Concerns about insurers' premiums and their capital make for a double headache

Tuesday, 5 November 2019

Reserve Bank governor Adrian Orr has told insurers their assurances about their competence and good behaviour will not be believed without proof.

ANALYSIS The Reserve Bank is moving closer to dishing out the same bitter pill to insurance companies that it is currently asking the big Australian banks to swallow.

It is currently reviewing the solvency requirements of insurers, which may mean they need to hold more capital or reinsurance.

Governor Adrian Orr told an audience in Auckland on Tuesday that it was still too early to say whether the review would lead to the 'kind of uplift we have proposed for bank capital'.

But the Reserve Bank is charged with maintaining the stability of the financial system and some of the writing does appear to be on the wall.

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Orr said the bailout of AMI after the Christchurch earthquakes and the collapse of insurer CBL showed the failure of an insurer was a 'significant event'.

'Even if a single firm failure does not threaten the financial system as a whole, such events challenge public confidence,' he said.

The Reserve Bank wants to increase the amount of risk-weighted capital that retail banks hold to offset their loans by between 20 per cent and 60 per cent, to a level sufficient to cover a one-in-200-year financial crisis.

In theory, at least, New Zealand insurers are required to hold sufficient capital reserves or reinsurance to cover their liabilities for a 'one-in-a-1000 year catastrophe event', according to the Insurance Council.

High risks require more expensive premiums and insurers with deeper pockets.

But AMI's collapse arguably suggests the reality may sometimes be rather different.

Just as banks have warned that higher capital requirements will push up the cost of loans, insurers will argue that requiring them to hold on to more capital or reinsurance will push up the cost of insurance.

Reserve Bank governor Adrian Orr says the bank supports insurers using 'the best information' and getting risk management and pricing right.

One difference is that while the Reserve Bank's move on the banks has coincided with a period of low interest rates when mortgage rates are not top of the policy agenda, some people are already being bled dry by rocketing insurance costs.

That makes it a much less auspicious time to impose any extra costs on the insurance industry that spill out into higher premiums.

Home owners, and apartment owners in Wellington in particular, have been feeling the squeeze.

Finance Minister Grant Robertson, speaking at same the Insurance Council event that Orr was addressing in Auckland, told insurers they must not allow a class of uninsured homeowners to emerge.

'I'm particularly concerned about the impact of the move to more granular risk-based pricing, which could reduce the availability and affordability of property insurance for some New Zealanders,' Robertson said.

Orr, on the other, seemed to strike a different tone, appearing to give the Reserve Bank's blessing to insurers to continue further down the track of more granular pricing – albeit with a caveat.

'We support insurers using the best information to understand their customers and the risks faced by the insurer.

'Getting your risk management and pricing right is an important foundation to a sound insurance sector,' he said.

Just that needed to be done at a pace that people could adapt to.

'We are conscious of the wider implications on the economy and asset prices as insurance providers make their individual business decisions.

'Orderly and well-articulated changes in insurance and pricing strategies are needed, so that all participants in the financial sector – and the wider economy – can adapt their behaviour without creating unintended outcomes,' he said.

While next year will be a tough time to sell the need for higher capital or reinsurance requirements to insurers, it doesn't mean it would be the wrong thing for the Reserve Bank to do.

Insurance premiums have been rising in part because reinsurers overseas have been taking a fresh look at natural disaster risks in New Zealand.

But it is not clear that Kiwis are really any better covered as a result.

If the concern is that New Zealand may be subject to more frequent and more costly disasters than previously assumed, it follows that insurance will be more risky and expensive.

But it would also seem to follow that insurers will need to have deeper pockets to weather disasters and to top-up their coffers between claims.

Orr indicated the Reserve Bank would need evidence as to why the bank could have confidence in insurers' assurances.

During his speech, Orr performed what he described as an 'Australian haka', patting his empty shirt in an extraordinary gesture that appeared intended to mimic the response he believed he had received from Australian banks to similar requests.

His appetite to fight tough battles does not appear to be waning.