Final answer:
An insurance contract is an agreement in which one party promises to compensate another party for financial losses. Policy holders pay premiums to an insurance company, which in turn covers losses from specific events. The contract is designed to prevent financially significant setbacks from singular events.
Step-by-step explanation:
A contract in which one party undertakes to indemnify another against loss is commonly referred to as insurance. Insurance is a method of protecting a person or entity from financial loss. In this arrangement, policy holders make regular payments, known as premiums, to an insurance entity.
The insurance company then utilizes these premiums to remunerate members who suffer financial damage from an event covered by the policy, mitigating the risk of significant financial impact from any one event.
This mechanism of risk management also includes concepts such as coinsurance, where the policyholder and the insurance company share the cost of a loss. It's also important to consider the notion of moral hazard, which denotes the tendency of insured individuals to be less vigilant in guarding against the occurrence of an insured event.