Now that we're in 2012, sure enough Dr. Hartwig’s predictions have come to light. We wanted to follow up with him to get further insight about what is happening in the market (as well as what is not occurring) and why.
Annie George (AG): In the last several months, reports have come out supporting what you predicted in late 2010 in terms of the industry beginning to see the market “firming”. Let’s elaborate on what we’re experiencing.
Robert Hartwig (RH): “As I stated a year ago, we’re currently transitioning from a soft market to a more firming market, ending seven years of decline. But we are not in a traditional hard market. A hard market signifies a rapid and sustained across-the-board increase in prices. What we have seen instead are renewals in the second half of 2011 increasing in the one to two percent range, which doesn’t qualify as a hard market as we know it.
“As we move into 2012, we’ll see various lines moving at different paces in terms of price firming. Leading the way is Workers Compensation due to very poor underwriting performance where the combined ratio in 2011 was probably 118%–119%. Increases in Commercial Property (including Business Interruption) follow due to high catastrophe losses and somewhat higher reinsurance prices. These two lines are leading the way, but most of the casualty lines, whether we’re talking about General Liability, Directors & Officers, etc., are lagging behind…they’re up but very slightly.
“What’s more, the pressure you’re seeing on Workers Comp and Commercial Property is regional. It really depends on where you are. In the more traditionally catastrophe-prone areas, such as hurricane-exposed coastlines and in California, you’re seeing more pressure in Commercial Property. Workers Comp is very idiosyncratic depending on the situation of each state. There are different stories taking place in different states.
“But by no means is what we’re seeing today what we saw 10 years ago, with every line of coverage showing fairly substantial gains—often with a double-digit increase on an annual basis for several years. This is not what’s happening now.”
AG: What is the impact on the industry from all the cat losses we’ve experienced around the world?
RH: “Although we’ve had major catastrophic losses occur in 2011, these didn’t create a hard market across the board globally or in the United States. Hard markets exist, but for specific countries and for specific types of coverage, such as Property Cat risk in the Asia-Pacific area, which has been hit hard for the past two years or so – more than any other region in the world.
“The market remains very competitive, capacity is available both at the insurance and reinsurance levels. There is no real market disruption of any sort, even in the wake of the major catastrophes we experienced. Additionally, we don’t have major deterioration in the tort environment, which is something we’ve typically seen as a factor in producing a hard market. Furthermore, due to weak economies in most countries, we still have on a global basis a depressed need for insurance, coupled with relatively high levels of capitalization. We have tepid demand while still having very significant supply as measured by global capital in the business.
“It will take time some before global economic growth absorbs some of this excess capacity that exists at the primary level. It’s probably the case that excess capacity has been eliminated in the reinsurance sector but certainly not at the primary level in the major markets in the United States and Europe – and Europe is weakening. Therefore, it’s likely that demand for insurance in Europe is going to decrease as it’s either in or headed for a recession.”
AG: Did changes in the cat models have any impact on pricing?
RH: “In most areas, insurance carriers use more than one model in addition to having their own internal models. I think this idea that a broad hard market can be driven by a change that one risk model or another in how insurers perceive catastrophic risk on coastlines and their more immediate inland areas is simply not the case…I am trying to get away from this idea that what has happened this year – whether it’s model changes, catastrophes – is going to produce an across-the-board hard market as we saw a decade ago or in the 70s or 80s. This is simply not occurring.”
Dr. Hartwig explained that there are relatively few factors that can drive a market overall.
“Again, one of those driving factors would be a fairly substantial deterioration in the tort environment because that affects a large number of coverage lines. That is not happening today. Also, ten years ago we had a radical change in the perception of risk, post-911. We’ve haven’t had an event like this, causing us to change the perception of risk both in Property and Casualty and on a global basis. This sort of global catalyst for an across-the-board hard market simply doesn’t exist at this time.
“What this all means is that markets will be reacting to the fundamentals – to supply and demand, to the actual underlying trends in loss, to the severity and frequency of losses rather than cyclical factors that may have driven the market in the past. Workers Comp is a good example of this. Premiums are inadequate to pay claims and need to be adjusted to reflect the frequency and severity of loss trends that exist.
“Also, throughout the global insurance industry, there needs to be a price adjustment that reflects the fact that interest rates are low and are expected to remain so for an extended period of time. Insurer investment earnings in the past have been able to offset some of the losses that occurred…but interest rates are at 50-year lows, and the stock market hasn’t done too well in recent years. This means getting less of an offset coming from the investment side, which affects every single insurer throughout the world. Consequently, a greater burden is going to have to be shouldered by the actual price charged for insurance.
Many, however, didn’t price based on the implications of long-term low interest rates. The are only now beginning to do so, but it’s not an instantaneous process.”
About Dr. Hartwig and the I.I.I.
Dr. Hartwig joined I.I.I. in 1998 and as a chief economist has focused his work on improving the understanding of key insurance issues across all industry stakeholders including media, consumers, insurers, producers, regulators, legislators and investors. You can follow him on Twitter.
For 50 years, the I.I.I. has provided definitive insurance information. The I.I.I. is recognized by the media, governments, regulatory organizations, universities and the public as a primary source of information, analysis and referral concerning insurance.