Discount rate a “pressure cooker waiting to blow” says Willis Towers Watson
If Ogden rate is changed to -0.5% cost of providing car insurance will rise by £700m per year and the one-off reserve charge could hit £4.9bn.
If the Lord Chancellor was to revise the Ogden discount rate from 2.5% to negative 0.5%, the motor insurance industry is likely to experience a material one-off reserve charge of about £4.9bn, according to analysis by Willis Towers Watson.
In addition, the research revealed that there would be a roughly £700m per annum increase in the cost of providing motor insurance in the future.
According to Willis Towers Watson reinsurers will be most affected by the rate change, but it expected that UK motorists would have to pay between £20 and £55 more per policy per year to fund the change.
Stephen Jones, a director at Willis Towers Watson, said: “As a result, it appears unlikely that motor insurance is going to get cheaper anytime soon with rates up around 14% last year and perhaps a further increase of between 13% and 19% during 2017 if the response by insurers to such an outcome were to be added to underlying inflationary effects.”
Willis Towers Watson director Andy Staudt added: “Instead of being reviewed and updated on a regular basis to ensure compensation remains fair reflecting prevailing economic conditions, the Ogden rate has been left unchanged for 16 years.
“As a consequence, pressure has been building and appears to have reached a politically unsustainable level.”
He continued: “The immediate impact of trying to defuse this pressure now will be painful in the short term as reserves for past claims that have yet been paid would have to rise, while the costs of future claims would also go up.
“We are living in fairly interesting political and economic times. The government has put themselves in a difficult position having committed to providing an opinion with the markets in such a state of short-term flux. An opinion which could easily need to be reversed in a year or two’s time.”
According to the broker, a more measured approach would be to take baby-steps in order to reduce the one-off impact.
Willis Towers Watson estimated that by setting a discount rate of 1% – the mid-point between the current rate and that argued for by the Association of Personal Injury Lawyers – the one-off impact would be £1.7bn.
Staudt concluded: “Whatever the government decides in the next week, perhaps the key lesson is that this rate should be either regularly reviewed and revised or pegged to an independent economic indicator so that we do not find ourselves in a similar position in the future – a pressure cooker waiting to blow.”
Article is care of insurance age magazine and can be found here