IRDA Journal - Article by Antony Jacob, Managing Director, 17 November, 2006
The Indian Insurance Industry has demonstrated robust growth ever since the liberalisation of the sector. With privatisation of the sector insurance penetration has moved up to around 0.7 per cent over last six years. And now with the removal of tariff, a new chapter is set to commence for the insurance industry on January 1, 2007. We believe that, after licensing of private players in 2000-01, de-tariffing is the next big event in the Indian non-life insurance space. Detariffing has the potential to transform and liberalise the insurance market further.
Need to Detariff
The removal of tariff is a natural way for any market to develop and grow. Tariffs have been done away with in most markets around the world and India is today the only country where such a high proportion of the market is still under Government control.
A tariffed market robs the market of the fundamental component of liberalisation i.e. free market and open competition. As a result premium rates have remained artificially high for fire insurance while the motor portfolio is not adequately priced leading to huge losses for insurers.
While the need for dismantling of tariffs has been acknowledged and supported by all stakeholders, IRDA has chosen to tread cautiously here. It has waited a full six years after liberalisation to open up the market as it feels the players now have the maturity and capacity. Also it has chosen to open up in stages initially it will only be free pricing with existing policy terms and conditions. Flexi-wordings are being proposed for a year later.
Implications of Detariffing
Detariffing will definitely lead to the Indian market achieving global standards in underwriting and risk management besides encouraging innovation.
We expect two prominent trends in the tariff-free market. Firstly, there will be a transition from administered pricing to risk based pricing. We would therefore see increased participation from customers in rating a risk. As in the developed markets, the information provided by the customer will play a key role in deciding the pricing. In the case of motor insurance what this means is that the premium rating will be based on the features of the vehicle and the person driving it. A combination of a host of factors including the make, model, location, driver's age & experience, security features of the car and usage will all have an impact on the final premium that the customer will pay.
Another major development will be in 'Product Differentiation', which will probably represent the second phase of the detariffing process. Insurers will be able to provide products packaged to meet a customer's unique requirements, and price them depending on customer profile and product features.
Detariffing will result in higher insurance penetration in the country. Customer will stand to benefit from a much wider choice of products. It would be convenient for them to get a tailor-made product very specific to their requirements and based on the actual risks that customers face, rather than any price set by government. But it also places huge demands on insurance companies to listen closely to customers and underwrite risks well. We are convinced that we have the skills and the underwriting discipline to rise to this challenge.
In a tariff market, customers who invest in risk management practices and have a healthy historical loss record are often at a disadvantage in view of the tariff which gives a uniform rate for each risk regardless of quality of risk management within an occupancy.
Risk management will get a boost if there is sufficient reduction in premium for investing in controls such as fire protection systems. In international markets, pricing models ensure that a customer is not only saved from a disaster but factor in a payback period for investments in risk management mechanisms and processes by way of premium discounts.
Personal insurance customers will benefit by the removal of tariff. For example, in the motor segment in a tariff free market, most customers are likely to gain. In the corporate segment, health and marine premiums would go up, but fire premiums would come down. More importantly, insurers will now be able to develop and provide pertinent, world class and customised products to suit the needs of the corporate customer.
The stage is set to witness international best practices in risk assessment and underwriting in the coming years.
There are apprehensions that, at least initially, premium (topline) growth would dominate at the cost of viability or risk rating which can affect solvency margins. Insurance rating being a function of the probability theory would require the insurers to keep themselves equipped with sufficient data before taking the plunge. Each proposal will therefore need to be studied and rated on sound technical grounds. Internal monitoring mechanisms would need to become more stringent and actuaries may soon turn into underwriters.
In a de-tariffed market, both the insurer as well as the customer would need the services of a professional broker. The brokers would not merely participate in the price war but would need to make quality submissions to the insurers conveying all the material and non-material aspects of the risk to be covered. The broker will play the role of a consultant in the true sense with risk management responsibilities.
As the Indian Insurance Industry readies for the free market environment, its focus on providing value-added features, good quality service will also increase considerably. I expect better risk management practices will be put in place. More players and specialist mono-lines companies will emerge. At the same time well-managed insurance companies will grow from strength to strength based on their risk & compliance framework. The current focus on revenue will be replaced by value.
Thus, tariff abolishment will benefit Indian customers and the economy in more than one way. The industry's technical resources will improve, capital will be augmented to offset the possible pressure on solvency margins due to price reductions and job creation will follow as insurers are able to expand their offering.