INSURERS GLOBALLY WALK A TIGHTROPE AS PANDEMIC CLAIMS BREAK RECORDS

Global insurance experts predict that the COVID-19 pandemic will be the second most expensive event ever for insurers, who are walking a tightrope between fairness to customers and financial stability. Erring on one side or the other could have devastating consequences, and so could the failure to look ahead and prepare for the future.

To understand our present and to predict our future, we need to look at our past.

Around 3000-4000 BC, the concept of insurance emerged in the form of bottomry contracts for the merchants of Babylon. In terms of these contracts, a loan was granted to a merchant who was not required to pay it back if his shipment was lost at sea. However, if the voyage was successful, the merchant was required to pay the loan together with the interest on the loan.

As time went by and trade developed, so did the risks associated with trading and emigrating to the New World.  This is when the practice of underwriting risks emerged in the London coffeehouses.  The most famous of these was owned by Edward Lloyd (later Lloyd's of London).

The coffeehouse underwriters were initially only concerned with insuring marine risks but in September 1666, a year after the bubonic plague killed a sixth of the London population, the Great Fire of London destroyed thousands of buildings.  Centuries later, in 2016, the Association of British Insurers calculated that the loss would have been in the region of USD 70 billion. Underwriting then began to extend to fire insurance.

Ever since, the insurance market has evolved with the risks of the time.

Consider the following:

• Nuclear risks were excluded from around the 1950s when insurers recognised that possible losses from the use of atoms in power sources were undeterminable and therefore the market was not prepared to insure such risks. However, nuclear pools were created globally to provide risk cover across multiple insurers;
• State-owned South African insurer SASRIA was born from the political risk due to apartheid, which local insurers were not willing to insure;
• In the 1980s, the asbestos class actions gave rise to this exclusion, as well as the HIV virus;
• After the 9/11 attacks in September 2001, acts of war and terrorism were extended to all policies. In the US the following year, the Terrorism Risk Insurance Act (TRIA) was enacted so that the federal government would in the future share losses related to acts of war with the insurance industry.

Then, between 2003 and 2016, we saw the emergence of infectious risks such as SARS, Swine Flu, Ebola and Zika. Now, in 2020, COVID-19 has caused over 300 000 deaths globally and massive economic and financial losses.

Short-term insurance and COVID-19

The various communication notices published by the Financial Sector Conduct Authority or jointly with the Prudential Standard are clear on insurers’ responsibilities during the pandemic:

• If a policy excludes COVID-19 loss (usually by way of an infectious disease exclusion), the exclusion should be clearly communicated to the policyholder;
• Standard business interruptions were never expected to cover COVID-19-related risks, unless physical damage can be shown by the policyholder; and
• Insurers should, in interaction with policyholders, apply the principles of Treating Customers Fairly.

As clear as the regulator is, the reality is that litigation around coverage of insurance policies seems inevitable. Already, insurers are endorsing policies to exclude infectious diseases and consequential loss. The insurance market is therefore always ‘post reactive’. This can be tracked in history by the ‘standard exclusions’ found in insurance policy wordings since the 1950s.

Unlike all the other excluded risks, COVID-19 has not been a localised risk where only one country’s insurers and reinsurers are affected, and the balance of the reinsurance market is able to absorb the risk. Instead, if insurers and reinsurers are required to pay all claims, there would be a strong likelihood of the insurance industry collapsing at a global level.

Second most expensive event for insurers

Lloyd’s estimates that COVID- 19 will be the second most expensive event ever for insurers as they face USD 107 billion in claims. This is overshadowed only by Hurricanes Katrina, Rita and Wilma in North America in 2005 (circa losses of USD 111.6 billion). Lloyd’s also says that considering insurers’ losses on the investments they hold to make sure they can pay out on claims; the losses will reach a record USD 203 billion.

The International Association of International Supervisor has stated that customers need to be treated fairly at this time but not to the extent that the insurance industry is subject to financial instability. Economies are reliant on insurance. If certain risks cannot be insured because there is no insurance industry, business and economic recovery would be virtually impossible.

Here are some of the ways that insurance sustains economies:

• With most insurable risks, insurers are the financial ‘first responders. A claims payment under a policy can quickly and reliably restore the financial position of a policyholder or beneficiaries.
• Insurers develop and promote knowledge and activities that save lives and protect and preserve property. They also provide social benefits in that claims payments are used to rebuild after catastrophes and losses.
• Insurers are capital protectors. Due to the onerous requirements surrounding solvency, insurers are not as susceptible to short-term liquidity crises. Reinsurers further stabilise insurer exposure to loss by spreading or diversifying transferred risk.
• Insurers protect economic interdependence among businesses by insuring supply chains.
• For a relatively small premium, insurance reduces the need for persons to have to set aside large amounts of money to cover unexpected losses.
• Insurers are infrastructure enablers in that lending arrangements and projects are reliant on insurance cover.

However, the latest global crisis has highlighted that perhaps insurance coverage needs to be forward-looking; perhaps there is an opportunity for a ‘forward-looking actuary’ to research and determine potential exposure of ‘futuristic’ risks.

Until insurers are willing to offer pandemic cover, we may see pooling arrangements to provide coverage for pandemic risk. Alternatively, some governments may enact legislation such as the US’s Terrorism Risk Insurance Act that will result in government being the insurer of last resort. 

Until then, we continue to live in a world with many unimaginable risks – although history shows that there is nothing new under the sun when it comes to potential perils.