RMI 2101 Study Guide - Midterm Guide: Life Insurance, Moral Hazard, Vehicle Insurance

• School: Temple University
• Department: Risk Management and Insurance
• Course: RMI 2101
• Professor: Michael Mc Closkey

Document Summary

The use insurance as a risk management tool. P* = 0 + 1 = . Variance = 1, standard deviation = 1, cov = 1. Amount of risk person a faces without insurance. Suppose person a buys full insurance against this loss for an afp (actuarial fail. Suppose person a is the only customer for the insurer. No risk reduction as a result of transfer of risk from person a to insurer. Suppose now that the insurer has a risk pool of 2 individuals: person a and b. Person a and b face the same probability distribution of losses. Turns into (0. 50)(0. 50) = 0. 25 (0. 50)(0. 50) = 0. 25 (0. 50)(0. 50) = 0. 25 (0. 50)(0. 50) = 0. 25. Insurer"s risk = p* = (0)(0. 25) + (2)(0. 50) + (4)(0. 25) = . 00. Variance = 2, standard deviation = 1. 41, cov = 0. 71. Adding another person to the risk pool lowers the insurer"s risk even though the expected payout is doubled.