How can an insurance company adjust its premium rates according to risk?

An insurance company can adjust its premium rates according to risk by evaluating the risk level of the insured. This process involves assessing various factors associated with the policyholder, such as their claims history, the type of coverage they are seeking, and the overall likelihood of a claim being filed. By understanding these risk factors, an insurer can set premium rates that more accurately reflect the potential cost of insuring a particular individual or entity.

For instance, if an individual has a history of multiple claims or possesses a property in a high-risk area (such as flood-prone regions), the insurer will recognize that the associated risk is higher and may increase the premium to mitigate potential losses. Conversely, a policyholder with a low-risk profile might enjoy lower premiums.

While increasing administrative costs, ignoring market competition, and lowering coverage limits could affect premiums in some way, these methods do not directly correspond to an accurate assessment of risk, which is the fundamental criterion for determining the appropriate premium rate in the insurance industry.