CH1 Flashcards
Risk is…
an inescapable condition in human life:
- It is an uncertainty about an outcome
- it is a possibility that outcome will be unfavorable
- it originates from lack of knowledge about the future
Common Elements in Definitions of Risk
1) Indeterminacy - at least two possible outcomes
(If there is certainty about an outcome (loss), there is no risk. )
2) Adversity - at least one of the outcomes is undesirable
The Text’s Definition of Risk
a condition in which there is a possibility of an adverse deviation from a desired outcome that is expected or hoped for.
Uncertainty and its Relationship to Risk
The existence of risk (a condition where there is a possibility of loss) creates uncertainty on part of the individuals when risk is recognized.
Whether or not risk is recognized does not alter its existence.
The Degree of Risk
The degree of risk is related to the likelihood of occurrence, measured by the probability of adverse outcome.
Varies directly with the probability of deviation
Risk Distinguished From Peril and Hazard
Peril: a cause of loss
Hazard: a condition that creates or increases the chance of loss arising from a given peril.
Classifications of Hazards
- Physical hazards:
Consist of those physical properties that increase the chance of loss from the various perils (e.g. types of construction work and location of property.) - Moral hazards:
The situation where probability of loss increases as a result of dishonest tendencies of insured person (e.g. setting fire on his house and claim insurance.) - Morale hazards:
The situation where the insured person acts to increase losses not because of dishonesty but because of careless attitudes towards preventing losses - legal hazard
Classifications of Risk
Static and dynamic
Fundamental and particular
Pure and speculative
Static and Dynamic Risks
—Dynamic risks result from changes in the economy (e.g., changes in price levels, consumer taste, income, and output).
1) Benefit society in the long run, by adjusting misallocations of resources.
2) Affects a large number of individuals
3) Does not occur with any precise degree of regularity.
—Static risks would exist even in the absence of economic change (from perils of nature or human dishonesty).
1) Not a source of gain to society.
2) Tends to occur with a degree of regularity over time.
3) Static risks are more predictable than dynamic risks and hence more suited for treatment by insurance.
Fundamental and Particular Risks
—Fundamental risks are impersonal in origin and consequences. (BIG)
1) They are societal risks; i.e. affect large segments of the society or all of the population (e.g. unemployment, war, inflation, earthquakes, floods.)
2) It is held that society (rather than the individual) should deal with them.
—Particular risks involve losses that arise out of individual events and are felt by individuals rather than the entire group.
1) considered the individual’s own responsibility that are properly addressed by the individual (e.g. burning of a house, bank robbery).
Pure and Speculative Risks
—Speculative risks involve the possibility of loss or gain.
They are voluntarily accepted because of the possibility of gain.
—Pure risks involve the possibility of loss or no loss only.
In general, insurance deals with pure risks only.
Classifications of Pure Risk
- Personal risks
- Property risks
- Liability risks
- Risks arising out of failure of others
Personal Risks
-Personal risks consist of the possibility of loss of income or assets as a result of the loss of the ability to earn income.
-In general, earning power is subject to four perils:
1) premature death,
2) dependent old age,
3) sickness or disability
4) unemployment.
Property Risks
Property risks embrace two types of loss: direct loss and indirect or “consequential” loss.
–Direct loss is the loss of the property itself, and is measured by the value of the property or the cost of repairing the property.
–Indirect loss results from the loss of use of the asset that is damaged or destroyed, for the period required to repair or replace the property.
Liability Risks
Liability risks involve the possibility of loss of present assets or future income as a result of damages assessed or legal liability arising out of either intentional or unintentional torts, or invasion of the rights of others.
