Question 83

Insurance companies can not discriminate against applicants who have a higher probability of loss.

Adverse selection describes a situation where individuals with a higher risk of loss are more likely to purchase insurance. However, insurance companies typically have the ability to discriminate against higher-risk applicants through underwriting processes, making this statement incorrect in the context of adverse selection.

A) it normally occurs if the premium is low relative to the loss exposure.

This statement correctly reflects a characteristic of adverse selection. When premiums are set low relative to the potential loss exposure, it can attract high-risk individuals who perceive they are getting a good deal, thereby increasing the likelihood of adverse selection.

B) people with the greatest probability of loss are the ones most likely to buy insurance.

This statement accurately describes adverse selection. Those who expect to incur higher losses are incentivized to purchase insurance, as they stand to benefit more from the coverage, which is a fundamental aspect of adverse selection.

D) poor underwriting results may occur if too many of the applicants accepted for insurance are those most likely to incur serious losses.

This statement is true and highlights a consequence of adverse selection. If insurers accept a disproportionate number of high-risk applicants, they may face poor underwriting results due to unexpected high claims, which is a direct outcome of adverse selection.

Conclusion

The correct answer, C, is definitive because it inaccurately describes the behavior of insurance companies in the context of adverse selection, where they actually have the means to discriminate against higher-risk applicants through effective underwriting. In contrast, options A, B, and D correctly outline characteristics and consequences associated with adverse selection, reinforcing the distinction of C as the exception.