Principles of Risk Management and Insurance Quiz 1

The pooling of fortuitous losses by transfer of risks to insurers, who agree to indemnify insured for losses, to provide other benefits on their occurrence, or to render services connected with risk.
Spreading of losses by the few over a larger group, so that in the process, average loss is substituted for actual loss
Law of Large Numbers
The greater the number of exposures, the more closely actual results approach the probably results expected from an infinite number of exposures.
Fortuitous Loss
Unforeseen loss that occurs as a result of chance
Risk Transfer
When a pure risk is transferred from the insured to the insurer. (Usually is in a stronger financial position to pay the loss than the insured.)
When the insured is restored to his or her approximate financial position prior to the occurrence of the loss
Characteristics of Insurable Risk
A: Must be a large number of exposure Units. B: Loss must be accidental and unintentional. C: The loss must be determinable and measurable. D: Loss should not be catastrophic. E: Loss must be calculable. F: Premium Must be economically feasible.
Adverse Selection
The tendency of persons with higher-than-average chance of loss to seek insurance at standard (average) rates, which can result in higher-than-expected loss levels.
Refers to the process of selecting and classifying applicants for insurance.
Insurance vs. Gambling
A: Gambling creates a new speculative risk, while insurance handles already existing pure risk. B: Gambling is socially unproductive, because the winner’s gain comes at the expense of the loser.
Insurance vs. Hedging
A: Insurance Transactions Involve the transfer of insurable risks, because the characteristics of an insurable risk generally can be met. (Hedging risks are typically uninsurable.)B: Insurance can reduce the objective risk of an insurer by application of law of large numbers. (Hedging only transfers risk, a.k.a. buying 1,000 instead of 100 corn futures doesn’t reduce your risk because they all have the same market price. You just risk losing more by buying more)
Life Insurance
Pays death benefits to designated beneficiaries when the insured dies.
Property Insurance
Indemnifies property owners against loss or damage of real or personal property, often from fire, lightning, windstorm.
Liability Insurance
Cover’s insured’s legal liability arising out of property damage or bodily injury to others; also pays legal defense costs.
Casualty Insurance
Broad field of insurance that covers whatever is not covered by fire, marine, and life insurance; includes auto, liability, burglary and theft, workers compensation, and health insurance.
Personal Lines
Coverage that insures the real estate and personal property of individuals and families or provide them with protection against legal liability. Includes Private Passenger auto insurance, Homeowners Insurance, Personal Umbrella liability insurance, Boat owners Insurance.
Commercial Lines
Property and Casualty overages for business firms, nonprofit organizations, and government agencies. Includes Fire insurance, commercial multiple-peril insurance, General liability insurance, workers compensation, commercial auto insurance, accident and health insurance, Inland Marine Insurance, Ocean marine insurance, Professional liability insurance, Medical Malpractice insurance, Directors and Offices liability insurance, Equipment breakdown insurance, Fidelity Bonds/Surety Bonds, Crime Insurance, Aircraft Insurance, Credit Insurance, and Financial Guaranty Insurance.
Social Insurance
Government Insurance programs financed by mandatory contributions from employers, employees, or both, and not primarily by revenues from the government. Includes Old-Age, Survivors, and Disability Insurance (Social Security), Medicare, Unemployment, Workers Compensation)
Other Government Insurance
(Not financed by employers and employees) Federal Employees Retirement System, Civil Service Retirement System, Federal Deposit Insurance Corporation, Pension Benefit Guaranty Corporation, National Flood Insurance Program. (State Level) State Worker’s Compensation, State Children’s Health Insurance Programs (SCHIP), high risk pools, Insurers of last resort.
Benefits of Insurance to Society
Indemnification for Loss, Reduction of Worry and Fear, Source of Investment Funds, Loss Prevention, Enhancement of Credit.
Costs of Insurance to Society
Cost of Doing Business, Fraudulent Claims, Inflated Claims
Expense Loading
The Amount Needed o pay all expenses, Including Commissions, expenses, taxes, and allowance for contingencies and profit.
1 in 5 U.S. adults find it acceptable to defraud insurers under certain conditions.
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