The London insurance market shouldn’t keep cutting rates to secure business because it may not be adequately pricing the risk it is taking on, the Bank of England said.
The key challenge for the industry, which has endured 10 years of falling prices, is to avoid “the winner’s curse of underpricing,” David Rule, the Prudential Regulation Authority’s new executive director of insurance supervision, said in a speech in Dublin. “The PRA is a not a price regulator, but we are concerned to see that firms are adequately managing their exposures.”
Lloyd’s of London Chairman John Nelson said earlier this month that insurers should target broker fees rather than pricing to reduce costs, as the industry struggles with record-low interest rates, increased competition from alternative capital providers and declining investment returns. Pressure on insurers to win new business had resulted in higher commissions for the brokers, Rule said Wednesday.
“We expect boards to be relentlessly inquisitive in understanding and challenging the effectiveness of underwriting controls,” Rule said at a general-insurance conference in Dublin. “Fundamentally, the board should seek evidence that underwriters are maintaining appropriate discipline.”
The regulator also warned against insurers using money set aside for claims in previous year to boost profitability and cushion the impact from price declines and lower investment income. The level of reserve releases is now at the highest level in 30 years, the regulator said.
“Our obvious concern is that these should reflect genuine reserve redundancy with the decisions taken by risk managers and actuaries using their best professional judgment and not in any way influenced by a desire to sustain reported profits,” Rule said.
In one “extreme case”, the regulator estimated that an insurer’s booked reserves implied an inflation assumption for future claims of negative 2 percent compared with the regulator’s estimate of 5 percent per annum inflation in the past.