Strong inflationary pressures fanning claim headwinds

Property and casualty (P&C) insurers face profitability pressures this year as inflation increases claims severity while benefits from higher interest rates will take longer to come through, Swiss Re says in a report on the global economy.

The war in Ukraine has followed the covid pandemic to create “back-to-back” influences creating a “stagflation-like” environment, Swiss Re Institute says in its latest Sigma report.

Swiss Re says tailwinds from further rate hardening and rising interest rates will emerge from next year but the inflationary headwinds are a more immediate issue for the property and casualty sector.

“We expect claims inflation to impact P&C insurers’ profitability in 2022, leading to further market hardening in 2023,” it says.

“In the near term, property and motor will likely be hit hardest, as price rises in construction and car parts outstrip those in the wider economy. In the medium term, lines of business with longer tails will be most exposed to sustained elevated inflation.”

Stagflation, a term reflecting stagnant economic growth at the same time as high inflation, was popularised in the 1970s.

Swiss Re Group Chief Economist Jerome Haegeli says this year will be challenging for insurers with both sides of their balance sheets under pressure.

“After a 50-year absence, stagflation is fully back on the radar and we now need to be particularly disciplined,” he said.

“The silver lining for insurers is that we are exiting the ‘low-for-longer’ and negative interest rate environment and this regime shift will benefit insurance companies over the medium and longer term. ‘Risk-free’ rates are finally not return-free anymore.”

Supply-side shocks from the war in Ukraine are being felt in global commodity prices, while inflation is also being driven by policy stimulus and reopening after covid and lingering supply chain shortages in the wake of lockdowns, the report says.

In the US, prices of motor vehicles and parts rose by more than 13% last year, almost three times the general inflation levels, and prices are expected to continue to increase this year.

Swiss Re expects the Ukraine conflict, as well as renewed lockdowns in China, to cause further disruptions to the auto supply chains, prolonging bottlenecks for new cars and spare parts and creating upward pressure on car part prices in the short-to-medium term.

The Sigma report revises forecasts for inflation higher and growth lower for all regions, but says the current stagflation-like environment is temporary and driven by cyclical factors and is different to the 1970s predecessor period.

The report also looks at alternative more pessimistic scenarios, which include global recession and 1970s-style stagflation, while assigning a less than 5% probability to an optimistic “golden 20s” scenario.

“How the Ukraine conflict evolves is extremely uncertain, but the nature of the shock is clearly stagflationary,” the report says. “Nevertheless, we believe the stagflationary macroeconomic outcomes will remain cyclical instead of developing into the structural and persistent stagflation of the 1970s.”