This article examines the effect of asymmetric information on the trading of underwriting risk between insurers and reinsurers and how it is mitigated in a context of long-term relationships. It begins by explaining how information problems affect the efficiency of the allocation of risk between insurers and reinsurers and how long-term implicit contracts allow the inclusion of new information in the pricing of reinsurance coverage. A key feature of these relationships is the reliance on loss-contingent rebates and commissions in the pricing of reinsurance coverage. We argue that when information is revealed only over time, long-term implicit contracts between insurers and reinsurers allow the inclusion of new information into reinsurance pricing. Because of this feature, the allocation of risk between insurers and reinsurers is more efficient. Specifically, such arrangements lead to more reinsurance coverage, higher insurer profits, and lower expected distress in the industry. Journal of Economic Literature Classification Numbers: G22, G13, L15, D81.

This paper investigates the role of bank capital regulation in risk control. It is known that banks choose portfolios of higher risk because of inefficiently priced deposit insurance. Bank capital regulation is a way to redress this bias toward risk. Utilizing the mean‐variance model, the following results are shown: (a) the use of simple capital ratios in regulation is an ineffective means to bound the insolvency risk of banks; (b) as a solution to problems of the capital ratio regulation, the “theoretically correct” risk weights under the risk‐based capital plan are explicitly derived; and (c) the “theoretically correct” risk weights are restrictions on asset composition, which alters the optimal portfolio choice of banking firms.