The Role of IRA
(a) the protection of consumers' interest,
(b) to ensure financial soundness of the insurance industry and
(c) To ensure healthy growth of the insurance market.
These objectives must be achieved with minimum government involvement and cost. IRA's functioning can be financed by levying a small fee on the premium income of the insurers thus putting zero cost on the government and giving itself autonomy.
Protection of Customer Interests
IRA's first brief is to protect consumer interests. This means ensuring proper disclosure, keeping prices affordable but also insisting on some mandatory products, and most importantly making sure that consumers get paid by insurers.
Ensuring proper disclosure is called Disclosure Regulation. Insurance contracts are basically contingency agreements. They can be full of inscrutable jargon and escape clauses. An average consumer is likely to be confused by them.
IRA must require insurers to frame transparent contracts. Consumers should not have to wake up to unpleasant surprises, finding that certain contingencies are not covered.
The IRA also has to ensure that prices of products stay reasonable and certain mandatory products are sold. The job of keeping prices reasonable is relatively easy, since competition among insurers will not allow any one company to charge exorbitant rates.
The danger often is that prices may be too low and might take the insurer dangerously close to bankruptcy. As for mandatory products, those that involve common and well-known risks, certain standardization can be enforced. Furthermore, IRA can insist that for such products the prices also be standardized.
From the consumer's point of view the most important function of IRA is ensuring claim settlement. Quick settlement without unnecessary litigation should be the norm. For example, in motor vehicle insurance, adopting no-fault principle can speed up many settlements. Currently, LIC in India has a claims settlement ratio of 97%, an impressive number by any standards. However, it hides the fact that this settlement is plagued by long delays, which reduce the value of settlement itself.
If consumers have a complaint against an insurer they can go to a body formed by association of insurers. The decision of such a body would be binding on the insurers, but not on the complainant. If complainants are not satisfied, they can go to court. Some countries such as Singapore have such a system in place. This system offers a first and quicker choice of settling out of court. IRA can encourage the insurers to have such a grievance redressal mechanism. This system can serve the function of adjudication, arbitration and conciliation.
The second area of IRA's activity concerns monitoring insurer behavior to ensure fairness. It is especially here that IRA's choice of being a bloodhound or a watchdog would have different implications. We think that an initial tough stance should give way to a more forbearing and prudential approach in regulating insurance firms. When the industry has a few firms there is some chance of collusion. IRA must be alert to collusive tendencies and make sure that prices charged remain reasonable.
However, some cooperation among the insurance companies could be considered desirable. This is especially in lines where claim experience of any one company is not sufficient to make accurate forecasts. Collusion among companies on information sharing and rate setting is considered "fair'.
IRA must have severe penalties in case of fraud or mismanagement. Since insurance business involves managing trust money, in some countries the appointment of senior managers and "key personnel" has to be approved by the insurance regulatory agency.
Ensuring Solvency of Insurers
There are basically four ways of ensuring enough solvencies. First is the policy of a price floor. Second is the restriction on capital and reserves, i.e., on what kind of investments and speculative activities firms can make. Third is putting in place entry barriers to restrict the number of competitors. Fourth is the creation of an industry financed guarantee fund to bail out firms hit by unexpectedly high liabilities. Entry restrictions of the IRA are implemented through a licensing requirement, which involves capital adequacy among other things.
Since there are economies of scale and scope in insurance operations it might be better to have only a few large firms. There is however no magic number regarding the optimal number of firms. Restricting competition provides a scope for higher profits to the companies thereby strengthening their solvency position.
After qualifying, the entrants are continuously subjected to restrictions on reserves and investments, which ensure ongoing solvency.
Additionally, a guarantee fund, created by mandatory contributions from all insurance companies is used to bail out any insurance company, which might be in financial trouble. This guarantee fund does not imply that firms can charge whatever they wish to their consumers. All insurance companies would have an incentive to monitor the activities of their rival peer firms. This is because insolvency of any insurance company would entail a price, which all the insurance companies would have to shoulder. Peer review of accounts can also be institutionalized.
IRA can have several ways for early detection of a potential insolvency. For example, in the USA there is an Insurance Regulatory Information System (IRIS) that regularly computes certain key financial ratios from financial statements of firms. If some of these ratios fall outside given limits the company is asked to take corrective action.
Insolvency can also arise out of reinsurers abandoning insurance companies in the lurch, as witnessed in the USA in 1980's. Reinsurance is a bigger business dominated by large international reinsurers. Such litigation between reinsurer and insurance companies involves cross boundary legalities and can drag on for years. IRA must evolve a set of operational guidelines to deal with reinsurance matters.
ü Overseeing Insurance Intermediaries
Insurance intermediaries such as agents, brokers, consultants and surveyors are also IRA’s jurisdiction. IRA has to evolve guidelines on the entry and functioning of such intermediaries. Licensing of agents and brokers should be required to check against their indulging in activities such as twisting, rebating, fraudulent practices, and misappropriation of funds.
IRA can also consider allowing banks to act as agents (as opposed to underwriters) of insurers in mass base types of products. Given their wide network of branches and their customer base, the banks can access this market for insurance products and also earn commission income.
The incremental cost of providing such insurance products would be much lower. Promoting Growth in the Insurance Industry A society experiences many benefits from the spread of insurance business. Insurance contributes to economic growth by enabling people to undertake risky but productive activity. In the past, growth of trade has been facilitated by the development of insurance services. One only needs to look at the history of insurance to see how evolution of insurance helped trade flows along various trade routes.
Promotion of insurance also provides for long-term funds, which are utilized to fund big infrastructure projects. These projects typically have positive externalities, which benefit society at large. IRA can ensure growth of insurance business with better education and protection to consumers, and by making the insurance business a level playing field. They can also support Indian insurance companies in the international field.
IRA thus has to frame the rules, design procedures for enforcement and also make operational guidelines. All this with virtually no relevant historical data makes the task very difficult. An initial conservative approach (the bloodhound) is justified since there is no prior experience to fall back on, and it would be prudent to err by regulating more’ rather than less. As experience accumulates, the IRA can relax its initial harsh stance and adopt a more accommodating stance (the watchdog). Regulation is always an evolutionary process and experience constantly has to feed into policy making. Care must be taken so that this process does not slow down and cause regulatory lags.
IRA can also consider allowing banks to act as agents (as opposed to underwriters of insurers in mass base types of products. Given there wide network of branches their customer base, the banks can access this market for insurance products and also commission income. The incremental cost of providing such insurance products would be much lower. Such a move of allowing banks to operate insurance business and, versa is consistent with a worldwide trend of greater integration of banking and insurance.
The major insurance markets in South and East Asia are in varying degrees opposite. This range from comparative free markets of Hong Kong and Singapore to increasingly more liberal markets of South Korea and Taiwan to more densely regular insurance sectors of Thailand and Malaysia.
(a) the protection of consumers' interest,
(b) to ensure financial soundness of the insurance industry and
(c) To ensure healthy growth of the insurance market.
These objectives must be achieved with minimum government involvement and cost. IRA's functioning can be financed by levying a small fee on the premium income of the insurers thus putting zero cost on the government and giving itself autonomy.
Protection of Customer Interests
IRA's first brief is to protect consumer interests. This means ensuring proper disclosure, keeping prices affordable but also insisting on some mandatory products, and most importantly making sure that consumers get paid by insurers.
Ensuring proper disclosure is called Disclosure Regulation. Insurance contracts are basically contingency agreements. They can be full of inscrutable jargon and escape clauses. An average consumer is likely to be confused by them.
IRA must require insurers to frame transparent contracts. Consumers should not have to wake up to unpleasant surprises, finding that certain contingencies are not covered.
The IRA also has to ensure that prices of products stay reasonable and certain mandatory products are sold. The job of keeping prices reasonable is relatively easy, since competition among insurers will not allow any one company to charge exorbitant rates.
The danger often is that prices may be too low and might take the insurer dangerously close to bankruptcy. As for mandatory products, those that involve common and well-known risks, certain standardization can be enforced. Furthermore, IRA can insist that for such products the prices also be standardized.
From the consumer's point of view the most important function of IRA is ensuring claim settlement. Quick settlement without unnecessary litigation should be the norm. For example, in motor vehicle insurance, adopting no-fault principle can speed up many settlements. Currently, LIC in India has a claims settlement ratio of 97%, an impressive number by any standards. However, it hides the fact that this settlement is plagued by long delays, which reduce the value of settlement itself.
If consumers have a complaint against an insurer they can go to a body formed by association of insurers. The decision of such a body would be binding on the insurers, but not on the complainant. If complainants are not satisfied, they can go to court. Some countries such as Singapore have such a system in place. This system offers a first and quicker choice of settling out of court. IRA can encourage the insurers to have such a grievance redressal mechanism. This system can serve the function of adjudication, arbitration and conciliation.
The second area of IRA's activity concerns monitoring insurer behavior to ensure fairness. It is especially here that IRA's choice of being a bloodhound or a watchdog would have different implications. We think that an initial tough stance should give way to a more forbearing and prudential approach in regulating insurance firms. When the industry has a few firms there is some chance of collusion. IRA must be alert to collusive tendencies and make sure that prices charged remain reasonable.
However, some cooperation among the insurance companies could be considered desirable. This is especially in lines where claim experience of any one company is not sufficient to make accurate forecasts. Collusion among companies on information sharing and rate setting is considered "fair'.
IRA must have severe penalties in case of fraud or mismanagement. Since insurance business involves managing trust money, in some countries the appointment of senior managers and "key personnel" has to be approved by the insurance regulatory agency.
Ensuring Solvency of Insurers
There are basically four ways of ensuring enough solvencies. First is the policy of a price floor. Second is the restriction on capital and reserves, i.e., on what kind of investments and speculative activities firms can make. Third is putting in place entry barriers to restrict the number of competitors. Fourth is the creation of an industry financed guarantee fund to bail out firms hit by unexpectedly high liabilities. Entry restrictions of the IRA are implemented through a licensing requirement, which involves capital adequacy among other things.
Since there are economies of scale and scope in insurance operations it might be better to have only a few large firms. There is however no magic number regarding the optimal number of firms. Restricting competition provides a scope for higher profits to the companies thereby strengthening their solvency position.
After qualifying, the entrants are continuously subjected to restrictions on reserves and investments, which ensure ongoing solvency.
Additionally, a guarantee fund, created by mandatory contributions from all insurance companies is used to bail out any insurance company, which might be in financial trouble. This guarantee fund does not imply that firms can charge whatever they wish to their consumers. All insurance companies would have an incentive to monitor the activities of their rival peer firms. This is because insolvency of any insurance company would entail a price, which all the insurance companies would have to shoulder. Peer review of accounts can also be institutionalized.
IRA can have several ways for early detection of a potential insolvency. For example, in the USA there is an Insurance Regulatory Information System (IRIS) that regularly computes certain key financial ratios from financial statements of firms. If some of these ratios fall outside given limits the company is asked to take corrective action.
Insolvency can also arise out of reinsurers abandoning insurance companies in the lurch, as witnessed in the USA in 1980's. Reinsurance is a bigger business dominated by large international reinsurers. Such litigation between reinsurer and insurance companies involves cross boundary legalities and can drag on for years. IRA must evolve a set of operational guidelines to deal with reinsurance matters.
ü Overseeing Insurance Intermediaries
Insurance intermediaries such as agents, brokers, consultants and surveyors are also IRA’s jurisdiction. IRA has to evolve guidelines on the entry and functioning of such intermediaries. Licensing of agents and brokers should be required to check against their indulging in activities such as twisting, rebating, fraudulent practices, and misappropriation of funds.
IRA can also consider allowing banks to act as agents (as opposed to underwriters) of insurers in mass base types of products. Given their wide network of branches and their customer base, the banks can access this market for insurance products and also earn commission income.
The incremental cost of providing such insurance products would be much lower. Promoting Growth in the Insurance Industry A society experiences many benefits from the spread of insurance business. Insurance contributes to economic growth by enabling people to undertake risky but productive activity. In the past, growth of trade has been facilitated by the development of insurance services. One only needs to look at the history of insurance to see how evolution of insurance helped trade flows along various trade routes.
Promotion of insurance also provides for long-term funds, which are utilized to fund big infrastructure projects. These projects typically have positive externalities, which benefit society at large. IRA can ensure growth of insurance business with better education and protection to consumers, and by making the insurance business a level playing field. They can also support Indian insurance companies in the international field.
IRA thus has to frame the rules, design procedures for enforcement and also make operational guidelines. All this with virtually no relevant historical data makes the task very difficult. An initial conservative approach (the bloodhound) is justified since there is no prior experience to fall back on, and it would be prudent to err by regulating more’ rather than less. As experience accumulates, the IRA can relax its initial harsh stance and adopt a more accommodating stance (the watchdog). Regulation is always an evolutionary process and experience constantly has to feed into policy making. Care must be taken so that this process does not slow down and cause regulatory lags.
IRA can also consider allowing banks to act as agents (as opposed to underwriters of insurers in mass base types of products. Given there wide network of branches their customer base, the banks can access this market for insurance products and also commission income. The incremental cost of providing such insurance products would be much lower. Such a move of allowing banks to operate insurance business and, versa is consistent with a worldwide trend of greater integration of banking and insurance.
The major insurance markets in South and East Asia are in varying degrees opposite. This range from comparative free markets of Hong Kong and Singapore to increasingly more liberal markets of South Korea and Taiwan to more densely regular insurance sectors of Thailand and Malaysia.