MSG Team's other articles

10933 Reinsurance Vs Securitization

It is common for insurance companies to not hold the entire risk that they underwrite on their own portfolios. Instead, insurance companies try to find ways and means to offload some of this risk to other entities. This is common with all types of insurance. However, it becomes more pronounced with catastrophe-related insurance. This is […]

9955 Key Differences Between Insurance and Reinsurance

When we define reinsurance, we often say that is a type of insurance for insurance companies themselves. This statement gives the impression that the reinsurance contract is very similar to the insurance contracts which individuals enter into. This is not completely true. There are significant differences between an insurance contract and a reinsurance contract. Some […]

9403 Functioning of Human Memory

The study of human memory since ages has been a topic of interest for the school of cognitive psychology. Human memories of all individuals can never be same. Human memory refers to a process of acquisition, storage, retention and retrieval of information. Human memory has the ability to store and recall the previously learnt information, […]

8828 What is Motivation? – How to Inspire Peak Performance

Motivation is the word derived from the word ’motive’ which means needs, desires, wants or drives within the individuals. It is the process of stimulating people to actions to accomplish the goals. In the workplace, several psychological factors can drive motivation. Some psychological factors in workplace motivation are: desire for money success recognition job-satisfaction team […]

9744 Role of HR in Change Management

This module has covered the various aspects of change management and the roles played by senior management as well as the CEO in top down change and the role of employees at all levels in bottom up change. This article looks at the role played by “support functions” in an organization in facilitating change. Specifically, […]

Search with tags

  • No tags available.

The key economic theme which has dominated virtually all of the economic discourse in 2022 has been inflation. Countries around the world have seen inflation rise to record levels. Countries like the United States have taken stringent measures to combat inflation.

A record number of interest rate hikes have been undertaken by the American central bank in order to slow down inflation. However, it seems like the efforts are not bearing fruit. Even after the rate hikes, inflation continues to remain persistently high and is impacting almost every sector of the economy. As a result, most economic pundits in the world believe that we are going to live in an era of persistently high inflation for a while.

The reinsurance sector is not immune to inflation either. The reinsurance industry has witnessed a severe impact due to inflation.

In this article, we will have a look at the various ways in which inflation is impacting the reinsurance sector.

Inflation

  • Leads to Increased Loss Pay-outs: The business model of reinsurance is based upon taking money in the form of premiums and then paying out a smaller sum in the future in the form of claims.

    On average, reinsurance companies pay out claims 2.9 years after they begin taking premiums from the customers. This means that the real value of the money taken in the form of a premium keeps on decreasing if inflation is high. As a result, the loss value of the claim made is higher. As a result, insurance companies have to make higher payments.

    Persistently higher inflation leads to higher payouts. Over time, this can have a detrimental effect on the health of a reinsurer. Even if they are able to predict the magnitude of events and the losses in terms of lives and property loss, they are unable to predict the monetary loss because of increasing inflation.

  • Leads to Higher Premiums: The immediate effect of increasing inflation is that insurance companies witness their profit margins reduce. These companies have to pay out increased claims in the short term. However, over time, the reinsurance companies are forced to increase their premiums in order to recoup the losses.

    Now, firstly there is a time lag between inflation and increased premiums which means that the margins have already taken a hit.

    Secondly, companies in the reinsurance market have to deal with other insurance companies who are very savvy when it comes to understanding how premiums are calculated. Also, the market for reinsurance is globalized to a large extent. All of this means that the market for reinsurance has cut-throat competition. Hence, raising premiums can be very difficult due to competitive forces.

    The end result is that even though premiums are raised across the industry, they are not raised in the same proportion as the rise in claims. Also, if reinsurance companies insist on raising premiums while ignoring the competition, many of them end up losing a significant chunk of their revenues.

  • Inflation is Difficult to Plan For: Another problem with inflation is that it is very unpredictable. Economists all over the world are not able to accurately anticipate inflation numbers. For instance, right now the Fed has raised interest rates many times.

    Theoretically, the rising interest rates should have countered inflation and the rate should have fallen drastically. However, in the short run, there has been no significant impact on inflation. Inflation has stopped increasing. However, it is not reducing as well and as a result, has become stagnant. This unpredictability makes it very difficult to adjust premiums proactively. As a result, reinsurance companies have no option but to play catch up with inflation numbers.

  • Inflation Causes Reinsurance Investments to Lose Value: Reinsurance companies all over the world use financial markets in order to earn an income from the additional cash that they have on hand. Now, it is no secret that interest rate changes can cause corresponding changes in the values of many financial assets.

    Stocks, bonds, bullion, and almost every other financial instrument lose value when interest rates begin to rise. This means that the investment value of the holdings held by insurance companies also starts to go down. This can be very problematic given the fact that most reinsurance companies are also witnessing escalating costs of claims simultaneously. Reinsurance companies need to take additional steps in order to ensure that their portfolios do not lose value during inflation.

  • Inflation Causes Reinsurance Companies to Take More Risks: As mentioned above, inflation causes the base interest rates to change. This means that companies have to offer a higher return to attract investors. If the return offered is only marginally higher than the debt instruments, then most investors will avoid taking any risks and will stick to debt. As a result, almost all companies take higher risks to offer a better return on their equity shares. Now, this means that no matter which company the reinsurance company chooses to park its additional funds, it will end up taking a higher risk.

The fact of the matter is that inflation is one of the biggest issues which insurance companies across the world are facing as of now. Along with increasing premiums, reinsurance companies will also have to cut costs, or else they will witness a drop in the number of customers as well as the revenue generated by the firm.

Article Written by

MSG Team

An insightful writer passionate about sharing expertise, trends, and tips, dedicated to inspiring and informing readers through engaging and thoughtful content.

Leave a reply

Your email address will not be published. Required fields are marked *

Related Articles

Cyber Risk in Reinsurance

MSG Team

Combining Towers While Building a Reinsurance Portfolio

MSG Team

Climate Change and Reinsurance

MSG Team