The state of Massachusetts requires all citizens to purchase medical insurance or face a monetary penalty when filing their taxes. The penalty is significantly less than the average annual insurance premium. Moreover, the state requires insurance companies to issue policies to anyone who applies, regardless of their health at the time of application. Which of the following examples describes the inherent adverse selection problem?
A)Tricia purchases an insurance policy through her employer and visits her doctor for annual check-ups.
B)Sue purchases insurance only after learning that she has cancer.
C)Mike pays the penalty rather than purchasing insurance because it is cheaper for him than paying insurance premiums and he is generally in good health.
D)Both b and c are correct.

Question

Quizplus · Accepted Answer

Option B describes adverse selection because Sue waits to purchase insurance until after learning she has cancer, a condition that would require costly medical treatment. Insurance companies may raise premiums to cover these higher costs. Option C also illustrates adverse selection because Mike, who is generally in good health, chooses not to purchase insurance, leaving the insurance pool with mostly high-risk individuals who are more likely to require costly medical treatment, which could also cause an increase in premiums.

The State of Massachusetts Requires All Citizens to Purchase Medical