What is adverse selection?

Adverse selection occurs when this asymmetric information is exploited, leading the party that lacks relevant knowledge to make decisions that cause it to suffer adverse effects.

How can health insurance companies avoid adverse selection?

There are several ways health insurance companies can avoid or discourage adverse selection. However, government regulations prevent health insurers from using some of these methods and limit the use of other methods.

What happens if adverse selection goes unchecked?

If adverse selection were allowed to continue unchecked, the resulting "death spiral" would cause health insurance companies to become unprofitable and eventually go out of business. Here’s a grossly simplified example. Let’s say a health insurance company was selling a health plan membership for $500 per month.