Feature

Insurance Premia Way Up?

Here's Why


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April 1, 2003 by Glen Hodgson and Jean F. Beaulieu

Many of us have seen a significant jump during the past year in the premia we pay for different types of insurance coverage, both as consumers and for our businesses. Increases of 25 to 40 per cent are common, for coverage ranging from auto to property to business recovery. What factors lie behind these increases?

There are four global forces that are fundamentally influencing the shape of the insurance industry worldwide. First, structural changes are taking place in the global insurance industry, driven by consolidation, specialization and convergence with other parts of the financial services industry.

A second global force affecting premia arises from recent tragic events that led to large claims payments — the destruction of the World Trade Center (WTC) and exceptional floods in Europe during 2002 and early 2003. Insurers hit by these events will need to replenish their capital base over the next few years, in part through higher premia.

A third, related force is the global equity market downturn since 2000, which has hit the investment portfolios of most insurers and reduced income from that source. In its purest form, the insurance industry operates profitably by taking premia income today and investing it for a period of time prior to paying out expected claims tomorrow. Take away investment income and the industry needs to find additional income — by raising premia.

The final global force, with potentially the longest impact on the industry, is the apparent change in risk correlation among different types of insurance cover. Most businesses and consumers are unaware that there is extensive re-insurance market, primarily in Europe. Through re-insurance, front-line insurers can shift their specific insured risks into a much larger and more diversified pool of insurance risks. Or at least, that was the theory prior to 9-11.

The bottom line? Fundamental forces are at work in the insurance industry globally, nearly all of which drive premia higher in the near-term and perhaps longer. Until at least some of these factors stabilize, consumers and businesses should not expect any reversal in the rising trend for premia in 2003.

Glen Hodgson is Vice-President and Deputy Chief Economist at EDC. Jean F. Beaulieu is a Business Development Advisor focussing on the plastic and packaging products sector with EDC’s Short-Term Insurance Group.