In insurance terminology, what does the term "moral hazard" refer to?

The term "moral hazard" specifically relates to the behavioral aspects of risk associated with individuals' conduct and decision-making processes once they have insurance coverage. It describes a situation where individuals may take greater risks or engage in riskier behavior because they are insured and feel protected against the consequences of potential losses. For instance, a person with health insurance may be less inclined to take preventive measures for their health or to avoid risky activities since they believe that their insurance will cover any resulting medical expenses.

This concept is crucial in the context of insurance, as it highlights the interplay between insurance coverage and individual behavior, which can ultimately affect the insurer's risks and losses. Understanding moral hazard is important for insurance companies when assessing risks and setting premiums, as they must account for the likelihood that insured individuals may exhibit riskier behaviors knowing they have coverage.