Active Stocks
Thu Mar 28 2024 15:59:33
  1. Tata Steel share price
  2. 155.90 2.00%
  1. ICICI Bank share price
  2. 1,095.75 1.08%
  1. HDFC Bank share price
  2. 1,448.20 0.52%
  1. ITC share price
  2. 428.55 0.13%
  1. Power Grid Corporation Of India share price
  2. 277.05 2.21%
Business News/ Opinion / Insurance can limit economic loss
BackBack

Insurance can limit economic loss

The first step in building the financial resilience is to size up the degree of uninsured assets in an economy. Next is to understand the causes for this uninsured-ness or the protection gap

Shyamal Banerjee/MintPremium
Shyamal Banerjee/Mint

The devastation caused by natural catastrophes, such as the flooding of Chennai a few months ago, raise the question as to whether insurance has been effective in making communities resilient. Over the decade, have we made any real progress in covering significant sections of the population and their assets? With adverse effects of climate change posing a greater threat than ever before, preparing the society and economy to be more resilient has become imperative and can brook no further delay.

Financial resilience in the form of insurance or risk transfer is only a part of the solution. Investment in appropriate infrastructure, adherence to sound building codes, land use management, urban planning and a host of other factors are important considerations. These are needed for a sustainable solution. Affordable insurance is dependent on risk being reduced with all other things in place.

The first step in building the financial resilience is to size up the degree of uninsured assets in an economy. Next is to understand the causes for this “uninsured-ness" or the protection gap. This refers to the difference between the economic losses (both insured and uninsured) and the insured losses. Finally, we need to explore feasible solutions to close this protection gap.

Since 1975, the natural catastrophe (Nat Cat) protection gap has been increasing. Today, it stands at an annual gap of about $150 billion globally. This gap is more pronounced in emerging Asian countries and accounts for 80-98% of the economic losses when a natural catastrophe hits a country.

While insurance penetration has increased with rising income, economic losses have been increasing faster. Besides, insurance penetration is patchy and concentrated in urban regions.

In the past decade, even minor events have led to big losses (due to unprecedented growth of exposures). In 2014, the floods in Jammu and Kashmir resulted in an economic loss of $6 billion while only $230 million was insured. Economic loss from Cyclone Hudhud was $7 billion with only $630 million in insurance.

The widening protection gap provides an opportunity for the insurance industry to ramp up products and distribution. Understanding buying behaviour and motivations of people to buy property insurance can offer insights to make the products appeal better.

What causes the protection gap?

The protection gap is largely due to underinsurance. Properties that people own may be entirely uninsured or it may be that certain perils like floods or earthquake are not covered under the insurance policy. Or, in some cases, the property value is understated.

Research reveals that risk perceptions do not necessarily translate into insurance buying behaviour. Consumer knowledge about insurance is critical in sustaining the take-up rates. A low level of risk awareness leads to under-insurance and low investment in prevention or mitigation. Even well-educated consumers often do not know what insurance cover they have.

Many insurance buyers select policies based on cost rather than scope of cover. Affordability is critical, especially for low-income households and in emerging markets. Consumer trust of insurance providers is also a key factor in the buying decision.

At a national level, political action is typically easier for post-disaster relief than for pre-disaster mitigation. However, by waiting and acting only after a disaster has struck can result in higher overall costs. Insurance penetration can thus be impeded by a number of issues ranging from risk awareness to existing government policies.

Closing the gap

There are numerous ways to close the protection gap to mitigate the property risks. In essence, this involves making insurance coverage more affordable, improving product design and increasing access and distribution of insurance. These need to be undertaken by multiple parties—the insurance industry, governments and public-private partnerships.

For instance, micro-insurance can provide low-income, vulnerable households with affordable and efficient products. This can be done through different product design, distribution and claims management processes from traditional insurance. For property risks, many micro-insurance programmes have used weather index-based products to cover crop damages. By paying claims according to local weather parameters rather than individual damages, index-based products reduce the cost of underwriting and claims processing. With innovations in product design and distribution, there is scope to expand micro-insurance to other property types as well.

There is also growing interest in using index-based insurance products for agriculture risks in emerging markets. Many countries in Asia, Latin America, the Caribbean and Africa have piloted some sort of index-based insurance in agriculture. This offers advantages in terms of transparency, low transaction costs, fast pay-outs and objectivity. As index-based insurance relies on modelled data, it can be developed in markets where insurers do not have an existing claims portfolio providing data for underwriting or claims-handling infrastructure. The drawbacks could be the basis risk, i.e., the risk that claims are not triggered by the parameter index even if an individual loss occurs, or vice versa.

It is time to change the game over the next five years. Insurance is about diversifying that risk whose occurrence is probable but not exactly predictable. We can only ignore this at our own peril.

Amitabha Ray is head of property treaty underwriting, Southeast Asia, India, Hong Kong, Korea and Taiwan, and Rajeev Ramaswamy is senior property product manager, Asia Pacific, Swiss Re.

Unlock a world of Benefits! From insightful newsletters to real-time stock tracking, breaking news and a personalized newsfeed – it's all here, just a click away! Login Now!

Catch all the Business News, Market News, Breaking News Events and Latest News Updates on Live Mint. Download The Mint News App to get Daily Market Updates.
More Less
Published: 03 Feb 2016, 06:10 PM IST
Next Story footLogo
Recommended For You
Switch to the Mint app for fast and personalized news - Get App