If casualty insurance companies provided fire insurance without any restrictions, what kind of adverse selection and moral hazard problems might result?

The course name is Econ364 Money & Banking

If casualty insurance companies provided fire insurance without any restrictions, what kind of adverse selection and moral hazard problems might result?

Expert Solution

Casualty insurance company is only responsible for insuring the liabilities and does not include fire insurance. The insured would take unfair advantage of the situation that would provide an incentive to take risks that would result in the Moral Hazard issue. Consumers would also purchase fire insurance along with casualty insurance by paying a small premium and taking additional risk that would result in negative choices. Both of these conditions will add to the insurance company's financial threat.

Moral hazard may arise under a type of information asymmetry where the risk-taking party to a transaction is more aware of its intentions than the party paying the risk's consequences. More generally, if the party with more information about its behavior or intentions has a propensity or motivation to behave inappropriately from the party's perspective with less information, moral hazard may occur.

Rahul Sunny answered 2 years ago

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