Many people consider regulation as a stifling force that prevents innovation and progress. Where, in reality, the job of the regulators is to protect the customer and promise a fair practice that will serve the population. A debate on the topic heats up as lobbyists and policymakers step-in and way the statistics in one or other direction. Remember that 1% of a $2 trillion industry is $20 billion. To understand better the regulators, the challenges that they are facing and the new opportunities in the InsurTech space I invited Jay Cohen from Deloitte to be our May InsurTech Talk Speaker. Here is a recap of his talk.
"The public wants two things from insurance regulators. They want solvent insurers who are financially able to make good on the promises they made and they want insurers to treat policyholders and claimants fairly." -- The National Association of Insurance Commissioners (NAIC)
“Insurance regulation must keep pace with rapid developments in technology. History is littered with the remnants of companies and organizations failing to keep pace with change.” -- The Wisconsin Insurance Commissione
Regulators make sure that the "players" in the insurance space are responsible. They do that by examining several checks:
- The right licenses for companies and people.
- Products that meet customer needs, are fairly priced and do what they say.
- Rates and form filings.
- Clarity and accuracy in marketing materials.
- Processes that work as intended.
- Fair sales practices and compensation.
- Money to pay claims.
- Fraud prevention and detection.
- Third-party oversight.
Every item that the regulators look at that sounds like a burden is actually an opportunity. Regulation is not going away, it is going to improve and be a force for improvement. When we are looking at the responsibilities that the regulators are looking at an insurance company we are actually looking at a strong signal that the regulators convey.
- More choices for consumers.
- Lower cost products.
- More transparency about and understanding of those choices.
- Ease of doing business — faster, options, less cumbersome, cheaper, 24/7, fewer layers of the organization.
- Better back-office processing as well as up-front experience.
- Third-party oversight — the “Extended Enterprise.”
- Improving underwriting, claims and anti-fraud analysis.
The insurance regulators have expectations from the newcomers, the cool InsurTech startups, the same as they have from the incumbents. It drills down to "you need to play by the rules and be truthful about it."
"When we make a promise to a customer that our product is do X, how do we know that it does X?" Let's take the "Loss Ratio" as an example. In the rate filing, an insurance company tells the regulators that for a given price the expected loss is Y. Let's say that the loss ratio is 60%. The Loss Ratio is very important to the regulators because it is an indicator of fairness. It tells how well, or poorly, the price meets the customers' needs. If the Loss Ratio is low, it means that only low-risk individuals could afford the price and as a result the coverage. How does the insurance company know that the product Loss Ratio is going to be 60% for the next 5 years?
The insurance companies have large quantities of historical data that they collected over many years. New data, private and quasi-public that 3rd parties collect, as much as it may be cool, can't be used because it may discriminate populations. The credit score is a classic example, the correlation (not the causality) between a good credit score and submitting a claim is known. For further reading on the topic, please check the NAIC publication.
Information privacy and security
Privacy and security are hot topics today in the insurance industry.
The regulators want to know what data is collected, how is it used and for what purpose. They don't stop there. It is important to understand what is the impact, do consumers know and consent.
Complex predictive models for rate filings
Michael Consedine, president of the NAIC, said that his regulators are looking at a shift from an actuarially based insurance to an algorithm based insurance. They are trying to figure it out, as regulators, what it means. They have a big data working group that tries to understand how an individual state can review complex predictive rate files. Most of the state insurance departments don't have a lot of sophistication, yet! How are they going to do it?!
The “politics” of data sets
Insurance is regulated in a political environment. Sometimes, what the numbers say that makes sense, doesn't fit in that political environment.
How will data turn insurance upside down? — risk segmentation versus risk pooling.
From pooling risk to smooth the price out to segmenting the risk and finding the absolute right price for the risk we try to manage.
“While most car insurance companies rely on data like age, occupation and credit score to set rates, [this company] uses actual driving behavior including data on hard brakes, aggressive turns, and mileage driven. [The company] says using individual driving behavior as the biggest factor in its rating algorithm allows good drivers to save significantly…Our technology brings fairness to a broken and antiquated industry.”
Do the regulators agree that the statement above is good for all consumers? — see the health care debates regarding ObamaCare.
Another example is flood insurance. Today, the regulators and Congress do not allow algorithms to dictate a segmented price. The risk and the price is shared.
What information should insurance companies use in pricing risk?
One of the hottest debate on these data points is Credit Score. Companies say that credit score can help them to price risk accurately. This is what the consumer advocate at the NAIC - he noted his concern with the unfettered use of consumer's private data by insurers particulary the use of non-insurance factor such as credit score. He said that while big data applications hold the promise of improved insure-policy holder interaction increasingly granular segmentation of consumers based on their personal data can reflect and perpetuate discrimination and for public policy for availability, affordability and loss mitigation.
“Imagine a future in which regulators do not just have data on every single insurance transaction, but also the ability to act upon that information. Here, regulators could be alerted to any deviations from the norm; insurers may find themselves the focus of a market conduct review. In an age of social media, this could cause quick reputational damage and have more lasting effects.”
The Regulators are leaning in
The regulators are active and looking for outside RegTech companies and internal "innovation" and new technology groups. Don't get excited, because the regulators move very very slow. They are active, and they are looking into innovation and new technologies. They address it by creating an Innovation and Technology Task Force. The regulators are meeting to deal with the InsurTech topic in their 2017 and 2018 Insurance Summit. Jay, mentioned earlier that there is a Big Data Working Group and Speed to Market Working Group. The first tries to understand Data and the other how to take new insurance product fast to market (file, review, approve).
The regulators are looking into two other hot topics. The first, and it is an obvious one, is Cybersecurity (and NY DFS Cybersecurity Regulations). The second is their strategy “Our system must keep pace…This is a watershed moment. We cannot falter.” Let's extend the latter and add NAIC Model Law that went through the NIAC process (three years) and was adopted, so far, only by South Carolina.
The mind shift from "we don't care about the government" to "engage with the government" and talk with about what we are doing, if not, understand what they expet us to do.
"Reach out to us early in the process. Educate us so we can educate you. We want to talk to you, early in the process" -- Katharine Wade (CT insurance commissioner)
The UK and Singapore, to a certain extent, has an insurance sandbox. A sandbox is an environment that the insurance company can experiment with new products that have not checked all the boxes in the regulatory process. In the States, Arizona has one for FinTech, but not for InsurTehch. The Connecticut insurance commissioner, Katharine Wade, said on Abel Travis's podcast that companies are welcome to contact her and talk about it and through a discussion, they can work on it.