The Strange Behaviour of
he Insurance Business in India

Jul 27th 2002, Jayati Ghosh

Patterns in the insurance sector after liberalisation have so far contradicted the predictions of those who argued that this would deliver lower prices and better services for consumers.
Despite what people in general are told, there are very few things in the discipline of economics which are undisputed. Much of what is presented as "obvious" or "inevitable" often has poor foundations in theory and little justification in terms of empirical experience. Recent theoretical work indeed tends to point to the fragility of assumptions that underlie many established axioms. Truly, economics is at best an inexact science, highly probabilistic, and ultimately dependent upon intuition or "hunch".
Nevertheless, there are some arguments which are almost universally accepted (given the famous ceteris paribus condition, "other things remaining equal"). Thus, one of the first things that all students of economics are taught is that when there are more producers in the market, competition tends to drive the price down to a level which is lower than when there are fewer producers.
The same is therefore supposed to be true of markets which were previously closed to competition, and are opened to new entrants. The expectation is that when monopolies or oligopolies are forced to confront new players, they will respond by lowering their prices or improving quality, even if the new entrants have higher costs to begin with.

This is why supporters of the Insurance Bill 1999 argued that opening up the sector to more domestic and foreign competition would ensure much better conditions for consumers. It was argued that more products (in the form of new types of insurance policies) would be available and that premium rates would fall, as new entrants offered them, and the existing nationalised insurance companies would be forced to deal with the threat and even reality of competition.

But such are the peculiarities of economics in the current context, that even this obvious expectation has been belied. In fact, so far precisely the opposite tendency has been observed. Several new insurance companies, almost all with some foreign backing as well, have entered the market over the past six months in particular. Yet on 1 July, a number of nationalised general insurance companies took measures to raise rates of premium and actually reduce the number of policies on offer.
The rates offered for vehicles insurance show this very clearly. Rates of premium on cars have gone up by around 40 per cent on average. Meanwhile a category like third party insurance for two-wheelers, for which premium rates used to be quite low, has increased by nearly three times. Some companies even plan not to provide insurance for this category at all. When questioned about these increases, insurance officers have pointed to the effect of the new multinational-assisted entrants into the insurance business, and the much higher rates they are charging !
In other words, what they are suggesting is that now competition is  going to be based not on prices, as was fondly believed earlier, but on profits. Insurance companies, not just the private ones but even in the public sector, are anxious to show profits on all lines of activities. Indeed, the public sector companies are especially keen to show that they are no less efficient than private players, and therefore end up using very similar tactics.

What this means most starkly is that the cross-subsidisation which was characteristic of the insurance sector earlier, and which indeed is typical of most public sector service provision, is disappearing. The general insurance companies have already been instructed to calculate profits on each line of business separately. Life insurance is likely to follow suit.

The irony is that both the Life Insurance Company and the general insurance companies were already highly profitable in the aggregate. Their cross-subsidies, which were based on some notions of income and ability of people to pay, and the need to provide insurance services to as many people as possible, did not prevent them from providing large surpluses to government coffers. Now, however, because they are concerned about showing profit rates or margins which are comparable to those of the private sector, they are likely to turn more cautious and more stingy about providing insurance cover to a range of consumers, simply in order to maintain "competitive" profitability.

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