MORAL HAZARD, INSURANCE AND PUBLIC LOSS PREVENTION

The effect of public provision of a loss-preventive good on equilibrium in an insurance market under moral hazard is analyzed. The primary advantage of public provision lies in its ability to produce information, which alleviates moral hazard since the level of the public good is publicly known. However, public provision entails an efficiency loss since the public good level cannot be tailored to suit individual demands. The analysis formalizes this cost-benefit trade-off involved in public provision, and discusses when public provision improves on market equilibrium.