In addition to the cost of bearing risk, insurance companies also bear:
I. Administrative costs
II. Moral hazard costs
III. Adverse selection costs

Question

Quizplus · Accepted Answer

I. Administrative costs are the costs associated with operating and maintaining an insurance company, such as salaries, rent, and technology. These costs are borne by the insurance company.

II. Moral hazard costs are the costs associated with the insured taking risks that they wouldn't otherwise take if they didn't have insurance. For example, a driver who knows they have insurance may take risks while driving that they wouldn't if they didn't have insurance. These costs are also borne by the insurance company.

III. Adverse selection costs are the costs associated with the insured being more likely to file a claim than the insurance company anticipated. For example, people with pre-existing health conditions are more likely to file a claim on their health insurance than those without pre-existing conditions. These costs are also borne by the insurance company.

Therefore, the insurance company bears not only the cost of bearing risk but also administrative costs, moral hazard costs, and adverse selection costs.

In Addition to the Cost of Bearing Risk, Insurance Companies