What is a common example of a moral hazard?

A common example of a moral hazard is submitting a fraudulent claim on insurance. This situation arises when an individual takes an action that increases the risk of loss because they do not bear the full consequences of that risk. In this case, if a person files a fraudulent claim, they might be more inclined to engage in risky behavior since they believe they will not suffer the economic repercussions of their actions. The underlying principle of moral hazard is that when individuals or organizations do not have to face the potential negative outcomes of their behavior, it can lead to careless or unethical decision-making.

In the context of insurance, a fraudulent claim epitomizes this concept because it demonstrates a lack of accountability. The person taking this action is shifting potential costs onto the insurer, motivated by the belief that they can benefit from their deceit without facing the immediate consequences. This behavior can lead to higher costs for insurers, who may then raise premiums for all policyholders as a reaction to the increased risk.