De-Moral Hazarding: Beat Insurers at Their Own Game and Build Wealth in the Process

When you carry risk, you carry wisdom.

A Smarter Way to Manage Risk

At Personal Finance Reimagined (PFR), we believe the path to long-term wealth is paved not just with good intentions, but with better decisions. One of the most powerful tools we teach—both in the classroom and with clients—is called de-moral hazarding. It flips traditional insurance thinking on its head.

Now, let’s acknowledge something up front: “Moral hazard” is a weird phrase. It sounds like something abstract—or worse, something unethical. But in reality, moral hazard is a behavioral trap that can quietly erode both your finances and your discipline. It is absolutely something to understand—and minimize. At PFR, we do NOT teach people to avoid risk—we teach them to strategically choose the risks they take. Wealth is built through intentional exposure to manageable risk, not by shielding yourself from every possible loss.

That is exactly what this article will help you do. We will unpack how insurance really works, explain what moral hazard means in plain language, and introduce a time-tested approach to help you manage risk with clarity and confidence. De-moral hazarding is not just theory—it is a practical strategy for building wealth and living intentionally by avoiding the behavioral trap of overinsuring and under-owning your risk.

Understanding the Insurance Business Model

Most people view insurance as a safety net—and it is. But it is also a business built on the economics of pooled risk and human psychology. Individuals are willing to transfer risk because it offers protection from events that could cause financial ruin. While a single person might be devastated by a $100,000 health event or a house fire, an insurer managing that same risk across thousands of clients is not.

Thanks to actuarial science, insurers understand the true probabilities behind these risks. By spreading the exposure across a large pool and investing the capital collected from premiums, they can insure high-impact events without risking their own solvency. This transforms ruinous risk for the individual into manageable variability for the insurer.

However, most people do not have a finely tuned, probabilistic grasp of risk. Instead, they tend to be risk-averse—willing to pay more than the actual cost of a potential loss for the peace of mind that comes with transferring that risk. Even after accounting for the important difference between risk (a measurable possibility) and ruin (a life-altering catastrophe), people routinely overpay for coverage.

Insurers capitalize on this. They price premiums to exceed expected losses, and they must—because their operating model includes substantial overhead:

• Brick-and-mortar infrastructure and administrative costs

• National ad campaigns and catchy jingles

• Claims adjusters, legal teams, and customer service departments

• Sales commissions and broker incentives

This built-in cost structure guarantees that premiums must surpass the expected value of the insured loss. So if you are insuring small, manageable risks that you could absorb or prevent, you are not buying protection—you are subsidizing the system.

Moral Hazard: When Insurance Encourages Bad Behavior

Moral hazard is a classic concept in economics. It describes what happens when people take on more risk because they are shielded from the consequences. Moral hazard describes human behavior that you have the power to control. Unfortunately, many do not.

In insurance, this is common. Consider the price difference between low-deductible and high-deductible policies.

A $250 deductible health plan is much more expensive than a $2,500 deductible plan. Why? Because with a low deductible, people are more likely to overconsume care—they are not spending their own money, so they care less about cost. Insurers anticipate this behavior and raise premiums to cover it. Also, the overconsumed care is often not care designed for long-term health. Today's medical practices increasingly encourage short-term procedures that may solve today's symptom but are not necessarily designed to encourage long-term health. A lose-lose for sure. Paying more for lower long-term health.

That’s moral hazard at work. The important point is that moral hazards caused by low deductibles increase premium costs proportionally more than their high deductible cousins. The relationship is non-linear. At PFR, the great benefits of compound interest are taught via the concept of convexity. Moral hazard is its not-so-good opposite cousin called concavity.

The Strategy of De-Moral Hazarding

Now imagine doing the opposite. Imagine deliberately avoiding moral hazard by assuming more responsibility for small, manageable risks. That’s what we call de-moral hazarding, and we teach this concept to both our clients and students. It has two big payoffs:

1. Financial Efficiency: Higher deductibles mean lower premiums. If you are disciplined, the money you save can be set aside in a self-insurance fund. Over time, that fund grows—earning interest, building flexibility, and putting you in a stronger financial position than if you handed it to an insurer. Via my book, Making Choices, Making Money, this is the purpose of the savings waterfall and the cash quadrant of the Investment Barbell Strategy.

2. Behavioral Benefit: When you know you are responsible for the first few thousand dollars of any loss, you behave differently. You drive more cautiously. You exercise more regularly. You eat healthier. Why? Because you have skin in the game. And skin in the game improves both outcomes and mindset.

   
   

Real-Life Example: The High-Deductible Health Plan

Take a high-deductible health insurance policy with a $5,000 annual deductible. Pair that with a Health Savings Account (HSA). You now have coverage for catastrophic events—major illnesses or surgeries—but you are on the hook for smaller claims. That risk motivates better lifestyle choices, like eating well and avoiding preventable conditions. Taking a higher chance of small losses focuses the mind. You pay attention to your healthy behaviors.

Meanwhile, your premiums are dramatically lower. You invest the savings in your HSA, where it grows tax-free and can be used later for health care or even retirement. Within a few years, your self-insurance fund can be substantial. More importantly, you have aligned your financial incentives with your personal well-being. That’s the ultimate win-win.

Wealth and Health Are Built the Same Way: Through Ownership

The psychology here is powerful. We value what we own. When you own the risk of small losses, you act to prevent them. And as you prevent them, your savings compound—financially and behaviorally.

But this only works if you start. Too often, people transfer their wealth to insurance companies through unnecessary coverage and low deductibles, all in the name of safety. What they lose is autonomy, investment capital, and motivation.

De-moral hazarding flips that script. It says:

• Cover major risks that could cause financial ruin.

• Self-insure the rest.

This strategy transforms you from a passive policyholder into an active steward of your financial and physical well-being.

Final Thought

Insurers make their money off your fear of small losses. But you do not have to play their game. De-moral hazarding is a mindset—an intentional decision to own risk, live intentionally, and build wealth on your own terms.

Once your self-insurance fund starts growing, you will wonder why you ever outsourced your discipline to a company that profits from your hesitation.

Start today. Own your risk. Own your future.

Appendix: Entropy, Ergodicity, and the Risk of Ruin: Why It Matters for Smart Decision-Making

In personal finance, not all risks are created equal. Some losses are inconvenient. Others are irreversible. To navigate this difference wisely, we must turn to two powerful concepts from physics and probability: entropy and ergodicity.

Entropy: The Natural Drift Toward Disorder

Entropy, in thermodynamics, is the measure of disorder or randomness in a system. Left alone, systems tend to become more chaotic over time—a principle that applies just as well to finances. Without intentional planning, your financial life will not automatically become more secure; it will drift toward disarray. That drift—unplanned expenses, poor habits, lack of reserves—is the background noise of everyday risk. It is inevitable, but manageable.

Ergodicity: The Key to Understanding Risk and Ruin

Now consider ergodicity, a concept from probability theory that helps us evaluate whether a system’s long-term average outcomes match its short-term experiences. Here's the key insight:

Ergodic risks are repeatable, recoverable, and manageable over time.

Example: Paying a $500 car repair from your emergency fund. Annoying, but not life-changing.

Non-ergodic risks are those that involve absorbing states—one-time events from which you cannot recover financially.

Example: A catastrophic health event without insurance, or a bankruptcy-inducing lawsuit.

A non-ergodic event leads to ruin—not just disorder, but permanent collapse. Once you're in an absorbing state, the game is over. No amount of time or average recovery will bring you back.

Strategic Implication: Insure Against Ruin, Not Disorder

This is where de-moral hazarding comes into play. You do want insurance—just not for every entropic inconvenience. Smart risk management means:

Self-insuring ergodic risks by saving and building reserves. These are the bumps in the road you can handle with discipline.

Transferring non-ergodic risks—the truly ruinous scenarios—to an insurer. These are the one-time events that justify premiums.

Bottom Line

Entropy guarantees that life will throw curveballs. Ergodicity tells us which ones we can survive—and which ones we cannot. De-moral hazarding is the practical response: protect against financial collapse, but do not outsource every small risk. Doing so keeps your wealth intact, your incentives aligned, and your future in your own hands.

Resources for the Curious

Hulett, Jeff. “The Regenerative Life: How to Be an Ergodic Pathfinder.” The Curiosity Vine, July 22, 2023. Updated August 26, 2023.

Summary: Explores how ergodicity and entropy shape personal risk and resilience across systems like investing, employment, and health. Emphasizes that most real-life systems are non-ergodic, making ruin a distinct possibility. Introduces decision tools like Definitive Choice to help individuals navigate risk through regenerative, ergodic strategies.

Hulett, Jeff. “Getting the Most of Your Health AND Your Wealth.” Personal Finance Reimagined YouTube Channel: @jeffhulett, July 2023.

Summary: Introduces the concept of de-moral hazarding as a strategy to defeat moral hazard in health insurance. Demonstrates how high-deductible plans act as commitment devices—encouraging healthier behavior and increased savings. Explains convexity as a behavioral and financial tool to build long-term wealth and wellness.