Articles - ESG a dissonance headache for the insurance industry Part 2

Part 1 of this article introduced the idea of a dissonance headache that the insurance industry seems to suffer from when thinking about Environmental, Social, and Governance considerations (ESG). This headache reflects a growing divide: on the one hand, insurers have made good progress embedding ESG internally; on the other hand, they risk falling out of step with evolving societal and regulatory expectations of how they should apply those same principles to their underwriting practices.

 By Ed Harrison, Senior Consultant at Lane Clark & Peacock

 In the previous edition, we reviewed the “E” – looking at how insurers can tackle inconsistencies between their internal and external looking climate policies. This month, in part 2, we consider the Social and Governance aspects of ESG.

 Is Social and Governance progress being drowned out by climate change?
 Social and Governance issues often appear to be playing second fiddle to the climate change aspects of ESG. In some respects, this is a shame, because insurers are taking positive action in this space but progress often goes unnoticed. Examples of industry-wide positive actions include:

 • Implementing robust anti-corruption and bribery procedures.
 • Enforcing policies on child labour, forced labour, and modern slavery.
 • Embracing Diversity & Inclusion initiatives.

 These activities may not be headline grabbing in the way that climate change net-zero pledges are, especially in the run-up to COP26. However, they do demonstrate an industry commitment to tackle the types of Social and Governance issues set out in the United Nations Environment Programme (UNEP) principles for sustainable insurance.

 Insurers could still go further with these policies. For example, most insurers have policies on modern slavery and might also require direct suppliers to also have such policies, but relatively few look further into their supply chains. Similarly, relatively few commercial insurers reflect Social and Governance considerations in their underwriting, eg by offering more competitive premiums to firms with stronger Social and Governance policies.

 How do we broaden the Social and Governance debate?
 Having a strong track record on the more traditional Social and Governance aspects of ESG, for example on Human Rights and on Bribery and Corruption, is clearly important, but it’s not always front and centre in policyholders’ minds. The level of public trust in insurers has been falling, particularly in the US and the UK. A major driver of this is the hardening of consumer sentiment towards big business and financial services, including insurance, which has been exacerbated by the Covid-19 pandemic.

 Insurers’ underwriting and claims practices need to evolve to keep pace with social trends. Consumers have an increasingly strong sense of social justice and social media platforms such as Twitter and Facebook give policyholders a bigger platform to call out practices they perceive to be unfair. Broadening the Social and Governance considerations around underwriting and claims provides insurers with a real opportunity to improve those policyholder perceptions and reduce their reputational risks as part of the next phase of their ESG strategies.

 • Short term: Insurers will need to face up to the age-old problems of policy wording transparency and perceived unfairness in pricing practices. The Covid-19 BI test case highlighted the gulf between underwriter and policyholder expectations, whilst the FCA price-walking ban in the personal motor and home market shows that it typically takes regulatory intervention to stop practices widely perceived as unfair.

 • Medium term: Insurers need to ensure they are upholding the social contract that the public expects of them, especially as those social expectations evolve. The Covid-19 pandemic has put a spotlight on the every-day difficulties faced in transferring risk. Festivals and other large events have struggled to find appropriate event cancellation cover, and holidaymakers must on-the-whole accept the risk of Covid-19 cancellations themselves because insurers won’t. To truly make good on the social aspect of ESG, the insurance market as whole must find a way to continue providing capacity, even in an uncertain world.

 • Longer term: Insurers could look at opportunities to move away from traditional risk transfer, and into partnership with policyholders to help reduce their risk exposure. Some early examples of this include insurtech offerings that use embedded sensors to detect and stop leaks from burst pipes in smart homes, and the re-building of flooded homes in a more flood-resilient way. In the past, this type of “build back better” approach would be beyond the scope of insurance cover, now maybe it’s time to consider it as part of best practice.

 Is the latest FCA “Dear CEO” letter a Social and Governance wakeup call?
 With its October “Dear CEO” letter, the FCA set out six areas of increased regulatory focus over the coming years. These show that the FCA is keen to make sure that insurance market practices keep pace with consumer expectations by ensuring that:

 1. Products offer fair value for customers.
 2. Claims processes lead to timely and fair outcomes.
 3. The impact operational disruption on policyholders’ experience is minimised.
 4. Ambiguity in contract terms does not disadvantage policyholders.
 5. Firms’ cultures, particularly around D&I, promote good outcomes for policyholders.
 6. Key insurance products are accessible to those who need them.

 The tone and content of the latest Dear CEO letter suggest that insurers should be prepared for further regulation on Social and Governance issues. The FCA clearly has an appetite to focus ESG efforts on improving customer outcomes. Insurers who respond quickly to Social and Governance pressures may be able to gain a competitive advantage by leading the way.

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