When do insurance companies encounter the problem of moral hazard?
A) When simply having insurance causes people to take more risks than they would otherwise.
B) When they do not have enough information to distinguish between people who are "good risks" and those who are "bad risks."
C) When the price of insurance premiums fully reflects all available information.
D) When the insurance company suffers large losses because a major catastrophe has affected a large number of people simultaneously.

Question

Quizplus · Accepted Answer

The problem of moral hazard arises when people take more risks than they would otherwise because they are insured. This is because they know that, if something goes wrong, they will be compensated by the insurance company. As a result, they may engage in risky behavior that they would not otherwise engage in if they were fully exposed to the risks involved. This can lead to higher claim costs for the insurance company, which can ultimately result in higher premiums for everyone.

When Do Insurance Companies Encounter the Problem of Moral Hazard