What factors influence the development of the insurance sector in Europe?

The insurance sector plays a crucial role for the functioning of the economy. It contributes to growth of the real economy and helps maintain financial stability by reducing the impact of losses on businesses and households through risk-sharing. At the same time, the activities of insurance and reinsurance companies may lead to, or compound, other risks, including systemic risk. Therefore, analysing the insurance sector and its interconnectedness with the developments in other sectors of the financial system and the real economy is an important part of maintaining financial stability by supervisory authorities. The CNB also uses stress tests to assess the impacts of possible adverse developments in the economy. Their results make it possible to identify the vulnerabilities of the insurance and other sectors to different economic and financial shocks. The CNB conducts regular supervisory and macro stress testing of insurance companies and their results are published on the CNB website.

An important part of those analyses is also an understanding of the development of insurance premiums, claim settlement costs and their relationship to the business cycle. A correct assessment of this relationship can help us determine the extent to which potential adverse developments in the economy are reflected in the resilience of the insurance sector and the extent to which the insurance sector has the potential to multiply or dampen adverse developments. The sensitivity of premiums on the business cycle is, therefore, one of the key parameters for the macro stress tests of insurance companies.

What are the factors that affect premiums? We examine this question in the European context in our new research paper entitled "On the Determinants of Life and Non-Life Insurance Premiums". In this paper, we use data on insurance premiums and their possible determinants for 24 European countries spanning almost two decades. The insurance sector is an important component of the European financial sector, where it fulfills two main roles: i) risk transfer and ii) the allocation of household savings in financial markets (mainly in life insurance). At the end of 2019, the assets of the European insurance sector, consisting mainly of investments in financial assets, represented roughly 11.4% of the total assets of the European financial sector. The share of life insurance in the allocation of household savings in the financial markets was 15.7% at the end of 2019.

Our results show that the development of premiums is closely related to the business cycle. The volume of premiums generally increases or decreases over time in line with GDP growth. The results further indicate that life insurance sector premiums are more affected by the business cycle than non-life insurance sector premiums. This supports the conclusion that life insurance can be considered a luxury good. We also decompose the non-life insurance sector into individual sub-sectors and show the sensitivity of each of the sub-sectors to the business cycle. First, our findings contribute to the understanding of the sensitivity of insurance companies to cyclicality in the economy and, second, refine the calibration of certain parameters in the macro stress tests.

We also identified a significant price channel in the case of non-life insurance. Specifically, we show that in the case of non-life insurance, an increase in total premiums is related to changes in the prices of insurance products. In the case of life insurance, this effect is statistically insignificant. Thus, our results suggest that the price elasticity of supply can differ significantly between life and non-life insurance. This can be interpreted as a practically inelastic supply in the case of life insurance. By contrast, the supply curve of non-life insurance shows a typical upward slope.

Changes in sector concentration significantly affect life insurance premiums. According to our findings, a more concentrated sector shows higher insurance premium volumes. This can be explained by the fact that countries with a high concentration in life insurance are more successful in developing their insurance services, as confirmed in some previous studies. However, an alternative explanation could also be the effect of higher prices at higher sector concentration which was not fully filtered from the effect of the growth in premium volumes in our estimates for life insurance.

Higher savings and a more developed financial system also contribute positively to life insurance premium growth. On the contrary, higher state social security contributions decrease premium growth in the life insurance sector. Therefore, state social security payments can displace private insurance contributions. The higher the social security contributions and the more generous state protection are, the lower the demand for private assurance is likely to be. Our results, therefore, support the hypothesis that social security systems at least partially substitute for private life insurance. Social security systems provide protection against risk of death, and should therefore affect the demand for life insurance negatively.

The relevance of our results and the importance of the resilience of the insurance sector are highlighted by the Covid-19 pandemic. In connection with the pandemic, insurers can expect an increase in claims in life insurance and in certain non-life insurance segments (credit, income and job interruption insurance), though possibly mitigated to a certain extent by exclusion clauses for rapidly-spreading diseases and pandemics. Our results (e.g. the positive link between real GDP growth and insurance premiums) suggest that the insurance sector may also be hit by a drop in premiums during the pandemic. Given the possible longer-term negative impact of the pandemic on economic performance, the temporary one-off increase in claims may not be the most important channel through which the pandemic will affect the insurance sector.