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Manuel-Aguilera-2-933x526

The regional insurance markets have shown positive, balanced growth in recent years in the Latin American region”

Shortly before MAPFRE’s LATAM South Global Risks Seminar in Bogotá, a forum that brings together the region’s experts in significant risk, Manuel Aguilera, the General Manager of MAPFRE Economic Research, analyzes the situation of the Latin American insurance market and the key factors affecting its growth.

  • How would you summarize the progress of the insurance market in LATAM and what are the principal factors that have facilitated its growth in recent years?

In 2017, the total premium volume of the Latin American insurance market was 159.2 billion dollars; 54.6% of this total was non-life insurance and the remaining 45.4% was life insurance. The region’s insurance markets have shown positive, balanced growth in recent years, as demonstrated by the evolution of several indicators, such as penetration (premiums/GDP), density (premiums per capita), and the insurance depth (the ratio between life insurance premiums and total premiums) in the decade from 2007-2017.

Regarding insurance penetration, the percentage of premiums with respect to the GDP has increased 0.6 percentage points over said period. This indicates that the insurance industry is becoming progressively more important in the operation of the Latin American economy. In addition, the share of the life and non-life segments in this indicator have been converging over the past years, with a larger share of life insurance, which occurs when insurance markets mature. As an aggregate, total penetration in the region increased by 27.8% over the past decade, with accumulated growth of 58.7% in life insurance and 10.1% in non-life insurance in this period.

Additionally, density has been on the rise over the 2007-2017 period, with an increase of 65.1% to reach 9.50. The majority of the expense per person in insurance continued to be concentrated in the non-life segment (1.70). However, the accumulated growth of density in life insurance was greater, increasing from .50 in 2007 to 7.80 in 2017.

Lastly, the insurance depth index (the ratio between life insurance premiums and total premiums), an indicator that empirically shows the degree of maturity in insurance markets, has shown constant growth in recent years, increasing by 8.8 percentage points regionally

“The insurance depth index, an indicator that empirically shows the degree of maturity in insurance markets, has shown constant growth in recent years”

The development of the Latin American insurance markets is strongly linked to two factors. First, the low level of insurance penetration in the region’s economies means that the demand for insurance is more elastic to economic growth than in other more developed economies. Therefore, moderate increases in GDP usually result in greater growth of insurance premiums. This is particularly relevant in life insurance, where the gap in insurance protection is greater than non-life insurance when compared to more developed markets. Second, economic growth itself that has, except in recessionary periods of economic crisis, driven consumption, savings, and demand for credit in the region, which positively influences the insurance market. Similarly, the introduction of tax incentives to save through insurance products, mandatory insurance, and public-private collaboration programs with participation by the insurance industry are contributing to greater penetration of insurance in some of the region’s markets.

  • What role does the adverse behavior of regional currencies’ exchange rates play in the insurance market?

The exchange rate behavior is a key factor in the business of insurance companies. Unexpected, negative changes in exchange rates have a direct effect on technical profitability, as the cost of losses increases. This is particularly relevant in emerging markets such as in Latin America. In this sense, it should be taken into account that the materials needed to perform repairs on insured property are oftentimes imported and currency depreciation results in a general increase in the price of goods and services, particularly in net importing economies. Exchange rates also affect the cost of reinsurance, where the contracts are negotiated in stronger currencies.

In addition to these direct effects, there is also the indirect impact represented by capital outflow to other countries and the reaction by the country’s monetary authorities to protect their currency with increases in interest rates. These outflows and tightening of monetary policies have an impact on domestic demand, slowing the economy and, consequently, the demand for insurance products. They can also affect the value of assets and value of insurance companies’ surplus if they have not adequately managed exchange rate risk, resulting in a gap between the currency of their commitments due to the obligations undertaken in insurance contracts and the currency of the assets supporting these commitments.

Last but not least, the adverse behavior of exchange rates has an impact on multinational groups, as there is a reduction of the business volume and returns when the parent company’s financial statements are consolidated, in addition to the impact on the value of shareholders’ equity due to the investments located in these countries.

  • In your opinion, what would be the necessary components to increase the insurance penetration index in the region’s large corporations?

The measures needed to increase insurance penetration in these economies must impact factors associated with both demand and the supply of insurance products.

In terms of demand, there are several essential components. First, within the scope of structural factors, is the dynamics of economic growth and the structure of income distribution. In general terms, a more dynamic economy, and its consequential increase of personal disposable income, raises the demand for insurance, especially when penetration levels are relatively low. Likewise, the structure of income distribution is a factor that affects the way in which personal disposable income raises the capacity for consumption in growing economies.

Second, levels of financial education have an impact. A society with greater levels of financial education will show a greater tendency toward demand for financial products, including insurance products.

A third factor involves the implementation of measures to encourage the insurance industry to penetrate new areas of economic and social activity, such as pension systems or the provision of health services, complementary to public systems.

Fourth, the implementation of mandatory insurance as a mechanism to protect different aspects of public interest which, simultaneously, increases the participation of insurance in a country’s social and economic activities.

A fifth factor that affects the demand for insurance involves the application of tax incentives as a way to stimulate the use of insurance, both to promote better risk management and to encourage increases in medium- and long-term savings in the economy.

Finally, financial inclusion policies can increase insurance demand, insofar as they allow for a greater proportion of the population (especially the lower-income group) to access protection and risk compensation mechanisms that allow them to increase their well-being.

There are five significant factors on the supply side. First, insurance activities (as well as the financial system as a whole) are subject to a prudential regulatory framework so as to preserve their solvency, which is a key aspect to explain the operation and performance of insurance entities and, to that extent, their capacity to generate the supply of insurance services. The implementation of risk-based regulatory systems can promote pro-competition insurance markets, provided that an adequate infrastructure is developed for implementation of these systems.

A second factor has to do with the possibilities for new participants to access the market, as well as additional capital for the expansion of insurance companies. This aspect impacts the possibility to expand the insurance supply in the medium- and long-term and the level of competition in these markets

“Investment in infrastructure and in other large industries raises the potential growth of the region’s economies and the quality of life of their societies. It therefore represents a key aspect when designing public policies. The insurance industry, in its role as an institutional investor, can play an important role in this sense.”

A third factor involves the channels for distributing insurance. Due to the characteristics of this type of product, the expansion of insurance coverage is strongly influenced by the possibility of accessing new channels, beyond the traditional brokerage mechanisms. Sufficient balance between channels can also help to increase insurance penetration.

Fourthly, there is the increase in cost efficiency (administrative and acquisition) as a precondition for not only increasing the supply of these services, but also for making these services available to consumers at competitive and affordable prices.

Lastly, in a qualitative dimension, a fifth factor on the supply side has to do with the facilities that the market, in general, and the regulatory framework, specifically, offer for innovation, i.e., the possibility for the entities to design and bring to market new products that best fit the needs of the insured.

  • What impact do natural disasters have on a region that is so sensitive to price-based competitiveness?  How do you think it will affect the evolution of the region’s insurance market?  

In 2017, there were 19 natural disasters and human-caused incidents in Latin America and the Caribbean. In September 2017, hurricane Irma — which caused the greatest losses ever seen in the Caribbean — made landfall as a category 5 storm. Two weeks later, hurricane Maria made landfall in Dominica, slamming into Puerto Rico and other Caribbean islands.

“Natural disasters have an effect on combined ratios and the profitability of reinsurance companies and will also impact insurance rates and renewals of reinsurance contracts, in a market which, in the absence of major disasters, had become very competitive in terms of prices.”

It is estimated that these phenomena resulted in around 1,375 victims and caused economic damage in the region estimated at 31.6 billion dollars, of which 5.1 billion were insured. There was, therefore, a significant part of the damage that was uninsured. This highlights the large gap in insurance protection in the region in terms of coverage for this type of natural disaster. This is a weak point that, at the same time, is a significant opportunity for the development of the insurance industry in this area.

Other disasters that had an important impact on Latin America in 2017 were the earthquakes in Mexico. On September 7th and 19th, two earthquakes were recorded at magnitudes of 8.2 and 7.1 on the Richter scale in Chiapas and Puebla, respectively, which resulted in 298 deaths. The economic losses, according to estimates by AIR Worldwide, were between 1.3 and 3.7 billion dollars. The Mexican Association of Insurance Institutions reported 42,795 compensation claims for the September 2017 earthquakes, with an estimated cost of 25.1 billion pesos (1.3 billion dollars).

Natural disasters have an effect on combined ratios and the profitability of reinsurance companies and will also impact insurance rates and renewals of reinsurance contracts, in a market which, in the absence of major disasters, had become very competitive in terms of prices. At the moment, 2018 seems to be more benign, but in 2017 the insured damages resulting from natural disasters were 8% of the globally underwritten direct premiums of casualty insurance. In addition, a combined ratio for global reinsurance is estimated at around 115% (92% in 2016). In light of this situation, there is expected to be pressure in the sector to obtain positive technical returns in 2018.

The presence of these types of natural hazard risks in Latin America, combined with macroeconomic factors that will modify the behavior of global capital outflows, suggest that there is a considerable possibility of a reaction to tighten the reinsurance market that could affect catastrophic coverage in the region.

  • Large investments in infrastructure as well as other large industries are a way of incentivizing economic growth and strengthening social development in the region. How do you believe that the LATAM region is facing this challenge?

Indeed, investment in infrastructure and in other large industries raises the potential growth of the region’s economies and the quality of life of their societies. It therefore represents a key aspect when designing public policies. The insurance industry, in its role as an institutional investor, can play an important role in this sense.

Due to the characteristics of its business model, the insurance industry channels significant financial amounts to the economy through investment in the resources that support their technical provisions, which is particularly important in the case of the life business segment. To that end, regulations that adequately recognize the nature of the insurance business and the development of the insurance industry will allow the insurance industry to increasingly contribute to the medium and long-term financing of the economy and, consequently, to the formation of capital and development in Latin America.

“Insurance regulations in the region have begun to gradually move to Solvency II schemes, in which regulations are based on risk management and measurement. This could allow for investment systems that, in addition to meeting the industry’s operational needs, assist their role as a significant institutional investor.”

In this sense, there is still a long way to go. Nonetheless, insurance regulations in the region have begun to gradually move to Solvency II schemes, in which regulations are based on risk management and measurement. This could allow for investment systems that, in addition to meeting the industry’s operational needs, assist their role as a significant institutional investor.

  • In the coming days, MAPFRE will hold the LATAM South Global Risks Seminar in Bogotá, where experts in significant risk management,¾ clients, reinsurers, and insurers¾ will be brought together to discuss the industry’s situation and the needs, trends, and challenges of the future. What value do you think these types of insurance industry forums and specialist meetings contribute to the region?

The insurance industry operates in a field that is in constant change, as it is closely linked to the economy and society. To that end, holding these types of specialist meetings is of the utmost importance. These forums not only offer the opportunity to stay up to date on the latest technical developments in insurance and reinsurance, but they also can be used to keep an eye on what is happening in the region in terms of risks and their proper management, as well as the performance of insurance and reinsurance markets.

Manuel Aguilera

Manuel Aguilera is an economist of renowned international prestige, with a degree from the National Institute of Public Administration in Mexico. He was the Chairman of the National Insurance and Bond Commission of Mexico and the Insurance and Private Pensions Committee of the Organization for Economic Co-Operation and Development (OECD), as well as Chairman of the International Association of Insurance Supervisors (IAIS). Since October 2015, he has held the position of General Manager of MAPFRE Economic Research.

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