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IAI Actuarial Core Principles · Economic Modelling · Role of insurance in reducing or removing risk

Which situation is the clearest example of moral hazard in insurance?

Moral hazard is a policyholder behaving less carefully once insured, as with careless driving under full motor cover. It differs from adverse selection, where high-risk people are more likely to buy cover in the first place because of information the insurer lacks.

  1. AA person with a known heart condition is more likely to buy life cover
  2. BA policyholder with full motor cover drives less carefully after buying itCorrect
  3. CAn insurer misprices because of an error in its mortality table
  4. DA catastrophe causes many claims at the same time
  5. Premiums rise because of general inflation

Explanation

Moral hazard is a change in behaviour after cover is bought, increasing the chance or size of loss. Option A describes adverse selection, which arises before purchase because of hidden information.

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