Question

What is the problem of moral hazard?

Short answer

A moral hazard describes a situation in which people are ready to incur more risk than usual after taking precautions, safety procedures, or insurance coverage.

Step-by-step solution

Definition of moral hazard.

A moral hazard in economics is a scenario whereby an economic operator has had a reason to expand its exposure to risk since it does not bear the full price of that hazard.

Explanation of solution.

For insurance companies, certain people's habits are more dangerous than others. For example, if someone has health insurance for medical relief but does not take health precautions, or if someone has accidental insurance but does not respect traffic regulations and drives very fast on a frequent basis. If a company has an insurance policy, it will operate with a lower security system against theft or fire; on the other hand, if the company does not have an insurance policy, it will operate with a greater security system. Moral hazard is the word used to describe these situations. As a result, when the cost of taking a risk is low in comparison to the danger level, people tend to take more risks than is normal. Moral risks refer to a circumstance in which a person or company fails to follow security measures while having insurance coverage.