New York — The insurance industry’s journey through rough financial waters is likely to continue in the year ahead. That was the take of Kurt Karl, chief economist at SwissRe’s New York-based economic research and consulting unit, as he presented at the company’s mid-year economic forum.
Karl said the U.S. economy had weakened considerably and there was an 80% chance of a recession. Karl said that the mix of soft consumer spending, record energy prices and lingering problems in the housing and credit markets do not bode well for either insurers or the economy as a whole. However, Karl said the combination of easing by the Federal Reserve, a forthcoming fiscal stimulus package and strong exports should have a palliative effect, and the recession should be moderate. Karl said he foresaw two scenarios—each of which he assigned only a 10% chance of happening—that could result in a severe recession. The first involved a spike in inflation, prompting the Fed to “step on the brakes” to avoid runaway inflation. The second scenario involved a worsening credit crisis prolonging and deepening a moderate recession.
Karl’s colleague, Thomas Holzheu, SVP and deputy head of the economic research and consulting unit, assayed what implications these macroeconomic events hold for P&C insurers. Holzheu said that while the industry’s exposure to the subprime crisis was manageable, insurers could face higher costs of capital, as leveraged capital is withdrawing from the insurance space. A more direct effect of the crisis on insurers would be as providers of D&O and E&O policies.
Light catastrophe losses in 2006 and 2007 led to strong earnings for insurers and, consequently, rapid surplus growth and overcapacity. The result, Holzheu noted, is weak pricing across all lines, declining profitability and negative premium growth. Carriers need to ready themselves for the slow growth environment ahead, he said, noting that disciplined underwriting and capital management are crucial. Moreover, he said that in this environment, merger and acquisition activity will continue as possibly accelerate in the coming year.
On the life and health side, the outlook is similar as some robust years have left the industry well-equipped to handle lean times, said SwissRe economist Milka Kirova. Although life insurers had a solid 2007, with premium growth of 8.6% and solid gains in capital and surplus, sales are weakening due to the economic downturn and market activity. Moreover, while investment losses have increased and will pressure capital growth and profitability in the coming year, they in no way portend solvency problems. Kirova said the strong capital position of life insurers will bolster their ability to withstand turbulence in the marketplace, and much like P&C insurers, their exposure to subprime investments is deemed manageable.
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