what is insurance amd insurance in pakistan

WHAT IS INSURANCEMeaning of Insurance :

Insurance provides financial protection against a loss arising out of happening of an uncertain event. A person can avail this protection by paying premium to an insurance company.

A pool is created through contributions made by persons seeking to protect themselves from common risk. Premium is collected by insurance companies which also act as trustee to the pool. Any loss to the insured in case of happening of an uncertain event is paid out of this pool.

Insurance works on the basic principle of risk-sharing. A great advantage of insurance is that it spreads the risk of a few people over a large group of people exposed to risk of similar type.

Definition

Insurance is a contract between two parties whereby one party agrees to undertake the risk of another in exchange for consideration known as premium and promises to pay a fixed sum of money to the other party on happening of an uncertain event (death) or after the expiry of a certain period in case of life insurance or to indemnify the other party on happening of an uncertain event in case of general insurance. The party bearing the risk is known as the 'insurer' or 'assurer' and the party whose risk is covered is known as the 'insured' or 'assured'.

A promise of compensation for specific potential future losses in exchange for a periodic payment. Insurance is designed to protect the financial well-being of an individual, company or other entity in the case of unexpected loss. Some forms of insurance are required by law, while others are optional. Agreeing to the terms of an insurance policy creates a contract between the insured and the insurer. In exchange for payments from the insured (called premiums), the insurer agrees to pay the policy holder a sum of money upon the occurrence of a specific event. In most cases, the policy holder pays part of the loss (called the deductible), and the insurer pays the rest. Examples include car insurance, health insurance, disability insurance, life insurance, and business insurance.

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TYPES OF INSURANCE

There are two main types of insurance which are as follows.

Life insurance General insurance

Life Insurance:Life insurance provides a monetary benefit to a decedent's family or other designated beneficiary, and may specifically provide for income to an insured person's family, burial, funeral and other final expenses. Life insurance policies often allow the option of having the proceeds paid to the beneficiary either in a lump sum cash payment or an annuity.

Annuities provide a stream of payments and are generally classified as insurance because they are issued by insurance companies and regulated as insurance and require the same kinds of actuarial and investment management expertise that life insurance requires. Annuities and pensions that pay a benefit for life are sometimes regarded as insurance against the possibility that a retiree will outlive his or her financial resources. In that sense, they are the complement of life insurance and, from an underwriting perspective, are the mirror image of life insurance.

Certain life insurance contracts accumulate cash values, which may be taken by the insured if the policy is surrendered or which may be borrowed against. Some policies, such as annuities and endowment policies, are financial instruments to accumulate or liquidate wealth when it is needed.

General insurance:General insurance is basically an insurance policy that protects you against losses and damages other than those covered by life insurance. For more comprehensive coverage, it is vital for you to know about the risks covered to ensure that you and your family are protected from unforeseen losses. General insurance include following types of insurance.

1) Vehicle insurance2) Health insurance3) Home insurance 4) Property insurance5) Liability insurance6) Credit insurance

1. Vehicle Insurance: Auto insurance protects you against financial loss if you have an accident. It is a contract between you and the insurance company. You agree to pay the premium and the insurance company agrees to pay your losses as defined in your policy. Auto insurance provides property, liability and medical coverage:

1. Property coverage pays for damage to or theft of your car.

2. Liability coverage pays for your legal responsibility to others for bodily injury or property damage.

3. Medical coverage pays for the cost of treating injuries, rehabilitation and sometimes lost wages and funeral expenses.

2. Health Insurance: Medical and Health Insurance (MHI), is an insurance policy which is designed to cover the cost of private medical treatment, which can be very expensive, especially with hospitalisation and surgery. MHI also ensures that you won't have to worry about the cost of seeking treatment during emergencies. In addition, MHI also provides you with an income stream while you undergo treatment

Accident, Sickness and Unemployment Insurance

• Disability insurance policies provide financial support in the event the policyholder is unable to work because of disabling illness or injury. It provides monthly support to help pay such obligations as mortgages and credit cards.

• Disability overhead insurance allows business owners to cover the overhead expenses of their business while they are unable to work.

• Total permanent disability insurance provides benefits when a person is permanently disabled and can no longer work in their profession, often taken as an adjunct to life insurance.

• Workers' compensation insurance replaces all or part of a worker's wages lost and accompanying medical expenses incurred because of a job-related injury.

Casualty insurance

• Crime insurance is a form of casualty insurance that covers the policyholder against losses arising from the criminal acts of third parties. For example, a company can obtain crime insurance to cover losses arising from theft or embezzlement.

• Political risk insurance is a form of casualty insurance that can be taken out by businesses with operations in countries in which there is a risk that revolution or other political conditions will result in a loss.

3. Home Insurance: Home insurance provides compensation for damage or destruction of a home from disasters. In some geographical areas, the standard insurances exclude certain types of disasters, such as flood and earthquakes that require additional coverage. Maintenance-related problems are the homeowners' responsibility. The policy may include inventory, or this can be bought as a separate policy, especially for people who rent housing. In some countries, insurers offer a package which may include liability and legal responsibility for injuries and property damage caused by members of the household, including pets.

4. Property Insurance: Property insurance provides protection against risks to property, such as fire, theft or weather damage. This includes specialized forms of insurance such as fire insurance, flood insurance, earthquake insurance, home insurance, inland marine insurance or boiler insurance.

• Builder's risk insurance insures against the risk of physical loss or damage to property during construction. Builder's risk insurance is typically written on an "all risk" basis covering damage due to any cause (including the negligence of the insured) not otherwise expressly excluded. Builder's risk insurance is coverage that protects a person's or organization's insurable interest in materials, fixtures and/or equipment being used in the construction or renovation of a building or structure should those items sustain physical loss or damage from a covered cause.

• Crop insurance "Farmers use crop insurance to reduce or manage various risks associated with growing crops. Such risks include crop loss or damage caused by weather, hail, drought, frost damage, insects, or disease, for instance."

• Earthquake insurance is a form of property insurance that pays the policyholder in the event of an earthquake that causes damage to the property. Most ordinary homeowners insurance policies do not cover earthquake damage. Most earthquake insurance policies feature a high deductible. Rates depend on location and the probability of an earthquake, as well as the construction of the home.

• Flood insurance protects against property loss due to flooding. Many insurers in the U.S. do not provide flood insurance in some portions of the country. In response to this, the federal government created the National Flood Insurance Program which serves as the insurer of last resort.

• Marine insurance and marine cargo insurance cover the loss or damage of ships at sea or on inland waterways, and of the cargo that may be on them. When the owner of the cargo and the carrier are separate corporations, marine cargo insurance typically compensates the owner of cargo for losses sustained from fire, shipwreck, etc., but excludes losses that can be recovered from the carrier or the carrier's insurance. Many marine insurance underwriters will include "time element" coverage in such

policies, which extends the indemnity to cover loss of profit and other business expenses attributable to the delay caused by a covered loss.

5. Liability Insurance: Liability insurance is a very broad superset that covers legal claims against the insured. Many types of insurance include an aspect of liability coverage. For example, a homeowner's insurance policy will normally include liability coverage which protects the insured in the event of a claim brought by someone who slips and falls on the property; automobile insurance also includes an aspect of liability insurance that indemnifies against the harm that a crashing car can cause to others' lives, health, or property. The protection offered by a liability insurance policy is twofold: a legal defense in the event of a lawsuit commenced against the policyholder and indemnification (payment on behalf of the insured) with respect to a settlement or court verdict. Liability policies typically cover only the negligence of the insured, and will not apply to results of wilful or intentional acts by the insured.

• Public liability insurance covers a business against claims should its operations injure a member of the public or damage their property in some way.

• Directors and officers liability insurance protects an organization (usually a corporation) from costs associated with litigation resulting from mistakes made by directors and officers for which they are liable.

• Professional liability insurance, also called professional indemnity insurance, protects insured professionals such as architectural corporation and medical practice against potential negligence claims made by their patients/clients. Professional liability insurance may take on different names depending on the profession.

6. Credit Insurance: Credit insurance repays some or all of a loan when certain things happen to the borrower such as unemployment, disability, or death.

• Mortgage insurance insures the lender against default by the borrower. Mortgage insurance is a form of credit insurance, although the name credit insurance more often is used to refer to policies that cover other kinds of debt.• Many credit cards offer payment protection plans which are a form of credit insurance.Other types• Collateral protection insurance or CPI insures property (primarily vehicles) held as collateral for loans made by lending institutions.

• Financial loss insurance or Business Interruption Insurance protects individuals and companies against various financial risks. For example, a business might purchase coverage to protect it from loss of sales if a fire in a factory prevented it from carrying out its business for a time. Insurance might also cover the failure of a creditor to pay money it owes to the insured. This type of insurance is frequently referred to as "business interruption insurance." Fidelity bonds and surety bonds are included in this

category, although these products provide a benefit to a third party (the "obligee") in the event the insured party (usually referred to as the "obligor") fails to perform its obligations under a contract with the obligee.

ANNUITYAn annuity is a contract with an insurance company whereby the insured pays an initial premium or premiums into a tax-deferred account, which pays out a sum at pre-determined intervals. There are two periods: the accumulation (when payments are paid into the account) and the annuitization (when the insurance company pays out).

HISTORY OF INSURANCE INDUSTRY IN PAKISTAN

At the time of independence, the country had 5 domestic and 77 foreign insurance companies. These companies were regulated under the Insurance Act of 1938. The government in 1948 established the Department of Insurance within the domain of Ministry of Commerce to supervise the affairs of insurance industry and to safeguard the interests of the insured. The Act was amended in 1958 for the first time keeping in view the requirements of domestic market and to have effective control over the insurance premium rates. Since then, various amendments have been made in the Act. The Department of Insurance further created the Controller of Insurance for the same purpose that was abolished in 2000 when SECP was made responsible for supervising insurance business in the country.

Since the business of insurance companies is to spread the risk, therefore, the need for establishment of a domestic reinsurance company was felt that would eventually boost the profitability of national insurance companies and to allow companies to handle growing insurance demand. It was also aimed to reduce the outflow of foreign exchange that was earlier used as reinsurance premiums made to reinsurance companies mainly in the U.K. The Pakistan Reinsurance Corporation (presently called as Pakistan Reinsurance Company Limited) was established in 1953. In 1955, National Coinsurance Scheme (NCS) was initiated to promote insurance culture in Pakistan and to assist small insurance companies in meeting financial requirements. Moreover, it aimed to have checks and balances on government expenditure on insurance and to assist in settlement of claims in which the government was the beneficiary. The formation of NCS yielded favorable results, Moreover, economic growth in 1960s further promoted the insurance business in the country and the number of Pakistani insurance companies increased to 26 and reached to 47 by 1971. However, the number of foreign companies decreased from 77 in 1947 to 25 in 1972 due to political uncertainty and separation of East Pakistan.

The life insurance business (that grew very rapidly from a total sum assured of only Rs. 130 million in 1949 to Rs. 51.7 billion in 1972) was nationalized in 1972. Life Insurance Management Board managed the affairs of these newly nationalized life insurance companies. By consolidating the business of 41

nationalized insurance companies in 1973, the government created State Life Insurance Corporation with a purpose of encouraging life insurance business and to safeguard the interests of policyholders. The initial benefits were the reduction in premium rates by 33 percent and resolution of various outstanding disputes between the policyholders and the insurers.

Moreover in 1973, the government replaced NCS with National Insurance Fund (NIF) for the purpose to manage insurance of government and semi government property. The NIF reduced the premium rates for insuring government property; moreover it shifted all the profits of insurance companies to the government exchequer. In addition to provide government a more conducive environment for undertaking insurance and to reduce its cost, National Insurance Corporation (presently National Insurance Company Limited) was established in 1976. Since then, it has been the sole insurer to the government and semi-government bodies.

In 1980s no significant development took place in the insurance industry until the financial sector reforms were initiated by the government in early 1990s that also encouraged investments in insurance business. The number of domestic insurance companies increased to 62 in 1995 while foreign participation was reduced to 9 insurance companies. One of the significant changes in insurance regulation was the abolition of the office of controller of insurance and after the conversion of corporate law Authority in to SECP, a new department was formed in SECP to look after the affairs of the insurance industry. Since the Insurance Act 1938 had become outdated, it was prudent to replace it with some new regulations. The new Insurance ordinance was promulgated in August 19, 2000 by the SECP that increased the minimum paid-up capital of non-life insurance companies to Rs. 80 million and for life insurance companies to Rs. 150 million.

THE INSURANCE SECTOR

A Page Survey of the New Insurance PolicyBy SYED M. ASLAMSep 18 - 24, 2000

Insurance leaves no part of our lives untouched today in ways only some of which are visible — it is one of the legality to own and operate a motor vehicle. Being an integral expense of all imports — be it finished or semi-finished goods, raw materials, edibles, commodities, etc., etc., it is an in-built part of price of almost everything the ultimate cost of which is borne by the end users.

Despite its immense presence at every level of economy; be it industrial, commercial or individual, insurance still much remains an involuntary expense in Pakistan considered good only if necessitated by the law. The prime example can that be of Motor insurance — less than 5 per cent of some 4 million vehicles of all sorts plying the roads nationwide have comprehensive insurance covers while the rest opt to carry useless Third-Party cover just to fulfil a legality providing no protection whatsoever to the victims of road accidents.

This attitude has taken a heavy toll on the insurance business in Pakistan where only the buyers of new cars chose to buy comprehensive insurance and that too for the first few years; where only a small percentage of the population care to buy life insurance; where buying fire insurance to protect property and assets, personal as well as industrial , is seen as an unwelcome expense. It has also resulted in a general preference on the part of the industry not to renew the insurance policies on plant and machinery once they are just a few years old. Insurance is usually the first casualty when it comes to cutting expenses by an industry, business and trade. It doesn't command any better respect from individuals be it life, auto or else. Despite the deteriorating law and order situation the volume of household insurance remains much negligible — not even 1 per cent of the people choose to buy this particular cover.

INSURANCE ORDINANCE

The Insurance Ordinance 2000 was promulgated last month. The primary objective of the Ordinance is to better regulate the business, ensure better protection and interests of the policy holders and promote sound development of the insurance industry. The salient features of the Ordinance include phased increase in the paid up capital of the life insurance companies to Rs 150 million and Rs 80 million for the non-life companies by December 31, 2004. The Solvency Margin has also been increased from Rs 500,000 in the Insurance Act 1938 to a minimum of Rs 5 million over liabilities or assets of an individual non-life company. In addition every life company has to keep at least Rs 10 million as statutory deposit with the central bank, the State Bank of Pakistan, compared to Rs 3.5 million previously.

The Insurance business will now be regulated by the Securities and Exchange Commission of Pakistan and not by the Ministry of Commerce through the Department of Controller of Insurance as in the past. However, the policy making powers would still remain with the Ministry.

The Ordinance has tried to address the concerns of the insurees amid increasing complaints about the payment of claims. A number of venues would now be available to the insurees to redress their complaints through the establishment of Tribunal and creation of a Commission, office of Insurance Ombudsman and Small Disputes Resolution Committee. The Tribunal, established for the first time in Pakistan to deal exclusively with matters pertaining to insurance, will have a civil jurisdiction in case of a claim filed by a policy holder against an insurance company. The Tribunal will also exercise criminal jurisdiction having the power to try the offences punishable under the Ordinance and have the same powers as vested under the Code of Civil Procedure.

The Ordinance has also laid down a well-defined criteria for the recruitment of insurance agents, brokers, surveyors, to encourage professionalism within the industry to better protect the interests of the insurees.

Perhaps the most important aspect of the Ordinance is the changing of the status of the PIC and NIC from that of Corporations to Company. In simple language it means that this will turn both these state-owned corporations into companies like any others as per the Companies Ordinance, at least in theory. The PIC will be rechristened as Pakistan Reinsurance Company while NIC will be National Insurance Company — not Corporations as previously. However, before discussing the impact that the new Ordinance would have on the insurance industry it is imperative here to take a look at the Pakistani insurance industry.

THE PLAYERS

The insurance industry of Pakistan comprises of some five dozen companies — both life and general, local and foreign. There are 55 private general insurance companies — 49 local and 6 foreign and 5 life insurers — the state-owned State Life Insurance Corporation (SLIC) and 4 private companies, two local and two foreign. In addition, there are Pakistan Insurance Corporation and National Insurance Corporation — the former primarily functioning as a sole reinsurance company to which all insurance companies in the country have to cede 20 per cent compulsory cession plus 35 per cent of the voluntary cession while the latter insures all government assets and properties. Both PIC and NIC enjoy a complete monopoly in their respective fields — the former enjoying the statutory cession from the insurance companies and the latter having no fear of competition from the private sector to enjoy the immense captive business.

Like many other industries, the life insurance business was nationalised in the early 1970s though the general insurance business was left untouched. In the early 1990s the life business was deregulated and today four private life insurance companies, two local and two foreign, are competing with the state-owned SLIC which enjoys an envious edge made possible primarily due to the monopoly it enjoyed for almost two decades.

Though non-life business was left untouched by the nationalisation policy in the 1970s the fact is the private sector till today has no role to play whatsoever as NIC has all along been the sole insurer to enjoy its captive business of governmental properties and assets. This has left this vast amount of business out of reach for the private general insurers, a point which it does not fail to mention at any given opportunity. The private insurance sector has become increasingly vocal about the 20 per cent compulsory cession and 35 per cent as voluntary cession to the PIC saying that it is unjust that PIC has been allowed to generate easy revenue without really working for it. It has also called the arrangement which benefits PIC at the cost of the insurers who have to put in an immense amount of time, money and leg work to secure the business to pay for a reinsurance arrangement which reeks of unprofessionalism.

BUSINESS

The gross direct premium written by the members of Insurance Association of Pakistan, the representative body of over 50 general insurers, has increased by almost 50 per cent from Rs 6.15 billion to Rs 9.18 billion in 1999, sources told PAGE.

The overall growth in the business over the years is lead primarily by a motor insurance despite sluggish economy and industrial stagnation in the other two classes — fire and marine.

A huge 90 per cent of the business is a dozen general insurance companies

CONCERNS

Talking to PAGE the Chairman of Standing Committee on Insurance of the Federation of Pakistan Chambers of Commerce and Industry, Humayun Sayeed, expressed a number of concerns about the Ordinance. Number one, he said, it would not to change the current status of the PIC and NIC except the change of names by adding a 're' prefix to the former and Companies instead of corporation for the both. The same is the case with state-owned State Life Insurance which enjoys a whopping 95 per cent of all life business in Pakistan, he added.

Despite the change in their names PIC and NIC will keep enjoying monopoly in their respective work at the expense and inconvenience of the private insurance companies. For instance, the general insurance companies in the private sector would keep on paying 20 per cent compulsory as well as keep offering 35 per cent of the voluntary cession to the PIC to enjoy a captive business without investing any amount of money, energy or leg work.

The monopoly of the PIC has not only been left intact but it has been given such added powers to impose upto Rs 10,000 fines and an additional Rs 1000 a day penalty on the insurance companies for non-compliance of orders.

This has been done contrary to the recommendation of the Asian Development Bank which called for the phased elimination of the compulsory as well voluntary cession. The Bank had recommended that the compulsory cession imposed by section 26 of the Pakistan Insurance Corporation Act 1952 was contrary to the principles of prudential supervision in insurance. It had based its recommendation at the

concerns regarding the lack of credible technical engagement on this issue. The Bank has expressed concerns that despite its concerns the compulsory cession has been preserved in the new Ordinance.

The vice chairman of the FPCCI standing committee on Insurance, M.I. Ansari, said that despite the change of name the PIC has been given additional powers to impose penalty on the insurance companies on this or that pretext. The PIC and NIC would keep on enjoying the privileges at the expense of the insurance industry which will remain deprived of the level playing field despite the semblance of change that the work 'company' implies.

He further said that while the insurance companies are made much more answerable to the insurees vide Tribunal, Commission, Insurance Ombudsman, and Small Disputes Claims Court the PIC has been left unanswerable to the insurance companies despite getting 20 per cent compulsory and 35 per cent voluntary cession. This is all the more disturbing as PIC is not known to fulfil its financial commitments when approached by the insurance companies to pay insurance claims. While the insurance companies are made more answerable to the insurees, the failure of PIC to honour its commitments as the major national reinsurance company i.e. the prime insurer's insurer has regrettably failed to draw the attention of the Ordinance. If an insurance company fails to pay the claims it is primarily due to the fact that despite enjoying the massive business it has developed the habit of not paying the claims on one pretext or the other, he added.

Both Humayun and Ansari demanded the deregulation of PIC and NIC at the earliest to encourage and promote insurance industry on solid professional lines. This is also necessary to bring real competition in the insurance industry by helping the insurance agencies to make their reinsurance arrangements on purely commercial lines and let the private general and life insurers make forays in corporate sectors which thus far have been denied to them. It is imperative to privatise PIC, NIC and SLIC at the earliest for the benefit of the industry as well as the insurees. The privatisation will also help check the much rampant practice of undercutting in the industry by stabilising the insurance rates in a market which have many players but only a limited number of buyers, he added.

Will the tremendous increase in minimum paid-up capital limit would result in mergers and acquisitions? Humanyun said that this would not be case as Pakistan is not a market of mergers and acquisitions. However, he expressed fears that it would result in closures of operations by as many as 20 general insurance companies by January next year to further aggravate an already worsening unemployment situation within the country. The foreign companies enjoying the financial backing and technical expertise of their principals would the real beneficiary of the ordinance to gain a leading edge over their local counterparts in next few years as the new Ordinance no more allows insurance risks to be insured in Pakistan, at least at governmental levels and the surface it seems for the benefit of foreign companies, he added.

Humayun was also critical about the statutory deposit to the State Bank of Pakistan which would deprive the smaller companies the level playing field. Asking the small companies to make a statutory deposit with the State Bank at par with the big companies is unfair as it put enormous financial pressure on them unlike a handful of big companies. A better approach would have been allowing all the companies

irrespective of their sizes to deposit a certain affordable percentage of the gross premiums with the State Bank.

This has been done in India where recently the government has allowed the non-life and life companies to deposit 3 and 1 per cent of their gross premiums respectively with the Central Bank till it reaches Rs 100 million. Without touching the paid-up capital or solvency margin the Indian government allowed both the life and non-life companies to enhance the required statutory deposit with the central bank in a way which was far for all the players irrespective of their size. Asking both the small and big companies to enhance statutory deposit with the State Bank in the Ordinance is discriminatory as enhancing the statutory deposit would pose immense financial problems for a great number of small companies, he added.

While its true that years of neglect, low savings rate and non-conducive business environment over the years have been some of the major factors detrimental to the insurance business, there are also those who feel that the high tariff rates have also taken a heavy toll on the insurance business. Humayun agreed that insurance tariffs are slightly higher than the international rates in Pakistan. He said that the new Ordinance does not mention anything about the tariff implying that the traditional tariff rates would no more be applicable and that each company would now be allowed to fix its own tariff pertaining to its particular business to encourage a free market business. However, he added that this will not happen immediately and the tariffs will be phased out over a period of time.

Humayun and Ansari expressed concerns that the new law is over-regulated particularly as the Securities Exchange Commission of Pakistan has been vested with the power to frame the rules and regulations. As the rules and regulations are yet not made the new law could not be discussed in its totality thus giving too much of discretionary powers to the SECP.

Secondly, while the insureds have been provided with four avenues to seek redressal of their grievances against an insurance company which has not been provided with any such forum except going to the court of law. Similarly, while previously the Tribunal was for the insurer to go for any complaint against the decision of the competent authority now it will be hearing the cases against the insurers on complaints lodged by the insureds.

Thirdly, the creation of the office of Insurance Ombudsman would be unable to serve the desired purpose since Ombudsman, a judge, would have to report to the SECP making the whole process of little practical use.

CONCLUSION

For the first time the insureds have been provided with four different venues to address their complaints pertaining to any dispute with the insurance companies. The phased increase in the paid-up capital in phases — Rs 100 million by December 21,2002 and Rs 150 million by December 31, 2004 for life companies and Rs 50 million by December 31, 2002 and Rs 80 million by December 31,2004 by the non-life companies would help strengthen the foundation of the local insurance industry. It will also

help better protect the interests and safety of the insured by allowing only the financially fit companies to operate the delicate insurance business.

However, given the present scenario where the majority of the companies have to enhance their paid-up capital, solvency margin and statutory deposit to the SBP and the fact that most of the local companies would have a hard time to meet these requirements it may be proposed that the policy makers should remain open to any and all suggestions from the industry to solve the issues to their satisfaction.

The change of names by replacing the word 'Corporation' with the word 'Company' — as is the case with PIC, NIC and SLIC — and the addition of prefix 'Re' before 'Insurance' in the case of PIC, alone would not help create a level playing field. It is imperative that measures should be taken to reorganise the PIC and NIC on solid professional lines to help retain the flow of reinsurance dollars to foreign companies on one hand and to better protect the interests of the insureds on the other by ensuring prompt payment of claims to the insurance companies. The similar should be the strategy for the NIC the sole insurer of government assets and properties for the utmost benefit of the exchequers. Failure to revamp PIC, NIC and SLIC, the state-owned life insurance company enjoying the unfair benefit and massive lead over the private competitors and holding the insurance policies of millions would be in the overall benefit of the Pakistani insurance industry.

OVERVIEW OF THE INSURANCE SECTOR OF PAKISTAN

The insurance industry has enjoyed robust growth in the last few years, driven by favorable economic conditions, expansion of the financial sector as a whole, privatization of large state owned entities and foreign investments. But factors such as the emergence of macroeconomic instability since late 2007, turmoil in global financial markets and dislocation of the domestic equity market along with the deteriorating security situation, posed substantial challenges to the performance of the insurance sector in CY08. In response, the insurance industry showed its resilience in that it was able to absorb a sudden and unexpected shock of meeting insurance claims of more than Rs. 6.0 billion arising from the riots caused by the assassination of former Prime Minister Benazir Bhutto on 27th December, CY07. At the close of CY08, the asset base of the insurance sector stood at Rs. 341.4 billion, up 5.0 percent in comparison with CY07. The share of insurance assets in the total assets of the financial sector is 4.5 percent and the sector assets constitute 3.3 percent of GDP. Table 9.1 shows the sector-wise assets of the insurance industry.

Ownership Structure It is evident from table given below that given the size of the state-owned life insurance company; the public sector is still the predominant player in the overall insurance industry with a share of 66.8 percent in total assets at end CY08. Notably, the private sector dominates the non-life insurance business, with a

share of about 78.0 percent in the total non-life sector assets, while life insurance is dominated by the public sector with a share of 90 percent in the total life insurance sector assets.

In CY08, 45 insurance companies were operating in Pakistan. Among these, 34 were general insurance companies, 5 were in the business of life insurance, with 1 Reinsurance company and 5 Takaful companies in the industry. The Insurance business in Pakistan is heavily concentrated: State Life Insurance Company (SLIC) has a share of 56.2 percent in overall assets, and 90.0 percent in life insurance assets. The level of concentration is still high, though relatively less skewed in general insurance companies such that the top five companies hold more than 70 percent of the total assets of the general insurance sector. 4 of the top 5 general insurance companies are part of the KSE-100 index, with a market capitalization of 2.8 percent.

Risks in the insurance sector can be categorized broadly as Technical risk, Credit risk, Market and Liquidity risk, in addition to other risks such as operating, managerial, and control structure risk. The magnitude of these risks varies in line with the nature of business in non-life and life insurance.

The most important risk factor in life insurance arises from the technical assessment of the underlying transaction for which insurance cover is required. Inaccurate actuarial calculations and errors in associated parameters can potentially result in a situation where the assured returns are not commensurate with the given amount of insurance claims.

Life Insurance Life insurance provides the facility of financial intermediation in generating long term financial savings. In this context, the main threat to the stability of the life insurance companies arises from the mismatch in the return assured and the returns generated by investments made by the companies in a risk-bearing portfolio. As shown in table below , investments form a dominant portion of the assets of life insurance

companies, with a 77.3 percent share in total assets. About 80 percent of these investments are in risk-free government securities, while around 19 percent are in the equity market, such that the potential probability of occurrence of market risk is low. However, this portion of investments can acutely affect the financial viability of the smaller companies in the life insurance sector, which in pursuance of higher returns tend to invest in equities rather than government securities and other fixed return securities.

Performance Review Life insurance companies had a 63.0 percent share in the total assets of the insurance industry in CY08, as against 59.0 percent in CY07, based on 5 operating companies. The state-owned company SLIC maintained its share as shown in figure below but the domestic companies lost their share to foreign companies during the year. Encouragingly, two new companies7 have been issued licenses in CY08 to operate as life insurers.

Investments As mentioned earlier, the composition of the investment portfolio of life insurance companies indicates that government securities constitute the key portion (80 percent) of the total investments However, until CY07, the major portion of the income was derived from equity investments. The equity market turmoil in CY08 has had an adverse impact on the sector’s income which declined by Rs. 730 million in CY08 alone table below.

Claims and Premiums Claims and premiums are important constituents of the insurance business: premiums are the primary source of revenue for an insurance company, while the honoring of claims mitigates the losses incurred by the customers.

The claims ratio (net claims/net premium) for life insurance companies was 47.5 percent in CY08, down by 1.0 percent in comparison with CY07 due to a higher growth in premiums, and much lower than the 62.3 percent claim ratio of the general insurance companies during the same period. Notably, life insurance claims are of a different nature and materialize in case of death, or the maturity or surrender of life insurance policies. Another reason for the lower claim ratio is the increase in premiums with growing public awareness of life insurance savings products and introduction of new products by the sector as shown in figure below.

Life insurance Financial Soundness Indicators For an assessment of the financial health of life insurance companies, this section analyzes the financial soundness indicators as detailed in table below.

Capital adequacy ratios indicate that the growth rate of equity has shown substantial deterioration in CY08, primarily due to the impairment of the value of equity investments and higher losses. Operating ratios on the other hand, show consistent improvement. The overall risk retention ratio is still quite high, which implies a low dependence on the re-insurance companies .The earning and profitability ratios are not significant due to the losses incurred in CY08.

General Insurance The asset allocation of general insurance companies (Figure 9.6) reveals that while investments have a dominant share as in case of life insurance, the absolute level is relatively less at 54.0 percent. Table 9.7 gives details of the aggregate investment portfolio of general insurance companies. Unlike life insurance, general insurance due to the short-term nature of its premiums tends to invest in the equity market and short term instruments in pursuance of higher returns and meeting short term obligations. This investment behavior of general insurance companies carries the element of market risk for the sector. Any development in the equity market directly affects the overall investment of the sector and consequently the returns. General insurance companies also face problems with the assessment of technical risk, as reflected in some suspicious cases where some chemical and paint manufacturers did not take appropriate safety measures which increased the risk and intensity of losses by fire.

In contrast with life insurance, general insurance contracts and premiums are for a maximum period of one year and cover the risk component. Liquidity management is also different from life insurance, in which case the return to the saver is assured at the time of policy purchase, which allows the company to easily work out the liquidity needs for liability management. On the other hand, general insurance is more exposed to calamitous or unforeseen risks. General insurance firms’ liability is realized only if such an incident occurs. General insurance companies’ deposits are less than one percent of the total deposits of the banking system, and its assets are 1.2 percent of

the total financial sector assets, again reflecting a weak degree of inter-connectedness with the banking sector. 9.5.1 Performance Review General insurance companies have grown and expanded in the last few years, in the backdrop of a favorable economic environment, booming equity market and the increasing auto loan portfolio of the banking sector which led to an increased demand for car insurance. This period of growth was dealt a severe blow on December 27, 2007 when the assassination of ex-Prime Minister, Benazir Bhutto resulted in strikes, riots and a prolonged period worsening security conditions when substantial damage to property etc took place. On the other hand, the slowdown in the economy and rising interest rates led to a low demand for auto finance, with a consequent impact on general insurance. Events of December 27, 2007 led to insurance claims of Rs. 6.0 billion for the general insurance sector which the sector managed to handle due to the backing of strong foreign reinsurers, and there was no serious threat to solvency. The sector faced another blow in mid CY08 when the value of its investment portfolio suffered due to the substantial decline in the value of the equity market. The general insurance sector like life insurance is very highly concentrated as shown in Table 9.8. Capital Structure Despite the challenges in its operating environment, the general insurance sector enhanced its paid-up capital base to Rs. 348 million in CY08, as compared to Rs. 301 million at end CY07. Notwithstanding, some individual companies are still non-compliant with the minimum capital requirements set forth by the SECP. Figure 9.7 shows the level of paid up capital and reserves of the general insurance sector, which indicates that after a robust growth of 132 percent in CY07, the level of reserves and retained earnings registered a negative growth of 20.0 percent in CY08. Notably, the aggregate paid-up capital base is increasing gradually in line with the regulatory requirement for the general insurance industry. SECP in a recent circular8 increased the statutory deposits of all insurance companies with SBP from Rs. 5.0 million to Rs. 10 million, plus 10 percent of the insurer’s paid-up capital as a safety cushion. Premiums and Claims Composition The various categories of general insurance include motor, fire, marine, health, treaty and miscellaneous insurance. Motor insurance forms the largest portion of general insurance with a share of 48.2 percent in the total net premiums, followed by marine and fire with a 19.8 percent and 16.7 percent share respectively at end CY08. The remaining share is held among the categories of miscellaneous, health and treaty (Figure 9.8). In CY08, general insurance premiums could not maintain the growth momentum seen in previous years: on average, net premiums grew by 24.4 percent from CY04 to CY07, while in CY08 they only grew by 10.9 percent. The loss in the growth momentum is the direct result of the slowdown in economic activities, and the demand for auto finance. The claims ratio of general insurance in CY08 decreased to 60.6 percent from 64.4 percent in CY07 (Figure 9.9). The deteriorating law and order situation, gradually improving though still weak economic conditions and increase in reinsurance premiums are some of the challenges for the sector in the near-term. Profitability The general insurance sector recorded a net loss of Rs. 4.1 billion in CY08, after an outstanding year of profits at more than Rs. 56 billion in CY07. Figure 9.10 shows the major sources of profit for the sector. It is evident that underwriting gains showed some improvement in CY08. But the investments portfolio recorded a loss in excess of Rs 4.0 billion, as compared to gains of Rs. 36.8 billion in CY07. The turmoil in capital markets and below average earnings of the corporate sector contributed to the negative investment income.

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