It is now a year since the change in discount rate sent a shockwave around the insurance market. The level of the reduction was unexpected and the impact substantial; the ABI estimated an increase of £7bn to historical claims and £1.4bn ongoing annually. Motor insurers were particularly impacted and acted immediately to increase premiums, but liability Insurers were more circumspect.
Despite huge increases in prior year reserves and an increase of 6-8% of claims costs going forwards, liability Insurers have been relatively cagey in passing on these costs to their customers. There have been some exceptions, for example those groups most at risk of serious injury - such as high-risk construction - have seen liability capacity shrink resulting in very substantial rate increases.
Following the rate change the Government immediately initiated their review for a change to the framework for setting the rate, driven no doubt by the adverse impact on the NHS (estimated to be £1bn+ per year). When draft legislation was published in September it appeared likely that the discount rate would be reviewed again early in 2018, with most commentators expecting a new rate of around 1%, effectively halving the earlier impact on Insurers and the NHS.
However, the intervention by the Justice Committee will inevitably lead to significant further delays and raises the possibility of a rate closer to the existing -0.75%. Add to this the Government’s focus on all things Brexit it may well be that the current discount rate is here to stay, at least until 2020 and so the liability market is having to face up to how the increased claims and reinsurance costs will be paid for.
For customers already facing increases in their liability premiums, there is a further issue caused by the discount rate: adequacy of their liability limits. When the rate was at 2.5%, personal injury claims for a single person exceeding £10m, whilst not impossible, were extremely rare. In the new discount rate environment, £10m+ claims are inevitably going to be far more common.
When also taking into account other factors influencing injury claims inflation, such as longer life expectancy and advances in medical science, it is clear that traditional liability limits leave customers at risk of under-insurance. Perversely, the reaction of some Insurers has been to reduce the limits they are prepared to offer.
The combination of these factors has seen a surge in the demand for Excess of Loss insurance to top up primary limits, especially amongst SME customers. With no end in sight to the current discount rate level, that is a trend that is set to continue.
Timeline
- 2001 – discount rate was set at 2.5%
- 27th Feb 2017 – Government announces result of a review in the discount rate, reducing it from +2.5% to -0.75%.
- 20th March 2017 – the new rate comes into effect
- 30th March 2017 –Government launches a consultation as part of a review of the framework for setting the rate.
- 7th September 2017 – Government publishes its review. It confirms its belief that -0.75% “over-compensates” claimants and is based on unrealistic methodology. Announces plans for a new framework to set the rate (based on low risk investments rather than very low risk) with the first rate review to be initiated within 90 days of legislation being enacted.
- 28th November 2017 – Justice Committee publishes its views on the proposed new framework, challenging the conclusions made by the Government. They recommend that “clear and unambiguous evidence” must be obtained about claimant’s investment behaviours before legislation changes and recommend a slower first review of the rate.
Justin Godman, Casualty Underwriting Manager