What does "adverse selection" refer to in health insurance?

"Adverse selection" refers to a phenomenon in health insurance where individuals who anticipate higher healthcare needs are more likely to seek insurance coverage, while those who anticipate lower healthcare needs may choose to forgo it. This creates an imbalance in the risk pool, as a disproportionate number of high-risk individuals are enrolled compared to low-risk individuals.

When sicker individuals are more likely to enroll, it means that the insurers are facing a higher likelihood of claims than they had anticipated. This can lead to increased costs for the insurance provider, which may, in turn, result in higher premiums for all insured individuals to balance the financial risk.

In contrast, if individuals with lower health risks were to enroll more frequently, the insurance pool would be healthier and would distribute risk more evenly. Similarly, if all individuals enrolled equally, risk would also be evenly distributed, mitigating the overall effects of adverse selection. Revoking coverage usually occurs due to policy violations or non-payment and is not directly related to the concept of adverse selection. Thus, the focus of adverse selection is specifically on the enrollment pattern of individuals with differing health risks, making the identifying characteristic correct.