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Turmoil in the insurance industry: discrimination and regulations

Courted by car insurance companies, female drivers have traditionally benefited from more interesting policy rates compared to their male counterparts. Yet, in one of its recent decisions, the European Court of Justice has estimated that this represents a case of discrimination against men. At first sight, this judgement will not only entail an increase in tariffs but it will equally affect one of the insurer's main activities, i.e. segmentation. In fact, being deprived of the information "Who are you", insurance companies might instead seek to know the answer to the question "What is your lifestyle?".

Additional costs for the consumer

The European Commission's directive of December 13th, 2004 establishes that equality between sexes must be respected when it comes to access to goods and services. Under pressure of "Test-Aankoop", a Belgian consumer association, the European Court of Justice has just repealed the exemption previously granted to the insurers. Not only automobile insurances, where the tariff gap is most obvious, will be affected, but also pension, sickness and death insurances are involved in this matter.

It is likely that some insurers will regard this directive as an opportunity to inflate profits and increase their rates. This point of view has been confirmed by Henry Engelhardt, President of the Admiral Group, who claimed: "As an insurer I am mostly satisfied. We will increase the rates of women but we will not be lowering those of men." If we are to believe the insurers, two years by now the extra costs for female drivers will amount to approximately 25% on average. Men are also to be concerned since the unisex alignment of their pensions could lead to a reduction in pay of around 10 % . Finally, the overall cost of the standardization of rates should equally be taken into account. In short, one might presume that this judgment, which initially has been taken to counter gender discrimination, might lead to a mere increase in the bill of all policyholders or as Michaela Koller, Director General of the European Insurance Committee, puts it: "It is bad news for the consumers of insurance".

A loss of competitiveness for insurance companies

The competitiveness of an insurance company is partly based on its ability to assess the risk associated with the products it sells. The decree therefore also worries some insurers as they are deprived of a one of their frequently used risk assessment factors. Among the troubled ones we find Adrian Brown, President of More Than who has stated: "This decision prevents us from using a legitimate criterion." It is true, however, that despite all the controversies on the topic, accident reports provide clear figures which corroborate the relevance of gender as a criterion for determining the risk associated with a driver.

Graph: Victims, by gender and by age, who were strongly injured or killed in a traffic accident in 2007 (Source BIVV: Belgisch instituut voor de verkeersveiligheid)

According to the figures published by the Flemish Federal Government Institute for Economics, throughout the period 1995-2009 the proportion of women involved in light injury and severe injury car accidents was respectively of 42% and 33%. As for mortal crashes, the ratio drops to one woman for four male individuals. Moreover, the average cost per accident is lower among female drivers. However, these numbers only explain a part of an individual's susceptibility to accidents. Other factors, such as annual mileage for example, should also be taken into account. However, these criteria are generally not considered by insurance companies as this information is not accessible at the individual level. Therefore insurers have focused so far on more general criteria for segmenting the population through the definition of risk profiles from statistical and mathematical models.

Clearly a progressive abolition of gender as a differentiation factor will reduce the number of useful segmentation criterions available to insurers. What's more, the European Parliament is currently considering drafting a new directive on the other of the two main differentiation criteria commonly used by insurers, i.e. age. This announcement has provoked a lively debate on the issue whether actuarial service companies should be allowed to make use of additional data. In short, within this context, the main concern for these companies remains how they will compensate for the loss of information in order to remain competitive.

Towards other risk evaluation criteria

A first solution would be to pool risks between policy holders and offer a flat rate regardless of the sex and age, that way avoiding any search for additional information. However, restricting the insurers' ability to set premiums in function of the risk incurred causes a problematic side effect. Indeed when adopting this measure, it is likely that insurance companies would be inclined to raise their rates in order to avoid any eventual under estimation of the incurred risk, hence losing competitiveness.

An alternative solution would consist of partly redirecting the attention from the question, "Who are you?" to the question "How are you living your life?". This could for instance be realized by implementing regular monitoring of personal indicators such as life hygiene, health conditions or driving behavior. At this point, one might ask himself whether the Court shouldn't have adopted a more "laissez-faire" attitude and authorize insurance companies to adopt a more sophisticated risk assessment system which would have allowed them to become more competitive and attract consumers. Nevertheless, by taking the lead the Court has accelerated the individualization process which is currently in full development.

As a matter of fact, the trend towards individualized pricing is already emerging in the car insurance industry with the development of a new low-cost model. Some insurers now offer the installation of a "black box" device which allows to bill customers based on their actual driving behavior: chosen routes, speed and acceleration, use of brakes, proportion of night driving, etc. are some examples of factors that are taken into consideration for determining one's proneness to accidents. This is the case for the G-Box, a product developed by AXA which nowadays is still quite unknown among consumers.

Besides, not only the automobile insurance products will be affected by the decision of the Court of Justice, but the entire insurance landscape and its traditional actuarial techniques will have to evolve likewise. In fact, if it is presumable that the European legislator seizes this opportunity to reintroduce other derogations, there is little time left for insurers to offer products that will allow them to remain competitive. Therefore, they will have to conduct a thorough impact analysis and make strategic decisions before the ruling takes effect. For each individual player this will boil down to convincing consumers to adopt its new products and rethink its strategic positioning towards them, all while respecting the new regulations.

Insurers thus have several tools at hand to cope with the upcoming regulatory changes, i.e. the adjustment of premiums, the redesign of the product portfolio, and the reevaluation of its clients' appetite for risk...However; it is time they are lacking. Indeed, let us remember that in 2013 the Solvency II reform will come into force. As a consequence, when rethinking their product portfolio, insurers will have to take into consideration the additional constraints included in this directive. To sum up, insurance companies must anticipate and prepare the integration of both of these new regulatory standards without any delay in order to safeguard their competitiveness by 2013.

Sia Partners

Ruling C-236/09 of the European Court of Justice (March 1st, 2011).

Welsh automobile insurance company which is quoted on the London Stock Exchange.

Men generally receive better pensions given their shorter life expectancy.

Owned by RSA Insurance Group, a multinational insurance company based in the UK.

Data for 2007.

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