Final answer:
The basic principle of group insurance is shared risk and cost among group members. It involves averaging the risk of the entire group to determine an actuarially fair premium, which can result in low-risk members subsidizing high-risk members, potentially leading to adverse selection.
Step-by-step explanation:
The basic principle of group insurance is b) Shared risk and cost among group members. In this arrangement, individuals within a defined group, such as employees of a company, pool their risk to secure insurance at a lower cost than would be possible individually. The concept of actuarially fair premium is critical in insurance, where a premium should be set to equal the expected payout for claims, reflecting the collective risk of the insured group.
If a life insurance company sold policies separately to groups based on cancer history, the premiums would differ. In the given example, the actuarially fair premium would be higher for those with a family history of cancer due to their increased risk. Conversely, it would be lower for those with no cancer history. However, if the insurer cannot distinguish between these groups, it would charge a single premium that averages the risk and costs across the entire pool.
Charging an actuarially fair premium to the group as a whole would mean that lower-risk individuals may subsidize the higher-risk individuals, potentially leading to an imbalance where low-risk members may seek insurance elsewhere, a phenomenon known as adverse selection.