Simulation is a computer-based, computationally intensive, method of solving difficult problems, such as analyzing business processes.
Instead of creating physical processes and experimenting with them in order to understand their operational characteristics, a simulation study is based on a computer representation – it considers various hypothetical conditions as inputs and summarizes the results. Through simulation, a vast number of hypothetical conditions can be quickly and inexpensively examined. Performing the same analysis with a physical system is not only expensive and
time-consuming but, in many cases, impossible. A drawback of simulation is that computer models are not perfect representations of business processes.
There are three basic steps for producing a simulation study:
1. Generating approximately independent realizations that are uniformly distributed
2. Transforming the uniformly distributed realizations to observations from a probability distribution of interest
3. With the generated observations as inputs, designing a structure to produce interesting and reliable results.
Designing the structure can be a difficult step, where the degree of difficulty depends on the problem being studied. There are many resources, including this tutorial, to help the actuary with the first two steps.