The economics of road safety

In this paper we present a theoretical framework for the analysis of road safety in different contexts characterized by the following factors: the presence or the absence of externalities, moral hazard, taxes (subsidies), government regulation, liability insurance and multi-period insurance contracts. The main results are the following: (i) A Pareto optimal solution for insurance coverage and road safety is characterized by full insurance and a level of prevention which takes into account externalities between drivers. (ii) Without asymmetrical information, such a Pareto optimal solution can be obtained with or without a fault system for negligence if an adequate rating system is set up in order to induce individuals to take into account externalities. Taxes and subsidies can also be efficient. Government regulation of road safety is another way to reduce inefficies due to externalities. However, these interventions will not generally lead to a socially optimal level of road safety under asymmetrical information. (iii) Under asymmetrical information, two mechanisms are examined in some detail: fault for negligence and multi-period insurance contracts. It is shown that one-period liability insurance contracts (assuming that the legal system can observe the individual's level of road safety activities when accidents occur) or multi-period no-fault insurance contracts (assuming an infinite horizon with no discounting) based in part on the individual's past driving record can give individually rational self-protection activity levels which are socially efficient in presence of both moral hazard and externalities. Under less stringent assumptions, these contracts can give second-best solutions.