Is it any wonder Americans are confused by the unending stream of insurance commercials seen and heard all over media today? An extraordinarily competitive industry employing nearly 3 million people across the country, modern day property/ casualty insurance is much more than entertaining characters, clever slogans, or celebrities conjuring up unusual scenarios to the tune of a familiar jingle. As an industry, insurance affects multiple parts of every American citizen’s daily life and provides financial safety for more than 80 million homes and 200 million vehicles each year, but sadly there is very little understanding among consumers of what insurance is or how it is priced.
Insurance industry professionals spend decades learning a tangled web of laws, regulations, and trade jargon, while most customers are left scratching their heads when they hear terms like premium, exposure, exclusions, limits, rating, and underwriting thrown around with little explanation or appreciation for what they actually mean. The exchange of future risk for periodic payment in legal contracts can get very complicated very quickly, but it does not have to be. This introductory paper seeks to provide a simplified, straightforward, user-friendly explanation on the core principle underlying the business of insurance: Risk-based pricing.
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