Evolution of Insurance Regulation

The general public is not very fond of the financial services industry. Whenever any crisis breaks out, the financial services industry is one of the first ones to bear the brunt. The fact that AIG, which is one of the largest insurance companies in the world, needed a bailout during the 2008 crisis does not help. The fact of the matter is that any government help to the financial services industry is viewed by the general public as cronyism. This is the reason why it is important for insurance companies to ensure that their companies are managed properly and hence never in need of a bailout.

Insurance regulators all over the world have become increasingly strict over time. The scope of insurance regulation has drastically expanded over the years. In this article, we will have a closer look at how the insurance regulation has changed over the ages.

Price Regulation

When insurance regulation started, price regulation was their one and only objective. The regulators wanted to ensure that the insurance companies are not charging undue rates to the customers. This is the reason why in many places of the world, the insurance rates had to be first sent to the regulator for approval, before they were offered to the general public.

Even today, regulators all the world require that insurance companies notify them about changes in rates. The insurance company has to provide a detailed explanation including financial proof explaining the deterioration of the insurer’s loss that has prompted the change in rates.

However, now the rules are much more lenient. For instance, insurers only need approval, if the rates are going to increase or decrease more than a certain percentage. Also, insurers can start offering the product to the public while simultaneously sending the proposal to the regulator.

In many parts of the world, insurance regulators have started overlooking the entire process of price regulation. This means that they assume that the markets are competitive. Since no single insurance company or a group of insurance companies can control the market, they believe that there is no need for government regulation on pricing of insurance policies.

  • They believe that the rate approval mechanism needs additional resources on the government as well as the insurer’s side. All these additional expenses increase the cost of the policy which needs to be ultimately borne by the consumers
  • Price regulation creates periods when prices are artificially low and then insurers suddenly increase prices by a big margin. As a result, there is instability for both i.e. the insurance company and the consumer
  • Too much regulation prompts insurance companies to go out of business. Hence, competition is reduced and rates end up going higher. The regulator ends up achieving the exact opposite of what they had set out to achieve.

Price regulation still exists in many parts of the world. However, after the 2008 AIG financial crisis, regulators have started focusing their attention on other areas.

Consumer Protection

Unfettered competition maybe desirable as far as the reduction of prices in the insurance industry is concerned. However, it also needs to be understood that in many cases competition can be harmful to the industry.

Firstly, it needs to be understood that insurance is a product which is based on trust. To some extent contracts can determine how insurance companies will act in certain events. However, trust still plays a big role in the process. This is the reason why a strong framework for reinforcing that trust is put into place.

Insurance regulators have created special cells that look at cases of mis-selling and other unethical behaviours.

  • In many parts of the world, regulators have explicitly specified that in case of ambiguity in the contract, the insurance policy would be read in the favour of the customer and not that of the insurance company
  • Regulators levy heavy penalties if it is proven that the insurance policy was sold by providing incorrect or misleading information.
  • Regulators have also made it the insurer’s job to explain the terms and conditions of the policy to the customer. The exclusions have to be categorically laid out and highlighted. The insurer cannot mince words or bury the details in the fine print. If they do so, they might have to pay heavy penalties and may also be liable for prosecution
  • Insurers also have to ensure that they do not discriminate on the basis of colour, race, religion or nationality unless these attributes are a rating factor to the insurance policy being sold.
  • Lastly, regulators have also set up clear guidelines with regards to how consumer data ought to be used. Consumers have the right to demand complete privacy. None of their information can be shared with any third party unless their explicit consent in gained in order to do so.

The bottom line is that the regulation of insurance companies has come a long way. In the beginning, distortion of prices was the only concern. However, now, the markets have matured and because of competition, price regulation is not a priority. Hence, the focus has now shifted to consumer protection.

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