The mutual insurance company in the digital age
*Simon Kadijk, Director Donatus Verzekeringen, the insurer for churches and monuments in The Netherlands
Developments have accelerated tremendously in the last 25 years. Globalisation has emerged. Technology has made a huge contribution. And the development of digitalisation has also led to a different view of banks and insurance companies. The opportunities have greatly increased, but so also the threats. What does this mean for mutual insurance companies? Insurance companies and banks have a public function. For this reason, supervision by government is a legal requirement. However legislation is always one step behind what is actually happening. And legislation is not always the best way to influence behaviour. Let me illustrate this with an example.
Behaviour and rules
Research has been done in Israel into behavior and penalties relating to day care for children. Day care centres had a problem with some parents who picked up their children too late at the end of the day. So they measured the effect of penalties. If parents picked up their children too late, they were given a warning on the first occasion. If it happened a second time or more frequently, the parent had to pay a fine of a few shekels. The amount of the fine depended on how much too late the child was picked up and on the number of times this happened. After a while, the effect was measured. And what did they find? On average the children were picked up from the day care centre too late more often that before the fines were introduced. The researchers wondered why that way. So they interviewed a number of play leaders. One of them gave the example of a man who came to pick up his child more than an hour too late. When they spoke to him about that, his answer was: what are you talking about? I’m paying for it, aren’t I? In other words: the system of fines means people are no longer considering the morality of their behaviour; it’s just a question of money. They’ve paid for their moral misbehaviour. It’s simply economics and morality doesn’t come into it any more.
This example also applies to some extent in the insurance world. In my opinion, the mutual insurance companies have a head start here. More than with the commercial insurers, it’s the interests of the customers – the members – that are central. Making a profit is less important. The more the members exercise supervision of the policy of the insurer, the more that will have a positive effect on the behaviour of the insurer. It does mean the insurance company has to involve its members in its policy, and has to allow them to influence that policy – both formally and informally. Formally, that can be done through the General Meeting, or by installing a members’ council with the right authorisation. And informally, the influence of the members can be organised through theme days, surveys, panels on forum days etc.
Information and antiselection
Digitalising has opened up tremendous opportunities to analyse all kinds of data from insurance companies. Claims are now far more transparent than before. Which groups of insured people make more claims than average? Breakdowns of customers by age, income, family composition, occupation or region. That give insurance companies a lot of opportunities to make better estimates of risk, and as a result to adjust their premiums and conditions accordingly. You might think that would give insurance companies a commercial advantage, but that isn’t the case. This is because the opposite also applies! Customers can use Google and all kinds of comparison sites to check which insurance company offers the best price-quality ratio for them. Internet has increased the choices available to customers.
That may look attractive for both sides ¬– insurance companies and their customers – but there’s also another side to it. We call that ‘antiselection’. An example could help to make that clear. Just imagine three insurance companies: insurer A bases its prices for car insurance on the weight of the car; insurer B uses the catalogue price of the car, and insurer C uses the brand of the car. All these companies have had all the thousands of items of data calculated by actuaries. And they then work out their premiums on the basis of all that data. But their customers do exactly the same thing. For example, a customer might have a Toyota car with a catalogue price of €20,000 and a weight of 1000 kg. He is then faced with 3 different premiums from the 3 different insurers. And – assuming the terms and conditions of the policies are more or less the same – he will choose the cheapest insurance policy.
What that means is that the calculations of the actuaries are no longer right. Because insurance company A doesn’t build an evenly distributed portfolio, but only gets customers that the other insurers – based on different statistic – consider to have a higher risk. So insurer A doesn’t have an average risk profile, but one that is higher than average. We call this ‘antiselection’. The customer knows his own risk profile better than anyone else, and in the digital world he is best able to take advantage of that.
Supervision and rules
In reaction to consumer behaviour, banks and insurance companies have quite frequently launched complex products that have been rather difficult to compare. The financial crisis was caused partly by the fact that too few people understood the risks of these products. In Europe, supervision of insurance companies has greatly increased in recent years. This can be seen in the regulations relating to Solvency II. Insurance companies have to clearly identify the risks they run; they have to calculate those risks and describe scenarios for how they expect their solvency to develop if specific risks become reality, and they have to report on all these things to the government, to their insured customers and to the public.
The most important consideration in all this is the solvency. Which factors influence the current solvency of an insurance company, and how is that likely to change in the coming years? And to what extent will the insurance company be able to manage and maintain its solvency? The positive side of these developments is that insurance policies are easier to compare relative to each other. A second effect is that people are much more aware of risks and of how they are related to each other. Not only insurance risks, but also foreign-exchange risks, investment risks and the risks associated with image and reputation.
The disadvantage of this new supervision is that insurance companies have to spend a lot of time and effort in gaining and sharing that understanding. It also costs a lot of money to do that. The Dutch Minister of Finance, Mr.JeroenDijsselbloem, announced in May 2014 that he thinks the costs to the government of monitoring and supervision this whole process should be paid by the industry itself. It wouldn’t be right to allow the taxpayer to bear these costs. In other words, the costs of government supervision are charged to the insurance companies. And they in turn will pass those costs on to their customers through their insurance premiums. The customers, of course, are the same people who pay the taxes. And that will increase the cost of taking on risks. But on the other hand this gives insurance companies and especially mutual insurance companies, the opportunities to improve the way they accept risks from their members. The better you know the risks, the better you are able to avoid or limit those risks by taking preventive measures and the better you are able to make your premiums and conditions competitive.
A separate problem is the smaller mutual insurance companies. The question there is whether the government regulation and requirements are in proportion. It sometimes looks as though supervision has become a goal in itself, instead of a means to an end.
Effects on the mutual insurance companies
Developments in the last 25 years have had a huge effect on the mutual insurance companies and indeed also on their members. For them too, the world has become a lot more transparent. Within moments, we now know all about disasters in other parts of the world, whether it’s a war, an earthquake, a flood or an epidemic. It’s much easier for us to compare ourselves with others. What’s my life expectation? Do I have an average income for my education and the region where I live? We travel a lot more, and we’re much more willing to live and work in other parts of the world, either temporarily or permanently.
One of the effects is individualisation. For many people their social group has become less important and they can change more easily between one social group and another. That affects solidarity. On the one hand there is more emphasis on the individual and individual decisions, but on the other hand we see that people are becoming more strongly bonded with their own group. Yugoslavia and the Soviet Union disintegrated into smaller republics. Minorities in Spain and Ukraine want separation. People’s own ethnic groups and/or languages and/or religion are important.
Mutual insurance companies need to realise that you can’t take anything for granted any more. You have to ask yourself once again which risks you want to accept, and for which target groups.
Opportunities for micro-insurers
On the one hand, globalisation and digitalisation are threats for insurance companies. Small mistakes now have a much bigger impact. Competition is more intense and supervision is stricter. But on the other hand this also opens up opportunities. Most of all, I think there are opportunities for micro insurers. They have access to huge resources of information. And they can draw on a library of data, best practices, statistics and research reports. This gives them unprecedented opportunities to link the new world of globalisation and digitalisation to the old world in which people live more in a fixed social group or context.
You could even say that micro insurers would never have arisen without globalisation and digitalisation. The challenge is to adopt the positive aspects of the ‘macro’ insurance world, and to avoid the negative aspects. If these micro insurers also have the characteristics of mutual insurance companies, then that could even be more widely adopted. In brief, there are a lot of opportunities and challenges and we’ll talk about those another time…