Risk-adjusted Efficiency of the Insurance Industry in China: 1999-2006

In order to investigate the interrelationship between risk and efficiency, based on the decomposition of risk into endogenous risk due to bad management and exogenous risk due to adverse environment, this paper introduces a modified measure of risk-adjusted efficiency by using a multistage data envelopment analysis (DEA) to estimate the real efficiency level for the 284 insurance firms in China from 1999 to 2006. By comparing the results from the traditional DEA model and from the multistage DEA model, the paper finds that there are significant changes in the efficiency scores and their related ranks. The results show that the efficiency scores of insurance firms tend to be underestimated without considering the internal risk factors. With further opening up of the insurance industry in China, the risk management ability of insurance firms has significant positive impact on the improvement of efficiency. Further, the risk-adjusted efficiency advantage of stock firms over state-owned firms is not as significant as that using the traditional method. And the efficiency gap between foreign and domestic insurance firms shows an increasing trend during the sample period.