Direct non-life insurers in advanced markets have on average released prior-year loss reserves, although the pace has been slowing recently. Larger reserves for the most recent years and a cushion for as-yet unreported claims suggest a solid buffer is in place, but recent shocks are pushing up claims, raising questions about adequacy. With uncertainty high, insurers may reduce risk appetite and new business capacity, which may in turn sustain the hard market conditions.
- Direct insurance reserve releases in advanced markets are slowing after a decade of favourable progress.
- The recent pandemic, war and inflation shocks are pushing claims higher and raising questions about reserve adequacy.
- Insurers have increased the share of incurred-but-not-reported (IBNR) claims in response.
- Higher uncertainty over coming claims suggests that reserves are at risk of being insufficient despite the large current buffer.
- A greater focus on reserve adequacy may fuel further hard market conditions and restrain new business capacity.
The adequacy of non-life insurers’ reserves is in the spotlight after recent systemic shocks: elevated inflation and natural catastrophe losses, COVID-19, the war in Ukraine and supply chain issues. In 2021 and 2022 insurers released reserves built up in anticipation of pandemic-related claims, although overall releases were slightly lower than in prior years. By some measures, reserve positions are elevated. For example, insurers in the US reserved cautiously during the pandemic years in anticipation of claims such as those related to cyber and business interruption. However, the surge in inflation and other pandemic impacts like court backlogs bring added uncertainty to reserves analysis. On balance, we see higher uncertainty around loss reserves estimates, with downside risks to adequacy.
Reserve developments in some key markets suggest that there is a high reserve buffer. US insurers have released reserves consistently since 2006. In the US, the average reserve development has been a 1% release per year for the past 25 years (see Figure 1). In the UK, meanwhile, the long-run trend in reserve development has been close to equilibrium, without large releases. Underwriters in continental Europe have historically been conservative in their loss estimates, and releases in the years leading up to 2021 have been even larger than the already-significant historical average.
Insurers’ cautious initial loss estimates for the events of 2020-2021 have contributed to the pattern of reserve releases. COVID-19 claims estimates have come down from initial calls of up to USD 100 billion, to re/insured life and non-life losses of about USD 45-50 billion. Lower motor claims frequencies during COVID-lockdowns also contributed to the build-up of excess reserves even after releases for the 2020 and 2021 accident years. However, caution is still warranted as the ultimate result of many COVID-19 court cases remains unknown, and third-party investors are purchasing stakes in the litigation, which could contribute to social inflation. The war in Ukraine has added to reserve risk, as losses remain highly uncertain in lines that include aviation, political risk, cyber and D&O. While estimates are likely to keep evolving significantly, tentative tallies for Ukraine war-related claims vary around USD 10-20 billion. High natural catastrophe losses are a further factor creating uncertainty. The potential for more supply chain issues and shortages has made it harder to predict claims cost increases from a demand surge after a large natural disaster. Among recent events, high initial estimates of Hurricane Ian’s losses may help ensure sufficient reserves have been booked.
The inflation shock has interacted with other events of recent years to increase the magnitude and variability of loss reserves. Inflation affects claims through multiple channels. For example, as price pressures transition from goods to services during 2023, long-tail (typically liability) lines can be disproportionately affected. These make up most reserves and are impacted by medical, wage and social inflation. Additionally, delayed settlements can be a larger problem during inflationary episodes, linking economic and social inflation and pushing jury verdicts and claim settlements higher.
Releases in large advanced markets eased slightly from 2020 through 2022, driven by motor and general liability in the US and UK. Despite current high reserve buffers, the pressures from recent systemic shocks and elevated inflation create more uncertainty, and we believe there is a higher probability that adequacy may weaken. This risk, and uncertainty over legacy business, could limit insurers’ capacity available for new business and require more premium to cover. This could extend or exacerbate the current hard market conditions in non-life insurance.