COVID-19 is a significant opportunity to reinforce the relevance of the insurance sector.
In his book The Plague, Albert Camus said: “There have been as many plagues as wars in history, yet always plagues and wars take people equally by surprise.”
It was no different with the arrival of the coronavirus. Although there had been many warnings from the scientific as well as the risk community that a pandemic was a realistic scenario, governments were mostly unprepared for COVID-19 and the speed with which it spread across the globe.
While a pandemic is first and foremost a human tragedy, there is also a deep concern about its impact on economy and society, on everyday life and ultimately even industries, such as the insurance sector.
Large protection gap for pandemic risk
Swiss Re estimates that COVID-19 and the subsequent measures to contain its spread may result in a loss of $12tn in GDP by the end of 2021. A loss of this magnitude goes far beyond the financial capabilities of the insurance sector alone.
In a first assessment of the impact of COVID-19 on the non-life insurance industry, Lloyd’s estimates that the 2020 underwriting losses covered by the industry will amount to $107bn. This loss has been revised downwards since and will still be below the $144bn in claims that the industry paid for damages incurred from Nat CATs in 2017. However, the challenge of a pandemic is in its correlation with other risks. The industry is expected to experience a significant decline in investment portfolios of an estimated $96bn, driving the total projected impact for the insurance industry to over $200bn.
The uncertainties concerning COVID-19 in the insurance industry remain high, and an end to the pandemic is not yet in sight. Thus far, insurers have communicated only $20.5bn of damages compared to estimates ranging from $30bn to $130bn of insured losses.
While losses from COVID-19 may well drag on until the end of 2023, AM Best has submitted the rated insurers and reinsurers to a stress test that also included insurers in the Middle East and Africa. The outcome was reassuring. Although most insurers are likely to see a hit to earnings in 2020, AM Best does not predict a material decline to the capitalisation of insurers’ balance sheets.
Focus on finding solutions
Camus further wrote in The Plague: “What’s true of all the evils in the world is true of plague as well. It helps men to rise above themselves.”
The insurance sector has to ensure that it remains a valuable partner to help mitigate the effects of pandemic risk. Initially, the discussion focused on the aspect of the exclusions – which was perceived as defensive – but now the sector is actively seeking solutions that would help extend the pandemic cover.
Finding solutions, however, will be a long-term challenge for the industry, yet, insurers have a broad experience in structuring risk-transfer solutions for flood, earthquake, wind and terrorism risk. For instance, following the 9/11 incident, new risk pooling solutions such as in the UK with Pool Re or in the US with the Terrorism Risk Insurance Act (TRIA) were set-up, providing a governmental backstop, due to the systemic nature of the risk, to maintain marketplace stability and share the substantial burden of losses with the private industry.
Impact on Africa limited so far
In Africa, the impact of COVID-19 in terms of insurance losses thus far is limited for the P&C and life sectors. The challenge of COVID-19 is less related to its immediate impact on the underwriting result, but rather on insurers’ top-line, the investment portfolio and ultimately, on operations.
The impact on life and health underwriting results has been limited, given that Africa has so far been spared from large numbers of infections or deaths. In some markets, insurers expect losses in workers’ compensation.
In South Africa, insurers had to bear the impact of business interruption due to ‘notifiable or infectious disease outbreak at the insured premises or in its vicinity’, and event cancellations as entertainment and sports events frequently are covered. Another line of business which may be relatively hit is the trade and payment defaults in trade credit insurance. Motor is expected to show some positive effects on profitability as the lockdown restrictions will translate into less traffic and thus a decline in the number of accidents or an improved loss ratio.
In terms of investment results, equity markets in Africa have seen a dramatic increase in volatility due to COVID-19. For instance, both the Nigerian Stock Exchange and Johannesburg Exchange dropped from a peak in the first half of January by a third by late March. In the meantime, both exchanges recovered and are now trading about 20% or 10% below their January peak respectively. The stock exchange in Kenya, by contrast, experienced a similarly steep decline from January to March. However, it hardly recovered ever since.
Besides the equity markets, Africa’s government bonds followed a different path to their counterparts in developed countries. Africa saw a rise in bond spreads as default risks were increasing, contrary to Germany, the UK, the US as well as China, which saw spreads decline as a result of the fiscal policies of central banks to stimulate the economies in response to the impact from COVID-19 on the respective economies.
While higher yields might mean positive news to the returns of insurers’ investment portfolios, they increase the borrowing cost for African governments and thus weaken their ability to forcefully fight the contraction of national economies. That issue is further amplified by the depreciation of African currencies against the US dollar. Since January 2020, major African currencies have declined in value against both dollar and euro, further driving the cost to serve public debt.
For African reinsurers reporting in US dollar, such as Africa Re, the depreciation of African currencies is not good news for their top line. I estimate that Africa Re’s top line will decline by between 8% and 10% in the worse scenario.
Pressures abound
Furthermore, while borrowing cost is rising for governments in Africa, revenues decline. This is particularly true for those countries with a high reliance on income from commodity exports. Since the emergence of the crisis in February and March 2020, commodity prices tumbled by close to 70% of African exports. While prices for oil, metal, food or cotton steeply declined, only the price of gold held up, rising by 5%. All of these effects will severely dampen the top-line development of insurers operating in Africa.
Lower revenues from activities in trade will reduce income from marine – hull and cargo – as well as in trade credit. Strained fiscal budgets will result in a decline of investment in public infrastructure projects impacting the growth in construction, and surety insurance.
However, some African countries have set up a Marshall plan to boost the economy. According to some African insurers, the positive effect can already be seen in the engineering business, which is currently the fastest-growing line of business. With the contraction of revenues, weakly capitalised insurers may also encounter some pressure on their liquidity.
To avoid a cash-flow squeeze, some African regulators loosened their requirements for insurers to calculate and build their reserves. Besides, in times of financial distress, Africa’s insurers are frequently confronted with the issue of non-payment of premium. This problem is expected to surge now following the lockdown.
The top-line of African insurers will also be impacted by the decline of the GDP due to COVID-19. Although the hit to their economies that African markets will have to digest is expected to be less severe than in mature markets, the United Nation’s Economic Commission for Africa predicts that in a best-case scenario Africa’s average GDP growth for 2020 will fall 1.4 percentage points, from 3.2% to 1.8%. In a worst-case scenario, they anticipate Africa’s economy may contract by up to 2.6% in 2020. This decline will affect private consumption and thus all kinds of personal lines, particularly motor and property insurance.
Pushing the digitalisation agenda
Africa has been able to combat the impact of COVID-19 far better than expected. Both the number of infections and deaths are lower than in most other regions of the world, certainly better than in Europe and the Americas. The reasons for that are manifold. Also, many African companies performed well during the lockdown and transitioned smoothly from the office context to working from home.
At Africa Re, our staff have been working from home during the entire lockdown period. During this time, we have continued to serve our clients with the same quality and responsiveness as if we were working from our offices, thanks to the flexibility and customer-centric attitude of our employees and thanks to our investment in the necessary technology.
While COVID-19 will have a lasting impact on our corporate spirit and the way we operate in the future, we will continue with our long-term investment to help progress digitalisation of Africa’s insurance markets. M