Expert Commentary

The Value of Insurance

Have you ever thought about the value of insurance? Probably not. It's an ancient and noble business, and among the thousands of jobs and careers available worldwide, it’s unique. Its premise is to make those who have suffered a loss whole again—to reestablish the status quo.


Risk Financing Info
May 2016

Generally, insurance agents and brokers cannot promise to make their clients richer. They cannot promise to make their client's lives or businesses more efficient. Okay, I've anticipated your rebuttal of these statements. You're wrong, Riggin, insurance provides all of this. Well, yes and no. Insurance enables all of this. In the absence of insurance, your chances of getting richer are diminished if a significant loss occurs.

Insurance also provides peace of mind up to a point. Unless you own, for example, a small retail business, you probably retain the majority of your insurable losses through deductibles and self-insured retentions. In this situation, insurance provides no peace of mind.

And what about all of the risks that aren't insurable in the commercial markets? In fact, the majority of risks are not insurable. We call these "business risks." They're usually not transferable to someone else's balance sheet. This leaves us with catastrophic risk, for which insurance and reinsurance are perfectly suited.

Do not misunderstand me. Without insurance and risk management, the world's economies would grind to a halt. The business has great value, but only in the macro sense. It's a different story where the rubber meets the road. In the vast majority of insurance transactions, agents compete against one another to see how low they can drive the premiums. Remember the old adage you get what you pay for? Is there any reason why this doesn't apply to insurance?

The Problem of Comparisons

The problem is that people don't think of insurance and risk mitigation services as they do about other goods or services. They think that, regardless of cost, they're supposed to get the same amount (and quality) of insurance limits and coverage. After all, competing programs must be compared on an "apples-to-apples" basis, right? How absurd is this?

Think about it. To make an apples-to-apples comparison, the competing products must be identical. But premiums never are. The value of the good or service generally often bears little relation to its cost, and everyone thinks this is just fine. In the noninsurance world, there are usually small variations in price among identical items. If an item is "on sale" or if demand is greater than the supply, pricing differences exist. But nothing comes close to insurance in this regard.

Value versus Cost

One could argue that the insurance product has very little intrinsic value. It's an undifferentiated commodity; deriving its value solely from its cost. Put another way, the value of the product has an inverse relationship to its cost (i.e., low cost equals high value). This dynamic persists even after a loss. As grateful as policyholders may be if insurance pays for the loss, at the next policy renewal, they revert to form—how low can we get our premiums?

In most other businesses (except the car business), the price of the item is usually not negotiable because the value of the item is generally thought to be reflected in the price. There are lots of exceptions, of course, but this is the basic premise. Value can be expressed in many ways. For example, I'd never buy a Gucci sweatshirt for $1,900 (they do exist), but there are plenty of wealthy folks who might.

I believe that the disconnection between value and cost in the insurance business is directly related to the perception of what is being sold. I don't expect individual insurance buyers to consider the macro benefits that insurance provides to society; to them, it's just a necessary evil. Most, if not all, insurance buyers think this way—in part because their agents and brokers also think insurance is a necessary evil.

Instead of defending the efficacy and true value of the product, some agents and brokers simply reflect their clients' attitudes and misconceptions. You don't make many sales if you disagree with your clients' belief systems. Many people also consider insurance to be a necessary evil because of its uniqueness—it represents the status quo. Their premiums do not buy anything new or offer the possibility of gain. Is this state of thought so deeply ingrained in our collective understanding that changing it is hopeless?

Conclusion

If a better model for transferring and managing risk is viable and potentially profitable (for intermediaries, buyers, and sellers), I think it would present an opportunity to change the nature of the insurance transaction for the better. What do you think?


Opinions expressed in Expert Commentary articles are those of the author and are not necessarily held by the author's employer or IRMI. Expert Commentary articles and other IRMI Online content do not purport to provide legal, accounting, or other professional advice or opinion. If such advice is needed, consult with your attorney, accountant, or other qualified adviser.

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