Risks for Individuals
The typical risks that individuals are exposed to are earnings risk, premature death risk, longevity risk, property risk, liability risk, and health risk. Each of these risks has financial implications and can be hedged using a specific kind of insurance. Risks for invididuals can be covered using different types of insurance.
On this page, we discuss each of the risks most individuals are inevitably exposed to in more detail. We also mention the kind of insurance that can be used to transfer the loss to others.
The first risk we discuss is earnings risk (which can be hedged using disability insurance). It refers to loss in human capital. Job loss and other career disruptions can reduce human capital and may even lead to the need to consume financial capital prematurely. Some jobs are inherently more risky than others. Also, some jobs are cyclical and this may make the income less certain.
Premature death risk
The second kind of risk is premature death risk (insure with life insurance). Premature death risk is a serious risk particularly early in the career when substantial human capital could be lost. It may also cause unexpected expenses that consume the limited financial capital of the survivors.
Longevity risk (insure with annuities) is the opposite of premature death risk as individuals who live too long are at risk of outliving their financial capital. The determination of how much capital is required is also a difficult task. An individual’s expected lifespan is highly uncertain. Longevity risk is typically estimated using mortality tables and monte carlo simulations.
Property risk (insure with property insurance) refers to sudden loss in value of physical property (a kind of financial capital). A house or a car can be damaged or lost in a flood.
Liability risk (insure with liability insurance) refers to being legally responsible for damages. This leads to a reduction in financial capital.
Finally, the final risk we discuss is health risk (insure with health insurance). Health risk can lead to a direct loss of financial capital to pay illness or injury related expenses. At the same time, it can also significantly reduce human capital through diminished or inability to work. Coverage for health risk varies widely by country. Government and/or private insurance may provide for short-term but not for long-term care.
We discussed the main risks individuals are exposed to. Whether or not individuals want to hedge these risks using insurance depends on the individual’s personal situation.