The National Institute for Computational Sciences

Exploring Competitive Balance

XSEDE-supported Research Looks at How the Financial and Medical Insurance Industries Could be Improved

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The financial services and medical insurance industries powerfully influence the lives of people. In the United States, for example, those industries account for 6–8 percent (more than $1 trillion) of the annual monetary value of all finished goods and services (the Gross Domestic Product), according to the U.S. Department of Commerce Bureau of Economic Analysis. The magnitude of that role suggests the significance of better understanding the inconspicuous forces involved in determining the quality of service-provider competition and the design of contracts.

Investigating those forces is the focus of researchers Victor Zhorin of the Computation Institute at the University of Chicago and Robert Townsend of the Massachusetts Institute of Technology Department of Economics.

Specifically, they are attempting to connect industrial organization and contract theory—two fields that have largely been considered separately—by examining economic fundamentals while not making any strong assumptions, says Zhorin. Accomplishing that aim, he adds, requires high-performance computing.

Zhorin and Townsend have been using a variety of advanced digital resources from the Extreme Science and Engineering Discovery Environment (XSEDE) to explore "a contract-based model of industrial organization." Their working paper on the project is titled "Spatial competition among financial service providers and optimal contract design."

The researchers are taking into account what are called information frictions—phenomena that are not directly observable but affect business profits. One is moral hazard, which pertains to the risk that contracts may not always be entered into in good faith. This may be exemplified by people adopting a "don't worry it's covered by insurance" attitude and taking unnecessary risks, financial institutions behaving irresponsibly in their quest to reap profits, troubled banks getting bailouts, or loan-defaulting homeowners receiving better loan terms or reduced mortgages to avoid foreclosure.

Another friction factored into the study is adverse selection, which in the medical insurance industry refers to the bulk of policies being bought by the people with the most health risks, while healthy people don't see an incentive; or in banking, a situation in which the creditworthiness of a customer is not known, something that occurs more often in developing countries such as Brazil, Thailand, and Bangladesh, Zhorin says.

Also among the economic influences examined in the project are various market structures—monopoly, imperfect competition, perfect competition, and strategic interaction.

While monopoly is a familiar concept to many, what may not be well known is that even a competitive situation in the marketplace can be monopolistic, as when a number of businesses selling products that are similar and yet unique in their own right essentially have monopolies and thus represent a form of imperfect competition.

Other examples of imperfect-competition scenarios are ones involving only a few sellers of a product (oligopoly) or numerous sellers of a product and only one buyer demographic (monopsony).

Zhorin explains that though perfect competition does exist, "each case has to be tested and verified with empirical data behaving [or not] according to perfect market predictions."

Enhancing market competition requires a close look at the industries and their contracts with customers. But, as Zhorin points out, connecting industrial organization and contract theory is complicated.

He explains that the project's simulation model encompasses several layers, or building blocks, from what takes place on the micro level between the financial or insurance firms and households, to service providers from those industries that are engaged in strategic interaction and competition over the markets populated by the people on the micro level.

“At each layer, a different computational method with a different optimization approach is used to make it possible to compute both the equilibrium and out-of-equilibrium outcomes,” Zhorin says.

A key aspect of Zhorin and Townsend's research is examining economies that are in transition and have companies operating under imperfect competition, with consideration of both geography and customer preferences for particular products. And the results, Zhorin says, are directly applicable to service-oriented industries, including medical insurance and financial services.

According to Zhorin, the project has discovered a way that government policymaking relative to promoting healthier competition could be enhanced. He and Townsend have isolated a set of data that will help regulatory agencies make better policy decisions concerning the reduction of regulations, promote a wider choice of services across society, and possibly thwart monopolistic actions in service-oriented industries.

The research is also elucidating the nature of imperfect competition and related dynamics. “We implemented a general framework that provided insights into the mechanics of imperfect competition, the role of obstacles, and the impact of financial-service providers on small businesses and households,” Zhorin says.

He describes this work as an “exploratory XSEDE project, mostly to test developed algorithms on many-core computer architecture provided by XSEDE.” Among the supercomputers he and Townsend have used are Nautilus at the National Institute for Computational Sciences (NICS) and Stampede at the Texas Advanced Computing Center (TACC) (under XSEDE project TG-SES130030). "XSEDE provides a variety of resources that allows us to choose the optimal combination for a particular research project," he adds.

Zhorin and Townsend are employing message-passing interface (MPI) and OpenMP hybrid parallelization, and Zhorin says that "future work with more complex contract models and estimation of model parameters with real data would require a computing architecture combining large memory nodes [Maverick at TACC] with thousands of worker nodes [Stampede at TACC] attached."

XSEDE has also provided the researchers with assistance beyond the computer systems. "“Workshops organized by XSEDE were very helpful in getting up to speed on the Intel® Xeon Phi™,” Zhorin says. "Those workshops provide both expert advice and hands-on training on emerging technologies and computing architectures that are being deployed on a massive scale."

The theory explored in Zhorin and Townsend’s project will be used in the creation of information products to enhance industrial contracts. “This work laid the foundation for a novel approach in industrial organization with application to the banking and insurance industries,” Zhorin says. “This has been mostly a theory exploratory work so far that will be extended to a variety of real data-based applications.”

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Scott Gibson, science writer, NICS, JICS

Article posting date: 21 August 2014

About JICS and NICS: The Joint Institute for Computational Sciences (JICS) was established by the University of Tennessee and Oak Ridge National Laboratory (ORNL) to advance scientific discovery and state-of-the-art engineering, and to further knowledge of computational modeling and simulation. JICS realizes its vision by taking full advantage of petascale-and-beyond computers housed at ORNL and by educating a new generation of scientists and engineers well versed in the application of computational modeling and simulation for solving the most challenging scientific and engineering problems. JICS runs the National Institute for Computational Sciences (NICS), which had the distinction of deploying and managing the Kraken supercomputer. NICS is a leading academic supercomputing center and a major partner in the National Science Foundation's eXtreme Science and Engineering Discovery Environment, known as XSEDE. In November 2012, JICS sited the Beacon system, which set a record for power efficiency and captured the number one position on the Green500 list of the most energy-efficient computers.