Question

Identify whether the following scenarios are meant to increase/decrease moral hazards? (Explain your answer in each scenario)

4.1 Ahmad is covered by an insurance policy with AED 10,000 stop-loss provision, while his annual expenditures are AED 35,000.

4.2 Faris is covered by an insurance company that imposes high cost sharing for insured persons.

4.3 In Arab orient insurance company, patients pay on the basis of fee-for- service.

Answer 1

Answer (4.1): As per the given scenario, Ahmad is covered by an insurance policy of AED 10,000 Stop-loss provision, while his annual expenditure is AED 35,000. By Stop-loss provision, it means that Ahmad will bear only 20% of the total cost of the expenditure as the insured and the rest of 80% will be born by the insurer. By Moral Hazard we mean the potential of an individual to expediate in a risk-free life adventure of actions knowing the fact that the individual will not need to bear the expense of his actions. Now, since Ahmad’s yearly expenditure is AED 35,000 and his insurance policy sums up to AED 10,000, Ahmad would know that his insurance policy covers his risks. This will entice him to take more risks in day to day life, and therefore this will increase moral hazard.

Answer (4.2): Faris is covered by an insurance company which imposes very high cost sharing on the insured persons, and therefore, Faris would know that if she leads a risk full of life and need her insurer to cover for her medical needs, she may end up pay huge part of the total cost to the insurer. Therefore, Faris would want to take as least of risks as possible in her day to day life activities. Therefore, this will decrease the moral hazard.

Answer (4.3): In the Arab Orient Insurance company, since the patients only pay for the fee for the service received, this means that, the patients are not required to bear the major expense cost, and is being directly born by the insurer. Hence, the insured is not having to pay any cost except the nominal fee for the insurer. This would want to make the consumers want to take as more of risks as possible in their day to day life activities, as they are not having to pay for their medical needs, if the need be. Therefore, this will increase the moral hazard.