What Does Moral Hazard Mean?
Moral hazard is the increased likelihood that a person who insures an asset will choose to take risks with it or take poorer care of it.
Insuranceopedia Explains Moral Hazard
Imagine a person who does not have insurance coverage and takes their car on the road. Chances are, they will drive extremely carefully and defensively, knowing that they would not be covered for any damage to the vehicle, to other property, or for liabilities. Now, if that same person decides to drive more recklessly once they acquired auto insurance, this would be an instance of moral hazard.
Moral hazard is something underwriters have to factor into their calculations, since it means that past (uninsured) behavior is not always a perfect predictor for future (insured) behavior. Moral hazard increases the likelihood of a claim being filed.
Although the terms bear some resemblance, a moral hazard is not the same thing as a morale hazard. While a moral hazard refers to a conscious choice to participate in risky behavior due to increased coverage, morale hazard refers to the unconscious shift toward riskier conduct.