What role does a policy's deductible play in mitigating moral hazard?

A policy’s deductible is an important tool in insurance that helps mitigate moral hazard by encouraging insured individuals to take more responsibility for their actions and decisions. Moral hazard refers to the increased risk that arises when individuals are insulated from the consequences of their actions, often because they have insurance coverage.

When a deductible is in place, it means that the policyholder is required to pay a specific amount out of pocket before the insurance coverage kicks in to cover additional costs. This structure incentivizes policyholders to be more cautious and responsible because they know that they will bear some costs directly. For instance, if a policyholder has to pay a $500 deductible on a claim, they may think twice before filing a claim for a minor incident that requires a cost of $600, as they would only receive a $100 benefit after their deductible is accounted for. This financial stake encourages individuals to avoid unnecessary claims and to act more prudently, ultimately reducing the likelihood of risky behaviors that might otherwise occur if they felt fully protected by their insurance.

The other options do not effectively capture this relationship between deductibles and moral hazard. Some suggest scenarios that do not directly influence responsible behavior, such as eliminating out-of-pocket expenses or automatically lowering premiums, neither of which promote the desired accountability