Types of Pure Risks

Pure risk creates great financial insecurity fir individual and society. The major types of pure risk are.

1. Personal Risks

2. Property Risks

3. Liability Risks

1. Personal Risks:

The risks that directly affect an individual are known as personal risks. They involve the possibility of the
complete loss are reduction of earned income, extra, expense and the depletion of financial assets. There
are four major personal risks.

a. Risk of premature death: It may create great financial problem to the children and the others
depending on the household-head. Premature death is defined as the death of a household head with
unfulfilled financial obligations. These obligations can include depends to support, a mortgage to be paid
off, or children to educate. They may be financial insecure, if the surviving family members receive an
insufficient amount of replacement income from other sources or have insufficient financial assets to
replace the lost income. In the economic sense, the death of a child age of ten or not premature. But the
decease of father or elder brother is taken as the premature death if the deceased has dependents to
support or dies with unsatisfied financial obligations. The premature death of a household head costs the
followings results. Loss of human life forever, additional expenses for funeral medical unpaid bills,
settlement costs and inheritance taxes, insufficient income for dependent families IV, cost of emotional
grief, loss or role model guidance and counseling .

b. Risk of insufficient Income after Retirement : If the persons live longer even after retirement they
along with the dependents have no to face the old age with insufficient income during retirement. When
they retire they loss their earned income, Unless they have sufficient financial assets or other secures if
retirement income such as social security or a private pension. They will be exposed to financial
insecurity after retirement. The substantial reductions in their regular income lead to the reduction of
living standard and frustration.

c. Risk of Poor Health: Suddenly individuals may have to face the major health problem in the life.
Poor health is another important personal risk. The risk of poor health includes both the payment of
catastrophic medical bills and the loss of earned income. The costs of major surgery have increased
substantially recent years. For example an open heart operation can cost more than 10 lakes, Kidney or
heart transplant can cost even much higher. The cost of crippling accident requiring several major
operations, plastic surgery and rehabilitation can exceed even the higher than the elated group. IN
addition long term care in a nursing home can cost more. Unless these persons have adequate health
insurance, private savings become insufficient in most cases. In particular, the inability of some persons
to pay catastrophic medical bills is an important cause of personal bankruptcy.

The loss of earned income is another major souse of financial insecurity if the disability is severe. In case
of long term disability, there is substantial loss of earned income: medical bill are incurred, employee

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 benefits may be lost or reduced savings are often depleted and someone must take care of the disabled
person. All these are the risks of poor health.

d. Risks of Unemployment: The financial security if individuals in threatened by the risk of

unemployment. Unemployment can result from over-competition; imperfection is new skill development
of science and technology, business-cycle downswings, structural changes and diversifications. Because
of sharp completion, even international companies are forced to hold down labor cost by reducing the
employees. This creates the unemployment in the national as well as international scale. In fact a firm can
get rid of financial problem by reducing work force. But employs have to face the financial problem.

2. Property Risks

All non living things owned by persons are property. Real state land and building, vehicles machines and
equipments goods raw materials furniture etc are the common examples of property damaged or lost from
numerous causes. Real estate and personal property can be damaged by fire lightening tornadoes,
windstorms, earthquakes floods etc. There are two major types of loss associated with the destruction or
theft or property.

It means the possibility of damage or loss to the property owned due to some causes. There are two types
of losses involved.

1. Direct loss which means financial loss as a result of property damage.

2. Consequential loss which means financial loss due to the happenings of direct loss of the property.

For instance, a shop lot which is burnt down may incur repair costs as the direct loss. The consequential
loss is being unable to run the business to generate income.

3 Liability Risks

A person is legally liable to his wrong doings which cause damages to third party's body, reputation or
property. He can be legally sued and the most horrible thing is there is no maximum in the compensation
amount if you are found guilty.

The Burden of Risk

The presence of risks saddles on the individual and society some measure of social and economic pains.
Every risk holds the prospect of actually resulting in some economic losses and in addition some social
pains.
When a house is destroyed by fire, or a vehicle is ruined in a crash, or a breadwinner dies or money is
stolen or you negligently injure a person or damage his property, financial losses would be involved. In
addition to the financial cost of losses brought about by risk, there is the pain of fears and worries
resulting from the uncertainty as to whether or not loss would occur. All these underwrite the need why a
prudent individual and society should prepare for a possible occurrence of loss. The greatest burden of
risk, therefore is loss.

Risk put three major burden on the society:

(i) The creation of adequate contingency

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(ii) Deprivation of society of needed goods and services

(iii) The creation of perpetual state of fear and mental worry.

i. Adequate Contingency Fund

Prudent individual and business organizations would have to set up adequate contingency funds to meet
emergency situations. For example, in the absence of an insurance cover if your house presently worth
$500,000 and you desire to set up a contingency fund that can enable you quickly rebuild the house in the
event of is destruction by fire or earthquake, you will need to set aside $500,000 or more in liquid cash
or very easily realizable securities.
This would entail building up at least $170,000 savings annually for three years. For an average salary
earner in Nigeria, this would be difficult to achieve, if not impossible. Even , given that it is possible to
build up this fund within the first three years period, if the house is destroyed at the end of the first year,
for example, the amount of money in the fund would certainly not be enough to rebuild the house. And in
fact, setting aside annually, this amount of money would reduce your consumption spending and lower
your standard of living.
In addition, accumulation of such large savings has its own opportunity cost. Since the money would be
locked up in cash savings or in very highly liquid assets, it would not be able to earn its full economic
incomes it cannot be most gainfully invested.

ii. Deprivation of Society of Needed Goods and Services

Risks may deprive society of certain goods and services. For example, in 1976 a swine Flu broke out in
America, and the then American Administration passed a bill of $135 million for national vaccination
programme to fight the risk of flu epidemic. Strangely enough major drug manufacturers were not
enthusiastic about the production of the vaccine. Initial responses of the manufacturer were poor, they
simply refused to be interested in the programme. The reason why manufacturers were not enterprising
but was because of the risk of producing defective vaccine, and the consequential product liability risk.
Similarly, insurers were unwilling to provide products liability insurance cover because of the anticipated
heavy liability claims against drug manufacturers by those who would have suffered adverse reaction to
the vaccine. In addition there was the risk of heavy legal defense cost to be paid. Because of these
potential risks, insurers were requesting government to give her guarantee and ultimate acceptance of the
associated risks.
Finally, the government gave in, gave the required guarantee and accepted the ultimate associated risks.
This encouraged the drug manufacturers to manufacture the vaccine. Eventually, the flu vaccine was
produced and it was a big success. The vaccine would not have been produced if the government had not
stepped in. An in that case, the society would have been deprived of the flu vaccine because of the great
risk involved.
The society always pays more for needed goods and services than it ought ordinarily to pay. The extra
payment is to take care of the risk associated with the provision of such
goods and services. For example, because of the fear of the risk of catastrophic lawsuit the premiums
charged for product liability for manufacturers are high. These costs are passed on to the consumers who
would eventually have to pay for the high risk associated with manufacturing.

iii. Mental Worries Aid Fears

Risk always imposes on the individuals, corporate bodies, and the society the heavy burden of mental
worries and fears. The uncertainty associated with risk always produces a feeling of frustration and
mental worries. For example, a graduating students, whose father has taken a loan to pay his school fees,
may be gripped with a feeling of apprehension and fear, if he is having difficulty in securing employment

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 and set his father free of the shackles of creditors. Passengers in a lorry may become nervous and fearful
if the lorry driver drives dangerously and moves at extremely high speed.
Between August and November 1996, the fear of buying poisoned beans gripped people living
in Lagos so much that the demand for beans fell off and beans traders suffered heavy losses. Every
individual is exposed to different kinds of risk. Some of these risks are recognized, by those who are
exposed to them, while others are not recognized, by those who are exposed to them, while others are not
recognized. When we perceives a risk, we would develop a feeling of uncertainty. People generally hope
that no misfortune would befall them and that the present state of health and economic well being would
continue. While they nourish this hope, people are nevertheless worried about possible misfortune
befalling them. This worry which is a burden of risk, induces a feeling of insecurity and less well being.

METHOD OF HANDLING RISK

We are living in a world of risk. Risk is all pervading. Risk is very distasteful. But no matter how
distasteful risk is, and how much we try to run away from it, we can never succeed in our desire to avoid
exposing ourselves to risks. What we may succeed in doing is to haphazardly arrange the various risks to
which we desire to expose ourselves.
For example, if you are afraid to travel in plane because of the fear of plane crash, you may decide to
travel in a car. By doing so, you have merely decided not to expose yourself to the risk of plane crash and
instead choose to expose yourself to the risk of car crash. This means that, if you must travel at all, you
cannot avoid exposing yourself to one type of risk or the other, but you may have the opportunity to
choose the type of risks to which you wish to expose yourself.
The best way of handling risks therefore is to find out the ways of dealing with them.
Firstly, those sets of risks referred to as fundamental risks whose effects are non-discriminatory but
universal and whose incidences fall on everybody alike, are better handled by the society and state
collectively. This is so, because, the extent of loss which fundamental risks could bring about is
enormous and maybe far beyond the means of an individual. An example of such collectivity is the relief
efforts of both the society and government for victims of draught and famine or war. Notable among
these efforts are the UNO relief efforts in Ethiopia, Burundi and other crisis stricken parts of the world.
The American government and organizations relief efforts for floodvictims in America.
Secondly, pure and speculative risks are largely handled by individuals as their effects and incidences are
localized and fall on an individual or few individuals.
The existence of risk is a source of pain, anguish and misery to people and the accompanying uncertainty
causes great anxiety and mental worry.
Because risk is unpleasant distasteful and therefore undesired, the rational nature of man has led him to
attempt to finding effective ways of dealing with risks. There are many techniques of dealing with, the
problem of risk.
The most important methods of dealing with risk includes:
 Risk avoidance
 Risk retention
 Risk transfer
 Loss control
 Insurance
Risk Avoidance
We can avoid risk when we refuse to accept it. For example if you do not want undertake the risk of
divorce, you would have to refrain from marrying, if a company wants to avoid the risk of being sued for
producing a defective product, then it would not engage in producing or manufacturing any product. If
you want to avoid the risk associated with owing and running a business enterprises, you would simply
refuse to establish one.

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 The alternatives to engaging in our door activities is boring and unappealing. If you want to avoid the
risk associated with owing a vehicle, do not purchase or own a vehicle. Risk avoidance is a negative
method of dealing with risk because it inhibits progress. Individuals and societal’s advancement requires
a measure of risk taking, but if risk avoidance as a method of dealing with risk is extensively applied
individuals and societal progress would be greatly retailed.
As a result of this, risk avoidance is an unsatisfactory method of dealing with many risks. It must
however be noted that it is not possible or reasonable to avoid all risks. For example, you can avoid the
risk of out door activities by staying inside your house. But in reality is this practicable, desirable or
feasible?
Risk Retention or Risk Assumption
Risk retention or risk assumption is the same. To assume implies that the object is taken on while
retention implies that something is kept. Any distinction is a matter of semantic. Risk is retained and the
loss that occurs in assumed.
Risk retention or assumption is a very common method of dealing with risk. Risk retention exists when
an individuals does not take any positive action to deal with risk. Man faces avalanche of risk and in
most cases, he does not do anything about them in which case, he retains them. This retention may be
voluntary or involuntary.
Voluntary (Active) Risk Retention
A voluntary (Active) risk retention exists in a situation in which an individual knowingly retains risk to
himself and assume the loss involved. This may be due to the fact that the individual has no alternative
way of dealing with the risk. For example if you insure your car, the insurer may impose an excess for
small losses. In this case, you will be responsible and keep to yourself such small losses. Excess is the
amount of loss under a policy which the insured retains with himself. A company may insure its stocks
with a deductible imposed.
In these examples, you and the company make deliberate decisions to retain part of the risk. We use
voluntary (active) risk retention technique for the purpose of saving money. This could be accompanied
by refusing to purchase insurance or by agreeing to the inclusion of excess or deductible clauses in the
policies purchased. Also, if the premiums charged by insurers are inordinately high an individual may
deliberately decide not to purchase a policy and instead retain risk to himself. For example, a
manufacturer may find insurance premium unreasonably high and refuse to purchase product liability
insurance.
An individual may also decide to retain risk if the insurance market offers no cover for the particular risk.
Involuntary (Passive) Risk Retention
Risk can be retained involuntarily (passively). This occurs when the individual exposed to the risk is not
aware of the existence of the risk and unknowingly retains the risk in ignorance. Through his ignorance,
laziness or sheer indifference, the individual retains the financial consequence of the possible loss. This
could be very dangerous, if the risk that is retained is sufficiently high as to involve the individual in great
financial loss that could possibly ruin him/her. For example, most of people in Africa are not aware of
most of the risks to which they are exposed. As a result of this, they do nothing to take insurance cover
and simply retain all risks to themselves. In the event of any misfortune, they suffer very heavily.
Risk retention as a technique for handling risk is suitable only to handling high frequency low severity
risks where possible losses are retentively simply and very unsuitable for handling low frequency high
severity risks, where potential losses are relatively high such as in product liability risks.
Risk Transfer
This is another technique for handling risk. Risk can be transferred from one person who is not willing to
bear a risk to another person who is more willing and more able to bear the risk.
Risk can be transferred by different methods which include:
(i) Transfer of risk by contracts
(ii) Transfer of risk through the process of hedging
(iii) Transfer of risk through incorporation of a business firm.

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Transfer of Risk by Contracts
You can transfer some unwanted risks by contract. For example you may agree with your landlord to be
responsible for the cost of any repairs to the rented house or to be liable for any judgment debt against the
landlord arising from the use of the house. In these cases, the landlord transfer his risks to you. If you
reasonably believe that rent is likely to rise substantially in future you can transfer the risk of increase in
rent to the landlord by a long term lease.
A risk can be transferred by a hold-harmless agreement. A hold harmless agreement is an agreement in
which one individual assumes, the loss which another individual may possibly suffer. For example the
manufacturer of ladies head drier may insert a hold-harmless clause in the contract of sale to the retailer
in which case the retailer agrees to hold the manufacturer harmless in case the head drier malfunctions
and injure another person. In this case, the retailer accepts liability for injury to a third party arising from
deficiency inherent in the drier.
Transfer of Risk Through The Process of Hedging
Risk can be transferred through the process of hedging. Hedging is the method of transferring risk of
unfavourable price fluctuations to a speculator by purchasing and selling future contracts on an organized
commodity market. You could buy a hedge or sell a hedge. Buying hedge is the forward purchase in
order to avoid a possible future increase in the price of the commodity, while selling hedge is the forward
sales of a commodity in order to avoid a possible future fall in the price of the commodity. For example,
A. a cocoa exporter receives an export order to export #100,000 worth of cocoa to an importer in
harmony by delivered 90 days after receipt of the order. In this case, A runs the risk of rise in price of
cocoa at the time it is to be delivered. If A perceives that the risk is higher than what he is prepared to
bear he can take step to protect himself against such future rise in price. This, he can do by buying the
cocoa now at a low price for delivery in 90 days time. Under this arrangement A would be able to avoid
future rise in price of cocoa and still make his margin of profit by the difference between his current
selling and purchase prices. As a result of this, potential losses would be avoided.
On the other hand, B, a rice merchant anticipates that price would fall in future and sells his stock of rice
now at a high price and immediately enters into a purchase contract to buy rice in future at a lower price.
If his judgment is correct, and price falls sufficiently well, he would have succeeded in avoiding making a
loss. His profit per measure of rice would be his selling price now and his buying price in future and by
this succeeds in handling the risk of potential loss by hedging.
Incorporation of a Business Firm
Establishment of a firm is a method of transferring risk from an individual or a sale proprietorship on to a
corporate body. If a firm is a sole proprietor, the personal assets of the owners in addition to the assets of
the firm can be attached by creditors in satisfaction of their debts. In this case the liability of the owners
in unlimited. However, if the firm is incorporated, then it acquires a status of its legal personality which
is distinct and separate from that of its legal personality which is distinct and separate from that of its
owners. By this it can own properties, enters into contracts, sued and be sued. It becomes a separate
legal entity.
In essence, when a firm is incorporated, the liability of the owners of the incorporated firm becomes
limited to the amount of the value of shares that may be outstanding against them, and the risk of
insufficient assets of the firm to pay business debts is transferred to the creditors.

NON INSURANCE TRANSFER METHOD

The transfer of risk from one party to another party other than an insurance company. This risk
management technique usually involves risk transfers by way of hold harmless, indemnity, and insurance
provisions in contracts and is also called "contractual risk transfer."

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Loss Control
Loss control consists of those activities undertaken by individuals or firms to reduce both the frequency
and severity of losses. The objectives of loss control are to prevent likely occurrence of losses and to
reduce the extent of losses. Loss control is an important method of handling risk.
Loss Reduction
The objective of loss reduction is to prevent loss from occurring. Loss reduction entails reducing the
probability of loss in order to reducer the frequency of losses. If the likelihood of loss occurring is
reduced then the frequency of its occurrence would equally be reduced.
If our medical personnel are well trained, the likelihood and frequency of death arising from
incompetence would be reduced, if students study sufficiently hard the rate of failure in examination
would be reduced, if drivers are well trained and drive with great caution and considerations for the lives
and safety of other road users the nation would record fewer road accidents and casualties. If vehicles are
inspected regularly and necessary repairs effected, fewer accidents would occur, also, a boiler explosion
can be prevented by periodics inspections by qualified engineers, fires can be prevented by forbidding
workers to smoke in the vicinity of highly inflammable materials.
Loss Prevention
Effective loss prevention effort would reduce the frequency of losses. However, no matter how effective
the loss prevention effort is, some losses would inevitably occur. The objective of loss reduction
therefore, is to reduce the severity of loss after its occurrence. For example, fire doors and walls can be
constructed and used to confine fire to a particular area and prevent it from spreading, a sprinkler can be
installed in a building to put out any fire promptly. Fire proof cabinet can be purchased to ensure safety
of documents night security guards could be employed to deter thieves, burglary alarm installed. The
examples are endless. Loss prevention is an appropriate method of handling risk for two main reasons.
Firstly, the indirect cost of losses can be very large and even large than the direct cost in some cases. For
example, if an employee is injured at work, the employer would be responsible for the medical expenses
and certain proportion of his earnings. These are direct costs of the loss. In addition, as a result of the
accident, a machine may be damaged and needs repairs, production may be halted for some time, a new
employee may have to be trained at a high cost to take the place of the disabled employee, contracts for
purchases of raw materials or for sales of finished goods may be cancelled because production is halted.
These are indirect costs of the loss. If the loss is prevented from occurring both these direct and indirect
costs would be dominated. Loss prevention is the most appropriate method of dealing with risk.
Secondly, there is the social cost of losses. These social costs are important and must be considered. For
example, if an employee dies of injuries sustained at work, the society is forever deprived of the goods
and services which the employee could have produced. The family of the workers would lose their share
of deceased earnings forever and the family may as a result of the death, the employee suffers some
financial insecurity. Even, the employee himself may suffer great pain before he finally dies.
These social costs can be reduced by the use of effective loss control system. Another method of
reducing losses is through the application of the law of large number, if wer have sufficiently large
number homogenous exposure units. Through this, a reasonable estimate of the cause of the losses can be
made. On the basis of estimate, an organization such as insurance company can assume the possibility of
loss of each exposure, without necessarily facing the same possibility of loss itself.

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