Bảo hiểm - Chapter 1: Risk in our society

Chapter 1Risk in Our SocietyAgendaDifferent Definitions of RiskChance of LossPeril and HazardClassification of RiskMajor Personal Risks and Commercial RisksBurden of Risk on SocietyTechniques for Managing RiskDifferent Definitions of RiskRisk: Uncertainty concerning the occurrence of a lossLoss Exposure: Any situation or circumstance in which a loss is possible, regardless of whether a loss occurs.Objective Risk vs. Subjective RiskObjective risk is defined as the relative variation of actual loss from expected lossIt can be statistically calculated using a measure of dispersion, such as the standard deviationSubjective risk is defined as uncertainty based on a person’s mental condition or state of mindTwo persons in the same situation may have different perceptions of riskHigh subjective risk often results in conservative behaviorChance of LossChance of loss: The probability that an event will occurObjective Probability vs. Subjective ProbabilityObjective probability refers to the long-run relative frequency of an event assuming an infinite number of observations and no change in the underlying conditionsIt can be determined by deductive or inductive reasoningSubjective probability is the individual’s personal estimate of the chance of loss A person’s perception of the chance of loss may differ from the objective probabilityPeril and HazardA peril is defined as the cause of the lossIn an auto accident, the collision is the perilA hazard is a condition that increases the chance of loss Physical hazards are physical conditions that increase the chance of loss (icy roads, defective wiring)Moral hazard is dishonesty or character defects in an individual, that increase the chance of loss (faking accidents, inflating claim amounts) Attitudinal Hazard (Morale Hazard) is carelessness or indifference to a loss, which increases the frequency or severity of a loss (leaving keys in an unlocked car)Legal Hazard refers to characteristics of the legal system or regulatory environment that increase the chance of loss (large damage awards in liability lawsuits)Classification of RiskPure and Speculative RiskA pure risk is one in which there are only the possibilities of loss or no loss (earthquake)A speculative risk is one in which both profit or loss are possible (gambling)Diversifiable Risk and Nondiversifiable RiskA diversifiable risk affects only individuals or small groups (car theft). It is also called nonsystematic or particular risk.A nondiversifiable risk affects the entire economy or large numbers of persons or groups within the economy (hurricane). It is also called systematic risk or fundamental risk.Government assistance may be necessary to insure nondiversifiable risks.Classification of RiskEnterprise risk encompasses all major risks faced by a business firm, which include: pure risk, speculative risk, strategic risk, operational risk, and financial riskFinancial Risk refers to the uncertainty of loss because of adverse changes in commodity prices, interest rates, foreign exchange rates, and the value of money.Enterprise Risk Management combines into a single unified treatment program all major risks faced by the firm:Pure riskSpeculative riskStrategic riskOperational riskFinancial riskMajor Personal Risks and Commercial RisksPersonal risks involve the possibility of a loss or reduction in income, extra expenses or depletion of financial assets:Premature death of family headInsufficient income during retirementMost workers are not saving enough for a comfortable retirementPoor health (catastrophic medical bills and loss of earned income)Involuntary unemploymentExhibit 1.1 Reported Total Savings and Investments among Those Responding, by Age(not including value of primary residence or defined benefit plans)Major Personal Risks and Commercial RisksProperty risks involve the possibility of losses associated with the destruction or theft of property:Physical damage to home and personal property from fire, tornado, vandalism, or other causesDirect loss vs. indirect lossA direct loss is a financial loss that results from the physical damage, destruction, or theft of the property, such as fire damage to a homeAn indirect loss results indirectly from the occurrence of a direct physical damage or theft loss, such as the additional living expenses after a fire to a home. These additional expenses would be a consequential loss.Major Personal Risks and Commercial RisksLiability risks involve the possibility of being held liable for bodily injury or property damage to someone elseThere is no maximum upper limit with respect to the amount of the lossA lien can be placed on your income and financial assetsDefense costs can be enormousMajor Personal Risks and Commercial RisksCommercial RisksFirms face a variety of pure risks that can have serious financial consequences if a loss occurs:Property risks, such as damage to buildings, furniture and office equipmentLiability risks, such as suits for defective products, pollution of the environment, and sexual harassmentLoss of business income, when the firm must shut down for some time after a physical damage lossOther risks to firms include crime exposures, human resource exposures, foreign loss exposures, intangible property exposures, and government exposuresBurden of Risk on SocietyThe presence of risk results in three major burdens on society:In the absence of insurance, individuals would have to maintain large emergency funds The risk of a liability lawsuit may discourage innovation, depriving society of certain goods and servicesRisk causes worry and fearTechniques for Managing RiskThere are five major methods for managing riskAvoidanceLoss controlLoss prevention refers to activities to reduce the frequency of lossesLoss reduction refers to activities to reduce the severity of lossesRetentionAn individual or firm retains all or part of a given riskActive retention means that an individual is consciously aware of the risk and deliberately plans to retain all or part of itPassive retention means risks may be unknowingly retained because of ignorance, indifference, or lazinessSelf Insurance is a special form of planned retention by which part or all of a given loss exposure is retained by the firmTechniques for Managing RiskNoninsurance transfersA risk may be transferred to another party by several methods:A transfer of risk by contract, such as through a service contract or a hold-harmless clause in a contractHedging is a technique for transferring the risk of unfavorable price fluctuations to a speculator by purchasing and selling futures contracts on an organized exchangeIncorporation of a business firm transfers to the creditors the risk of having insufficient assets to pay business debtsInsuranceFor most people, insurance is the most practical method for handling a major risk