\u27 empirical evidence should be given a normative slant; that is, why the evidence should be interpreted as indicating a true underinsurance problem and why, therefore, further government intervention may indeed be appropriate. These reasons to be worried include the same sort of externality and behavioral rationales that have been offered for government intervention in other contexts