Indonesia country focus: Insurance market

Darul Dimasqy, director of insurance supervision at the Financial Services Authority of Indonesia—known locally as the Otoritas Jasa Keuangan (OJK), told delegates at the Indonesia Rendezvous in Bali in October last year that it had finalised its new rules on domestic reinsurance cessions and they will be operative as of 15 January this year. The rules stipulate that motor, health, personal accident, credit, life and surety lines of business must be placed 100% with domestic reinsurers. So-called ‘worldwide’ products that are designed for multinational companies and new iproducts supported by foreign reinsurers will, however, be excluded. The regulator stressed that Indonesian insurers would need to show that they have adequate reinsurance coverage for catastrophic losses and report this on a regular basis according to strict guidelines, and placement of the risks with domestic reinsurers must be a priority. Those insurers that have their own catastrophe reserves will have to satisfy the OJK that they are adequate to cope with a one-in-250-year event.hideThese new OJK rules on “own retention and domestic reinsurance support”, which were originally proposed in 2014, form part of the Indonesian government’s wider effort, which includes the formation of new national reinsurer Indonesia Re, to limit the flow of business and currency out of the country to international insurers and reinsurers. The US-based Global Federation of Insurance Associations (GFIA), which represents 28 member associations and more than $4tn in premiums worldwide, was not impressed by the proposed new rules and made this clear in a letter sent last January to Dr Muliaman Hadad, chairman of the OJK. In the letter, governor Dirk Kempthorne, Chairman of the GFIA, said that he understands the desire of the OJK to improve the ability of the domestic insurance sector to mitigate risks and improve the foreign exchange deficit by restricting the flow of profits overseas. But governor Kempthorne pointed out that the OJK also needs to take into account how much foreign exchange, knowledge and capacity could flow into Indonesia if foreign reinsurers were allowed to come onshore. “While potential future profits might leave the country, the funds that are required to establish a branch office or a subsidiary will result in substantial capital inflow initially,” he said. Governor Kempthorne also said that the OJK needs to take into consideration the benefit of fast claims payments by international reinsurers following catastrophic events. “Reports by leading insurance economists show a net increase in economic activity following catastrophes in markets that allow cross-border reinsurance, as long as the affected were adequately covered by insurance and (cross-border) reinsurance. This is due to the fact that loss payments speed up recovery and prevent economic stagnation,” he said. The GFIA argued that the best route would be to revamp the regulations to strengthen insurance companies’ risk management. “To this end, modern regulation on risk management systems, actuarial requirements, internal controls and corporate governance could be issued. Insurers complying with those requirements will automatically focus on proper assessment of their own retention and use of reinsurance,” pointed out the GFIA. “The effort of providing detailed guidelines on the amount of reinsurance and type of contracts that all insurers should acquire is poised to fail,” continued the federation’s chairman. He pointed out that each individual insurer has different needs to diversify risk and protect their retention according to their particular portfolio setup, underwriting skills, policy wording, concentration risk controls, pricing models and geographic diversification. “Calculation of their own retention requires sophisticated modelling and proper stochastic analysis. Such calculations should be introduced as a first step towards better finding a way to retain risk and evaluate the need for reinsurance,” argued the GFIA. Further, the loss of international capacity and experience in favour of local ‘nascent’ reinsurance or selected non-life insurers would create vulnerabilities in the market, argued governor Kempthorne. “A careful, step-by-step transition should be proposed instead. An analysis of the risk management capability, the internal controls and governance of the domestic providers of reinsurance should be the starting point,” he wrote. This, suggested the GFIA chairman, should be done through a series of stress tests and, ideally, by a rating assessment of the whole company before the local market is charged with taking over the role of international reinsurers. The GFIA also pointed out that in order to comply with the new rules, reinsurers would need to develop sophisticated new software systems and this would take time. The Indonesian market is also not equipped to reinsure life business, in the eyes of the GFIA. Lack of access to international reinsurance capacity and knowledge would also make it more difficult for domestic insurers to offer Indonesian consumers and businesses the kinds of products they need to continue their development, said the GFIA. “Indonesian consumers would consequently have less availability of insurance because insurance companies in Indonesia would have less capacity and products to offer. In addition, the onshoring requirement increases transaction costs for reinsurers while also creating market uncertainty about recovery available to the industry,” added the Federation. This could inevitably lead to the creation of a fronting system, whereby the local reinsurers retrocede the business out to the international reinsurance market anyway, thus adding an unnecessary layer of cost to the system. “The development of the Indonesian insurance industry could be set back by a lack of reinsurance from abroad. The reduction in the amount of insurance available would also lessen the long-term capital that comes from insurance companies’ investment in assets (including infrastructure) to support their liabilities under insurance contracts. As a result, the development of Indonesian industry and infrastructure—desired objectives that the OJK has cited as among the rationales for the onshoring requirement—would be “adversely affected rather than enhanced,” pointed out the GFIA. The Federation also said that the International Monetary Fund (IMF) would be “very likely” to highlight the announced action as contrary to insurance regulatory standards and “deficient” in protecting the stability of Indonesian insurance. It pointed out that the IMF had stated that the mandatory regulations on local cessions adopted by the Financial Sector Assessment Program in Brazil had hindered market access, economic growth and the healthy spread of risk. The GFIA added that the Financial Stability Board would also likely take a dim view of the higher risk concentration faced by the Indonesian insurance sector as a result of the proposed cession rules. And the GFIA said the proposed rules would be contrary to Indonesia’s commitments in the General Agreement on Trade in Services (GATS) of the World Trade Organization (WTO), whereby the country may not discriminate against the offshore providers of services in other signatory countries that meet the applicable set of criteria. “The proposed regulations explicitly discriminate against foreign reinsurers by mandating that business goes to domestic reinsurers without regard to their competitiveness. Investors value Indonesia’s membership of the GATS and the WTO. Therefore, we recommend Indonesia to stabilise investors’ confidence in Indonesia’s commitment to free trade and its economy by ensuring its conformity to GATS,” stated the GFIA letter. It also said the rules would break WTO rules on subsidies. It concluded: “We wish to draw to your attention the inconsistencies of this announced policy with your government’s stated intention to ‘strengthen Indonesian resiliency against natural disasters through increased planning and building resources to respond; raise living standards; increase global investment in Indonesia and comply with G20 financial policy and trade commitments’.”

Indonesia country focus: Insurance market

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