The silent economic and social value of insurance

  After its rapid expansion worldwide over the last few years, the insurance industry has become a leading component of the social, economic and financial panorama. By way of example, it is estimated that insurance companies currently manage assets valued at around 23 trillion dollars, far more than twice the total volume of international reserves. This strong development is essentially based on a very dynamic life-savings segment and a growing contribution from the emerging countries. Demographic and economic prospects suggest that both factors will continue to boost insurance business over the coming years. For example, insurance penetration, measured as the percentage of GDP represented by the total annual premiums, stands at 3% in the emerging markets, still far from the 8.7% of advanced countries.

  However, to duly exploit this potential, insurance companies will have to offer products with a large degree of innovation and adaptability, as well as diversify their distribution channels and, of course, ensure they keep a solid balance sheet.

  The capacity to innovate when covering both individual and collective risks is one of the most outstanding features underlying the industry's expansion. An illustrative example of this is the new range of products that allow authorities of developing countries to manage the risk of natural catastrophes. The warm welcome these products are receiving in terms of demand acknowledges their significant economic and social benefits. Firstly, if the natural disaster actually occurs, they soften its impact on the public coffers as the risk is passed on to the international reinsurance or capital market. As a result, governments can offer assistance to the population and reconstruct the damaged infrastructures. Secondly, and more subtly, less fiscal uncertainty is an incentive for authorities to invest in better social services and to develop production infrastructures that encourage long-term growth.

  Another element that will be crucial for the insurance industry to maintain its rate of growth and its contribution to society is related to the different areas of regulation. In the European Union, the prudential regulations for the insurance sector are currently being revised in-depth (Solvency II), in parallel with those for banking (Basel III). The traumatic financial crisis has highlighted the need to preserve stability, both individual and of the system as a whole, requiring greater levels of capital and better governance, so that this is a welcome initiative; but it is important for the incentives that finally come out of this regulation not to impinge upon the sector's own efficiency and long-term view.

  Regulating products and contracts is another important front, albeit more diverse and difficult to evaluate. On the whole, regulations focus on protecting society from the large amount of asymmetrical information in insurance transactions. However, consumer protection from a number of inherent cognitive biases (the difficulty of establishing the fair value of the insurance and other biases related to taking decisions under uncertain conditions) is far from being a habitual practice. To advance in this field, regulation needs to incorporate the considerations and teachings of the «behavioural economy» in order to mitigate the imperfect rationality of members of our society.

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