Australian School of Business

Actuarial Theory & Practice A - Week 11

The inter relationship of policy

conditions, pricing, underwriting,
reinsurance, profits & capital

Anthony Asher 2014

Agenda
Policy conditions
Marketing and Pricing
Reinsurance
Profit and Capital
The lecture will consist almost
entirely going over the questions
listed. Everyone should have at
least one chance to answer over
a 2 week period

Activity

Details

Hours

Consider lecture questions

2
3

Reading:

UAM 11,13 & 16

Exercises

Write answers to the other

mid-semester questions and
share with people in your
group commenting on
theirs

Preparation:
Attendance:

TOTAL

10

Policy conditions
What are the normal benefits, charges and exclusions for the following:

Life lump sum insurance?

Whole life annuities?
Disability income insurance?
Accident, trauma and TPD insurance?
Motor and home insurance?
Marine and fire insurance?
Workers compensation?
Travel insurance?
Public indemnity, Directors and Officers?
Lenders mortgage insurance?
Private Health Insurance?
DC and DB Superannuation funds?
Term deposits
Current accounts
Fixed and variable rate mortgages

Marketing and Pricing

What is a marketing brand?
How would you value it?
Balancing marginal cost and marginal revenue is the theoretical approach to
pricing
Why is it difficult in the short run?
Why is it ever more difficult in the long run?
What are the alternatives
Pricing not only covers the benefits but also marketing and sales costs:
What is the theoretical approach to optimising sales costs?
Are there differences in the short and long run?
What is economic or monopoly rent?
Is it legal?
Is it ethical?
Why is it relevant to pricing?
What is hysteresis?
Why is it relevant to pricing?

Underwriting
What are the important underwriting factors for the following:

Life lump sum insurance?

Whole life annuities?
Disability income insurance?
Accident, trauma and TPD insurance?
Motor and home insurance?
Marine and fire insurance?
Workers compensation?
Travel insurance?
Public indemnity, Directors and Officers?
Lenders mortgage insurance?
Private Health Insurance?
DC and DB Superannuation funds?
Term deposits
Current accounts
Fixed and variable rate mortgages

Functions of Reinsurance
Financing
Stabilization
Capacity

Catastrophe Protection
Services
Source: Robert D. Graham, General Reinsurance Corporation
Overview of Property and Casualty Reinsurance

What Reinsurance Does Not Do

Reinsurance is not coinsurance.

Reinsurance is not banking it is not the

lending of money but it can have the same
effect.

Reinsurance is not a security.

It is not Alchemy.

Reinsurance does not:

Convert an uninsurable risk into an insurable risk.
Make loss either more or less likely to happen.
Make loss either greater or lesser in magnitude.
Convert bad business into good business.
Source: Robert D. Graham, General Reinsurance Corporation
Overview of Property and Casualty Reinsurance

What are profits?

Who takes the following perspectives of profit?
A number in the accounts
A number from the analysis of surplus
A reward for taking risks
A reward for entrepreneurial activity
Why and how should profit be un-entangled from other items in the accounts?
Inflation adjustments
Risk free interest rates
Risk premiums
Do you agree with the following:
Capital is exposed to risks and therefore entitled to the risk premium
If shareholders do not have control other stakeholders will expropriate them
The objective of company is to make profits for shareholders
Shareholders should have the unfettered right to fire directors and managers
Other stakeholders need to be protected against arbitrary shareholder power
Can mutual organisations survive in the modern world?

Effects on Profit & Capital

Pricing: Margins can replace capital

When is this not true?

Underwriting: heavy underwriting likely

to reduce premium income, but also will
reduce claims costs and volatility of
claims (and hence capital)

Is declining high risk business heavy underwriting?

Underwriting reduces anti-selection and
heterogeneity is this a reduction of risk or
uncertainty?
One example is offering accident benefits and no
cover for disease on insurance policies. Why do
this? Could it be a lost opportunity?
What is claims underwriting?

Policy conditions: can be used to

balance underwriting and hence
control claims costs
Outsourcing of administration can
control expense costs and reduce capital
requirements
Riskier investment strategies can
increase long run return but also increase
capital requirements
Reinsurance is an alternative to capital
and should reduce the volatility (and
level) of profit and capital requirements.

What is the economic principle here?

What is the economic principle here? Why might it
be less valid than in the instance above?

What are the economic principles at stake here?

Discussion 1
Most smaller superannuation funds outsource part or all of their member &
investment administration. What is their operational risk?

10

Discussion 2
How would you decide how much reinsurance to hold?

11

Discussion 3
If you were a general insurer and just suffered a heavy underwriting loss as a
result of an extreme event so that both profit and capital were down, would
you then increase reserves as well and exacerbate the loss?

12