EFFICIENT CONTRACTING IN A MARKET FOR LIFE-INSURANCE AGENTS WITH ASYMMETRIC INFORMATION

The incentive conflict between the life insurance firm and its agents is examined. Conditions for first-best contracting in a symmetrically informed environment entail a fixed wage payment by the firm. In contrast, when the firm is constrained by both the uncertainty of consumer demand and the allocation of effort by the agent, a high commission rate for new policies sold and a low commission rate for policies renewed is an efficient contractual arrangement between the firm and its agents, if and only if an agent's effort is more productive when directed at increasing the expected flow of revenue from new rather than renewal customers. The prediction of the model is consistent with the contractual arrangements currently observed in the life insurance industry, where customers are "locked-in" by a renewal premium lower than the premium for a new customer who otherwise has the same characteristics.