LOKNATH P. KAR EMPHASIZES THAT THE INCIDENCE OF MORAL AND MORALE HAZARD IN THE DOMAIN OF MOTOR INSURANCE PLAYS HAVOC WITH THE UNDERWRITING ESTIMATES AND PRICING.

The term hazard is derived from the Arabic word ‘Az-zahar’ meaning chance or luck. A hazard within the framework of insurance represents a condition that may create or accelerate a loss-generating event out of a peril. Basically hazards are external factors that trigger peril, leading to losses. From an underwriting perspective, hazards represent the unknown factor that may lead to unwarranted losses resulting into increase in the premium. At the time of evaluating a risk, underwriters look at various factors for the pricing of insurance policies. Separate values are attached to the specific characteristics of the perils covered, probable frequency and severity of the perils vis-a-vis insured’s capability for loss prevention and minimization through various preventive and safety measures. While underwriting a risk, the underwriters are also expected to account for hazards by whatever best possible way those could be evaluated.

The risks involved in hazards are unknown and causes the underwriters to struggle for putting a value to it, consequently policies are usually priced higher causing undesirable additional burden to the larger innocent policy holders for the acts of a few self-seeking insured propagating hazards. Therefore mitigating hazards that arise in the context of insurance is more for the benefit of the community of insureds and society at large than the community of insurers.

In the Indian scenario hazards may embrace a broad category of factors that usually tend to multiply the liability of insurers. Amongst the insurance products in India, motor insurance suffers comparatively higher susceptibility to hazards because of a traditionally hazardous environment, multiparty service procedures, geographical distribution and unlimited liability in motor third party insurance.

Hazards in Motor Insurance

Morale Hazard

Morale hazard refers to a tendency on the part of the insured to be careless merely because there exists an insurance cover. The careless attitude of the insured tends to magnify the risk and increases the liability of the insurer. This differs from Moral hazard, as there is no deliberate intention to cause the loss.

Ex-ante Morale Hazard

Ex-ante morale hazard refers to a situation wherein the insured behaves in a more risky manner having obtained a motor insurance. It is the attitude of the insured and his reckless nature that causes accidents and losses. In motor insurance the events of morale hazard are comparatively more than that of any other product of general insurance and factors more on the claim events than the policy events during the tenure of a typical motor insurance policy.

While underwriting a risk, the underwriters are also expected to account for hazards by whatever best possible way those could be evaluated.

An insured is always expected to act in a way as if not insured. Morale hazards in motor insurance in India mostly arise from the adventurous predisposition of the insured. For example more serious accidents occur on the national highways or on the smoother, swifter and wider roads of India. The tendency of being lax in driving on such roads although hazardous is not uncommon. The most glaring examples of morale hazards falling into this category are driving under the influence of alcohol or drugs. It could easily be assessed that every fourth or fifth major accidents in India have some connection with the toxicity of the driver. Apart from the above many of us, at some point of time in our lives, either under compulsion or otherwise must have taken a decision to drive-on even when feeling sleepy, drive across a pot-hole on the road though it seems dangerous, decided to drive out even on heavy fog and heavy rains. All such morale hazards may be classified as ‘Adventure Hazards’. In the context of insurance, most of such hazards although rampant are undeterminable and remarkably influence motor claims by events and quantum.

Somehow, many of these taboos have been so deep-rooted in our daily lives that we have subconsciously accepted it as a customary practice.

Violation of traffic rules in India is admittedly an oft-repeated social offence. Last minute rushing over the yellow light, frequent change of lanes, rushing over an unmanned railway level crossing, leaving the vehicles unattended etc are common sights on Indian roads. Somehow, many of these taboos have been so deep rooted in our daily lives that we have subconsciously accepted it as a customary practice. Such hazards, which may conveniently be classified as ‘Customary Hazards’, are also undeterminable in the context of insurance and cannot be evaluated for the purpose of pricing.

Geographical and environmental conditions of India do not always contribute to ‘Physical Hazards‘. More than Physical Hazards, Morale Hazards arise under unwelcoming physical conditions. India still has a number of isolated road stretches with no support facility for miles. Under such circumstances, most of the times an insured drives his partially broken down vehicle causing further damage to the vehicle. Although the additional damage caused to the vehicle is not covered under the motor policies in India as ‘consequential loss‘, it is practically impossible to differentiate such damages from the original damage to the vehicle. The underwriters, while evaluating probable perils with respect to a motor vehicle, certainly do not contemplate the cost of such additional damages and price the policy accordingly. As a result the cost of such damages causes an additional unaccounted impact on the claims, imbalancing the underwriting premeditations. Such morale hazards, which may be termed as ‘Adversarial Hazards’ although are less in frequency in comparison to the other classes of hazards also have a deep impact on pricing parameters of motor policies. 

A fairly high number of vehicles in India registered for private use are indulged into public transport activities. This predisposition of the insured has become all the more hazardous in the wake of some recent judicial findings interpreting (hire and reward) as not a standard exclusion for private motor insurance policies. Such hazards most of the times compels the insurer to admit a claim which the insured has not paid for. These kinds of hazards are potent enough to subvert the underwriting philosophy of motor insurance.

Ex-post Morale Hazard

Ex-post morale hazard deals with the negative consequences of a loss. Once the loss has occurred and insurance cover is to be provided, the insured desires the insurer to pay for more than what the negative consequences actually amount to. Here because it is the insurer who shall pay for the negative consequences of the loss, the insured desires the best and the most elaborate of services.

These morale hazards can sometimes lead to extreme liability for the insurer and make insurance an impossible business.

It is unscrupulously human to expect better services than one is entitled to. There is a plethora of instances where the insured disputes the surveyor’s decision on reparability of a damaged vehicle or any part thereof demands replacement of either the spare part or the entire vehicle. In such cases the insured starts believing an accident as an opportunity than a mishappening and tries to capitalize upon such events. Eventually the insured is always given the benefit of doubt under the principles of ‘Contra proferentem’ but such claims highly aberrate the loss expectations of the underwriter and thereby the price allocation.

A majority of the motor insurance claims in India carry some element of morale hazard inherent to it. It is believed, if the morale hazard element could be reined in motor insurance, the frequency and cost of claims would reduce remarkably.

Moral Hazard

Moral hazard refers to a certain undesirable predisposition on the part of the insured or the party to be insured, which adds to the chance of risk and increases the liability of the insurer.

Inflating an insurance claim is not uncommon around the world. Motor insurance in India is the biggest victim of the practice. A moral hazard in motor insurance in India is not only a function of the insured or the beneficiaries of the insured, it is an organized function of all the constituents involved in the service of motor claims. There have been instances where even a scrupulous insured gets influenced by unscrupulous service providers to inflate the claim or to constitute a non-claim to be an insurance claim.

A moral hazard in motor insurance has a catastrophic effect upon the underwriting assessments of both the own damage and third party segment of the motor claims.

Hazards in Own Damage Claims

Consequent to an incident, a desperate insured always looks for ways and means to secure a hassle free claim. Under such circumstances when the insured gets to know that there exists some element in the circumstance of the accident which may invoke repudiation of the claim by the insurer fully or partially, the insured instinctively puts every endeavor to façade such anomalies. In an informed motor insurance market like India such endeavors by the insured easily finds vicious advices in fulfillment of the desires.

In own damage claims the events of independent effort of insured to conceal or reconstruct the facts which may lead to repudiation of the claim ranges widely. Substitution of a licensed driver confessing to the accident in place of an unlicensed driver actually driving the vehicle, misrepresentation of the facts to secure a claim for repair of a damage caused to the vehicle prior to insurance etc are most common examples of such ‘Inflicted Hazards’ .

In terms of claim quantum, motor third party insurance claim is the biggest of all claim components of motor insurance.

Major instances of moral hazard in motor own damage claims is a schematic act by more than one person or entity including the insured, who in connivance with each other fabricate events, procure documents and manipulate situations to conceal the repudiable circumstances or create evidence to establish false circumstances devoid of any contractual anomaly. The intention is common and for the material benefit out of an insurance claim, to which the insured is not contractually entitled to. The most common of such ‘Intrigued Hazards’ are fabrication of driving license, road permits, medical papers and injury certificates in case of motor-personal accident claims etc.

The most hazardous events are the claims, which are entirely constituted only for securing an insurance claim, such as lodging a theft claim against a vehicle after selling it off, dismantling it or concealing it. Such ‘Constituted Hazards’ most disproportionately inflate the claims cost of the insurer than expected and thereby the pricing at the expense of scrupulous policy holders.

As it could be conceived from the characteristic description of the above hazards, they are difficult to be identified and to be eliminated whereas they leave a remarkable impact on the cost of the claims.

Hazards in Third Party Claims

In terms of claim quantum, motor third party insurance claim is the biggest of all claim components of motor insurance. In addition, the liability of the insurers is unlimited. As far as moral hazard in motor third party claim is concerned, the system is understandably hazardous as it has begetted the phenomenon and the term ‘Ambulance Chasing’.

The most striking feature of motor third party claim settlement procedure is that the same is statutory and the adjudication is by a judicial tribunal, whereby it involves the entire judicial machinery with the traditional litigation procedures. However, despite being under such severely prescriptive and controlled procedures, the motor third party claims are not devoid of moral hazards. During investigations conducted by agencies, a number of hazardous instances have been revealed including substitution of an insured vehicle in the place of an uninsured vehicle causing the accident, substitution of a licensed driver in place of an unlicensed driver causing accident, unlawful occupants of the insured vehicle portrayed as pedestrian victims of the accident, natural deaths having been portrayed as pedestrian victims of accidents, fabricated employee employer relationships in order to prove higher income of the purportedly victim employee etc.

The noble phenomenon of motor third party insurance which is to support the livelihood of the survivors of road accident victims is manipulated by some unscrupulous persons causing huge financial stress to the insurance companies in India. The impact of such claims on the insurers use to be very high as the claims are determined on the basis of annual income of the victim and the left out earning years of his life.

Moral hazard, like morale hazard also has a huge impact on the motor claims in India influencing the price. The difference between the two is that the morale hazard is more frequent whereas moral hazard is more impactful in terms of cost. However a combined impact of both the hazards on motor insurance consumes substantial part of the accumulated premium, which would otherwise have resulted into making the motor insurance cheaper.

There are two conceivable ways to eliminate hazards. One - By identifying and refusing to accept hazards in the form of claims; and the other by accepting the hazards and distributing the cost of hazard evenly on all policy holders in the form of increased pricing. Since it is impossible to root out hazards from motor insurance, the only way left for the insurers is to build the same in the pricing. 

Hazards in motor insurance are not only confined to India, in fact hazard is a common phenomenon suffered by insurance companies across the world, more so in motor insurance. Nevertheless insurance companies around the world are able to fix a cumulative value upon identifiable hazards faced by them. In India, it may seem harsh to make the vast majority of the innocent policy holders pay for the acts of a few unscrupulous insured propagating hazards. However de tarrifing is an important evolution which has allowed freedom to the insurers to identify and evaluate cost of such hazards and to apply the same to the appropriate classes of insured than penalizing the innocent.