Microinsurance: A new insurance model for the developing world
Microinsurance is insurance that enables low-income people, mostly in the developing world, to avoid the debt traps that often imperil their livelihoods and even their lives. Microinsurance provides life, health, and other unique forms of insurance, providing limited benefits for very low premiums. We spoke with Milliman consultant Lisa Morgan about some of the ins and outs of this intriguing and relatively new innovation in the insurance industry. Morgan was recently approved as a provider with the United Nations' International Labour Organization (ILO), offering her expertise in designing and pricing financially sustainable products to organisations with identified needs for microinsurance. She is also involved in the ILO's Consulting and Capacity Building Programme.
Q: Can you start by laying out some of the basic premises of microinsurance?
Lisa Morgan: Microinsurance is insurance that’s aimed at the low-income market and, more specifically, at the working poor. It's not for people who are unemployed. It enables people to become more involved in their own financial destinies. There are two justifications for microinsurance. One is the desire to continue building a commercial market for insurance. There's a gap for people who are now traditionally underserved and insurers can see the potential for profit there. The other justification is a more humanitarian one, helping keep people out of debt traps often caused by people in need borrowing from rogue lenders who charge extortionate rates of interest. Low-income earners in developing countries are more vulnerable and own fewer assets. Ordinary life risks could therefore completely wipe out a family's entire savings. For example, if a family member needed to go to hospital, it could result in financial ruin. Whereas, in the developed world, people who face those risks might have more in savings or social security nets that can catch them.
Q: What impact, if any, has microinsurance made?
Lisa Morgan: Microinsurance is important for the developing world in a very fundamental way. Today, some 60% of the world lives on less than eight U.S. dollars a day in terms of local purchasing power—that's about 4 billion people worldwide, over half of the world's population; 2.6 billion people live on less than two U.S. dollars a day. More than anything else, microinsurance has been recognised as a means of managing risks that are faced in everyday life by people living on low incomes. Donors of development funding have become increasingly interested in supporting these initiatives and fostering the emergence of an insurance culture amongst the low-income sector globally. By managing risks and avoiding debt, it is hoped that over time those who have microinsurance will have a means of protecting the wealth they accumulate, generating more income, and getting a fair chance to lift themselves and their families out of poverty.
Microinsurance schemes based on the people's mutual model, in which members of the group come together to decide how their "pot of money" is to be spent, have been successful in some regions. Not only has membership given people more awareness of their own cash flows and situations, and insight into managing their risks; it has also empowered them within their communities and strengthened their sense of solidarity. Some microinsurers (MIs) also invest in financial education, and so other benefits of microinsurance include the promotion of financial literacy and a culture of insurance. Two examples of the mutual model of microinsurance, based in India, are Vimo SEWA and Uplift India.
Microinsurance reaches low-income families because it tailors insurance to the needs most felt by people living in the developing world. So, for example, in South Africa taxi insurance is being offered by Hollard. Most people don't have cars and taxi minibuses are often the only way for people to get to work. The minibuses are notoriously overcrowded, sometimes poorly maintained and are involved in many road accidents. Taxi insurance covers passenger liability along with other risks. This coverage is a relatively new and innovative product. Funeral insurance (to cover the costs of the policyholder’s funeral) in Southern Africa is another example that has been around for many years. Other products may be designed specifically for a group of workers in a particular industry, for example maternity coverage for female coir workers in a particular state in India.
Q: Can microinsurance be profitable?
Lisa Morgan: The key to profitability with microinsurance is that it's analogous to something like the business model for Wal-Mart in the United States. The strategy is based on a philosophy of "low-margin/high-volume". The idea is that, to make it profitable, you must rely on pricing that's as accurate as possible with low margins and sell large volumes of business. As long as growth in revenues is greater than growth in incremental costs, scalability means profitability.
Looking at different products, credit life microinsurance programs are generally able to generate a profit anywhere in the world. Having said this, breaking even for a new product may take a few years, as is to be expected. For example, the endowment microinsurance policies sold by Tata-AIG were expected to break even in three to four years, assuming that the initial high growth rates and high levels of persistency continued.
Research from the Good and Bad Practices case studies published by the ILO1 show that microinsurance can represent a profitable tranche of business for commercial insurers, particularly for a basic product that is mandatory for all borrowers. Examples include:
- AIG Uganda provides a group personal accident product to more than 20 microfinance institutions. Research done in 2005 shows that microinsurance produced almost 17% of AIG Uganda's net income in 2003 and was forecast to produce 25% of earnings in 2004. Microinsurance products were nearly the most profitable for the insurer in 2003. During this time, the claim ratio was very low—between 23% and 31%. The profit margin was around 18%.
- The credit life product offered by Madison Insurance and four microfinance institutions in Zambia, which had loss ratios below 50%.
Voluntary insurance products sold on an individual basis are naturally much more expensive to distribute and service than the mandatory group policies linked to loans.
Assessing product profitability is not easy as insurers operating in the microinsurance market generally do not disaggregate their costs depending on whether the products were bought by low-income people. Also, a proper allocation of the associated costs and investment returns is not usually available. Another challenge is the willingness of insurers to provide the detailed information required to assess profitability.
Not all microinsurers succeed and a real challenge remains to ensure profitability of operations for product lines that are most needed by the poor, especially health microinsurance. The microinsurance industry is still evolving and innovation remains the key to finding the most cost effective model for all the major microinsurance products.
As an aside, the World Bank is starting to collect key information on microinsurers to measure results based on the Microinsurance Network Key Performance Indicator (KPI) subgroup manual.
Q: Where do you find the boundary between microinsurance and macroinsurance? When does micro became macro?
Lisa Morgan: Microinsurance is focused on the low-income market and on people who work in the informal economy, who tend to be underserved by mainstream commercial and social insurance schemes. By contrast, conventional insurance—the macroinsurance you're referring to—tends to be aimed more at middle- and high-income earners. Microinsurance is obviously limited by its low levels of funding. You will often find that governments will supplement the premiums, or Nongovernmental Organisations (NGOs) or other organisations. Microinsurance schemes are often quite simplified because they can only afford the most basic levels of benefits. So, for example, with the healthcare microinsurance scheme, if you designed a product you would be limited by the number of hospitals and healthcare professionals available to provide care. It's an unfortunate reality that you can't give people what's not there.
Q: What kinds of entities are pursuing or can pursue microinsurance concepts? Is this really something for existing financial service entities, or is it a concept that's open more to new entrants?
Lisa Morgan: I think both, actually. But it does seem that, for now, the most successful microinsurers are not the mainstream commercial insurers. Rather, they are start-up organisations that really understand the grassroots issues and are able to build a sustainable business up from the ground. These organisations typically have very low-cost operating models. That said, many existing insurance companies have begun to show more interest in microinsurance. To be successful in the microinsurance space, larger companies will need to redesign their operating model to be suitable to the low-income/low-premium market. It also depends on what country you’re talking about. For example, in India, insurance providers are obliged to have a certain percentage of the low-income market on their books. Many financial service firms may hesitate because they don't understand the risks involved, and aren't willing to take the risk. But there certainly is interest. Microinsurance has typically followed microfinance—banking originally introduced to lend small amounts of money (mostly to poor women) to establish small businesses, for example, a roadside stall to sell goods. With many of these schemes, the repayment rates have proved to be outstanding. Microfinance has opened the gateway for distribution channels for microinsurance. Fifteen years ago there was much debate about whether microfinance could be profitable. It has been a success and MIs hope to follow in the footsteps of microfinance.
Q: How has your own work fit into the larger scope of this effort?
Lisa Morgan: I have collaborated with the ILO on a number of projects to date. Briefly—to mention two—we completed a feasibility study looking at which products would suit the Swazi market for a for-profit insurer based in South Africa. I was also involved with the design and pricing of a maternity project for women living in rural Tamil Nadu, India, and working in the coir industry. In this instance the organisation requesting the pricing was an NGO.
More recently I co-authored a paper2 to assist others who are faced with the task of pricing basic healthcare microinsurance products in the absence of suitable data. In order to price any type of insurance you need data, and remember, accurate pricing is particularly critical to making microinsurance work. Because the microinsurance market is still very new there’s not a lot of data available. The paper I worked on provides a framework for market research that enables actuaries or other insurance providers to collect data quickly and easily on a slim budget. It includes a template questionnaire that can be used so that others don’t have to reinvent the wheel and start from the beginning. We tested the questionnaire in a low-income setting in South Africa, interviewing female domestic workers to determine whether the incidence rates that came out of it were usable. We had a larger data set that we could compare it against just to see that our basic questionnaire was collecting data that was usable. We concluded that even if you interview a very small group of people with that questionnaire, even 100 people, you could end up with rates that were a lot more relevant than using proxy data from another population. And that's quite important because most developers of microinsurance won't have large budgets to do huge surveys. Over time, microinsurers will gain experience and record more and more of their own data. Eventually, they have their own experience data to analyse and use to adjust their pricing models.
1 International Labour Organization, Employment (Feb. 23, 2010). Microinsurance case study series "Good and Bad Practices." Retrieved Aug. 4, 2010, from http://www.ilo.org/employment/Whatwedo/Publications/lang--en/WCMS_123376/index.htm.
2 Morgan, L. & Meerschaert, J.D. (February 2010). Health microinsurance: Healthcare and incident rate questionnaire: A tool for technical advisors. Milliman Research Report. Retrieved July 27, 2010, from /-/media/Milliman/importedfiles/perspective/pdfs/health-microinsurance-healthcare-incidence.ashx.