World-Eye View

Overview On The Global Economy

The outlook, while improving, is colored by elevated political risk

Excerpts from the new Swiss Re Sigma report, ‘World Insurance in 2017’, looking at the state of the insurance industry in the context of the wider global economy.

Growth in the global economy was little changed in 2016 from the previous year with real gross domestic product (GDP) up 2.5%. Advanced economies’ GDP remained below the pre-financial crisis average, but was slightly above the annual average of the previous 10 years. Emerging market growth picked up only marginally, and was still far below the 10-year average. Commodity exporters struggled due to relatively low prices while growth was solid in some key markets like India and China, and improved in Central and Eastern Europe (CEE).

Interest rates remained low in Europe and Japan, while the US Federal Reserve (Fed) continued its gradual monetary tightening at the end of the year. Other than in some emerging markets, inflation was low in most countries, even though it started to tick higher. Total direct insurance premiums written grew by 3.1% in real terms in 2016, down from 4.3% growth in 2015.2 The slowdown was mainly driven by considerably lower growth in advanced markets. Robust premium growth in China supported the emerging markets which were otherwise also in slowdown mode. Global life premium growth slowed to 2.5%, to USD 2617 billion (2015: 4.4%). Premiums in advanced markets contracted by 0.5%, while they grew rapidly in the emerging economies, driven by China. Premiums were flat in North America and Western Europe, after positive growth in the previous year. Japan weighed on the advanced Asia growth aggregate slightly, while the other markets were robust. Emerging market life premiums increased by 17% in 2016, more than double the long-term average, supported by solid performance in emerging Asia. Growth slowed in Latin America&the Caribbean, and in the Middle East&Central Asia. Premium growth was weak in Africa and continued to decline in CEE

Global non-life premium growth slowed to 3.7% to USD 2115 billion (2015: 4.2%). Advanced markets were the main reason for the slowdown (2.3% in 2016 after 3.3% in 2015), with all regions other than Oceania experiencing lower growth. In advanced Asia, premiums stagnated (0.3%) as Japan’s non-life market contracted and growth was weak elsewhere. Premiums in North America and Western Europe grew solidly, but slower than in the previous year. Emerging market non-life premium growth of 9.6% (2015: 7.9%) was mainly driven by China. Excluding China, emerging market premiums were up just 1.7%. Growth trends across regions were mixed.

Emerging Asian Markets

Other emerging Asian markets were solid and there was a rebound in CEE (5.4%), but premiums in Latin America contracted among weak economic conditions there. Interest rates have been low for close to a decade, and this affected life and non-life insurers’ profitability yet again in 2016. Return on equity (ROE) declined in both sectors. In life, moderate premium growth in many markets also dragged on profitability, while the non-life sector was further impacted by lower underwriting results. Lower reserve releases and higher losses from natural catastrophes were the key factors in the weaker underwriting results.

Both the life and non-life insurance sectors remain well capitalised, however. Global life premium growth is expected to improve over the next few years, mainly driven by the emerging markets. Advanced markets should also grow, but only moderately. While North America is expected to outperform Western Europe, growth will likely be highest in advanced Asia. In the emerging markets, China and India will remain the growth engines for life insurance. Growth in the non-life sector is expected to remain moderate, driven mainly by stronger activity in the advanced economies.

Premium growth is expected to improve in North America and advanced Asia, but remain flat in Western Europe and Oceania. Emerging markets are likely to grow robustly but at a slower pace than in the recent past, mainly supported by healthy growth in China and also India to some extent. There is a special section on advances in digital distribution in this report, an update to the 2014 sigma on this topic. There has been a proliferation of direct digital distribution channels in recent years, in some markets. At the same time, the share of traditionally intermediated insurance business remains dominant globally.

The digitalisation of insurance distribution is set to continue, but the pace of change will vary across markets. Digital channels will ultimately be used throughout the distribution process, from information gathering to purchase completion to aftersales service. But not all insurance transactions will migrate online, and intermediaries will continue to play an important role. This sigma study contains the latest market data available at the time of going to press. The final figures for 2016 are not available for most insurance markets. As such, the sigma also contains Swiss Re Institute estimates and provisional data released by supervisory authorities and insurance associations.

The digitalisation of insurance distribution is set to continue, but the pace of change will vary across markets. Digital channels will ultimately be used throughout the distribution process, from information gathering to purchase completion to aftersales service

Outlook: improving, but political risks remain elevated

Global economic growth is expected to improve slightly in 2017, continuing a cyclical recovery despite ongoing political uncertainties and structural challenges. Advanced market fundamentals have improved. In the US, real GDP growth is expected to be above 2% this year and next, supported by continued gains in employment and income, as well as a rebound in investments. Growth in the euro area is expected to remain stable.

The UK economy is expected to slow as rising inflation constrains real incomes and household consumption, and uncertainty around Brexit weakens business investment and hiring. Real GDP growth in Japan will likely remain weak, at less than 1% annually over the next two years. Inflation in advanced economies is expected to pick up in 2017 and 2018, with higher oil prices one of the drivers. It is forecast to rise above 2% in the US and the UK. In the US, price pressures will come from rising wages and a tight labour market, while in the UK, currency depreciation will keep inflation elevated. In the Euro area, inflation is forecast to pick up in 2017 but remain well below the ECB’s 2% target. Economic growth in the emerging markets is forecast to strengthen in 2017 with improvement in all regions.

Growth in emerging Asia will likely remain high, although China is expected to slow further as the economy continues its transition to become more services oriented and the government liberalises the financial system. In India, Prime Minister Modi is likely to continue reforms, such as the goods and services tax reform, and real estate regulations. The measures are a short-term negative but they should support longer-term growth. Accordingly, growth in India is forecast to slow in 2017 before improving again to more than 7% in 2018. Russia and Brazil are both expected to emerge from recession in 2017, supported by higher commodity prices. In Brazil, President Temer continues to face challenges to governability with accusations of corruption levelled against ministers and more recently himself. Russia remains constrained by inherent structural economic weaknesses and western sanctions.

Commodity exporters in the Middle East and Africa are expected to recover along with gains in commodity prices. Global monetary policy divergence is expected to continue until 2018 with the Fed likely to maintain the slow pace of interest rate increases. Inflation in the UK is likely to rise above target, driven by oil prices and currency depreciation, but the BoE has indicated that it will not raise rates, conscious of the uncertainty around Brexit negotiations and its expectation that the inflation increase will be temporary. The ECB and the BoJ will continue with QE. Hence, yields on US and UK 10-year government bonds are forecast to rise only modestly by end-2017. German yields will rise slightly while in Japan, yields are expected to remain close to the BoJ’s target of zero. Credit spreads have returned to close to pre-global financial crisis lows, supported by central bank QE purchases, and are expected to remain roughly unchanged.

There are several key downside risks
In the US, inflation remains a risk to watch, in light of an economy operating close to capacity, expansionary fiscal policies advocated by President Trump and his comments on Fed independence. Protectionist policies by the US, such as a Border Adjustment Tax (BAT) or import tariffs, would boost inflation and also be detrimental for global growth if they trigger a trade war. However, the US policy agenda around taxes, deregulation, immigration and security remains very uncertain. In Europe, Brexit negotiations and their impact on trade, political developments in Italy, immigration issues and a failure to implement structural reforms in many countries are the main risks. Emerging markets, particularly those with elevated debt levels, remain vulnerable to more rapid US interest rate increases and subsequent tightening in financial conditions. However, the threat of contagion is relatively limited due to the robust financial buffers in many markets. In China, the risk of a hard-landing still lingers as reforms are progressing slowly.

Life insurance sector outlook

Growth in global life premium income is forecast to be robust over the next few years, with emerging markets the main driver. In advanced markets, growth is expected to turn positive again in the near term but remain significantly lower than in the emerging markets. Nevertheless, given the sheer sizes of the markets, advanced economies are forecast to still account for around half of the premium dollar volumes added worldwide by 2021. In 2016, the advanced markets accounted for 81% of global life insurance premiums.

Among the advanced markets, growth will likely be strongest in advanced Asia. Elsewhere, North America is expected to outperform Western Europe. In the emerging regions, stabilising economic growth, growing populations, urbanisation and a rising middle class underpin a positive outlook for life insurance penetration. Growth in these markets is expected to be fuelled by China and India. Global insurers from mature markets will continue to expand into these high-growth markets. At the same time, insurers from emerging economies, especially emerging Asia, will increasingly enter advanced markets to obtain knowhow, access large premium pools and diversify geographically. Managing legacy savings business with embedded guarantees will remain a major challenge for life insurers.

Historically low interest rates are likely to persist and limit the sector’s ability to offer attractive savings products to boost new business. To maintain an appropriate duration match with liabilities, life insurers must also reinvest in lower-yielding fixed-income assets as they mature, which will lower the profitability of in-force books. Life insurers will continue to re-orientate their business models and shift their focus from traditional savings to life protection products. However, it will take time for a change in product mix to affect profits materially.

Read the entire report here.