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The September 11 attack was the largest single insured event in history. In the end, insurance companies are expected to pay approximately $50 billion to victims of the attack. In response to the perceived potential of future terrorist losses, many insurers have begun to exclude terrorist-related losses from their policies. In light of the size and uncertainty of future losses, this is understandable. In adopting this approach, however, it appears that little thought has been given to the transaction costs associated with the exclusion. One of the significant contributions of Law and Economics to legal literature has been to illuminate the importance of transaction costs in making normative and policy decisions. This Article applies that contribution to the insurance industry's response to the September 11 attack. It contends that the transaction costs associated with the terrorism exclusions will be so great that they will seriously erode, and perhaps outweigh, the benefits to be derived from the exclusion. This Article begins with a brief description of the events leading up to the adoption of the exclusion and an outline of the basic provisions of the exclusion. It then develops a simple quantitative model to illustrate and evaluate the potential transaction costs from the use of the exclusion. The final section of the Article will identify insights and conclusions that can be drawn from the model.

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Indiana Law Review





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