A credibility theory for automobile bonus systems

Abstract

Summary This paper deals with the problem of designing experience rating systems of the bonus type, commonly used in automobile insurance. On the basis of a simple model the mean squared deviation between a policy's expected claim amount and its premium in the nth insurance period as n→∞, is taken as a measure of the efficiency of a bonus system. It is shown that to any set of bonus rules (which determines the bonus class transitions of the policies), there is an optimal premium scale, which coincides with the one proposed by Pesonen in 1963. Thus the problem of choosing an efficient bonus system reduces to choosing efficient bonus rules. Examples are given of comparison between different bonus rules. In one example the present Norwegian bonus system is compared to alternative systems. Comments are made on earlier papers on bonus systems. The credibility theoretic foundation is laid in a separate section.

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