Final answer:
PMI, or Private Mortgage Insurance, is used to cover the lender's risk of borrower default on a mortgage, particularly when the down payment is less than 20% of the home's value.
Step-by-step explanation:
PMI, or Private Mortgage Insurance, is intended to cover the risk of default on a mortgage. This type of insurance is often required by lenders when a homebuyer makes a down payment of less than 20% of the home's value. PMI protects the lender, not the borrower, in the event that the homebuyer fails to make mortgage payments. Much like other forms of insurance, PMI is about managing asymmetric risk; it mitigates the potential financial loss for lenders due to low-probability, high-consequence events, such as default. The rationale behind PMI parallels the concept of purchasing insurance against low-probability but potentially crippling events to safeguard against severe outcomes, even at the cost of the insurance premiums paid by the homeowner.