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Economic Trends, Challenges, and Opportunities for Insurers

Economic Trends, Challenges, and Opportunities for Insurers. NU’s Annual Executive Conferences New York, NY November 18, 2010 Download at: www.iii.org/presentations. Steven N. Weisbart, Ph.D., CLU, Senior Vice President & Chief Economist

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Economic Trends, Challenges, and Opportunities for Insurers

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  1. Economic Trends, Challenges, and Opportunities for Insurers NU’s Annual Executive Conferences New York, NY November 18, 2010 Download at: www.iii.org/presentations Steven N. Weisbart, Ph.D., CLU, Senior Vice President & Chief Economist Insurance Information Institute  110 William Street  New York, NY 10038 Office: 212.346.5540  Cell: 917.494.5945  stevenw@iii.org  www.iii.org

  2. Economic (and Related) TrendsThat Will Affect the Industryin the Next Few Years 2

  3. 3 Economic Trends That Will Affectthe Industry in the Next Few Years Consumers’ Diminished Buying Power, especially for Financial Products Consumers’ (and Regulators’) Preferences for Managing TMI (Too Much Information) The Growth/Spread of Financial Services Regulation and the Cost of Compliance 3 12/01/09 - 9pm eSlide – P6466 – The Financial Crisis and the Future of the P/C

  4. Economic Trends That Will Affect theIndustry in the Next Few Years Consumers’ Diminished Buying Power, especially for Financial Products Economic Environment: Slow Income Growth High Unemployment Continued Reducing Financial Obligations Catching Up on Deferred Purchases of Durable Goods (especially cars, eventually houses) 4 12/01/09 - 9pm eSlide – P6466 – The Financial Crisis and the Future of the P/C

  5. Forecast: A Weak RecoveryReal GDP Growth, Yearly, 1970-2014F Real GDP Growth (%) The “consensus” forecast is for several years of real yearly GDP growth under 3%--weaker than after most recent recessions Estimates/Forecasts from Blue Chip Economic Indicators, 10/2010 issue. Sources: (GDP) U.S. Department of Commerce at http://www.bea.gov/national/xls/gdpchg.xls. 5 12/01/09 - 9pm eSlide – P6466 – The Financial Crisis and the Future of the P/C

  6. Unemployment and UnderemploymentRate “Normality”: Years to Go January 2000 through October 2010, Seasonally Adjusted (%) U-6 hit 17.5% in Oct 2009 but is now 17.0% Recession began in December 2007 Gap between U-3 and U-6 is normally 4 percentage points but is now 7.4 points Recession ended in November 2001 Unemployment kept rising slightly for 19 months more October 2010 unemployment rate (U-3) was 9.6%. Peak rate in the last 30 years: 10.8% in Nov - Dec 1982 Recession ended in June 2009 Source: U.S. Bureau of Labor Statistics; Insurance Information Institute. 6 12/01/09 - 9pm eSlide – P6466 – The Financial Crisis and the Future of the P/C

  7. The Number of Long-termUnemployed Is Still High* Number of People(Thousands) Highest number on record (since 1948) Mean Duration Nov 2008 = 18.9 Weeks Oct 2010 = 33.9 Weeks *Through October 2010; Seasonally adjusted Sources: Bureau of Labor Statistics; Insurance Information Institute. 7 12/01/09 - 9pm eSlide – P6466 – The Financial Crisis and the Future of the P/C

  8. Unemployment and UnderemploymentRate “Normality”: Years to Go Recession “officially” ends eSlide – P6466 – The Financial Crisis and the Future of the P/C

  9. Households Are Sharply ReducingTheir Financial Obligations Financial Obligations Ratio Debt Service Ratio Debt Service Ratio: mortgage and consumer debt as % of personal disposable income. Lowest point since 1983:Q3 Financial Obligations Ratio: mortgage and consumer debt, auto lease, residence rent, HO insurance, and property tax payments as % of personal disposable income. The Financial Obligations Ratio dropped almost 2 percentage points from 2007:Q3 to 2010:Q2, but it might be tough to shrink further if interest rates and property taxes rise. Source: Federal Reserve Board, at http://www.federalreserve.gov/releases/housedebt (last frb update: Sept 27, 2010)

  10. Registered Passenger Carsand Other 2-axle, 4-tire Vehicles Millions Recession years in gold It is likely that the number of vehicles dropped during and following the “Great Recession.” Recovery depends on employment and lending trends. Sources: http://www.bts.gov/publications/national_transportation_statistics/html/table_01_11.htmlInsurance Information Institute eSlide – P6466 – The Financial Crisis and the Future of the P/C

  11. The Car-Buying Slump Will Create Pressure to Replace Aging Vehicles Millions of Units Sold In a “normal” 2-year span, new cars would replace about 25 million old cars, but in 2009-10 only about 17 million old cars will be replaced If the forecasts hold, by year-end 2011, there will be roughly 12 million more older vehicles on the road than if there were no slump. Buying new vehicles will compete with paying for insurance, funding retirement. Sources: U.S. Department of Commerce; Blue Chip Economic Indicators (10/10) forecasts; Insurance Information Institute. eSlide – P6466 – The Financial Crisis and the Future of the P/C

  12. Economic Trends That Will Affectthe Industry in the Next Few Years Consumers’ Diminished Buying Power, especially for Financial Products Taxes and Health-related Costs Will Take Higher a Percentage of Income Impact of Lost Home Equity as an “ATM” Eventual Rises in Inflation and Interest Rates 12 12/01/09 - 9pm eSlide – P6466 – The Financial Crisis and the Future of the P/C

  13. Real Consumer Spending* on Health Trillions of Dollars These data are adjusted for general inflation but not “medical inflation” In 1995, Health Spending was 19.6% of Personal Consumption Expenditures. By 2009 this grew to 20.7% Health spending has grown as a percent of Personal Consumption Expenditures, crowding out spending on other items,and this trend is likely to continue, at least in the next few years. *Chained 2005 dollars; includes net health insurance outlaysSources: U.S. Department of Commerce, Bureau of Economic Analysis; Insurance Information Institute. eSlide – P6466 – The Financial Crisis and the Future of the P/C

  14. Change in Nominal Disposable HouseholdIncome (Household Income Net of Taxes) Percent Change from Prior Year With high unemployment likely for years to come,disposable household income is unlikely to grow much. Federal income tax cuts, though helpful, may be offset by state tax increases. Sources: U.S. Department of Commerce, Bureau of Economic Analysis; Insurance Information Institute. eSlide – P6466 – The Financial Crisis and the Future of the P/C

  15. Homeowners Aren’t Using TheirHome Equity as an ATM Any More Consumers’ Diminished Buying Power, especially for Financial Products Taxes and Health-related Costs Will Take Higher a Percentage of Income Impact of Lost Home Equity as an “ATM” Eventual Rises in Inflation and Interest Rates Roughly 28% of homes with mortgages now have negative equity or under 5% positive equity 16 12/01/09 - 9pm eSlide – P6466 – The Financial Crisis and the Future of the P/C

  16. Economic Trends That Will Affect theIndustry in the Next Few Years Regulators’ Recent Approaches to combat “TMI” (too much information) New SEC rules: 401(k) expense charges New mortgage rules to come from the Consumer Financial Protection Bureau? Fair Value in Insurance Medical loss ratios in small group and individual health insurance contracts 17 12/01/09 - 9pm eSlide – P6466 – The Financial Crisis and the Future of the P/C

  17. Economic Trends That Will Affect the Industry in the Next Few Years Consumers’ are struggling to deal with “TMI” (too much information). Insurers can help with Information Presentation/Design: Visibility, Simplicity Better (simpler, more logical) bases for selecting coverage types/amounts For example, how do you choose your auto liability limits? What your umbrella liability policy requires? Household Income, Net Worth, or Recent Liability Judgments 18 12/01/09 - 9pm eSlide – P6466 – The Financial Crisis and the Future of the P/C

  18. Some Suggestions Improving Policyholder Information Processing A Tip from Behavioral Economics Some health plans waive or lower co-pays if patients take medications as prescribed This results in higher claims for drugs but lower overall costs as patients recover more quickly and stay well longer Should homeowners insurers waive “hurricane deductibles” if a home is built/retrofitted to IBHS standards? Should disability insurers retroactively waive some of the waiting period if claimants take their medicine as prescribed? 19 12/01/09 - 9pm eSlide – P6466 – The Financial Crisis and the Future of the P/C

  19. Some Suggestions Improving Policyholder Information Processing Product Bundles: A tip from Car Companies A standard P-C Catastrophe “rider” (a bundle that includes flood, earthquake, terrorism, etc.) A standard Life/Disability/Annuity combination policy that provides “income insurance” Needed: A “Rule of Thumb” What percent of a Household’s income should be devoted to all insurance/financial protection products? 20 12/01/09 - 9pm eSlide – P6466 – The Financial Crisis and the Future of the P/C

  20. Financial Services Reform Systemic Risk Oversight,Federal Insurance Office (FIO):Compliance Costs to Soar? 21

  21. Systemic Risk: Oversight • Financial Stability Oversight Council • Mission: to oversee systemic risk of large financial holding companies[a.k.a. TOO BIG TO FAIL] • FSOC could determine that insurers present systemic risk to the financial system, leading to supervision by the Federal Reserve. • Supervision would subject such insurers to tougher prudential standards involving capital levels and other requirements Source: Insurance Information Institute (I.I.I.) updates/research; The Financial Services Roundtable;Adapted from summary by Dewey & LeBoeuf LLP

  22. Systemic Risk: Resolution Authority • FDIC Resolution Authority: Orderly Liquidation • The FDIC would have an “Orderly Liquidation Authority” mechanism to resolve distress at financial institutions. • Insurance holding companies and any non-insurance subsidiaries of insurers may be subject to this authority. • Insurers are generally exempt from this liquidation authority, but the FDIC would have “backup authority” to place an insurer into orderly liquidation under state law if the state regulator has not done so within 60 days of a systemic risk determination. • Liquidation Fund Assessments • The liquidation fund would be funded by assessments on large financial companies, potentially including insurers. Source: Insurance Information Institute (I.I.I.) updates/research; The Financial Services Roundtable; Adapted from summary by Dewey & LeBoeuf LLP

  23. Federal Insurance Office (FIO):What Will It Do? • An office within US Treasury headed by a Director appointed by Treasury Secretary; charged to: • Study the insurance industry (all lines except health insurance, long-term care insurance and federal crop insurance) to gain expertise. • Identify regulatory gaps that could contribute to a systemic crisis in the insurance industry or the U.S. financial system. • Gather information from the insurance industry to analyze it and issue reports. May require insurers to submit data; FIO director can issue subpoenas to obtain such info (but small insurers are exempt). • Monitor the extent to which under-served communities have access to affordable insurance products. • Oversee the federal Terrorism Risk Insurance Program. Source: Insurance Information Institute (I.I.I.) updates/research; The Financial Services Roundtable; Adapted from summary by Dewey & LeBoeuf LLP

  24. Federal Insurance Office (FIO):What Will It Do? (Cont.) • FIO will also: • Recommend to the FSOC on whether an insurer (or reinsurer) poses a systemic risk and should become supervised by the Federal Reserve. • Report yearly on the insurance industry to Congress and the President. • Other reports within 18 months: • On the modernization of insurance regulation in the U.S. • On the U.S. and global reinsurance market • Deal with international insurance matters. • Pre-empt state law when the FIO determines that state law • is inconsistent with a negotiated international agreement and • treats a non-U.S. insurer less favorably than a U.S. insurer. Source: Insurance Information Institute (I.I.I.) updates/research; The Financial Services Roundtable; Adapted from summary by Dewey & LeBoeuf LLP

  25. What Else in the Financial Services Reform Law Might Affect Insurance? • Bureau of Consumer Financial Protection • A new entity within the Federal Reserve with authority to regulate financial products offered to consumers. • The law specifically exempts insurance products from this bureau’s authority. • But after the Bureau is functioning and has promulgated consumer protection rules for other financial products,… Source: Insurance Information Institute (I.I.I.) updates/research; The Financial Services Roundtable; Adapted from summary by Dewey & LeBoeuf LLP

  26. New Rulemakings Under The Dodd Frank Wall Street Reform and Consumer Protection Act A total of at least 243 new rulemakings are expected under the Dodd-Frank financial reform by Federal Agency* * Total eliminates double counting for joint rule-makings and this estimate only includes explicit rule-makings in the bill, and thus likely represents a significant underestimate. Source: Wall Street Journal, July 14, 2010; Davis Polk & Wardwell.

  27. Solvency II Move Toward More Stringent Regulatory Requirements for Insurers Originating in Europe 28

  28. Solvency II: The EU’s Effort to Modernize Insurance Solvency Regulation • Solvency II is a comprehensive framework for defining capital levels and relating them to procedures to identify, measure and manage risk levels • Solvency I was mainly an update of existing EU solvency regimes, which had been in existence since the 1970s. • Since deficiencies had been identified over the years, individual EU members adopted various fixes resulting in a patchwork of regulatory requirements inconsistent with the goal of harmonized insurance regulation across the EU. Solvency II addresses this goal of harmonization. • Scheduled to Take Effect in the EU on Dec. 31, 2012 Source: European Commission; Wikipedia: http:en.wikipedia.org/wiki/Solvency_II; Insurance Information Institute eSlide – P6466 – The Financial Crisis and the Future of the P/C

  29. Solvency II: The EU’s Effort to Modernize Insurance Solvency Regulation • Consists of 3 Main “Pillars” • Pillar 1: Quantitative Requirements (e.g., amount of required capital) • Establishes qualitative and quantitative requirements for calculation of technical provisions and Solvency Requirement Ratio (SCR) using either a standard regulator-provided formula or an internal model developed by the (re)insurer itself • Pillar 2: Governance Requirements • Pillar 3: Disclosure and Transparency Requirements Source: European Commission; Wikipedia: http:en.wikipedia.org/wiki/Solvency_II; Insurance Information Institute eSlide – P6466 – The Financial Crisis and the Future of the P/C

  30. Premiums Written per $1 of Surplus*,2000-2009 Lowest (Strongest) Ratios in History The lower the ratio, the more capital and surplus the industry hasfor the risk assumed (as proxied by Net Written Premiums). *for L-H companies, surplus includes AVR and IMRSources: ISO, A.M .Best, I.I.I. 31 12/01/09 - 9pm eSlide – P6466 – The Financial Crisis and the Future of the P/C

  31. A Challenge Convincing the General PublicThat InsurersAre Stronger and Safer Than Banks 32

  32. P/C Insurer Impairments, 1969–2010* 8 of the 18 are Floridacarriers The Number of Impairments Varies Significantly Over the P/C Insurance Cycle, With Peaks Occurring Well into Hard Markets *Through June 21, 2010Source: A.M. Best Special Report “1969-2009 Impairment Review,” June 21, 2010; Insurance Information Institute.

  33. Number of Impaired L/H Insurers,1976–2009 Average number of impairments, 1976-2009: 18.6 Compare this stellar performance in 2008-09 with that of banks. The Number of Impairments Spiked in 1989-92, with Smaller Spikes in 1983 and 1999. But in the Financial Crisis, When Hundreds of Banks Failed, Virtually No Life Insurers Failed. Source: A.M. Best Special Report “1969-2009 Impairment Review”; Insurance Information Institute.

  34. Number of Failed FDIC-Insured Banks,and Impaired Insurers, 2007–2010* In the Financial Crisis, When Hundreds of Banks Failed,Virtually No Life or P-C Insurers Failed. *Bank failures through Nov 12, 2010; P-C impaired insurers through June 21, 2010; L-H impairments in 2010 NA.Sources: A.M. Best Special Reports; FDIC; Insurance Information Institute.

  35. Opportunities for Growth Two Populations with Very Different Financial Vulnerabilities and Needs: Ages 65-74 and Ages 75+ 36

  36. Key Demographicsfor People Age 65+ in 2009 This will change as the “baby boom” generation hits this age range Source: http://www.bls.gov/cex/csxstnd.htm#2009 37 12/01/09 - 9pm eSlide – P6466 – The Financial Crisis and the Future of the P/C

  37. Labor Force Participation Rate, Ages 65-69, Quarterly, 1998-2010:Q3 Labor Force participation rate The brown bars indicate recessions. The labor force participation rate for workers 65-69 might grow even faster in the future as seniors find they can’t fully retire on their meager retirement savings. Source: US Bureau of Labor Statistics, US Department of Labor; Insurance Information Institute.

  38. Labor Force Participation Rate,Ages 70-74, Quarterly, 1998-2010:Q3 Labor Force participation rate The labor force participation rate for workers 70-74 grew by about 50% since 1998,but growth has stalled since the Great Recession began. Source: US Bureau of Labor Statistics, US Department of Labor; Insurance Information Institute.

  39. Labor Force Participation Rate,Ages 75 & over, Quarterly, 1998-2010:Q3 These people were born before 1935 Labor Force participation rate This percent is forecast to grow to 10.3% by 2018 The labor force participation rate for workers 70-74 grew by about 50% since 2002,but growth has stalled since the Great Recession began. Source: US Bureau of Labor Statistics, US Department of Labor; Insurance Information Institute.

  40. Overview of Annual Income for People Age 65+ in 2009 Almost all of the income drop was due to stopping earning Shift from saving to dis-saving Source: http://www.bls.gov/cex/csxstnd.htm#2009 ; I.I.I. 41 12/01/09 - 9pm eSlide – P6466 – The Financial Crisis and the Future of the P/C

  41. Overview of Annual Expendituresfor People Age 65+ in 2009 Healthcare costs don’t drop with drop in income Mortgages finally paid off? Probably not true for the next generation Source: http://www.bls.gov/cex/csxstnd.htm#2009 ; I.I.I. 42 12/01/09 - 9pm eSlide – P6466 – The Financial Crisis and the Future of the P/C

  42. Insurance Information Institute Online: www.iii.org Thank you for your timeand your attention! Download at: www.iii.org/presentations

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