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Adverse selection - Wikipedia, the free encyclopedia
From Wikipedia, the free encyclopedia
Adverse selection, anti-selection, or negative selection is a term used in economics, insurance, risk management, and statistics. It refers to a market process in which undesired results occur when buyers and sellers have asymmetric information (access to different information); the "bad" products or services are more likely to be selected. For example, a bank that sets one price for all of its chequing account customers runs the risk of being adversely selected against by its low-balance, high-activity (and hence least profitable) customers. Two ways to model adverse selection are to employ signaling games and screening games.
1 Insurance 2 See also 3 References 4 External links
The term adverse selection was originally used in insurance. It describes a situation wherein an individual's demand for insurance (the propensity to buy insurance and/or the quantity purchased) is positively correlated with the individual's risk of loss (like higher risks buy more insurance), and the insurer is unable to allow for this correlation in the price of insurance. This may be because of private information known only to the individual (information asymmetry), or because of regulations or social norms which prevent the insurer from using certain categories of known information to set prices (for example, the insurer may be prohibited from using such information as gender, ethnic origin, genetic test results, or preexisting medical conditions, the last of which amount to a 100% risk of the losses associated with the treatment of that condition). The latter scenario is sometimes referred to as "regulatory adverse selection." The potentially adverse nature of this phenomenon can be illustrated by the link between smoking status and mortality. Non-smokers, on average, are more likely to live longer, while smokers, on average, are more likely to die younger. If insurers do not vary prices for life insurance according to smoking status, life insurance will be a better buy for smokers than for non-smokers. So smokers may be more likely to buy insurance, or may tend to buy larger amounts, than non-smokers, thereby raising the average mortality of the combined policyholder group above that of the general population. From the insurer's viewpoint, the higher mortality of the group which selects to buy insurance is adverse. The insurer raises the price of insurance accordingly, and as a consequence, non-smokers may be less likely to buy insurance (or may buy smaller amounts) than they would buy at a lower price reflective of their lower risk. The reduction in insurance purchases by non-smokers is also adverse from the insurer's viewpoint, and perhaps also from a public policy viewpoint.[citation needed ] Furthermore, if there is a range of increasing risk categories in the population, the increase in the insurance price because of adverse selection may lead the lowest remaining risks to cancel or not renew their insurance. This promotes a further increase in price, and hence the lowest remaining risks cancel their insurance, leading to a further
In many countries. increase moral hazard. rather than simple correlations of risk and quantity purchased. To counter the effects of adverse selection.4/9/13 Adverse selection . if they fail to do this. insurance law incorporates an "utmost good faith" or uberrima fides doctrine. From a public policy viewpoint. the free encyclopedia price increase. empirical evidence is mixed. insurers (to the extent that laws permit) ask a range of questions and may request medical or other reports on individuals who apply to buy insurance so that the price quoted can be varied accordingly. Eventually this "adverse selection spiral" might. and this greater willingness to accept risk might reduce insurance purchase by smokers. On the other hand. such that persons less likely to engage in risk-increasing behavior are more likely to engage in risk-decreasing behavior (to take affirmative steps to reduce risk). and any unreasonably high or unpredictable risks rejected. long-term care insurance and annuity markets. In studies of health insurance. See also Agency cost Contract theory Community rating Death spiral (insurance) Information asymmetry Market for lemons Moral hazard Principal–agent problem en. leading to "propitious" or "advantageous" selection. the insurer may later refuse to pay claims. an individual mandate that requires people to either purchase plans or face a penalty is cited as a way out of the adverse selection problem by broadening the risk pool. like all insurance. there is evidence that smokers are more willing to do risky jobs than non-smokers. For example. Whilst adverse selection in theory seems an obvious and inevitable consequence of economic incentives. and health insurance. This risk selection process is known as underwriting. "positive" test results for adverse selection have been reported in health insurance.wikipedia. adverse selection can be reduced or even reversed. These "positive" results tend to be based on demonstrating more subtle relationships between risk and purchasing behavior (such as between mortality and whether the customer chooses a life annuity which is fixed or inflation-linked). Mandates.Wikipedia. Several studies investigating correlations between risk and insurance purchase have failed to show the predicted positive correlation for life insurance. auto insurance. in theory. One reason why adverse selection may be muted in practice may be that insurers' underwriting is largely effective.org/wiki/Adverse_selection 2/4 . some adverse selection can also be advantageous because it may lead to a higher fraction of total losses for the whole population being covered by insurance than if there were no adverse selection. lead to the collapse of the insurance market. which requires potential customers to answer any underwriting questions asked by the insurer fully and honestly. Another possible reason is the negative correlation between risk aversion (such as the willingness to purchase insurance) and risk level (estimated ex ante based on observation of the ex post occurrence rate of observed claims) in the population: if risk aversion is higher amongst lower risk customers. and so on.
com/fhep/1/2). "The Market for "Lemons": Quality Uncertainty and the Market Mechanism" (https://www.nlm. 6.nih.Wikipedia. Vanasse.1468-0297. J. PMID 21253439 (//www. Webb. C. Linda J.org/10.org/wiki/Adverse_selection 3/4 .1468-0297.1086/379936 (http://dx. A.15396975. 10.938 (http://dx. Richard J.1086%2F319557). ^ Polborn.96. doi:10.1086%2F262111). the free encyclopedia References 1. Gouriéroux. "Adverse Selection in Health Insurance" (http://www. (2008). John (2009).org/stable/117161). 14.ncbi.. Zeckhauser. D.1257%2Faer. doi:10.soa.00294.org/10. Philipson.org/10.se/nek/730g83/artiklar/1. (2006). "Cigarette smokers as job risk takers".wikipedia.jstor. T.. C. Journal of Political Economy 109 (2): 444–453. G.nih...1086/319557 (http://dx.x). J. 5. Sadanand. A. P.doi.gov/pmc/articles/PMC3022330).938). JSTOR 2696408 (http://www.doi.ncbi. (1999). K. (2001). "Asymmetric information in health insurance: evidence from the National Medical Expenditure Survey". George A.328833/AkerlofMarketforLemons.bepress. ^ Finkelstein. Poterba. Hersch.96.4/9/13 Adverse selection . (2001). doi:10. External links William F Bluhm..2006. B. Retrieved 3 March 2013. (2006). David M. Review of Economics and Statistics 83 (2): 269–280. H.. 4.iei.2006.jstor.1111/j. PMC 3022330 (//www. Rand Journal of Economics 32 (3): 408–427. Holahan.wolfram.1162/00346530151143806 (http://dx. ^ Cutler. (2001).doi.4.1086%2F379936).gov/pubmed/21253439). Chapter 5.gov/pmc/articles/PMC3022330). (1998). 2.1539-6975.1111%2Fj. ^ Dionne. Hendel. "Multiple dimensions of private information: evidence from the long-term care insurance market" (http://www. ^ Cawley.org/stable/2937886). Forum for Health Economics & Policy 1: Article 2. "Propitious selection". 1999. doi:10. The Wolfram Demonstrations Project. Journal of Political Economy 112 (1): 183–208. "Testing for Asymmetric Information in Insurance Markets".nlm.org/10. G. PMID 19535794 (//www.00294. 9." (http://www.jstor.doi. R. D. ^ Finkelstein.org/stable/30034325). "Testing for Evidence of Adverse Selection in the Automobile Insurance Market: A Comment".1086/262111 (http://dx. ^ Thomas.. I.nlm. K. "Advantageous Effects of Regulatory Adverse Selection in the Life Insurance Market". A. "Loss coverage as a public policy objective for risk classification schemes". RAND Journal of Economics 32 (2): 249–262. JSTOR 117161 (http://www.org/10.org/stable/2696362).nih.pdf). "An Empirical Examination of Barriers to Trade in Insurance". J. "Adverse Selection" (http://demonstrations.1111/j.pdf) Society of Actuaries 50th Anniversary Monograph. N Engl J Med 361 (1): 6–7. 12.com/AdverseSelection/).. "Cumulative Anti-Selection Theory.org/stable/2696408). ^ Viscusi. (1990). 8. ^ Cardon.. The Quarterly Journal of Economics 84 (3): 488–500.2008. W.. en.x (http://dx.ncbi. doi:10.org/10. "Adverse selection in insurance markets: policyholder evidence from the UK annuity market".. (2000).liu. doi:10. doi:10. 7.jstor.01059. M. 13.ncbi. J.doi.01059. ^ Chiappori. "Advantageous selection in insurance markets". ^ De Meza. American Economic Review 89 (4): 827–846.doi. McGarry.1162%2F00346530151143806).gov/pubmed/19535794). doi:10. (2004). ^ Chandler. JSTOR 30034325 (http://www.doi. M.1056/NEJMp0904729 (http://dx. C.2008.4. 3. American Economic Review 96 (4): 938–958. Salanie.doi. "The Individual Mandate — An Affordable and Fair Approach to Achieving Universal Coverage". JSTOR 2696362 (http://www.nlm.1111%2Fj. Journal of Risk & Insurance 75 (4): 997–1018. Journal of Political Economy 108 (1): 56–78.x (http://dx. Akerlof.. 11. A. (2001).1257/aer.nih.org/10. Hoy. K. JSTOR 2937886 (http://www.org/10. Quarterly Journal of Economics 105 (4): 1063–1069.jstor. D.1056%2FNEJMp0904729).org/library/monographs/50thanniversary/society-of-actuaries-50th-anniversary/1999/january/m-av99-1-05. Economic Journal 116 (508): 327–354.. (1970). Seth J.x). ^ Hemenway. ^ Blumberg.
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