Insurance Institutions, Markets, and Reg

Slide 1: 

Insurance Institutions, Markets, and Regulation BY: ANAND TIWARI & RAUSHAN KUMAR

Outline : 

Chapter 5 Slide 2 Outline 1. Insurance market: underwriting cycles; insurance markets post September 11, 2001; reinsurance markets 3. Regulation of Insurance 4. Private insurance institutions: mutual v.s. stock captives insurance 5. Governmental Insurance/ Social Insurance

Underwriting Cycles : 

Chapter 5 Slide 3 Underwriting Cycles Underwriting cycle is the cyclical pattern of underwriting premium level and profit through time. Because of underwriting cycle the insurance rate become dynamic.

Underwriting Cycles : 

Chapter 5 Slide 4 Underwriting Cycles Soft Market Insurance losses low Prices are very competitive (decrease) Hard Market Insurance losses above expectations Reserves insufficient to cover losses Prices increase

Market Conditions : 

Chapter 5 Slide 5 Market Conditions

Combine Ratio : 

Chapter 5 Slide 6 Combine Ratio Combine ratio is defined as the total amount of incurred loss and expense divided by the total amount of premiums The smaller the combine ratio, the greater the profit insurer will get When combine ratio is greater than 1, it means insurance company suffer a loss from insurance operation

Cash Flow Underwriting : 

Chapter 5 Slide 7 Cash Flow Underwriting Low Combined Ratio/ High Investment Return Industry Lowers Underwriting Standards More Cash for Investments

Market Conditions after September 11, 2001 : 

Chapter 5 Slide 8 Market Conditions after September 11, 2001

Market Conditions after September 11, 2001 : 

Chapter 5 Slide 9 Market Conditions after September 11, 2001

Reinsurance Organizations and the Marketplace : 

Chapter 5 Slide 10 Reinsurance Organizations and the Marketplace Reinsurers paid about 60% of the insured losses for Sept. 11 attacks Most of the largest reinsurers are based in Europe After Sept. 11, new reinsurers began business in Bermuda (Tax haven)

Reinsurance Organizations and the Marketplace : 

Chapter 5 Slide 11 Reinsurance Organizations and the Marketplace

Insurance Regulation : 

Chapter 5 Slide 12 Insurance Regulation Ensure Solvency Policy and rate/price regulation Consumer Protection

Insurance Regulation– Ensure Solvency : 

Chapter 5 Slide 13 Insurance Regulation– Ensure Solvency Licensing Requirements i. start business – domestic/foreign insurers Financial Requirements Solvency regulations (capital and surplus) Investment requirements Risk-based capital Reserve requirements Guaranty Funds

Insurance Regulation-- policy and pricing : 

Chapter 5 Slide 14 Insurance Regulation-- policy and pricing Policy and Rate Regulation Prior approval File-and-use (commissioner can disapprove within thirty days) Open competition (no rate filing requirement)

Insurance Pricing : 

Chapter 5 Slide 15 Insurance Pricing Pure premium: Find the premium that equals expected losses/costs, Also known as the actuarial fair premium Insurance Pricing

Determinants of Fair Premiums : 

Chapter 5 Slide 16 Determinants of Fair Premiums 3 Determinants Expected Claim Costs = Pure Premium Administrative Costs Fair Profit Loading

Determinants of Fair Premiums -- Administrative Expenses : 

Chapter 5 Slide 17 Fair Premium must cover administrative costs, such as marketing underwriting loss adjustment premium taxes underwriting income taxes etc. Determinants of Fair Premiums -- Administrative Expenses

Expense Loadings as a Percentage of Premium : 

Chapter 5 Slide 18 Expense Loadings as a Percentage of Premium

Slide 19: 

Chapter 5 Slide 19 Actuarial Models: Variance of distribution of claim costs, also referred as risk load Variance of Investment asset covariance of claim costs across lines and with assets Desired profit margin Determinants of Fair Premiums -- Profit Loadings

Conclusion : 

Chapter 5 Slide 20 Conclusion Fair Premium = Gross premium = PV of Expected Claim Costs + PV of Expected Administrative Costs + Profit Loading Determinants of Fair Premiums

Insurance Regulation : 

Chapter 5 Slide 21 Insurance Regulation D. Control of Agents’ Activities Unfair Practices (cheating, misleading) Control of Claims Adjusting (certified adjuster) F. Control of Underwriting Practices No unfair discrimination Privacy concerns

Slide 22: 

Chapter 5 Slide 22 Public Policy Issue: From a societal perspective, is risk classification desirable? Some argue that risk classification should be restricted when insurance is mandatory (e.g., auto liability) classification is based on inherited traits (e.g., gender, genes) classification is based on location of residence (e.g., auto, property) classification is based on subjective criteria (e.g., “poor moral risks”) Is Classification Good for Society?

Risk Classification Practices : 

Chapter 5 Slide 23 Risk Classification Practices Consumers are classified by various criteria Class Rate is applies to all consumers in a given classification Underwriter decides whether a particular consumer will be offered coverage at the class rate Schedule rating: modification of the rate by the underwriter based on specific characteristics of the consumer (applies mostly to commercial insurance) Experience rating refers to practice of basing rates on past experience

Private Insuring Organizations : 

Chapter 5 Slide 24 Private Insuring Organizations Stock insurers Maximizing value of shareholders Provide high-quality insurance Stockholder receive dividends when company make profit. Mutual insurers (policyholders are also the owner of the company) No stockholders, no capital stock Provide low-cost insurance policyholder receive dividends when company make profit Lloyd’s of London: A Global Insurance Exchange

Most Common Forms of Insurer Ownership : 

Chapter 5 Slide 25 Mutuals Policyholders are the residual claimants Cannot raise capital by issuing equity Reinsurance and underwriting is more important for Policyholders Stock Companies Investors are the residual claimants Can raise capital by issuing equity Most Common Forms of Insurer Ownership

Demutualization : 

Chapter 5 Slide 26 The process of mutual insurance become stock insurance Main Reason To raise capital Stock insurance company has greater flexibility to expand new company Stock option can be offered to attract key employees (to increase efficiency) Tax advantages The recent movement has added $55.3 billion of capitalization to life/health industry. Demutualization

Lloyd’s of London : 

Chapter 5 Slide 27 Lloyd’s of London Individual members accepted insurance risk by providing capital to an underwriting syndicate Marketplace where insurance business is transacted most business is commercial insurance, reinsurance, and automobile insurance Owners are called “names” Names contribute capital to syndicates Individual names have unlimited liability Corporate names have limited liability

Private Insuring Organizations, Their Markets and Regulation : 

Chapter 5 Slide 28 Private Insuring Organizations, Their Markets and Regulation Banks and Insurance: 1. banks sell insurance directly, or 2. banks act as agents for insurance company Captives Insurance i. Forms of self-insurance

Captive Insurance : 

Chapter 5 Slide 29 Captive Insurance Captives Insurance insurer that provides insurance coverage to its parent company and other affiliated organization Some captives can sell coverage to non affiliated organization Reasons to form the captives: Difficulty to obtain insurance (medical malpractice or product liability insurances) Greater stability of earning Easier access to reinsurance company

Government Insuring Organizations/Social Insurance : 

Chapter 5 Slide 30 Government Insuring Organizations/Social Insurance Unemployment insurance Pension/Annuity Insurance Health Insurance Guaranty funds

Slide 31: 

End of Chapter 5 Insurance Institutions, Markets, and Regulation