Section I Slides1. Basic problem with which insurance deals
2. Insurance theorists have not been able to agree on a definition
1-*
1. Indeterminancy - at least two possible outcomes
2. Adversity - at least one of the outcomes is undesirable
1-*
The Text’s Definition of Risk
Risk is a condition in which there is a possibility of an adverse deviation from a desired outcome that is expected or hoped for.
1. Risk not subjective - a state of the real world
2. Risk can exist whether or not it is perceived
3. Risk can be imagined where possibility of loss does not exist
1-*
Uncertainty and its Relationship to Risk
1. The most widely held meaning of uncertainty refers to a state of mind characterized by a lack of knowledge or doubt about the future.
2. It is contrasted with certainty, as in
“I am certain I will get an A in this course.”
“I am uncertain what grade I will get.”
1-*
2. Varies with the probability of deviation
from what is expected in case of aggregate data
from what is hoped for (no loss) in case of individual
1-*
Peril: the cause of loss
Hazard: a condition that creates or increases the chance of loss
1-*
Static and Dynamic Risks
1. Dynamic risks result from changes in the economy (e.g., changes in price levels, consumer taste, income, and output).
benefit society in the long run, by adjusting misallocations of resources
2. Static risks would exist even in the absence of economic change (from perils of nature or human dishonesty).
not a source of gain to society
1-*
Fundamental and Particular Risks
1. Fundamental risks are impersonal in origin and consequences. They are societal risks.
It is held that society (rather than the individual) should deal with them.
2. Particular risks involve losses that arise out of individual events and are felt by individuals rather than the entire group.
Particular risks are considered the individual’s own responsibility that are properly addressed by the individual.
1-*
Pure and Speculative Risks
1. Speculative risks involve the possibility of loss or gain. They are voluntarily accepted because of the possibility of gain.
2. Pure risks involve the possibility of loss or no loss only.
3. In general, insurance deals with pure risks only.
1-*
1-*
2. The cost of accumulated reserves
3. Deterrent effect on capital accumulation
4. Higher cost of capital
5. Feeling of frustration and mental unrest
1-*
1. Avoidance
2. Reduction
3. Retention
4. Transfer
5. Sharing