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Foundations of Casualty Actuarial Science

than on the underwriting results.

70. One of the major problems inherent in the development
of a general methodology for the reflection of profit in
manual rates is that premium may not be the proper
benchmark against which profits should be assessed.

71. A portion of the profit and contingencies provision
represents a provision for adverse deviation or a risk
loading. There are two separate and distinct risk elements
inherent in the ratemaking function. These re generally
termed parameter risk and process risk.

72. Parameter risk is simply the risk associated with the
selection of the parameters underlying the applicable
model of the process. Selecting the wrong loss
development factors, resulting in erroneous experience
losses, is an example of parameter risk.

73. Process risk, in contrast, is the risk associated with the
projection of future contingencies that are inherently
variable.

74. Statistical indication I1 has an associated credibility
z, between 0 and 1, relative to some other indication

I2. The resulting credibility-weighted indication I1,2 is
determined by the formula:

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