What is the term for the increased chance of loss when the insured has an incentive to take risks because they are protected by insurance?

The term that identifies the increased chance of loss resulting from the insured taking greater risks due to the protection offered by insurance is moral hazard. This concept arises when individuals or entities are insulated from the consequences of their actions because they have insurance coverage. As a result, they may engage in riskier behavior than they otherwise would if they were fully responsible for the potential consequences of their actions.

For example, if someone has comprehensive car insurance, they may be less cautious about locking their car or taking care of it, knowing that any damage or loss will be covered by their insurance policy. This behavioral change can lead to a higher likelihood of claims, thus increasing the insurer's overall risk.

The other terms describe different concepts in insurance. Adverse selection refers to a situation where individuals with a higher risk are more likely to purchase insurance, leading to an unbalanced risk pool. Underinsurance relates to having insufficient coverage for the potential losses one could face. Risk transfer is a fundamental principle of insurance where the financial risk associated with losses is shifted from the insured to the insurer, but it does not encompass the behavioral incentives that lead to moral hazard.