Reinsurance and Systemic Risk: The Impact of Reinsurer Downgrading on Property–Casualty Insurers

Abstract

This article analyzes the interconnectedness between reinsurers and U.S. property–casualty (P/C) insurers and presents the first detailed examination on the likely impact of major global reinsurer insolvency on the U.S. P/C insurance industry, in order to illustrate the potential systemic risk caused by the interconnectedness of the insurance sector through reinsurance. We find that the likelihood of a primary insurer's downgrade increases with its reinsurance default risk exposure from downgraded reinsurers. Counterparty primary insurers' stocks also react negatively to their reinsurers' downgrades. The negative effects also spill over to insurers that are not directly exposed to the credit risk of downgraded reinsurers. Despite the close interconnectedness, worst‐case scenario analyses show that the likelihood of systemic risk caused by reinsurance transactions is relatively small for the U.S. P/C insurance industry.