Insurance companies are in the financial intermediation business of transforming one type of asset into another for the public. They use the premiums paid on policies to invest in assets such as bonds, stocks, mortgages, and other loans; the earnings from these assets are then used to pay out claims on the policies. However, due to asymmetric information, insurance companies face adverse selection and moral hazards that increase the amount and likelihood of claims.

a) What specific mechanisms are used by medical insurance to minimize adverse selection? Givetwo (2)examples.

b) How does automobile insurance reduce moral hazard?