Lifeline for insurance

The Centre has decided to defer an increase in foreign direct investment (FDI) limits for insurance companies from 26 to 49 per cent. In doing so, it appears to have given in to the arguments made by the Parliamentary Standing Committee on Finance. On closer examination, these lack merit, for the simple reason that the insurance sector desperately requires fresh infusion of capital, estimated at about $12 billion over the next five years.

Although 12 years have passed since insurance was opened up to private competition, a majority of players continue to make losses. In life insurance, this is partly due to the long gestation nature of the business and partly owing to the skewed strategies of the companies. They have relied excessively on low margin single premium products with market-linked plans bolstering profits. Regulatory intervention to curb costs is also pressuring margins. With inflows into the latter drying up, profits are now under pressure. In general insurance, the high incidence of claims — not fully compensated by premiums — has hurt profitability. According to a recent McKinsey study, the Indian life insurance market is the least profitable in Asia, with well over half of the $7.5 billion invested by private players in the last decade going to simply fund accumulated losses. This is a serious matter. A thriving insurance industry is essential for a country where social security coverage — particularly healthcare and pension payments — is minuscule. Insurers are, moreover, a key source of money for the capital and bond markets to finance long-term infrastructure investments.

All this only reiterates the case for capital infusion that can help insurers tone up their risk management systems, rejig operations and expand distribution. The argument that insurers must raise funds for this through initial public offers is impractical. With the stock market in doldrums, it is unlikely and even undesirable that retail investors should come forward to commit money in these long-gestation businesses. Nor can one expect the Indian partners in the 40-odd existing insurance joint ventures to bring in additional equity. Many of them are banks or financial institutions with prodigious capital needs of their own.

Rhetoric about the insurance industry's vital role in managing household savings and the dangers of allowing ‘foreigners' to get their hands on these is just that — rhetoric. Foreign investors are anyway permitted to own 74 per cent equity in Indian private banks and 100 per cent in mutual fund companies that manage retail money. There is no harm, then, in raising the FDI cap in insurance to 49 per cent, while putting in place safeguards to prevent mismanagement or risk to public money. To protect policyholder interests, the regulator can consider reinstating the mandatory lock-in period for promoters and limits on exposure to risky assets or securities. Alongside, there could be strong disincentives for fraud and wrongful claims that significantly impact insurer profitability.

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