Final answer:
Insurance companies aim to manage the risk of adverse selection by classifying buyers into risk groups or relying on laws that mandate purchasing insurance. The U.S. uses the Affordable Care Act and other regulations to help balance the insurance market and provide coverage while still allowing companies to avoid insuring high-risk individuals when possible.
Step-by-step explanation:
The subject of the question relates to how insurance companies manage the risk of adverse selection, which can occur when there is asymmetrical information between the insurer and the insured. To counteract this, companies might use various strategies such as separating buyers into different risk groups and charging accordingly, or relying on government interventions like mandatory insurance purchase laws. For instance, selling insurance through an employer can mix high and low-risk individuals, thus reducing the risk of adverse selection for the company. Nonetheless, insurers might still avoid selling to those perceived as high-risk.
In the U.S., the Affordable Care Act established health insurance exchanges to help mitigate adverse selection and encourage a mix of risks. However, small companies may not provide health insurance, which can lead to challenges for individuals seeking coverage. Furthermore, the requirement to purchase insurance also raises questions about the extent to which government laws and regulations can and should influence the insurance industry.
One way governments intervene is by requiring individuals to buy certain types of insurance, such as auto insurance and homeowner's insurance. This helps to avoid the problem where those with lower risks opt out of buying insurance, which can result in insurers setting prices based on a market average. Although insurance companies cannot be forced to sell policies to everyone at a low cost, these regulations do help in stabilizing the market to some degree.