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Abstract
The dissertation investigates the relevance and efficiency of internal capital markets within insurance groups. Two primary questions are addressed. The first question is, are internal and external capital perfect substitutes? A simultaneous equations model is used to compare factors affecting demand for internal and external reinsurance. Results from the model present both structural and cost-based differences in demand for internal and external reinsurance. We conclude that internal reinsurance costs lest than external reinsurance. The second question is, are internal capital markets operating efficiently within insurance groups? Internal capital market activity is defined as that envisioned by Williamson (1975) where, within a multi-segment firm, each segment must compete for the firms resources instead of automatically allocating cash flows back to their origin. An efficient internal capital market is defined following Shin and Stulz (1998), where a central governing authority reallocates capital within the group to affiliates with the best investment opportunities. Empirical tests explore the relationship between a firms investment and changes in its capitalization from internal capital market transactions and other sources. Results are consistent with active and efficient internal capital markets operating within insurance groups.