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What are the different classifications of risk?

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dynamic, static, fundamental, particular, speculative, and pure

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losses that would occur even if there were no changes in the economy (e.g. involves either destruction of asset or a change in its possession as a result of dishonesty or human failure) not a source of gain to society; occur with degree of regularity over time and are predictable

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static risks

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losses that are impersonal in origin and consequence (e.g. group risks caused by economic, social, and political phenomena; unemployment, war, inflation, earthquakes, floods) (society risk not individual) They affect large segments or all of the population

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fundamental risks

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losses that arise out of individual events and are felt by individuals rather than by the entire group (e.g. burning of a house, bank robbery)

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particular risks

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involves the possibility of loss or gain (e.g. gambling)

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speculative risks

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used to designate those situations that involve only the chance of loss or no loss (e.g. possibility of loss involving the ownership of property, when you buy an automobile you immediately face possibility that something may happen to damage or destroy it (this is the risk the insurer insures)

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pure risks

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result from changes in the economy (e.g. changes in price levels, consumer taste, income and output) (humans have no control over this)usually benefit society over the long run

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Dynamic risks

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What are the different types of pure risks

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personal, property, liability, surety

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possibility of loss of income or assets due to loss of ability to earn income. Earning power is subject to four perils (premature death, dependent old age, sickness or disability, unemployment)

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personal risks

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Owning possessions that can be either destroyed or stolen (house burns down) embrace two distinct types of loss: direct and indirect

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Property risks

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Under property risk ; loss of property measured by value (e.g. if house destroyed by fire owner loses the value of the house)

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direct loss

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under property risk; loss of use of property (e.g. owner has nowhere to stay and incurs expenses to live somewhere else)

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indirect loss

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the possibility of loss of present assets or future income as a result of damages assessed arising out of either intentional or unintentional torts or invasion of the rights of others (e.g. I hurt someone and it's my fault)

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liability risks

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Another person agrees to perform a service for you, they undertake an obligation the you hope will be met. When the person's failure to meet this obligation would result in your financial loss, risk exist (e.g. failure of contractor to complete a construction project as scheduled, failure of debtors to make payments as expected)

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Surety (risks arising out of failure of others)

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cause of loss

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peril

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a condition that creates chance of loss arising from a peril

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hazard

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what are the different types of hazards?

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physical, moral, morale,

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consists of physical properties that increase the chance of loss from various perils (e.g. type of construction, location of property, occupancy of building)

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physical hazards

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refers to the increase in the probability of loss that results from dishonest tendencies in the character of the insured person (e.g. intentionally cause a loss to get more money from insurance company) (it isn't a big deal if I steal from store because they have insurance)

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moral hazards

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acts to increase losses where insurance exists, not necessarily because of dishonesty but because of a different attitude toward losses that will be paid by insurance (more careless attitude toward preventing losses because they are insured); (In driver's ed I just don't care to drive defensively because I have insurance)

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morale hazard

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Should be used in those instances in which the exposure has catastrophic potential and the risk cannot e reduced or transferred. Both frequency and severity are high and neither can be reduced. This is a negative approach, should be last resort (ex: company stops making helmets)

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risk avoidance

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MInimizing the risk of loss to which the firm is exposed and includes the techniques of avoidance and reduction

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risk control

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Concentrates on arranging the availability of funds to meet losses arising from the risks that remain after the application of risk control techniques and includes retention and transfer

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risk financing

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What are the 4 risk management tools

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risk avoidance, risk reduction, risk retention, and risk transfer

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avoid the event happening (If we don't make football helmets we don't risk the chance of someone getting hurt) I don't insure you; event could cause serious problems, event must be catastrophic I cant insure it or transfer it to someone else

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avoidance

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work on construction job you have to wear hard hats and steel toed boots this reduces the risk of you getting hurt. I make you take a Drivers Education course

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reduction

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take it on myself I will finance it out of my pocket (If it is lost I can afford to replace it)

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Retention

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I am buying insurance. I am switching my loss to the insurance company and I am paying for it. I buy a car if I total it can I afford to replace it yes but I don't want to pay that so I will get insurance

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Transfer

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Usually report to the chief financial officer, treasurer, controller and is applicable to everyone not just a big corporation. Sometimes they used to be an insurance manager traditionally located in the finance division or under comptroller; employee benefits, usually have a financial orientation

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risk manager

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Objective is survival and to preserve the operating effectiveness of the organization that is to guarantee that the organization is not prevented from achieving its other objectives by the losses that might arise out of pure risk

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risk management

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The more an event happens the more the likelihood that the probabilities will be correct; probability is correct when its happened many times; insurance company want to insure things that they can predict because there are a lot of numbers. Insurers use this to determine the chance of an event occurring

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law of large numbers

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Buying the insurance

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Pooling

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The insurance company does not trust us; they don't totally know everything about us. I know something about me that they don't know that can cause them to have a claim sooner. Company wants to do away with as much of this as possible; the tendency of the persons whose exposure to loss is higher than average to purchase or continue insurance to a greater extent than those whose exposure is less than average

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adverse selection

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What are the major divisions of private insurance companies

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life, accidental and health, property and liability

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The decision maker attempts to minimize the maximum loss or maximum regret

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minimax regret

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high frequency with high severity

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avoid or reduce

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high frequency with low severity

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reduce or retain

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low frequency high severity

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transfer

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low frequency low severity

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retain

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Name the 4 Insurer Rating Agencies

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Best, Fitch, Moody's, Standard and Poors

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This is determined by the annual and quarterly financial statements filed by insurers with their regulators and it distinguishes between insurers whose financial condition is adequate and those who are vulnerable or weak

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ratings of a company

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What reasons may someone self insure

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avoid insurer overhead and profits, loss experience better than average, gain cash flow, avoid social load

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write life, annuities, and health insurance

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life insurers

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write property and casualty (including health)

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property and liability insurers

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Write health and sometimes have life insurance subsidiary

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health and accident insurers

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How are insurance companies classified as far as where they do business

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domestic, foreign, alien

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insurance company is licensed and home office is in the state of Florida

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domestic

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insurance company is outside of Florida

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foreign

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insurance company is outside of the United States (Canada, Europe, France)

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alien

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what status do insurance companies have to have if they are not domestic

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admitted

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this company serves 2 masters the people who are buying the policies and trying to make a return for stock holders; Organized as profit-making ventures and they assume the risk that is transferred by insureds; earnings go to stockholders not policy owners;

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stock company

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more like a cooperative the only people that own it are people who buy policies from it: you cannot buy stock from this company rate structure has a safety factor that if assumptions are too conservative then they will make a profit and they give it back to policy owner in form of dividend and dividend is not taxed because it is considered an overcharge of a premium;owned by policy owners any money left over goes back to them in form of dividends

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mutual company

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refer to the process by which a mutual insurance company changes its organization structure, converting from the mutual form to a capital stock or modified capital stock form. The most important motivation for this is the need to access capital and the desire for diversification

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demutualization

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what is the main reason insurancecompanies demutualized

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the officers wanted to be able to get stock options

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you pay premium you know they can't come back and say we want more money

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(Advance premium) nonassessable mutual

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you pay premium you may still get bill at the end of the year

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(Advance premium) assessable

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an individual authorized by an insurer to create, modify, and terminate contracts of insurance (can bind contract)

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agent

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a representative of the insured who solicits business from insurance buyers but who is compensated by the insurer (cannot bind contract)

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broker

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What put walls up between insurance companies, banks, and stock brokerage firms

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Glass Steagall Act

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ended the compartmentalization of banking, insurance, and securities; taking down walls between banking, insurance and securities saying they could own each other

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Gramm Leach Bliley Act

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Why were walls put up between insurance companies, banks, and stock brokerage firms

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safety purposes

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independent agents who normally represent several companies dividing the policies they sell among those companies according to their choice. They own their expirations which means that they may place the renewals of sold policies with some other insurer if they choose to do so

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American agency company

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Has to do with term life insurance premiums and what this regulation is if the companies the have premium too low (lower than what mortality tables say it should be) then the company is losing money, so it says policies that are 20 or 30 years long they cant have a guaranteed premium (they can have 2 sets 1.current premuim but if its too low they have to have another set max premium they can set it to as long as it has a class) : purpose is to make sure companies aren't being too competitive and then hoping they can earn enough on interest side to make up for mortality side

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xxx regulation

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regulators often become captured by the industry they are responsible for regulating. The lose focus and becomes more concerned about the success of the regulated industry than about consumers (dont want to do anything to piss of insurance companies)

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capture theory regulation

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purpose is to correct market failures

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market failure theory

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focused on the preeminence of the right of the states or federal government to regulate insurance. Issue was whether insurance is interstate commerce. He represented NY insurance companies and challenged the right of his state to regulate insurance by selling insurance without obtaining a state license. The state denied this because his insurer would not comply withthe demand of the state for a security deposit (insurance cannot cross state lines)

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Paul vs. Virginia case

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Law drafted by the National Association of Insurance Commissioners that could be passed that Congress reaffirmed the right of the federal government to regulate insurance but agreed that it would not exercise this right as long as the industry was adequately regulated by the states; says that federal government could regulate if the states didn't

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Public Law 15 (McCarran-Ferguson)

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companies were selling life insurance policies and they were showing big numbers in reserves and returns on them were bigger than any rate you can get today but they were taking money away from people that dropped policy and then keeping that on top of the one that kept their policy to show larger numbers (Ponsi scheme) and the ones that got it were dead people this investigation said that this wasn't fair they said if someone dropped their policy before they died or hit age 100 then policy owner should get the reserve; companies by law said if you quit you can pyramid you have to be able to get reserve

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Armstrong Investigation

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although it has no legal power over insurance regulation it is an important influence. Through it the 56 insurance commissioners exchange information and ideas and coordinate regulatory activities . Based on the information exchanged at the 4 annual meetings they make recommendations or legislation and policy. Individual commissioner is fee to accept or reject these recommendations

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NAIC (National Association of Insurance Commissioners)

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prohibit an insurer from using unfair methods of competition; prohibit unfair discrimination in underwriting, misrepresentation and false advertising, and rebating and twisting

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unfair trade practices act

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consists of directly or indirectly giving or offering to give any portion of the premium or any other consideration to an insurance buyer as an inducement to the purchase of insurance

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rebating

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practice of inducing policy holder to lapse or cancel a policy of one insurer in order to replace it with the policy of another insurer in a way that would prejudice the interest of the policy holder

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twisting

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an individual who investigates losses; they determine the liability and the amount of payment to be made; includes agents as well as staff, bureau, independent and public

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adjuster

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an organization to which life insurers report health impairments of applicants for life insurance, the information is then available to member companies for underwriting purposes; maintains centralized files of the physical condition of applicants who have applied for lie insurance

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medical information bureau

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premium charged by the company is final, no form of contingent liability for policy holders, board of directors is elected by stockholders, and earnings are distributed to shareholders as dividends on their stock

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stock insurance company

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lack of capital stock and distribution of earnings, no paid in capital as a guarantee of solvency in event of adverse experience

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mutual insurance company

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this is permitted when by mutual insurers when they have attained the same financial strength required of a capital stock company writing the same type of business, the premium is not fixed and excess may be returned to policyholders as dividends

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(advance premium) non assessable

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Contributions to this are not deductible this does not eliminate the tax deductibility and forces companies to wait until they a loss before the deduction is taken. These losses are deductible in the year in which they occur only to the extent of profit during the year and that the tax may be reduced by low profits in the year it occurred .

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self insurance

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predominant theory of regulation based on view that purpose of regulation is to correct market failures. Occurs when the the free market produces too much or too little of a product or a service at a price that is too high or too low (ex: monopoly produce little charge a lot, unstable competitive process) Role is to restrict the actions of firms in an industry forcing them to behave in a way that will produce results as near as possible to those that would occur in a competitive market .

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market failure regulation

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What are the classes of expenses for an insurance company

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commissions, other acquisition expenses, general administrative expenses, premium taxes, allowances for contingencies and profit

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Rate times number of units of protection

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Premium

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expected losses divided by exposure units

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pure premium

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pure premium divided by 1 minus expense ratio

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gross rate

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Life insurance and its abuse attracted attention. In 1905 the NY state legislature appointed a committee to investigate the abuses in the life insurance industry. Committee was named after chairman. It turned out to be a sober responsible examination. Abuses were identified and corrected

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Armstrong Investigation

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