Final answer:
Charging an actuarially fair premium to an entire group rather than subgroups can lead to adverse selection, with healthier individuals leaving and the insurer being left with a less balanced and more costly risk pool. This can increase premiums and make the insurance less affordable.
Step-by-step explanation:
If an insurance company tries to charge the actuarially fair premium to the group as a whole rather than to each subgroup separately, it may face certain challenges. When dealing with employment-based insurance, the risk pool is usually made up of a group of employees, some of whom may have higher health risks than others. Should the insurer charge a single premium to all, it could lead to healthy individuals subsidizing the costs of those with higher health risks. This could prompt healthier employees to seek insurance elsewhere (a phenomenon known as adverse selection), which would leave the insurer with a risk pool that is less balanced and potentially more costly to insure.
Over time, if the insurer continues to charge a single premium to a less healthy group, it might have to increase premiums to cover the higher claims costs. This could potentially make the insurance less affordable for the employer and employees, potentially leading to a decline in enrollment or the employer deciding to drop the coverage altogether. Therefore, insurers typically adjust premiums based on the composition of the group, considering factors such as age, occupation, and health status to price the insurance premiums more appropriately and maintain a stable risk pool.