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Insurtech strategies: a comparison of incumbent insurance firms with new entrants
Abstract
Insurtech is closely associated with digital transformation by new entrants that seek to disrupt insurance markets. However, the insurtech concept also includes its use by incumbent insurance companies, which are actively deploying a wide variety of insurtech applications to protect their market positions through innovation of their existing business models, e.g. through improved business processes or new insurance services. A theoretical insurtech business innovation model is developed that captures the effects of digital technology in insurance markets by considering innovation as a multi-dimensional concept that encompasses business processes, novel insurance products and changes to the insurance value chain. This framework is applied to an empirical sample of digital leaders: three incumbents and four new entrants. The results illustrate a variety of insurtech applications that include the transformation of business processes, products and new types of value chain configuration, as well as relatively minor enhancements to existing systems and business practices. It is shown that all the new entrants exploit artificial intelligence, big data and digital technology to build brand-new insurance services that emphasise innovative product features, high customer value and a delightful customer experience. In contrast, the legacy insurance firms tend to use digital technology in a defensive manner, e.g. the enhancement of existing insurance services, distribution channels and market positions. The exception is the launch of a telematics insurance service by an incumbent firm, where the telematics insurance effectively operates as a standalone business within a legacy insurance firm. The theory model is effective at analysing and evaluating both the type and magnitude of innovation. The case studies make an empirical contribution by illustrating state-of-the-art innovation by insurance disruptors and contrasts this with the defensive and sometimes novel digital strategies of incumbent firms. Future trends and research opportunities are outlined.
Insurability and government-funded mitigation: safer but costlier
Abstract
Hurricanes significantly harm homeowners through physical damage and long-term financial strain due to rising insurance costs, property value loss, and repair expenses. This paper focuses on the interrelated decisions of the government mitigation funding of residential acquisitions and retrofit subsidies and of price restrictions on the insurance market in eastern North Carolina to determine the financial effects on stakeholders. The introduction of these policy interventions have impacts that propagate through the system due to risk adjustments, homeowner take-up behaviour, and insurer profit-maximising behaviour. This study uses an integrated game theoretic model to demonstrate that there are cost-effective government spending levels that reduce residential loss from hurricane damage. When insurance prices are capped at preintervention levels, the number of households and their distribution of losses, which has been altered through mitigation, leads to increased insurer insolvency. When insurance prices are allowed to adjust after mitigation, some homeowners find insurance is no longer affordable. This highlights the tradeoff between ensuring insurer stability and expanding homeowner insurance accessibility.
Digital transformation and total factor productivity in insurance companies: a catalyst or inhibitor?
Abstract
Using data on 76 Chinese insurance companies from 2011 to 2020, this study investigates the impact of digital transformation (DT) on total factor productivity (TFP). We use the latent Dirichlet allocation (LDA) method to quantify the DT index within sample firms. Our analysis reveals a U-shaped relationship between the DT index and TFP, suggesting that insurance companies experience an initial decline in TFP at low levels of DT, followed by an eventual increase as the benefits of DT are realized. We also find the DT of most insurance companies is at the initial stage and they suffer poor efficiency. Our findings appear to be robust with respect to alternative reference documents, instrumental variable analysis, number of topics, and various subsamples. Furthermore, we identify and find three channels (management expenses, financial costs, and intangible assets) are statistically significant.
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Market equilibrium with management costs and implications for insurance accounting
Abstract
We examine a general equilibrium investment model in which agents incur management costs for holding assets. We characterize the influence of these costs on equilibrium prices as a weighted average of these costs for market participants. We then propose a correction method for this influence in valuation procedures used under regulatory frameworks, such as Solvency II. For insurers subject to Solvency II, the accounting correction amounts to approximately €130 billion, the equivalent of 1.8% of investments or 14% of own funds. These results not only contribute to the understanding of management costs in market equilibrium, but also highlight a distortion in current practices which discourages the holding of assets that are expensive to manage and typically inaccessible directly by policyholders.
Catastrophe insurance and solvency regulation
Abstract
Solvency regulation can prevent insurers from making decisions that are detrimental to policyholders. However, it can also discourage the purchase of insurance for catastrophic risks by causing prohibitive insurance loading due to high reinsurance coverage constraints. This paper examines this delicate trade-off. We show that a solvency regulation allowing some level of insurer default in catastrophic states can be a first-best policy. The default rate of this first-best policy varies depending on the risk line and market conditions. Our numerical simulations indicate that it is possible to closely approximate the first-best policy by implementing a straightforward solvency regulation, considering insurers’ Expected Shortfall and Value at Risk, the reinsurance loading, and policyholders’ risk aversion. Therefore, reforming current solvency regulations in this direction could improve policyholders’ welfare.
Adverse selection in tontines
Abstract
Several recent studies have cited the theoretical work of Valdez et al. [Insur: Math Econ 39(2):251–266, 2006] as evidence that there is less adverse selection in tontine-style products than in conventional life annuities. We argue that the modeling work and results of Valdez et al. [Insur: Math Econ 39(2):251–266, 2006] do not unconditionally support such a claim. Conducting our own analyses structured in a similar way but focusing on the relative instead of absolute change in annuity vs. tontine investments, we find that an individual with private information about their own survival prospect can potentially adversely select against tontines at the same, or even higher levels than against annuities. Our results suggest that the investor’s relative risk aversion is the driving factor of the relative susceptibility of the two products to adverse selection.