Pricing in General Insurance

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Credibility Theory

The experience-based calculation of the ‘risk premium’ (basically, the pure cost of risk

per unit of exposure, without any allowance for expenses or prot) for an insurance policy

is affected by several sources of uncertainty, the most obvious – and perhaps the best

understood – of which is the limited size of the historical database of losses of the client.

Other important uncertainties include data uncertainty and model uncertainty.

To make up for such uncertainties, the analyst may use average, or typical, informa-

tion from the market (the market risk premium) to replace or complement the client risk

premium. The prob ...