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How the life insurance industry is tackling a "manageable headwind"

Source: Asia Insurance Review | Dec 2017

The life insurance industry is not immune to the impact of low interest rates. Based on a survey with senior executives of leading life insurers, Mr Daniel M Hofmann of The Geneva Association reports on the industry’s response to the challenges created by low interest rates and its determination to weather this “manageable headwind”.
Low interest rates affect both the demand for and supply of life insurance products. Products that were once popular and profitable for insurers and policyholders have now been repriced to reflect the new environment. 
   Many products were withdrawn and are therefore no longer available to help policyholders plan for their financial needs in old age. A reset of customer expectations is underway and the industry has been busy repositioning.
Focus on in-force and cost management
Figure 1 on the following page summarises the industry’s response to the low interest environment. It reveals equal weight given to cost and in-force management as top priorities. In addition, roughly 90% of companies participating in the survey have embarked on initiatives towards business model adaptation, while only 60% called the development of new business models a stated objective.
Relative importance of adaption priorities
   First, in-force management. It is a fairly new discipline with the objective to create more value by better managing a business that may have been on the books for decades. The value extracted from these activities can accrue to shareholders and customers.
   While in-force management activities are well established, more needs to be done. Slightly less than one-tenth of projects have been completed. And more than half of the projects are considered either underway or still in early stages. 
Cost reduction to achieve greater efficiency
Second, cost reduction. It ranks at the same priority level as in-force management, but the motives are different. 
   For many executives, cost management is common sense; they perceive the sector as not being as efficient as it could be. Others underlined the importance of cost reductions to mitigate the adverse impact of lower investment returns in order to benefit insurers and/or policyholders. And a third group called for insurers to become more efficient in order to prepare for future competition against InsurTech companies that are not saddled with legacy burdens.
   However, achieving cost reductions can be difficult. The devil is in the details. One of the major challenges referred to arises from complicated IT legacy systems built decades ago. They are often not well integrated, creating barriers for speedy efficiency gains. Many executives saw a need for the corporate culture to change towards an even more cost and customer-centric mind set. 
Towards a new business mix
Up to now, insurers have made significant progress with initiatives rebalancing their new business mix towards more sustainable products that are, from both a policyholder and shareholder perspective, better adapted to the current low interest rate environment. Focus areas highlighted by survey participants include:
  • Reducing the reliance on savings products (with high interest rate guarantees) and replacing them with unit linked and hybrid products that feature more sustainable guarantees or no guarantees at all;
  • Developing a stronger focus on biometric risk or term protection products;
  • Focusing on wealth management for high net worth individuals and, more broadly, on asset management products; 
  • Focusing on corporate customers by offering unit-linked pensions and corporate protection business.
Uncertain over how new technologies can support insurance business
When looking ahead, answers in response to questions about new, innovative business models were a bit reserved. Although executives saw the need to adapt business models to compete against potential high-tech competitors, it was not clear how exactly such business models would apply and how new technologies could better support the business in the future. 
   A tentative conclusion could be that leaders need more information about the potential of new technologies. But executives are aware that parts of the value chain are being disrupted and that the potential for new technology challengers should not be neglected.
Assessment and outlook
Life insurers have come a long way in tackling the structural weaknesses exposed by the current macro-financial environment. The adaptation to the likely ‘new normal’ of perennially low interest rates is well under way. Survey participants were not discouraged by the short-term challenges, because ‘in the short term, we can manage the change.’ And they were reasonably confident that life insurers will continue to play an important socio-economic role in the long run.
   The extent to which life insurers will fulfil this role depends on how successfully they can navigate the necessary changes and make the most of the assets at their command today – their inforce customer base, their superior regulatory knowledge, and their access to market and distribution channels. This vision was widely shared. But the key question is, as one executive put it succinctly, ‘how do we get from today to the future?’
   Although executives agreed on three broad objectives on which the industry has to deliver, it is still open which business models would be most promising. They agreed that the socio-economic role of life insurance would remain central, that insurers need to adopt new technologies more quickly to better realise efficiency gains, and that distribution will have to become even more efficient and customer-engaging while balancing the need for expert advice. 
   But there was dissent as to whether the industry would continue to evolve along a traditional, evolutionary path; follow a disruptive, ‘digital first’ transformation; or choose to partner with new technology firms in a cooperative approach.
   Whichever business models ultimately succeed, it is clear that they need to succeed, and succeed well, on three must dos’:
  • Deliver on the socio-economic role of insurance; 
  • Deliver superior customer engagement and superior customer value;
  • Deliver effectively against evolving regulatory requirements.
   Failing to reach these goals would put at risk the business proposition of life insurers and their valued socio-economic role. But the message from senior executives is not one of complacency. To the contrary, they have seen the writing on the wall. They are implementing corrective measures. And they are determined to weather ‘manageable headwind.’
Some policy implications
However, for the industry to be in a position to fulfil its role, policymakers must also play their part and provide a conducive environment. Building blocks may include:
  • A stable macro-financial and regulatory environment that allows for long-term planning reduces the risk of disruptive financial crises and promotes long-term savings. 
  • Regulatory, accounting and risk management frameworks that are viable under many different interest rate scenarios and properly reflect the life insurance business model. 
  • The promotion of financial literacy among the general public. For a number of reasons, people tend to underestimate longevity risk, and the actual protection cover of individuals and households tends to be inadequate, as are individual savings for retirement purposes. The deficiencies caused by under-savings are exacerbated by low and ultra-low interest rates. For these reasons, financial literacy programmes should be designed to create a better awareness of retirement financing conditions. Their objective should be to close the gap between actual savings and expected retirement financing needs while paying proper attention to longevity risk. A 
Mr Daniel M Hofmann is Senior Advisor Financial Stability and Insurance Economics at The Geneva Association.
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