Index Introduction.....................................................................................................................................7 1.
The History of Insurance ......................................................................................................8
1.1.
Ancient times.........................................................................................................................8
1.2.
The Babylonians....................................................................................................................8
1.3.
The Romans...........................................................................................................................8
1.3.1.
1.4.
Modern times.........................................................................................................................9
1.4.1. 1.4.2. 1.4.3. 1.4.4. 1.4.5. 1.4.6. 1.4.7. 1.4.8.
1.5. 2.
Conclusion.....................................................................................................................................................9 The Tontine ...................................................................................................................................................9 The disappearance of the tontine ...................................................................................................................9 Mathematics ................................................................................................................................................10 The fire hazard insurance ............................................................................................................................10 Transport .....................................................................................................................................................10 Employees ...................................................................................................................................................11 America .......................................................................................................................................................11 Conclusion...................................................................................................................................................11
Test ......................................................................................................................................12 Mutuality ..............................................................................................................................13
2.1.
Concept of Mutuality...........................................................................................................13
2.2.
Technical aspect of mutuality..............................................................................................13
2.3.
Mutual organizations ...........................................................................................................13
2.4.
Test ......................................................................................................................................13
3.
Social security.....................................................................................................................15
3.1.
Risk Management................................................................................................................15
3.2.
Costs and benefits of riskmanagement ................................................................................15
3.3.
Test ......................................................................................................................................16
4.
Risks of low income group households ............................................................................17
4.1.
The concept of Risk.............................................................................................................17
4.2.
Risk and Insurance ..............................................................................................................18
4.3.
Situation & Risk ..................................................................................................................18
4.4.
Test ......................................................................................................................................19
5.
Risks and the law of big numbers......................................................................................20
5.1. 5.1.1.
5.2. 5.2.1. 5.2.2.
Risk......................................................................................................................................20 Consequences of risk...................................................................................................................................20
Measures against risks.........................................................................................................20 Risk = chance ..............................................................................................................................................20 Many risks can be calculated.......................................................................................................................21
5.3.
The law of big numbers.......................................................................................................21
5.3.1. 5.3.2.
5.4. 6.
Theoretical approach ...................................................................................................................................21 Insurers use the law of big numbers ............................................................................................................21
Test ......................................................................................................................................22 Calculating the premium of life insurance.........................................................................23
6.1.
Costs ....................................................................................................................................23
6.2.
Interest .................................................................................................................................23
6.3.
Mortality..............................................................................................................................23
6.4.
Difference between temporary and lifelong insurance........................................................24
6.5.
Test ......................................................................................................................................24
7.
Fixed Amount Insurance and Indemnity Insurance ..........................................................25
7.1.
The Indemnity Insurance.....................................................................................................25
7.2.
Forms of Indemnity Insurance.............................................................................................25
7.3.
Fixed Amount Insurance .....................................................................................................25
7.4.
Consequences Fixed Amount Insurance .............................................................................25
7.5.
Difference Fixed Amount Insurance and Indemnity Insurance ..........................................26
7.6.
Test ......................................................................................................................................26
8.
The Insurance Products......................................................................................................27
8.1.
The client .............................................................................................................................27
8.2.
The insured ..........................................................................................................................27
8.3.
The beneficiary....................................................................................................................27
8.4.
Difference between client and insured ................................................................................27
8.5.
Death through natural causes...............................................................................................27
8.6.
Death through an accident ...................................................................................................28
8.7.
Disability as the result of an accident..................................................................................28
8.8.
Underwriting and premium-setting .....................................................................................28
8.8.1. 8.8.2. 8.8.3. 8.8.4.
8.9. 9.
Premium tables ............................................................................................................................................28 Pro rata payment..........................................................................................................................................28 Age ..............................................................................................................................................................28 The premium of old people .........................................................................................................................29
Test ......................................................................................................................................29 Underwriting ........................................................................................................................31
9.1.
Agreement ...........................................................................................................................31
9.2.
Security................................................................................................................................31
9.3.
Saving or insuring ...............................................................................................................31
9.3.1. 9.3.2.
9.4.
Saving and borrowing .................................................................................................................................31 Insuring .......................................................................................................................................................31
The product..........................................................................................................................31
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9.5.
Premium ..............................................................................................................................32
9.6.
Determining the premium ...................................................................................................32
9.6.1.
9.7.
Selection and anti-selection.................................................................................................33
9.7.1.
9.8. 10.
Premium and age .........................................................................................................................................32 Group insurance ..........................................................................................................................................33
Test ......................................................................................................................................33 Pension ................................................................................................................................34
10.1.
Introduction .........................................................................................................................34
10.2.
Calculate the premium.........................................................................................................34
10.3.
Combinations with life insurance........................................................................................34
10.4.
Actuarial ..............................................................................................................................34
10.5.
Alternatives .........................................................................................................................35
10.6.
Test ......................................................................................................................................35
11.
Agricultural insurance ........................................................................................................36
11.1.
Context and Problem ...........................................................................................................36
11.2.
Addressing the problem.......................................................................................................36
11.3.
Background information about weather insurance and risk management...........................37
11.4.
On-farm risk management...................................................................................................37
11.4.1. 11.4.2.
11.5. 11.5.1. 11.5.2. 11.5.3.
Ex ante.........................................................................................................................................................37 Ex post.........................................................................................................................................................37
Off-farm risk management ..................................................................................................38 Indemnity-based insurance..........................................................................................................................38 Area-based insurance ..................................................................................................................................39 Weather index insurance .............................................................................................................................40
11.6.
Summary .............................................................................................................................41
11.7.
Mutual solution combining advantages...............................................................................42
11.7.1.
11.8. 12.
Effects for the insured members..................................................................................................................43
Test ......................................................................................................................................43
Live stock Insurance...........................................................................................................45
12.1.
Livestock insurance (single animal and herd) .....................................................................45
12.2.
Aquaculture insurance .........................................................................................................45
12.3.
Common problems in microinsurance ................................................................................45
12.4.
Background information......................................................................................................45
12.5.
Approaches to livestock & aquaculture insurance ..............................................................46
12.6.
First steps.............................................................................................................................46
12.7.
test .......................................................................................................................................46
13.
Health insurance .................................................................................................................48
13.1.
Introduction .........................................................................................................................48
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13.2.
Background information......................................................................................................48
13.3.
Managing for adverse selection and moral hazard;.............................................................48
13.4.
Mutual pooling to overcome these problems ......................................................................48
13.5.
Finding low-cost distribution methods;...............................................................................49
13.6.
Promoting client understanding and demand: .....................................................................49
13.7.
Test ......................................................................................................................................49
14.
Claims Handling ..................................................................................................................50
14.1. 14.1.1. 14.1.2.
Claim ...................................................................................................................................50 The concept of claims..................................................................................................................................50 Bodily Injury Claims ...................................................................................................................................50
14.2.
Claims handling...................................................................................................................50
14.3.
For which person was the claim filed? ................................................................................51
14.4.
On which date did the uncertain event take place? .............................................................51
14.5.
What did exactly happen? ...................................................................................................51
14.6.
Where the premiums paid on time?.....................................................................................51
14.7.
Test ......................................................................................................................................51
15.
Reinsurance.........................................................................................................................52
15.1.
Spread ..................................................................................................................................52
15.2.
Insurers Risks ......................................................................................................................52
15.3.
Kinds of reinsurance............................................................................................................52
15.3.1. 15.3.2. 15.3.3. 15.3.4. 15.3.5. 15.3.6. 15.3.7.
A. Proportional reinsurance.........................................................................................................................52 The Quota-Share Treaty ..............................................................................................................................52 Excess..........................................................................................................................................................53 Example.......................................................................................................................................................53 B. Non-proportional reinsurance treaties.....................................................................................................53 Excess of Loss .............................................................................................................................................53 Stop Loss .....................................................................................................................................................54
15.4.
Final thoughts ......................................................................................................................54
15.5.
Test ......................................................................................................................................54
16.
The Mutual Insurance Institutions......................................................................................55
16.1. 16.1.1. 16.1.2. 16.1.3.
Member Administration ......................................................................................................55 Eligibility.....................................................................................................................................................55 Exclusion.....................................................................................................................................................55 Collection of contributions from members..................................................................................................55
16.2.
Policy Administration..........................................................................................................56
16.3.
Claim Administration ..........................................................................................................57
16.4.
Nalathittam Committee .......................................................................................................57
16.4.1. 16.4.2.
17.
Monitoring...................................................................................................................................................57 Accounting ..................................................................................................................................................58
FAQ: Freqent asked questions...........................................................................................59
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17.1.
What are insurable risks? ....................................................................................................59
17.2.
Will the risk not happen if we insure?.................................................................................59
17.3.
Can I have my premium back when the risk did not happen?.............................................59
17.4. Many insurance products give the entire premium plus a bonus when a person is alive after some years; can we have a product like this? ...................................................................................59 17.5. Can I insure a person not related to me in a mutual program? For example my neighbor or my friend...........................................................................................................................................59 17.6.
The woman insures her husband and he dies. Who will receive the benefit amount? ........59
17.7.
Can the insured be the beneficiary also? .............................................................................59
17.8. There is an insurance cover. After the risk happens, the claim is not received sometimes. How is that possible? ........................................................................................................................60 17.9.
Can you start a mutual program with only 100 members?..................................................60
17.10. Since it is a mutual, can we have a program with a small premium and still a high cover? 60 17.11. How to calculate the premium of ‌.?.................................................................................60 17.12. Can I change the policy of any insurance company on an annually basis?.........................60 17.13. What happens to the mutual insurer if a backup insurance will not come forward in future? 60 17.14. Does reinsurance influence the premium of the member? ..................................................61 17.15. What is the safety net construction for crop mutuals covering small number of farmers, diverse risks, different areas?............................................................................................................61 17.16. What is the safety net construction for livestock mutuals covering small number of farmers? ............................................................................................................................................61 17.17. Whether surplus in mutual program can be given as dividend among members or premium can be reduced or benefits can be increased? ...................................................................................61 17.18. What can be done if there is a deficit in the mutual program?............................................61 18.
Tips for trainers...................................................................................................................62
18.1.
Talk slowly ..........................................................................................................................62
18.2.
Use the tell, tell, tell principle .............................................................................................62
18.3.
Use eye-to-eye contact ........................................................................................................62
18.4.
Organize the classroom .......................................................................................................62
18.5.
Use examples.......................................................................................................................62
18.6.
Use a whiteboard or blackboard ..........................................................................................62
18.7.
Use different colours ...........................................................................................................63
18.8.
Give compliments................................................................................................................63
18.9.
Ask questions: open and closed, broad and in-depth ..........................................................63
18.10. Have breaks .........................................................................................................................63 18.11. Gesticulate ...........................................................................................................................63
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18.12. Make schematics .................................................................................................................63 18.13. Stand in front of the group and walk up and down a bit .....................................................63 18.14. Test if people understand you .............................................................................................64 18.15. Assignment ..........................................................................................................................64 18.16. Test ......................................................................................................................................64 19.
People Mutuals....................................................................................................................65
19.1. 19.1.1. 19.1.2. 19.1.3. 19.1.4.
Operational Guidelines........................................................................................................65 Role of People Mutuals ...............................................................................................................................65 Role of Programme .....................................................................................................................................66 Role of Regions ...........................................................................................................................................66 Role of Locations ........................................................................................................................................67
19.2.
Member Administrations.....................................................................................................67
19.3.
Policy Administration..........................................................................................................68
19.4.
Claim Administration ..........................................................................................................69
19.5.
Nalathittam Committee .......................................................................................................70
19.6.
Products – Life ....................................................................................................................70
Annex I...........................................................................................................................................71 Annex II..........................................................................................................................................74 Annex III.........................................................................................................................................76 GLOSSARY....................................................................................................................................77
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Introduction Development implies an enhancement in quality of human life consistent with human dignity. The quality of life covers not only the basic human needs in terms of nutrition, health and education but also meta economic wants such as individual freedom, human dignity and cultural widening. Development will not come as long as people surrender their initiative either to God or Government. So far, development programmes are being looked upon by the people as programmes of the Government for the people. It is well known that no government can take the whole responsibility of the people in total. Unless and until people participate in the development initiatives, development will be lopsided and the fruits of development would not reach the right quarter. Hence people are encouraged to take up development activities through self-help programmes. The life of poor and marginalized people is full of crises. Such crises – personal, social or natural – often involve high expenditure and neutralize the effect of developmental efforts thereby driving poor families either back to their original deprived state or even to a worse condition. Hence the high degree of uncertainty of events causes a greater damage in the lives of the poor. The range of uncertain crises / risks is very wide. Most common among them are accidents, sudden hospitalization, death of breadwinner, loss of crops or assets and natural calamities like floods, tsunamis, cyclones and droughts. Expenses incurred during such crises are met either by borrowing from moneylenders, sales or mortgage of assets or by drawing from scarce savings. The affected household suffers a simultaneous reduction in income and savings and an increase in debt and expenditure. Each crisis leaves a poor family weaker and more vulnerable. Ultimately, women, who are invariably responsible for managing the household, bear the brunt of coping with such crises. Micro insurance / Social Security is a mechanism that can help the poor to combat such vulnerable situations.
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1. The History of Insurance The era of Insurance can be seen as ancient and modern times.
1.1. Ancient times Insurance came into existence because of a growing need to protect against fate. The first communities did not have this need. People lived in tight families or in self-sufficient tribes. In the bad times they could count on the help of family or tribe. This system disappeared with the rise of civilisation. People became familiar with risks that neither the family nor the tribe could cover. Protection was sought elsewhere. The spontaneous solidarity of kinship was slowly replaced by organised assistance between groups of people with common interests and running comparable risks; think of professional categories.
1.2. The Babylonians Civilisation in the Middle East developed relatively quickly. However, the area was poor in natural resources. That created the need for trade. Maritime trade routes and caravans for trade over land were developed. But trade routes are dangerous. Traders gave transporters a kind of credit. The credit only had to be paid back, with interest, when the journey ended safely. This form is called ‘bottomry’ for sea transports. You give money “on the bottom of a ship”. The Hammurabi codex (2100 BC) already had rules for mortgages and contains the first legislation on accidents: a compulsory accident insurance for free labourers who had become the victim of an accident.
1.3. The Romans Lending against big risks is one of the many habits that the Romans inherited from the Greeks and the Middle East. The Greek saw credit to a merchant fleet as a commercial undertaking. The Romans saw it as an investment. When the journey went well the captain had to return the money plus an interest of around 33%. The Romans also had a user’s credit, an interest-free loan. The lender could hold on to some of the amount. On the due date all of the capital had to be returned. The difference was considered an indemnity for the risk to the lender. Roman law stipulated that in the case of a sale delivery had to precede payment. The expansion of the Roman Empire meant that traders established contacts with suppliers from very remote areas. When they sent their goods to Rome they ran the risk of falling victim of storms, pirates or thieves or defaulters. Suppliers have an interest in selling their goods in their own country. To encourage them to yet trade with Rome new ways of paying were invented. Henceforward the purchase price had to be agreed before the goods were loaded. As such the seller is sure of payment. The risk is to the Roman buyer. Some contracts included a clause in which the seller takes on the risks. The price of goods was then increased accordingly. The seller carries the risk against the payment of a certain amount. We have already pointed out the importance of trade to Rome. The supply of grain was of utmost importance, first from Sicily and then from Egypt. The city’s governors wanted to control the grain trade for fear of famines. The grain trade enjoyed certain advantages. Seutonius (75-160 AD) described that the state bore the consequences of piracy. During the Republic (3rd century BC) the Senate was forced, against its will, to relinquish military transports to civilians. The vastness of Roman conquests made it impossible for the Roman fleet to take care of all of its transports. To attract traders the state guaranteed all damages caused by bad weather to food shipments for the troops (Titus Livius, 64 BC, book XXI, p 49). A sizeable insurance fraud also happened during this period. Two Etruscan traders loaded worthless goods onto old boats that were in a bad state. They let them sink in the open sea; the
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sailors were rescued with specially provided ships. They presented the excessive bill to the Roman authorities. Later on they limited themselves to making up shipping disasters. Insurance fraud is of all times. Around 100 BC Gaius Gracchus set up a professional army. The soldiers founded societies to guarantee an income to soldiers too old to fight. Sometimes they also paid out when some one changed garrison. Manual labourers set up “collegia” per profession. At first they were little more than social clubs. Sometimes they intended to help members in dire straits. The big funeral businesses have their origin here (the collegia funeratica). Members’ contributions covered the funeral expenses. If there was no money for a funeral a body would just be thrown in a canal. These are the precursors of pension and funeral insurance.
1.3.1.
Conclusion
We can draw the conclusion that different kinds of insurance have contributed to provisioning the city of Rome. These forms of insurance offered traders and transporters a certain protection, making the risk of losses more manageable. Insurance provides an impulse to the economy. They also have a social aspect in societies and professional groups. People living in comparable circumstance know that they will sooner or later be confronted with similar problems. A society fund then functions as a pension and accident insurance.
1.4. Modern times In the late Middle Ages different forms of annuities came into existence. An annuity is a periodic payment that somebody gets for as long as he is alive. Governments and cities collected money from their citizens to fill their coffers. They promised citizens lifelong payments. The tontine is an example.
1.4.1.
The Tontine
In the 17th century tontines or survival funds had a short-lived success. They were amed after the Italian Lorenzo Tonti, the state’s banker. When they first started the tontines were meant to maintain the state’s financing. They are groups you join until you die. A group of people collects capital that is deposited, e.g., in a state fund against a fixed interest. The tontine’s manager pays the interest to the members in proportion to their share. In the mean time the fund’s manager avails of capital that he can use for other things. The interest must be paid until the death of the last member. The interest meant for the group members who had already died is divided among the living members. As the number of living members drops with every death interest payments to the surviving members goes up. In this manner the payment gets the character of an incremental annuity. When the last member dies the money goes to the state. For the individual insured person it is an annuity with a rising rate of interest as others die.
1.4.2.
The disappearance of the tontine
In his days Lorenzo Tonti was very successful with his tontine. Yet the tontines have disappeared. How do we explain their success, and the fact that there are now no more tontines? The win-win situation explains the temporary success of the tontines. The city council needed money and acquired it through a tontine. For the city council the advantage was that the loan never needed to be paid back and that interest only had to be paid over a relatively short period of time, namely until the last contributor had died. The advantage for the contributors was that they would get lifelong interest payments, increasing in the course of the years as the other contributors died off. So far so good. Until people began to realise that young contributors had a bigger chance of surviving than old
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contributors. In fact, older contributors paid a higher amount over which they only received an interest for several years and their heirs were left empty-handed on the contributor’s demise. People began to realise ever more that it was disadvantageous for the older contributors. The only option was to organised tontines for a group of people from the same age category. But then people began to question the advantage of a tontine over saving at the bank and getting an annual interest payment. A tontine has the advantage only when a person expects to outlive the other contributors. But that is how all contributors think, and saving with the bank then has the edge over contributing to a tontine. History teaches us that inventing a product is not sufficient. It is also about considering the needs of potential participants. You must be able to assess in advance which group of insured people would be interested in the product. When the group offers more advantages to one group or category than to others, the risk of anti-selection is created.
1.4.3.
Mathematics
There was no mathematical basis until modern times. Around the middle of the 17th century mathematicians discovered that it is possible to calculate the probability of a certain event. Observing a long series of experiments of the same kind allowed them to derive fixed rules. The mathematicians began to calculate probability. Did we not say that insurance is based on the law of big numbers? As the probability of a damages claim can be calculated it is also possible to determine the height of premiums for covering particular risks. The French mathematician Blaise Pascal laid the basis for the theory of probability. He was the first to suggest to calculate the premium of an annuity on the basis of mortality data. The Dutchman Johan de Witt is the true founder of the actuarial science. In the registers of the beneficiaries of annuities he recorded all the data about the evolution of mortality. De Witt calculated the probability of dying using the age at which the different beneficiaries died.
1.4.4.
The fire hazard insurance
The late Middle Ages had municipal aid funds, the fire guilds. Their purpose was to assist members in the case of fire. Members’ contributions fed the fund. They also appealed to public charity. Destruction by fire was a risk that the city-dwellers could well imagine. Most houses were made from wood and packed tightly along narrow streets and alleys. In 1591 around one hundred traders from Hamburg set up a fire hazard insurance: the Hamburg Feuerkasse. In 1663 in the Netherlands owners of oil-crushers took the initiative to set up a fire hazard insurance company. It offered coverage for damages to grains and natural resources. In 1666 a big fire laid waste to large parts of London. It drew the attention to the usefulness and even the need of fire hazard insurance. The fire hazard insurance was organised quickly in England. The first company of the country was the Fire Office from 1667. In Germany too fire insurance companies were founded. The state or the municipality managed them. In some regions fire hazard insurance became compulsory. The oldest fire hazard insurance company, the General Feuerkasse from Hamburg, was the result of a merger of existing mutual aid funds (17th century). Special measures were taken to encourage people to join this company. Nobody was able to get a mortgage on a building without taking out a fire insurance in advance. This measure still exists.
1.4.5.
Transport
Lloyd’s has its roots in the 18th century. Lloyd’s is not really an insurance company. It acts as a kind of insurance market for a group of independent insurers. The subscribers are grouped in syndicates. They are fully and personally liable. They must meet strict conditions. The public cannot negotiate directly with Lloyd’s insurers. They must go to a broker recognised by Lloyd’s. Every member of a syndicate has a fixed and predetermined share in the risk. They bear the same share in any case of damages. Version 3.0 22-09-2008
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Thanks to the big spread of risks over a large number of insurers Lloyd’s was able to grow into a powerful insurance organism. In fact it has had a monopoly on maritime insurance in England since the 18th century. Lloyd’s name came from an inn, the Lloyd’s Inn. Edward Lloyd was its landlord. It was a place where maritime traders met. To protect their trade they gave themselves guarantees against maritime risks. What had started as a sideline activity slowly developed into an autonomous economic activity. Lloyd’s Inn became an insurance centre.
1.4.6.
Employees
The workmen’s compensation Act of 1897 in Britain required employers to insure their employees against industrial accidents. Public liability insurance, fostered by legislation, made its appearance in the 1880s; it attained major importance with the advent of the automobile.
1.4.7.
America
In the year 1735, the first insurance company in the American colonies was founded at Charleston, S.C.Fire insurance corporations were formed in New York City (1787) and in Philadelphia (1794). The Presbyterian Synod of Philadelphia sponsored (1759) the first life insurance corporation in America, for the benefit for Presbyterian ministers and their dependents. After 1840, with the decline of religious prejudice against the practice, life insurance entered a boom period. In the 1830s the practice of classifying risks was begun. The New York fire of 1835 called attention to the need for adequate reserves to meet unexpectedly large losses; Massachusetts was the first state to require companies by law (1834) to maintain such reserves. The great Chicago fire (1871) emphasized the costly nature of fires in structurally dense modern cities. The U.S. government has also experimented with various types of crop insurance, a landmark in this field being the Federal Crop Insurance Act of 1938. In World War II the government provided life insurance for members of the armed forces; since then it has provided other forms of insurance such as pensions for veterans and for government employees. In the 19th century, in the developed countries, many friendly or benefit societies were founded to insure the life and health of their members, and many fraternal orders were created to provide low – cost, members-only insurance. Fraternal orders continue to provide insurance coverage, as do most labor organizations. Many employers sponsor group insurance policies for their employees; such policies generally include not only life insurance, but sickness and accident benefits and old-age pensions, and old-age pensions, and the employees usually contribute a certain percentage of the premium. Since the late 19th century, there has been a growing tendency for the state to enter the field of insurance, especially with respect to safeguarding workers, against sickness and disability, either temporary or permanent, destitute old age, and unemployment.
1.4.8.
Conclusion
We see that the demand for insurance came from the state and traders. The state needed money and traders wanted to cover their risks. A nice example is the compulsory fire hazard insurance for getting a mortgage on a building. Large disasters also raised the demand for insurance. An insurance company was founded one year after the London fire. Edward Lloyd’s inn was where maritime traders and ship owners met, and there they met people willing to bear the risks.
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1.5. Test Below there are several questions meant for you to find out which parts of the course you have understood. You can find out for yourself how you have arrived at the answers to the following questions. Do you half-know the answer and do you have to read back a bit? Or do you immediately know the answer? You can also try to answer the questions a week after you have read the text. a. When did the need arise for insurance? b. How was it that Lloyd’s could grow into one of the largest risk-bearers in the world? c. Why did people in Germany have to take out fire hazard insurance as a condition for getting a mortgage? d. First read the chapter on damages and sums insurance and then see if the tontine and the bottomry are damage insurance or sums insurance. e. If the larger part of the population in your region were to take out an insurance, what would be the consequences in a couple of years? f. Which two measures did the Roman government take to stimulate traders to provision Rome?
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2. Mutuality 2.1. Concept of Mutuality Mutuality is the central concept of all social processes. The mutuality is the basis of Self Help Groups. It is the one which is responsible for the sustainability of any institution. Mutuality is not a new concept to Indian society. People are practicing this already in their day to day activities especially during crisis. Events like death of a family member in which the whole village participates in the funeral ceremony and shares the expenditure among them, mutually sharing labour among households, sharing water from common waterbodies like tank, sharing the expenditure of marriage through a system of social obligation etc. are a few examples of events where people follow the mutuality principle. This principle when practiced helps the people to feel themselves as a strong community. Hence insurance which requires large numbers when offered through the principle of mutuality, is realized in its true sense and helps the poor to manage their risk better.
2.2. Technical aspect of mutuality Technically, mutual / mutuality refers to a contractual arrangement, which may be unspoken, between a group of people, as few as two. •
Where it is understood that no member of the group stands in a superior position to any other in terms of voting power, ownership rights or accrued benefits,
•
No matter what the legally sanctioned position held by any individual within the group might be
•
No matter what the length or kind of membership or contribution of any member might be
•
No matter what financial arrangements may be entered into to raise capital and
•
No matter what administrative arrangements may be entered into to enhance expertise of the group.
Into this definition could then be inserted the aims of the ‘mutual’, e.g. mutual aid, mutual insurance, mutual admiration.
2.3. Mutual organizations Mutual organizations grew out of a belief that a group of people can act more efficiently through cooperation for their mutual benefit than if they act alone. A mutual is an enterprise owned by its members, providing a variety of services to the members for their benefit.
2.4. Test Below there are several questions meant for you to find out which parts of the course you have understood. You can find out for yourself how you have arrived at the answers to the following questions. Do you half-know the answer and do you have to read back a bit? Or do you immediately know the answer? You can also try to answer the questions a week after you have read the text. a. Describe the concept of mutuality. Version 3.0 22-09-2008
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b. What are the advantages of mutuality? c. Describe some aims of a mutual.
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3. Social security 3.1. Risk Management Risk Management is a process that identifies loss exposures faced and uses a number of methods, including insurance, to handle these exposures. Risk management process involves three steps: 1. Identify potential losses 2. Evaluate potential losses 3. Select the appropriate techniques for treating loss exposures The techniques are: a. Risk control: techniques that reduce the frequency and severity of loss. I.
Risk avoidance: The technique will result in the non occurrence of the risk. E.g. Avoiding flood risks by constructing a house in a flood plain.
II.
Risk prevention: The technique will reduce the frequency and severity of the loss. E.g. Non use of alcohol while driving.
III.
Risk reduction: The technique that reduce the severity of a loss after it occurs. E.g. Limiting the cash on hand.
b. Risk Financing: Major risk financing techniques include I.
Risk retention: This technique is used when there is difficulty in obtaining commercial insurance for risks. E.g. self insurance
II.
Risk transfer: These are non insurance transfers by which a pure risk and its consequences are transferred to another party. E.g. Annual Maintenance contract for computer.
III.
Commercial insurance: This technique is appropriate for managing risks that have a low probability of loss, but for which the severity of loss is high.
3.2. Costs and benefits of riskmanagement Always there are risks in life. People want to reduce theirs risks. Risk is one of the sources of uncertainty. How to cope with these risks? Just avoide them is not an excellent solution. People want act responsible to their children and families. Risk management can not be done without energy or costs. It is not for free. On the other hand it is not loosing money, it is invest. Invest energy and money. It will cost energy to identify and evaluate potential losses. People have to spend money to select the appropriate techniques for treating loss exposures. So there are costs and there are benefits. People have to weigh the costs and the benefits. What is the right balance? People have to think about the future. If you do nothing today, what can happen in the future? What will be possible costs in future? Is there enough money if a calamity happens? When a community starts with insurance, it is important to act in the right order. Not the insurance products are important. Important is to draw up inventories of the risks. First identify the risks. Second evaluate the risks. What is the impact? How threaten the risks the family lifes financially and emotionally. How important is it to reduce the risks. Insurance is often not the only possibility.
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Insurance is not for free. People have to pay the premiums. The amount of the premium echoes in a way the chance of the risk. If the premium is high, there is a high risk. In that way people can see paying premium as an investment to reduce their risks.
Example In all countries people ask for health insurance. If you analyze this question, people don’t ask for insurance, but for a solution for their health problems. Insurance does not treat patients. Insurance is just a mechanism to handle costs of doctors and hospitals. The main challenge is how to reach people become in better health. That is the problem that is to be solved. And then we think in the direction of prevention, information about hygiene, good water supply and of course good admittance to the healthcare. If you just start with health insurance, the costs are very high and the real problem is not solved. The conclusion is: insurance is just one of the instruments of reducing financial risks. The right order to handle is identify risk, evaluate risk, reduce risks and transfer risks.
3.3. Test Below there are several questions meant for you to find out which parts of the course you have understood. You can find out for yourself how you have arrived at the answers to the following questions. Do you half-know the answer and do you have to read back a bit? Or do you immediately know the answer? You can also try to answer the questions a week after you have read the text. a. What is risk management? b. Why is risk management the paragraph in the chapter social security? c. What is meant by risk control? d. What is the correlation between risk management and insurance? e. What is the difference between risk financing and risk control? f. Under what circumstances is commercial insurance appropriate for managing risks? g. What is difference of risk avoidance and risk prevention? h. Why is the process of risk management important when a certain group asks for health insurance?
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4. Risks of low income group households 4.1. The concept of Risk We have already seen that the range of crisis in poor families is large. Most common are accidents, sudden hospitalization, and death of breadwinner, loss of crops or assets and natural calamities like floods, cyclones and droughts. Exposure to these risks affects the households in two ways. First, households affected by a risky event incur a potentially substantial monitary loss, such as lose of an asset or added burden of debt. Second, they suffer on-going uncertainity about whether and when a loss might occur. The financial cost to a household that loses a valuable asset or an income earner is reasonably clear and substantial. But the impact of on-going uncertainity is potentially more damaging. As a result, households exposed to a great deal of uncertainity, which tend to be the poorer households, are often unable or unwilling to use the traditional growth-focused products provided by most microfinance institutions.
Case 1 Packiam, a member of Karuppusamy Kalanjiam in Theppakulam location is a flower vendor. Her husband is a worker in a rice mill. The couple is bestowed with two school going children. The average monthly income of the family is Rs.3000. During December 2001 her husband met with an accident when he was engaged in duty in the rice mill. He had to undergo a major surgery. An amount of Rs.40000 was needed to meet out the expenses. They could generate Rs.2000 only from local moneylenders, at an interest of 60 percent per annum. She could receive a loan of Rs.8000 from Kalanjiam for this purpose. The owner of the rice mill in which her husband was working provided an amount of Rs.5000. For generating remaining amount, the member sold out her jewels. Due to the injury the member’s husband could not go for work, for three months. During that period, the family could make the livelihood only through Packiam’s earnings. Since it was not sufficient to manage, the member had to borrow from local moneylenders at exorbitant interest rates, apart from loans from kalanjiam. What is the degree of uncertainity and size of loss in the above case?
Case 2 Rajamma aged 40, is a member of Vinayakar Kalanjiam in Uchipuli location. She lives with her two children. Her son elder of the two is school going and daughter discontinued her studies after seventh standard. Her husband expired six years age. Rajamma is an agricultural labourer, and now, she is the only earning member of the family. Employment opportunity available for her is quit fluctuating, and unpredictable. Hardly, she can go for agricultural works 25 days during peak seasons (normally 3-6 months in a year) and 7 – 10 days during lean season. She can earn Rs.25 per day, if she works for a day. Her husband was a middleman in mat trade and was earning around Rs.2000 per month. He got an opportunity to work in a gulf country, after sever attempts. To meet out the expenses for travel and other arrangements he had borrowed close to Rs.50000 from local lenders at an interest rate of 60 percent per annum. He worked there for one year. From there he was sending around Rs.4000 per month to his family. One day Rajamma received information that her husband expired. The reason for his death is still unknown. Rajamma found it very difficult to cope up the sudden change in the situation. She was a housewife and had no experience on agricultural works. The debt burden was quite high. Insurance programme was not introduced in the location by then. She could repay a portion of debt using the
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loan issued from her kalanjiam, and her relatives also supported in repaying the loan. Economic situation of the family forced her daughter to discontinue her studies even though Rajamma and her daughter were willing to study further. Now Rajamma is making her livelihood only through her meager earnings. Living status of the family has come down considerably. “When my husband was alive there was no problem of food availability in the house. Somehow he used to manage the situation. Moreover his earning was relatively regular and sufficient to manage day-to-day activities of the family. But now, I have to struggle a lot for purchase of food articles even for once in a day. I feel guilty that I am not able to educate my daughter�, says Rajamma. Even though she has received a considerable amount of loan from Kalanjiam, it was utilised only to repay her debt, borrowed from local moneylenders. Now a days, her health status has also started worsen, which has made Rajamma more worried.
4.2. Risk and Insurance Integral to the concept of insurance is the concept of risk. In insurance parlance, risk is called peril. Only where risk prevails and that too when it is uncertain, insurance is applicable. Hence the first step in developing Insurance products to assist poor households to cope up with this uncertainity is to understand the range of risks they face.
Situation 1 Alibaba has to cross the river in order to go to the city and sell his goods. He has a boat but he knows that the boat has a leak in it. Alibaba does not know swimming. However he decides to row the boat across the river and leave the rest in the hand of God. Is there any element of risk existing in the given situation? Well there is no risk as it is a certainty that Alibaba will drown and all his goods will be lost in the river. Risk is defined as the possibility of adverse results flowing from any occurrence. Uncertainty gives rise to risk and for risk to exit, there should be at least two possible outcomes of which, one is undesirable. Death is the ultimate truth of life, but the timing of death is uncertain. Life insurance exists because of this element of uncertainty.
Situation 2 A kalanjiam member is requesting for insurance for her husband who is suffering from cancer. The doctors opined that his days are counted and he will meet death at any time. Suppose the member is insisting the leaders to immediately arrange for insurance to his husband. What will be reply from the leader for her request?
4.3. Situation & Risk Can you group people, who drive within the city and people, who drive on highways into the same group for risk classification? No. This is so because people who drive on highways are prone to more fatal accidents as compared to people who drive within the city. There is a story, which goes as follows: There was a Guru who had seven disciples. These seven disciples used to quarrel and fight amongst themselves. One day, the Guru called them and told them to take one stick each and break it. One by one, the disciples broke the sticks. Next, the Guru gave each one of them, bundles of two sticks, and told them to break the sticks. With a little effort, the disciples broke the sticks. Then, the Guru gave each of them bundles of seven sticks and told them to break the sticks. The disciples could not break the sticks. What is the moral of the story? Well, if we stand together, then we can support each other. If we are alone, then anyone can break us. The basic mechanism of Insurance works with the same principle. Here, people exposed to the same risks come together and pool funds to protect each individual against risk. Therefore, risk is spread out.
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4.4. Test Below there are several questions meant for you to find out which parts of the course you have understood. You can find out for yourself how you have arrived at the answers to the following questions. Do you half-know the answer and do you have to read back a bit? Or do you immediately know the answer? You can also try to answer the questions a week after you have read the text. What is the relation between low income and risk? Under what conditions insurance is applicable? What is the definition of risk? Explian that insurance is only possible when there is a common problem / common risk? Give examples. What answer has to be given if a person suffering from cancer asks for a health insurance? Why? What answer has to be given if a person suffering from cancer asks for pension? Why?
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5. Risks and the law of big numbers 5.1. Risk With the word ‘risk’ we mean dangerous chances or bad chances. Risk thus implies a possibility. There is a chance of something happening that creates an unfavourable situation. The chance of a flood or the chance of a dry period. That chance we call risk. Risk as against luck. There is a possibility of a favourable situation ensuing: luck. Against the chance of profit there is the chance of loss: risk. Good chances as against bad chances. Once certainty has become the case, there are no more possibilities. We do not talk of chances when certainty is concerned, but of facts.
5.1.1.
Consequences of risk
Risks lead to financial consequences. As soon as bad chance happens, there is a financial problem. When, for example, a house burns down or a breadwinner dies. People facing bad chance find that their capital is affected. They have a financial problem. They must buy a new house or have one built, and that takes money. That is why people have a natural tendency to reduce the effects of risks. As long as there are big risks, there is also uncertainty.
Example I am building a simple hut for storing reserves. I run the risk that the hut collapses during a storm. There is the chance of a storm. We call that possibility a risk. The storm’s effect is for the hut to collapse. I suffer financial damages, because my reserves are damaged. Because I do not know when there will be a storm strong enough to destroy the hut, I am experiencing uncertainty. I want to get rid of that uncertainty. That is what I have got to do to reduce bad chance.
5.2. Measures against risks There are two ways in which people can cover themselves against risks. In the first place there are measures that can be taken to prevent bad chance or risks from striking. We call this prevention. The measures you then take are called preventive measures. The second manner in which to cover against bad chance is to pass the financial consequences of risks on to someone else. This can, for example, be done by taking out insurance. In both cases it is about people’s need to replace a situation of uncertainty with one of certainty.
Question What two ways exist for avoiding risks and financial damages in the example of the hut? Which way is preferred and why?
5.2.1.
Risk = chance
With risk we mean bad chance. Risk is the possibility of a situation occurring. If the chance will happen, we do not know. From experience we know that one chance is bigger than the other. We compare situations.
Examples •
Most people die before they turn 70. Some live longer but most people die before their 70th birthday. There is a big chance of you dying before you turn 70.
•
Every year some houses catch fire. Most houses do not catch fire every year, but there is a chance that it may happen to you.
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5.2.2.
Many risks can be calculated
The chance of a situation occurring can be calculated by comparing the same situations. You can record every death in a certain district, record the person’s age at the time of his or her death. If you do that for the next 1,000 deaths, you can calculate the average age at which people die. This could be 65. On the basis of the rules of experience you can then say that any person has a 50% chance of getting older than 65. The chance of a baby reaching the age of 65 can thus be calculated. In a similar fashion you can calculate the chance of crop failure due to insufficient rainfall. On the basis of data from the past you can calculate the chance of a similar situation reoccurring in the future. The assumption of this method is that the future can be compared with the past. Should prosperity increase and healthcare improve it is reasonable to assume that the population is going to live longer on average. The chance of a baby reaching the age of 65 increases to over 50%, and, in contrast, the chance of a baby dying before the age of 65 decreases to fewer than 50%.
5.3. The law of big numbers The law of big numbers says that calculations become more accurate when more cases are included. We explain with an example.
Example The chance of throwing 6 when playing dice is 1 in 6. Suppose you throw a die 6 times. The expectation is then that of the 6 throws one will be a 6. But it may well be that you did not throw any 6 or that you threw 6 twice. When you throw the die 600 times the calculated chance of throwing 6 100 times will be closer to the real result.
5.3.1.
Theoretical approach
In theory it amounts to the following. The law of big numbers says that the variation in the distribution of the mean is inversely proportional to the number of observations (i.e. the spread is inversely proportional to the square root of the number of observations). Which is why after a large number of observations the mean converges to the true average value of the probability density function.
5.3.2.
Insurers use the law of big numbers
Insurers use the law of big numbers to calculate a premium. Should data from the past show that out of 1,000 house 1 burns down every year, then the chance of fire damage to a house is 1 to 1,000. The insurer can then calculated the premium required for insuring against fire damages. When the insurer insures 100,000 houses he will take into account that 100 house will burn down next year. It could be 90 or 110. The law of big numbers says that the chance is very small of fewer than 90 houses burning down. The chance of more than 110 houses burning down is also very small. When 10 million houses are insured, the theoretical chance is for 10,000 to burn down. It could be 9,000 or 11,000. The chance of more than 11,000 houses of out of 10 million burning down, and not 10,000, is 10 times smaller than the chance of 110 houses of out 100,000 burning down. After all, the spread of variation [the difference between the theoretical result and the deviation] is inversely proportional to the square root of the number of observations. In this case the number of observations is 10 million; it is 100 times that for 100,000. So the chance of a deviation is √100 = 10 times smaller. In this way an individual can pass on his risks to the insurer by taking out insurance. The individual insured then has the financial security that the risks are covered. There is also a chance that the risks do not manifest themselves. Then there is no problem. Should the chance strike and the risk manifest itself, then there is no financial problem either, because the insured is compensated by the insurer. The insurer too has no problem, because experience had taught him that bad chance does Version 3.0 22-09-2008
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not happen to everybody. The insurer thus uses the law of big numbers. The insurer can cover a too big a deviation between the real chance and theoretical chance by means of reinsuring. It is clear that the insurer runs fewer risks of a large deviation between the theoretical and real results with large numbers of policies. The number of policies and the spread of risk therefore also helps to determine the kind of reinsurance or the reinsurance package that is needed. See the chapter on reinsuring.
5.4. Test Below there are several questions meant for you to find out which parts of the course you have understood. You can find out for yourself how you have arrived at the answers to the following questions. Do you half-know the answer and do you have to read back a bit? Or do you immediately know the answer? You can also try to answer the questions a week after you have read the text. a. b. c. d. e.
Explain the law of big numbers in your own words. What 2 ways exist of taking measures against risks? Explain in insurance technical jargon what is meant with risks? How does the insurer calculate the chance of risk? Explain in your own words or with an example what is meant by the mean average of a big number of observations converging to the true average value of the probability density function? f. Suppose that in a particular region the average age that people die on is 64 years. Explain that when someone is 60 the chance of turning 65 is bigger than the chance of turning 63. g. Insurer A has sold 25 times as many policies for a certain product as insurer B. For insurer A people have calculated that there is a chance of 3% of his claims deviating more than 10% of the calculated expectations. How big is the chance then for insurer B?
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6. Calculating the premium of life insurance Calculating the premium is about calculating the chance of having to pay out. For non-life insurance this can be simplified to calculating the chance, multiplied by the costs. For life insurance the premium depends on three factors: costs, interest and mortality.
6.1. Costs The insurer’s office expenses make up the costs. Think of salaries, computers, and maintenance of buildings. It also includes the commissions to be paid to the agents. It is advisable to base the premium calculation needed for the risk on a fixed percentage of costs in the premium
6.2. Interest Especially with regard to life insurance you have to consider interest. When the policy provides for a pay-out for when the insured person dies, then the insurer knows that he will have to pay out at some time. He only does not know when. In the course of the years he will receive insurance premiums that he has to reserve for the pay-out that will happen one day. Suppose that 32 years have lapsed between taking out an insurance policy and the moment of dying, then the insurer will have received interest over 32 years on the first premium payment, over 31 years on the second payment, etc. If we assume a premium of Rs 100 and a rate of interest of 5% per year, the insurer will receive in premiums and interest: [100*1.0532] + [100*1.0531] + [100*1.0530] + etc. This is 476+454+432+ etc. = 7,906. Especially when it involves a longer period the effects on interest income are huge. In 30 years a 5% rate of interest has more than quadrupled the amount.
6.3. Mortality Mortality tables allow the insurer to calculate the average chance of someone dying within one year. This also applies to the person who dies after two years, etc. In the Madurai 2004 statistical handbook I found the following data: St. No. 1 2 3 4 5 6
Age group 0-6 7-14 15-29 30-44 45-59 60 and above total
Persons 2001 279,144 745,767 717,438 486,833 307,474 25,623 2,562,279
Percentage of total 10.9 29.1 28.0 19.0 12.0 1.0 100.0
This data is too limited to immediately draw conclusions, but they do provide an indication. To not make it unnecessarily difficult we assume a proportionate distribution of age groups1. We are also assuming that the future rate of mortality is the same as the past one. The conclusion then is that the group now aged between 30 and 44 will be aged 45 to 59 in 15 years. The chance that the people are the still alive is 307,474 divided by 486,833, or 63%. The rate of mortality for the 30-44 age group is then 100% minus the rate of survival. That is 100% minus 63% is 37%. This is the mortality rate over 15 years. That does not say if the 37% dies at the start of the 15 years or at the end. For that we need more detailed information.
1
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6.4. Difference between temporary and lifelong insurance There is a difference between a temporary insurance that leads to pay-out in the case of a death and a lifelong insurance in the case of death. With a temporary insurance one only pays premium over the risk that one dies within a year. With a lifelong insurance it is clear that the insurer must always pay. The insurer does not know if this is going to happen within one year or only after 32 years. The insurer does not know if he is going to get one premium payment or 32, and he does not know how much interests he is going to get over these payments. It is clear that for lifelong insurance premiums are much higher than for temporary insurance. The insured sum must one day be paid out. As soon as some one is older than sixty that chance will increase enormously (see table). If one takes out such insurance at the age of 55 then the chance is big that the insurer is going to have to pay out within ten years. The insurer must then have received Rs 20,000 in premiums and interest and also an amount for costs. It is clear that this is impossible with premium payments of around Rs 100. Such insurance is only possible when one takes one out at an early age, or when the turn-around system with non-selection2 is used.
6.5. Test a. What is the difference between life insurance and non-life insurance when calculating premiums? b. What do life insurance and non-life insurance have in common when calculating premiums? c. What are the three foundations for calculating a life insurance premium? d. Suppose an interest rate of 4% and an annual premium of Rs 150. Calculate the amount that the insurer will have after four years of premium receipts multiplied by interest. e. Why is a temporary insurance that pays out in the case of death more expensive for an older person than for a younger person, even though both have paid premiums for one year? f. h. j. l. n.
age 57 58 59 60
g. number of persons i. 100,000 k. 98,563 m. 96,094 o. 93,699
p. Use the table above and calculate the chance, expressed as a percentage, of a 57-year old person dying within one year. q. How big is the chance that a 58-year old person is still alive at 60? r. In what manner can you insure older people?
2
See elsewhere in this course for these concepts.
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7. Fixed Amount Insurance and Indemnity Insurance 7.1. The Indemnity Insurance The indemnity insurance is an insurance agreement. The idea of indemnity insurance is to compensate an insured person for damages. This compensation is paid when the insured event takes place. Compensating damages is about compensating financial loss. The financial compensation allows the insured person to return to the same position.
Example A person insures his home against the risk of storms. Two years after taking out the policy an enormous storm happens. The storm destroys, among others, the insured person’s home. The insurance then bears the costs of building a comparable home. The insured person has been returned to his old situation. It did not improve, it did not get worse.
7.2. Forms of Indemnity Insurance The best known form of indemnity insurance is that of insuring objects. The insurance covers the losses that happen when the insured objects are damaged.
Examples The insurance of homes, furniture, cars, machines. An insurance that compensates certain costs is also an indemnity insurance. Then too insured persons are compensated. They are returned to their former financial position. They are financially compensated for the expenses they had.
Example The insurance of health costs.
7.3. Fixed Amount Insurance In addition to indemnity insurance there is the fixed amount insurance. The fixed amount insurance is not based on the principle of compensating damages or full financial compensation. It is the case though that certain damage has occurred. These damages also lead to a more difficult financial situation. In the case of fixed amount insurance it is not about the exact size of the financial damages. The policy determines in advance what sum to pay. It may be that the real financial damages are higher or lower than the sum that the policy compensates.
Examples Casualty- term life- or pension insurance. In some situations the financial detriment is difficult to determine. There are situations in which different people have very different opinions about the height of the loss. The fixed amount insurance is then a solution. You agree in advance how much to pay when a situation happens.
Example The costs of a funeral or cremation depend on the number of people invited. The nature of the ceremony also influences costs. This problem can be solved with fixed amount insurance. The insured sum to be paid out in the case of death is agreed in advance.
7.4. Consequences Fixed Amount Insurance The fixed amount insurance is not based on a precise compensation of damages. This can mean that in some cases the sum paid is higher than the real financial damages. Such a situation can
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invite claims. The insurer must therefore always determine whether the sum insured is in balance with the financial losses.
Example The casualty policy is a form of fixed amount insurance. A certain amount is paid when some one loses a limb. This can encourage the insured person to maim himself. He is prepared to maim himself in order to qualify for a payment.
7.5. Difference Fixed Amount Insurance and Indemnity Insurance The indemnity insurance means to compensate the exact financial losses. The fixed amount insurance means to contribute to the costs after an insured event. The fixed amount insurance does not mean to compensate the exact financial losses. The fixed amount insurance often occurs in insurance products that insure persons. A person’s value, after all, cannot be expressed in money. An accident does affect a person’s ability to work. A reduced ability to work results in financial disadvantages. The casualty insurance offers a solution to this problem. As such a casualty insurance is a form of fixed amount insurance.
7.6. Test The exercises below are meant for you to determine for yourself which parts of the course you understand well. You can find out for yourself how you arrived at the answer to the following questions? When you do not know the answer you must return to the text? Or maybe you know the answer immediately? You can also try to answer the questions a week after you read the text. a. b. c. d.
Is insurance of a building a fixed amount insurance or an indemnity insurance? Give two examples of fixed amount insurance. What is the principle of indemnity insurance? What kind of insurance may sooner encourage an insured person to deliberately inflict damages? An indemnity insurance or a fixed amount insurance? e. Is an insurance for health costs a fixed amount insurance or a indemnity insurance? f. And what about an insurance that pays 1,000 rps per day when you are in hospital? g. Can you describe in your own words the difference between a fixed amount insurance and a indemnity insurance.
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8. The Insurance Products The policy conditions describe the product the insured person takes out. In many cases there is a combination of different products. For the insured person the policy is a single-whole and financial protection in the case of accident or death. For a proper understanding it is necessary to distinguish the parts. But first we take a look at the people who play a role in the insurance.
8.1. The client We call the person who takes out the insurance policy and pays the premium, the client. The client enters into the contract with the insurer. The client’s name is mentioned in the policy. The client pays premiums to cover certain financial risks of himself and his family.
8.2. The insured We call the person whose risk, health or life is covered the insured. The client is also one of the insured. After all, he insures himself against the risk of an accident or death. His family members are also among the insured. In case of an accident or death of a family member the policy pays out as well.
8.3. The beneficiary The beneficiary is the person to whom the insurer pays out in the case of a claim. In the case of death the beneficiary is always some one other than the insured. In the case of disability or hospitalisation the beneficiary may be the same person as the insured.
8.4. Difference between client and insured The difference between the client and the insured is important. The client pays the premiums. Should the client die the insurer no longer receives any premiums. Should one of the insured die the insurer makes a payment, but the client must continue to make premium payments.
8.5. Death through natural causes The intention of the insurance is to offer protection from an uncertain event. Every human being dies sooner or later. Death is therefore not an uncertain event. However, the moment of dying is uncertain. The insurance offers a financial protection from that uncertain moment. The beneficiary receives a payment the moment an insured person dies. For the insurer there are therefore two elements that are uncertain. In the first place it is uncertain how much premium the insurer will receive. The moment someone dies who bought the policy (client), all premium payments cease. Should one of the co-insured die, the insurer will continue to receive premiums. In the second place the insurer must make a payment the moment one of the people insured by the policy dies. In setting premium payments the insurer takes into consideration the average life expectancy of the client and the insured. This also means that people over a certain age can no longer buy a policy. The chance is too big that the insurer must then pay within several years.
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8.6. Death through an accident Every human being dies sooner or later. The difference between dying through natural causes and dying as the result of an accident is that it happens suddenly in the case of an accident. A process of illness and ageing usually precedes death through natural causes. One sees death come closer. Often there is also a case of work disability as the result of illness or weakness. This is different for accidents. An accident happens suddenly. That is why the financial consequences of a death through an accident are more drastic for the beneficiary than those of death through natural causes. In the case of an accident a person is not prepared (financially) for death. That is why the insurer pays a higher amount with death through an accident than with death through natural causes. In the claims handling process it is important to obtain clarity about the cause of death.
8.7. Disability as the result of an accident Death is not always the result of an accident. In many cases accidents cause permanent disabilities. Then too there is a case of financial damages. The insured person may, for instance, no longer be able to practise his profession. The insurer then pays the fixed amount that is pre-determined in case of permanent disability. The disability must have been caused, of course, by an accident and not, for instance, by an illness.
8.8. Underwriting and premium-setting 8.8.1.
Premium tables
The insurer uses premium tables for underwriting insurance contracts. These tables show that one can choose between different packages. The client has a choice of lower and higher insured amounts. Higher premiums relate to the higher insured amounts. The insurer does not allow a client to take out several policies. Otherwise a client who is ill and expects to depart this life within several years can take out as many as 10 policies with the highest insured amounts. In that case the insurer is exposed to a disproportionately high risk. The premium tables are after all based on the average life expectancy. A large number of insured people pass away on average at a certain age. The ‘law of large numbers’ allow the insurer to know what is happening. This mechanism becomes distorted when only people with bad health take out policies. It is therefore the task of the insurance underwriters to be alert and not only sell policies to certain categories of people who run higher risks than average.
8.8.2.
Pro rata payment
Insurers too take measures to prevent this undesirable effect. In the conditions the insurer says, for instance, that in the case of death through natural causes within 2 or 3 years after the policy’s starting date the insured amount is not fully paid, but only over the premiums paid till then. In the case of death through an accident the insured amount is fully paid. In this way the insurer prevent people from buying policies because they expect to pass away within a couple of months.
8.8.3.
Age
A second measure that insurers take to prevent having a clientele of insured people who are not expected to live for long, is to set a last-age for concluding a policy. It makes no sense to sell a policy to a seventy-year old. The insurer knows that the chance is big that he will have to pay within a couple of years. The premiums received are then always too little. The insurer can only compensate by really putting up the premiums. This is contrary to the insurance philosophy of solidarity and shared risks of the whole group. After all, young people would be burdened with the risks of the elderly. Because the insurer is a mutual (see relevant chapter of the course) the insurer’s interest is that of all the members and vice versa. Should the insurer incur losses nothing is transferred to members’ accounts. In the course of the years the situation will come about of itself in which the elderly are insured. After all, the young people buying policies today will become the
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elderly insured in several years. But then they will have been paying premiums over a period of 25 years. In the present context under mainstream insurance products, once reaching the age of 60, people are no longer insured, although they paid premium for a greater part of the life. They need a funeral cover and some compensation for loss of income and additional costs for their relatives. It is unacceptable that people who have reached a phase in their life when they need a cover the most are not able to find a solution for that. How to cover this risk? 1. Ask the members to enroll in savings cum insurance in early parts of their life so that they will be in a position to have sufficient sum of money in their member account at later part of their life. 2. Whole life insurance 3. Cross subsidization by young through some mechanisms.
8.8.4.
The premium of old people
The premium of old people is much higher than the premium of young people. Read also the chapter Calculating the premium of life insurance! There is a combination of reasons that explains the high premium of older people. The premium is based on mortality, interest and costs. Costs are not important for this paragraph. Let’s compare a 30-year old man called A with a 50-year old man, called B. If the insurance scheme offers a benefit of Rs. 30.000 when the insured person passes away the insurance company knows: there will be a day in future, we have to pay the benefit of Rs. 30.000. So all the premiums together and the interest the insurance company can make on these premiums together have to be equal to the insured sum of Rs. 30.000. Let’s say that adult people reach normally the age of 70. Than it is clear, that A will pay 20 year premiums and than he will die. A will pay 40 years premium and than he will die. So A can pay double times the premium for the same scheme. That means that this factor causes that the premium of A can be half of B. This is factor one. When both A and B will die on the age of 70, the insurance company can get a lot more interest on the premiums of A. And especially the effect of interest on interest is for A much than for B. The insurer can keep the first premium of A for 40 years. The second for 39 years etc. This is factor two. There is always a possibility that A or B don’t die exactly on the age of 70, but that they for instance die at the age of 60. What does this mean? If A and B die, they don’t pay premium anymore, but the insurance company still has to pay Rs. 30.000. If both A and B die for instance at the age of 60, than A has already paid 30 years premium. B has paid only 10 years premium. In other words A has paid 75% of premiums and B has paid only 50%. This is factor three. The factors together multiply each other. That means that the premium of older poelple is actuarially a lot higher.
8.9. Test The exercises below are meant for you to determine for yourself which parts of the course you understand well. You can find out for yourself how you arrived at the answers to the following questions? When you do not know the answer you must return to the text? Or maybe you know the answer immediately? You can also try to answer the questions a week after you read the text. a. b. c. d.
Whom do we call the beneficiary? In which cases can the beneficiary be the same person as the insured? Describe the difference between client and insured. The reason for insuring oneself is an uncertain event. Every person dies some time. Why do insurers call dying an uncertain event? e. What distinction does the policy make between dying through natural causes and dying through an accident?
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f. How do insurers prevent having to pay for people with a high risk of dying? g. Give 3 examples of an accident in which the policy pays out? h. When an insured person dies within 3 months of the starting date as the result of an illness the insurer only pays the premiums paid. When an insured person dies after 3 months of the starting date of the policy the insurer pays the insured amount. Explain this difference. i. In which case does an insurer pay when there is no case of death? Elaborate your answer with an example. j. Find in the premium tables the premium to be paid by a 38-year old person if he wants to ensure a family of husband, wife and 5 live-in children. Which premium will he pay when he selects the package with the lowest sum insured? k. Why can older people no longer be insured? l. The death of a client through natural causes creates two disadvantages for the insurer. Elaborate on this statement. m. The death of another insured person only creates one disadvantage for the insurer. Explain.
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9. Underwriting 9.1. Agreement An insurance is an agreement. Members of the Mutual Insurance take out policies with the Mutual. This agreement is called insurance. The document that lays down the agreement is called policy. Members pay a price for the agreement. We call that price premium. The insurance pays out an amount in certain cases. We call these cases claims. The members are therefore buying security. Every term they pay a small amount. In return they get security. This security means that they will get an amount of money in the case of claims. If there are no claims, compensation is not needed. The Mutual Insurance then looks like an office that collects money off its members. The Mutual pays this money to members who have suffered claims. The people entitled to a payout when there are claims are called the insured. They can be the members, but also other people from their family.
9.2. Security Security is the basis of every insurance. Members pay premiums and know for sure that they will not be hit financially by certain disasters. Members never pay premiums for nothing. Even when a member suffers no claims, he still does not pay premiums for nothing. After all he has received security over that period.
9.3. Saving or insuring There are several ways to protect against a calamity. One can get financial protection either by saving or by insuring. Saving is appropriate for goals that one selects; insuring is appropriate for calamities of which one does not know if and when they may happen. Saving can be done individually for an individual goal. Insuring cannot be done individually per definition. One does that together with others. Insuring rests on the principle of solidarity. People do not all die at the same time, therefore one can get insured against the financial consequences of dying.
9.3.1.
Saving and borrowing
Saving is an appropriate method for a specific goal. You can, e.g., save for a machine. You know its price. You can calculate how long you must save a certain monthly amount to get the needed capital. You can decide how long you want to save and then calculate the monthly amount. And vice versa. Borrowing is really delayed saving. You first buy a product with somebody else’s money and then you pay him back in monthly instalments. A problem occurs when you cannot pay back the loan, because of disability or an accident or death. The family is then stuck with a debt.
9.3.2.
Insuring
Insuring is an appropriate method when you do not have your eyes set on a specific goal. The purpose of insurance is to provide financial protection; protection against the consequences of a disaster. In insurance-speak we call a disaster the claims. You can protect yourself against, e.g., accidents or against (an unnatural) death. As you do not know in advance when the disaster (claims) is going to strike, saving is not an appropriate solution. Should it happen within a year, then you will not have saved enough. You must then save a lot in a short time to have sufficient funds should the disaster strike early. The disadvantage is that you cannot use the money for other purposes. Another disadvantage is that you may be saving for something that never happens, looking back. Not everybody has accidents.
9.4. The product The insurance agreement clearly describes the security you are buying. Not every financial setback is insured. Certain products offer security in the case of death. Other products offer to cover accidents. Each product has a certain price. The price is related to the product’s security.
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9.5. Premium The members pay a premium for the insurance they take out. The premiums paid by all members together are the Mutual’s income. The sum of all the premiums is in a sense the Mutual’s budget. The Mutual pays claims from the premiums. For this it needs a reserve. See below with claims. The Mutual also pays its agents. Finally a certain amount of money is needed for office expenses. The office expenses are made up of material and staff salaries. Materials are office furniture, computers, leaflets, etc. The sum of the premiums collected is therefore higher than the sum of the Mutual’s claims payments. The Mutual’s articles of association can also determine what share of premiums can be spent on paying agents. The articles of association can also determine the share meant for office materials. So, for a particular year: The sum of all premiums = all claims + office costs + payments to agents + contribution to general reserves.
9.6. Determining the premium It is important to set the right premium for every product. When the premium is too low the Mutual may one day no longer be able to pay for claims. When the premium is too high the Mutual runs the risk that people will not buy the product when the risks are low in their estimate. This is called antiselection. This means, that only people who estimate the risk of claims as high buy a policy. In the end the Mutual then also pays many claims and gets into financial problems. Determining a premium is in fact an exercise in estimating the probability of incurring claims. Determining a premium is therefore about calculating the probability of dying or an accident.
9.6.1.
Premium and age
For products that insure the risk of dying the premium very much depends on the risk. After all: the older, the bigger the chance of dying. For the premium this means the following: • The premium for old people is higher, because an older person dies sooner than a young person and pays the premium over a fewer number of years, but the payout for claims remains the same. • In the case of old people the period between the start of premium payments and the claims is shorter than for young people. This means that the insurer earns less interest on premiums collected from old people. • The costs of selling a policy, its administration and claims procedures are the same for young and old people. These fixed costs impact relatively more on the policies of older people, because they have made fewer premium payments. • The above factors imply an extremely high premium for old people and hence create the danger of anti-selection. You can only break out of this when there is sufficient solidarity and the option of an apportionment system3. The insurer then chooses deliberately to set high premiums for young people so as to lower the premiums for old people. To prevent antiselection you can set a quota, for instance, no more than one old person insured for every five young people insured. An alternative for insuring old people is to turn it into a kind of savings scheme. When some one dies the total amount of paid premiums is paid out, possibly increased with a generous interest.
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Normally when premium tariffs are set it is assumed that every risk has its own premium. Every new policyholder pays the premium that belongs to his risk. Premiums are set on the basis of a risk calculation. In an apportionment system the claims are the point of departure. Everybody who wants to join can do so and you calculate how much premium is needed. The premium is then divided over the insured using certaina standards (slight age tariff). In a premium system one really saves, and in an apportionment system one is really borrowing. Current payouts are done from current and future risks. In fact, you do not need reserves in an apportionment system. The danger is, you are not sure of the future inflow of newly insured people; especially when there are many payouts in an early phase, the premium has to go up quite a bit and the question then remains if people are still prepared to get insured. However, when it works the demand for insurance will be very high and in the long-term premiums go down and a high degree of mutual solidarity has been reached. Version 3.0 22-09-2008
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9.7. Selection and anti-selection The premium the Mutual sets is based on the probability of claims. That probability is based on historical data. The probability is thus an average of past claims for a particular region or a particular age group. The principle only works when future claims are in the same group of people. That is why it is important that the products are sold to members who do not deviate too much from the average. We call this selection. When the premium of a certain product is too high anti-selection can happen. When anti-selection happens only people with a high probability of claims buy a policy. The danger of anti-selection is that future claims turn out to be higher than had been estimated in advance. An example will make this clear. Suppose you are selling a product that offers a payment when the insured dies. When the premium for this product is much too high the average person will not buy this product. But it is still attractive to people who are seriously ill or so old that they expect to die in a couple of years. The Mutual is then confronted with many claims. Should you then decide to increase the premiums in order to cover the claims, the problem will only get worse. You must select well the people you want to insure. For instance, by setting age limits. Another method is to not fully pay out claims that happen within 2 or 3 years of buying a policy, but only to payout the premiums already paid.
9.7.1.
Group insurance
Insuring a group of people as a whole has several advantages. In this construction it is not the individual person or family that is insured, but a certain group of people, of e.g. 20 adults, that exhibits solidarity. The group is acting like a collective. It pays the premium in one go for the entire group, and there is only one policy. The advantage of this construction is a functioning mutual solidarity. People watch over each other to ensure that the premium is collected. It leads to fewer problems with arrears. It also reduces the chance of anti-selection because the other members of the group compensate the individual bad risk. It is in a sense the law of big numbers for small-scale operations.
9.8. Test Below there are several questions meant for you to find out which parts of the course you have understood. You can find out for yourself how you have arrived at the answers to the following questions. Do you half-know the answer and do you have to read back a bit? Or do you immediately know the answer? You can also try to answer the questions a week after you have read the text. a. b. c. d. e. f. g. h. i. j. k. l. m. n. o. p. q.
What do we call the price of insurance? What does a person buy when he concludes an insurance agreement? What is the risk to the Mutual when it is asking a too low price for certain insurance? When is there the danger of anti-selection? Why is anti-selection a threat to the Mutual? What are claims? What is the advantage of a collective insurance? In which situation is it better to insure than to save? In which situation is it better to save than to insure? The Mutual uses around half of the premiums received to pay for claims. What does the Mutual use the other half of the premiums received for? What are the questions that an employee must ask when an insured person claims? After three years an insured person claims that he has been paying premiums for nothing. How do you explain to him that this is not so? Why is it really impossible to insure people over the age of 60 against the risk of dying and what are the consequences when an insurer does take on these risks? What would happen if too low a premium were asked for certain insurance? What is the purpose of general reserves? What is the difference between saving and insuring? What are the advantages to a member when he takes out insurance?
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10. Pension 10.1. Introduction Insurance is a method of managing financial risks. It is especially useful for that kind of risks that can be described as a kind of a disaster. So for the normal things that happen in everyday life there is no need to insure. For instance buying of food. Pension is a kind of life insurance. Life insurance is a kind of fixed mount insurance. See the chapter on that issue in this manual. We know that everyone is going to die one day. The only thing is: we don’t know at what day. There is a risk that a person dies at a young age. The family has to pay for the funeral and there are a lot of other financial problems in case the breadwinner dies. But there is also a risk that a person dies at an old age, because old people cannot earn a living any longer for themselves. Often they need a lot of care. For the risk that people die at a young age you can solve the problem with a life insurance. At the moment the person passes away, there will be an amount of money to answer the needs. For the financial risk that people die at an old age there is the solution of pension. Pension means the insurance company will offer you every month or year a certain amount of money that you need for a living. For instance every year Rs. 5.000.
10.2. Calculate the premium Calculating the premium for a pension is just the opposite of calculating the premium for a normal life insurance. Calculating premium = calculating the risk. When you have a pension that offers you every year an amount of Rs. 5.000 starting at the age of 60 you have to calculate the risk that someone will reach the age of 60. Then you have to calculate the risk that he reaches the age of 61, 62 etc. Because every year he lives longer than the age of 60 the insurance company has to pay an amount of Rs. 5.000. We explain in a simple table the risk as an example. Age at this Chance Chance Chance Chance moment becoming 60 becoming 61 becoming 62 becoming 63 30 50% 49% 48% 47% 40 60% 58% 56% 54% 45 70% 66% 62% 58% 50 80% 72% 66% 60% 55 90% 82% 75% 69% Here we just show the chances up to the age of 63. In definite you have to calculate up to 100.
10.3. Combinations with life insurance It is clear, that the premium for a pension is very high for older people, because the chance they reach the age of 60 is very high and they can only pay the premium for a few years. An extra factor is that the effect of the interest on the premiums paid is much lower than for younger people. For that reason you can combine the life insurance with pension. For older people there is less need for life insurance. The most important thing is to pay the costs of the funeral. For that you don’t need Rs. 20.000 but only Rs. 3.000 for example. So you can make a combination and offer a scheme that says that the insured receives Rs. 20.000 or Rs 30.000 when he dies before the age of 60 and he receives Rs. 3.000 when he dies at the age of 60 or later. When he reaches the age of 60 he also receives yearly Rs. 5.000 as a pension. A second advantage of the combination insurance is that you avoid a little bit the anti selection, because you insure two opposite risks: the risk of dieing before 60 and the risk of become old. A part of the premium is meant for the pension. So if people die very soon after they have an insurance there is a loss for the insurer on life insurance, but there is a profit on the pension part.
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one year older and that means that the risk of paying pension for the insurance company is also grown.
10.5. Alternatives When a federation starts with pension schemes there is the problem that older people can not pay the premium. Pension is successful when you start at a young age. What to do with the older people? The cause of the problem is that the premium one has to pay is a kind of saving. At young age you pay premium and at old age you receive your pension. The difference with saving is that premium is exactly enough. It doesn’t matter if a person will reach the age of 95 or 66. He pays the same premium. On saving basis you need more if you become 95 and you need about nothing if you die just after stop working. This system is individually. You can also have a system that is op non individually basis. The members of a group decide to give every member the rights to have pension. As group you can take the federation. We explain with an example. The pension age is 60 year and the pension is Rs. 5.000 a year. You than simply count the members of the group older than 60 and younger than 60. If there are 125 people older than 60 and 2800 younger than 60, you can calculate your premium. You need 125 x Rs. 5.000 = Rs. 625.000. You have to collect this money from 2800 members, so Rs. 625.000 / 2800 = Rs. 223 per person as the risk premium. The advantage is, that immediately everyone can have a pension and premium is not to high. The disadvantage is that there is no choice possible. Everyone younger than 60 has to pay. A second disadvantage is that the premium can become high in case people become older. This last disadvantage you can tackle by starting with the premium in stead of the pension. For example you decide that the premium is Rs. 250. Than you collect from 2800 members Rs. 700.000. If you have 125 persons older than 60 they receive a pension of 700.000 / 125 = Rs. 5.600 per person. If there are 145 persons older than 60 they receive only 700.000 / 145 = Rs. 4.828 per person. Also the membership can be a disadvantage. What to do if a person moves to another federation or to another state and he has paid already 10 years premium.
10.6. Test Below there are several questions meant for you to find out which parts of the course you have understood. You can find out for yourself how you have arrived at the answers to the following questions. Do you half-know the answer and do you have to read back a bit? Or do you immediately know the answer? You can also try to answer the questions a week after you have read the text. a. Which risk do you cover with a pension scheme? b. Which problems do you face when you start a pension scheme? c. The actuarians have to calculate the premium every year. What is the reason for this calculation? d. Why don’t you need an exclusion for alcohol in your pension scheme? e. What is the basis for calculating the premium for a pension scheme? f. What is the difference between pension and life insurance? g. Use the table in this chapter. What do you think is the chance that a person of 40 years old reaches the age of 64? h. A certain federation has 3500 members. 500 of them are older than the age of 60. What should be the annual premium if this federation decides to start a pension scheme for the older that offers them Rs. 500 a month?
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11. Agricultural insurance 11.1. Context and Problem Weather has significant and multiple impacts on the lives of poor in India. Of all the weather parameters, rainfall has an overwhelming impact on everyday life. The impact areas include drinking water availability, irrigation, yield of rainfed crops, fresh water fishing etc. Numerous villages and cities in India face acute drinking water problems both in terms of quantity and quality. Irrigated area has declined drastically in many areas where open wells have dried due to inadequate rainfall for the past five years. For rainfed farmers in India, who cultivate more than 60% of the total cultivated area, monsoon rain is the single critical factor deciding the yield of the crops cultivated. The performance of the monsoon rains has far reaching influence on the GDP of India. Drought is a recurrent disaster that haunts the lives of poor living in semiarid tract of India. Large tracts of land have become fallow leaving numerous farming families no other choice but to migrate and look for unknown tenuous occupations. Landless agricultural labourers are adversely affected by reduction in area under irrigation and area under rainfed farming. The number of small ruminants, which are the lifeline of landless labourers and marginal farmers, are coming down due to acute water and fodder scarcity. Dairying, which farmers embraced as a way of diversifying from agriculture, is facing acute crisis for the same reasons. It is very common to hear from farming community that rainfall over years has come down very significantly, making their life miserable. They also repeatedly express that besides the change in overall quantity of rainfall there is also shift in rainfall pattern. Though the scientific community does not accept that rainfall has declined over the years, they do accept that rainfall distribution has changed significantly. They express that the number of rainy days has come down while the rainfall intensity has increased, thereby causing severe damage to rainfed crops. It is because these crops primarily depend on proper distribution of rainfall for their performance, rather than on total quantity of rainfall. Further increase in rainfall intensity results in high levels of soil erosion and silting up water bodies. Rainfall analysis for the groundnut crop period for 40 years done for Nattarampalli indicates that there has been a negative trend in rainfall. The traditional coping mechanisms used by farmers like accumulation of buffer stocks, diversification of cropping pattern/agro enterprises, shifting to low risk (low return) crops, diversification of income sources (ex ante measures), distress sale of farm assets, removing children from school, migration and borrowing (ex post measures) are not sufficient and not available to all to manage income losses due to these climate changes.
11.2. Addressing the problem The poor in India living in semiarid tracts need to be prepared for managing this change in climate. For successfully managing this risk of climate change a combination of risk prevention, mitigation and transfer measures are needed. For the same, the capacity of poor need to be built on an integrated approach involving social, physical, biological, diversification and financial components. Most of the activities of the social, physical, biological and diversification are well known and established. The social component includes organizing the poor into various groups based on solidarity and functionality. This remains as the prerequisite for educating them and implementing various other components. Physical component includes measures like regeneration of traditional water harvesting structures and management practices, insitu soil and water conservation measures, silt application, etc. Biological component includes measures like introduction of drought resistant varieties, seed hardening, etc. Diversification component includes diversifying to dairy, goatery and horticulture. Financial measures to address climate change and disaster risk reduction are not well known and evolving in the recent past. Microfinance, which has emerged as an important development intervention in the last two decades, is very effective in handing less severe and high frequent Version 3.0 22-09-2008
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events, through cash flow smoothening. The crop insurance programs by the State of India to address moderate to high severe and medium to low frequency events, has been a failure in terms of reach, viability and quality of service. Further these programs are bogged with the problem of political interference. Government support in the form of relief measures, addresses only high severe events and in practice are very adhoc in nature. While it is a significant drain to the treasury of the government it is not effective in terms of reach and commensurateness. So alternative insurance measures are very much needed.
11.3. Background information about weather insurance and risk management Most agricultural organisations have always been dependent on the weather for their success. For this reason in the course of history farmers have tried to find the places with the best climates for their crops. But because the nature of weather is uncertain, people developed all kinds of risk management tools as well in order to protect their business to the adverse effects of weather and other factors. The risk management tools can be divided in two groups. The first group, on-farm risk management, involves all tools that are used physically on the farm. The second group involves all tools that don’t require any physical measures, but only contracts or financial decisions. We will refer to this group as off-farm risk management. The most important types of crop insurance known are all-risk crop insurance, area-yield insurance and weather-crop insurance. Crop insurance is indemnity-based and area-yield insurance and weather-crop insurance are index-based.
11.4. On-farm risk management Many methods of reducing the risk on a farm have been developed. Most off-farm risk management tools are relatively new phenomenon and sometimes designing a farm’s organisation taking into account possible risks can help a lot. On-farm risk management could also be called non-financial risk management or operational risk management, because it involves no contracts but only actions on the farm.
11.4.1. Ex ante Ex ante strategies are usually based on two general principles: diversification and reserve. Diversification is applied to income-generating activities. Examples are planting different crops (for example relying partly on less valuable but drought-resistant crops), planting in different periods, planting on different places and having part-time work in a non-farm business (income diversification). Some farmers keep accumulated buffer stocks for bad times, but this is not always possible. It is also possible to mitigate risk. An example is the building of an irrigation system in dry areas, which enables farmers to store water and use it on the appropriate time.
11.4.2. Ex post Ex post strategies are usually less advisable, because they do more long-term damage to the farm. Examples are borrowing money (carry-over debt at relatively high interest rates), selling farm assets such as cattle and seeking off-farm employment. A bad year makes a farm with an ex ante strategy go from a strong to a normal position, while the status of a farm with an ex post strategy can be weakened much more. A farm that has to sell assets will have lower expected revenues and thus have more problems to resolve. Rational farmers use ex ante strategies whenever possible. Ex post risk management can be regarded as trying to make the best of it when the damage has already occurred. An important shortfall is that these tools are often (partly) ineffective to weather risks, since the weather in a region is correlated. Diversified crops will still have lower yields. Crops in a whole region, country or wider region can be affected. Only continent-wide diversification offers substantial protection to bad seasons. Some perils, however, like hailstorms can be relatively local. In strictly rural areas it is more difficult to find jobs that are not affected by the weather, because the economies in such areas tend to depend on agriculture. In areas that are not depending on Version 3.0 22-09-2008
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agriculture the weather does not affect job opportunities. This will also result in lower market values for farm assets such as cattle that need to be sold following a bad harvest. Only farms with enough capital can cope with it, but are more vulnerable in the next year. The bottom line is that no traditional risk management tool can guarantee a stable income; it can only ease the effects of adverse weather. Besides the efforts put in the production are not sure to pay out.
11.5. Off-farm risk management The off-farm risk management tools are somewhat more complex. In this section they are described in more detail.
11.5.1. Indemnity-based insurance A very attractive risk management tool for farmers is indemnity-based crop insurance. When they pay a premium before the season, they have the guarantee that they receive an indemnity payment based on their actual losses after a season with adverse weather. The insurance can be single peril or multiple perils. Single peril insurance only pays after the occurrence of a defined peril, such as a certain amount of rain or a hailstorm. Multiple perils insurance pays when one or more of a list of defined perils occurred. Because the indemnities are based on the actual crop loss, at first sight this tool seems perfect. However, crop insurance has some important drawbacks, which cause that it is very difficult to run crop insurance programs at acceptable premium levels and with a fair distribution of the benefits without government support. These issues will also be discussed later on for area-based insurance and weather index insurance.
11.5.1.1. Moral hazard and adverse selection Two important drawbacks of crop insurance, both caused by asymmetrical information between the insurer and the (potentially) insured, will be discussed now. The first one is ‘adverse selection’. Adverse selection is selection against the insurer with a tendency of less desirable exposures to loss. The second drawback is ‘moral hazard’. Moral hazard is the situation in which a policyholder changes his or her behaviour in such a way that the likelihood and / or magnitude of a loss are increased.
11.5.1.2. Correlated risk Another problem attached to crop insurance is the correlated or systematic risk of the indemnity payments. Weather risk in an area is not independent, but there is a spatial correlation though less than 100%. This causes problems for insurance companies, because there is a high probability that many policyholders have to be granted indemnity payments at the same time thereby forming a catastrophic loss. This situation is very unlikely for other types of insurance such as fire insurance or life insurance. Advantages of cumulating the premiums and using these to pay individual indemnities are reduced by this characteristic. However, reinsurance is a solution to this problem. Some weather events, such as hail, floods and pests and diseases are less correlated. In many countries hail insurance (single peril) is available. Issues of moral hazard can also be addressed, because the damage can be measured right after a hailstorm. Adverse selection is not possible, because the price depends on the location.
11.5.1.3. Transaction costs The costs of the insurance company include indemnity payments, transaction costs and possibly reinsurance costs. The transaction costs are all costs other than the indemnity payments. The administration costs of the policies are an example of transaction costs. Insurance companies have to conduct a lot of research to establish the insurance trigger and premium before a county is ready to be insured. In order to determine the indemnity probabilities the agricultural history of the area must be mapped. This means that the insurance company’s personnel need to collect and analyse yield documentation, which is provided by the farmers. Besides, each time a claim is filed an insurance company employee needs to check the damage on site and this must take place before Version 3.0 22-09-2008
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harvest. Finally, the measuring of the damage can lead to juridical disputes that can cost a lot of money.
11.5.2. Area-based insurance Area-based insurance is a concept in which premiums and indemnities are based on the yield in an area with the same crop conditions. These areas can range from towns to counties and sometimes even bigger areas. If the area yield in a year is below a certain threshold all insured farmers will be paid an indemnity. The indemnity payment depends on the policy specifications. The threshold or trigger yield is usually related to the expected yield. It could be for example a percentage of the expected yield. Area-based insurance addresses some of the disadvantages of crop insurance, but other disadvantages come in their place. A very important condition for this type of insurance is that the area yield in a year represents the individual yields of the farmer. This is not a condition for the insurer, but it has to be fulfilled to certain extent for this type of insurance to be an effective tool. This condition is dependent on the size of the area and on the homogeneity of the field conditions. The condition can be approximated by the correlation between the area yield and the individual yield. Other conditions are (1) that the trend value is zero and (2) that the average deviations of the farm yields are equal for all farms. The first condition is not very strict, if an individual farmer’s yield does not affect area average. A farmer with increasing yields is not punished for that through his indemnity and a farmer whose yields decrease because of controllable factors does not receive extra payments. Uncontrollable factors will be reflected in the area yield average. When the second condition does not apply, this can be addressed by the farmer’s decision how much to insure. Farmers with lower deviations can insure less hectares and farmers with higher deviation can insure more hectares for 100% protection.
11.5.2.1. Moral hazard Moral hazard is excluded when area-based insurance is applied. The indemnity payment to the farmer is independent from his individual yield, provided that the area is big enough. This means that it is always economically rational to try to generate the highest production possible.
11.5.2.2. Adverse selection Adverse selection is diminished to a great extent by the use of area-based insurance relative to crop insurance. This is caused by the fact that the indemnity payments are independent from the actual yields. Under crop insurance adverse selectivity is caused by the fact that individual farmers receive individually calculated indemnities. Because of this, risks are different per farmer while all premiums are equal. In this case, both premiums and risks are equal. However, asymmetric information can still be a problem. Farmers are better able to predict crop yields than insurers and thus they tend to purchase more insurance when they expect lower yields and less insurance when they expect higher yields. This problem can decrease when experience in insurance companies accumulates over the years. Besides that area yield information is widely available, so it is possible to calculate actuarially fair premiums. Increasing market prices can stimulate farmers to use relatively infertile lands and participate in area-yield insurance at the same time. This increases the risk for the insurance-company and should be incorporated in the premium levels.
11.5.2.3. Correlated risk The problem of correlated risk is not solved by area-based insurance. On the contrary, indemnity payment levels in an area are equal for all insured farmers. Indemnity payments of different areas inside a greater area also have a strong positive correlation. Area-based insurance could profit a lot from available international reinsurance possibilities. If hail is not mentioned in the policy, there is a residual risk for the farmer. Flooding risks can be addressed by taking lowland boundaries into account when insurance areas are determined. Insect plagues and crop diseases are partly dependent on the weather, but on management practices as
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well. Besides that it is harder to define damaged areas and actual damage. This makes it harder to include special treatments for these problems in area-based insurance.
11.5.2.4. Transaction costs Transaction costs are significantly lower, because there is no on-farm examination of damage. Area yield information is widely available. Many statistical agencies collect yield information for official regions, which are published after harvest. Consequently, the only thing that has to be done is the calculation of the indemnity payments by applying these official figures to the indemnity formula. Reinsurance costs can still represent a large part of the costs. Premiums can be calculated using historical yield data. These data are aggregated on the area level. No yield information is needed from the individual farms. The data are more reliable and less costly to obtain.
11.5.3. Weather index insurance Weather index insurance is defined as “a weather contingent contract whose payoff will be in an amount of cash determined from a weather index, expressed as values of a weather variable measured at a stated location” of crop insurance. First, it has to be possible to identify weather variables that are detrimental to crop yields and that are measurable. The identification is based on statistical analyses that will be described later. Measurable weather variables can be variables like temperature, precipitation, cloudiness, wind speeds and humidity. The variables have to be measured by official weather stations. This condition is obvious, because a relation between the weather and the farmer’s financial situation has to exist for weather insurance to be effective. The second condition is that the insurer can develop a scheme in which the premium for protection against certain weather phenomena and the indemnity paid in case the phenomena occur are pointed out. For each locality a formula must be derived that represents the relation between one or more weather variables and the crop yield. The actuarial basis of weather index insurance is the historical weather data set of a site. Premiums are unaffected over time by changing yield expectations because of technological developments and by price changes. They are affected however by climate changes, i.e. changes in the expected values of weather variables.
11.5.3.1. General As stated in the definition the indemnity payment of a weather index insurance depends on the value of a weather index and the strike. The index is a formula containing one or more weather variables. The index has three important features. The first one is the choice of the weather variable(s) or parameter(s). Temperature and precipitation indexes are mostly used. Examples of temperature indexes are average temperature, degree-days and temperature thresholds such as the freezing point. Degree-days measure the cumulative of the temperature above or below a certain reference temperature on a day. A common index in agriculture is growing degree-days. The reference temperature is the temperature at which physiological activity of a crop starts and is usually 10ºC. Common precipitation indexes are rainfall, snowfall, rain days, drought periods and river stream flow. When the number of days that temperature exceeds or stays under a certain level is counted, this is called a critical-day index. When the weather-risk relation is a more complex one virtually all imaginable indexes are possible, as long as they give a good representation of the risk. The strike is the index value that is used as a reference for payments. The distance from the index value to the strike is measured in ticks. The number of ticks between the strike and the index is multiplied by the tick value to calculate the payment. If the index value is at the ‘wrong’ side of the strike, there is no payment at all. The second feature is the risk period. The period of the index is the period for which protection is needed or a part of this period. This depends on the exact exposure characteristics. For agricultural applications the period is usually the growing season.
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The third feature is the location. The weather station that is closest to the location of exposure is usually used as the station for the weather derivative. Sometimes a blend of several stations is used to get a better estimation of the actual weather on the hedged location. The location of the station is important for the spatial basis risk.
11.5.3.2. Moral hazard Weather index insurance is not susceptible to moral hazard, because indemnities are based on an index that lies beyond the control of the insured. This is the same case as for area-based insurance. Actually, the potential for moral hazard is even smaller. Area-based insured farmers could decide to pull together for high indemnity payments by deliberately changing their farm practices, but this is useless in the case of weather derivatives. Corrupting or influencing weather measurements is also assumed impossible.
11.5.3.3. Adverse selection Asymmetrical information is very unlikely. It is not likely that the insured has better information than the insurer about the distribution of potential index values. This is a matter of analysing the weather data of the concerned weather station, which are known to both parties. The insurer can price the contract according to the methods he prefers. It is in the farmer’s best interest to agree on a contract that best reflects the risks on his own farm. Farmers with more volatile production have to pay higher premiums to insure their crop production.
11.5.3.4. Correlated risk The risk in an area is still correlated, when many farmers purchase weather index insurance.
11.5.3.5. Transaction costs Transaction costs for weather index insurance are much lower than for crop insurance and equivalent to area-based insurance. The reasons for the cost savings are also the same: the design of the product and the settlement procedure are simpler. The index is structured using historical weather data and yield data provided by statistical agencies. The yield data are the same as used for area-based insurance. Producers don’t have to provide farm level data and no one has to collect and administrate these data. Consequently, the only thing that has to be done is the calculation of the indemnity payments by applying these official figures to the indemnity formula. Premiums can be calculated using historical yield data. These data are aggregated on the area level. No yield information is needed from the individual farms. The data are more reliable and less costly to obtain.
11.5.3.6. Basis Risk It is commonly agreed that one of the biggest problems of weather index insurance is basis risk. Simply said, basis risk is the risk that the weather index insurance has a pay-off when there is no loss, no payoff when there is a loss or a payoff that is different from the actual damage. The probabilities of such situation depend on the correlation between the index and the actual yield.
11.6. Summary The five methods of risk management that are discussed in this chapter each have weak and strong aspects. An overview of the relevant issues in agricultural risk management is given for each tool.
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Overview of Risk Management Tools in Agriculture Feature
On-farm Capital Management Reserves
Moral Hazard Adverse Selection Correlated Risk Transaction Costs
Not present
Not present Present
Not present
Weather Index Insurance Not present
Not present
Not present Present
Unlikely
Not present
Present High other costs All risks Systemic Risk covered
Present
Present
Present
High
Low
Low
All risks covered
Only systemic risk
Only systemic risk
Basis Risk
Not present
Present
Present
High
Depends on relation between Depends on area yield and basis risk individual risk exposure
Relative Effectiveness
Present High other costs All risks covered Does not Does not apply apply
Indemnity-based Area-based Crop Insurance Insurance
Low
Low
Indemnity-based crop insurance is the most effective tool, but has some severe disadvantages that prevent it from functioning properly. On-farm risk management is not effective and therefore needs help from financial risk management. Keeping capital reserves has no guaranteed effectiveness, because the risk is not pooled over a group of actors. Area-based insurance and weather index insurance are judged to be suitable to function together with proper farm (risk) management, because moral hazard is absent. Also they can be used in viable programs contrary to crop insurance that suffers from adverse selection. The effectiveness of the last two methods depends on the success in reflecting the actual risk of the insured. This is always crop and location dependent, but with weather index insurance there is a greater flexibility in doing this. For the poor farmers a very important goal is to reduce the basis risk to an acceptable level.
11.7. Mutual solution combining advantages With a mutual solution you can probably combine the advantages of the weather index insurance, area-based insurance and the indemnity-based insurance and avoid the disadvantages as much as possible. The idea is that you mix the risks in the following way. You make a mutual insurance company for a certain region that offers to the members an indemnity-based insurance on crop. The premium for that risk you calculate on the historical data for that particular region and specific crop. The mutual insurance company takes reinsurance for 1/3 of the covered risk in the mainstream insurance industry. A second 1/3 of the covered risk has to be reinsured by People Mutuals on indemnity basis. The last third part the insurance company takes as its own risk. The claims handling has to be done by senior farmers of the region. In this way you avoid the moral hazard and the high costs. The senior farmers should act very transparent to the community so that everybody can see they handle the claims in the right ay. And because you do the claims handling by own farmers the costs can be at a low rate. The farmers who buy these insurance should know that in the first years it is possible that they get only a partial benefit.
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11.7.1. Effects for the insured members For the following situations can be possible: situation Insurance company 1. no loss Not paying, because no loss 2 no loss
Not paying, because no loss
3 big loss
Partial paying, because there is a big loss, but not enough reserves to pay Partial paying, because there is a big loss, but not enough reserves to pay Partial paying, because there is only a small reserve Partial paying, because there is only a small reserve
4 big loss 5 partial loss 6 partial loss
People mutuals Not paying, because no loss Not paying, because no loss Pays 1/3, because there is a big loss Pays 1/3, because there is a big loss Pays 1/3 of the indemnity Pays 1/3 of the indemnity
Main Stream Not paying, because index is not hit Paying, because index is hit Not paying, because the index is not hit Paying, because the index is hit Not paying, because the index is not hit Paying because the index is hit
Comments on the situations 1. In this situation there is no claim and there is no benefit. So the farmers paid their premium, but there was a good harvest. Next year they can insure again and their own mutual insurance company can hold 1/3 of the premium of last year to make reserves for bad years. 2. Here there is also no claim, but the weather index insurance is going to pay, because the index is hit. That means that the insurance company gets money from the mainstream insurance company and can hold 1/3 of the premium. In this case the mutual build very fast some reserves. 3. If this scenario happens the first or the second year you have a little problem, because there is a big loss and you can only pay 1/3 third of the claims and 1/3 of the premiums because you have not build any reserves yet. At least the farmers get more than in the case they weren’t insured at all. 4. In this case you can pay 2/3 of the losses and 1/3 of the premium. So the farmers get the most of there losses. 5. This scenario is almost similar to number 3. But they get still 1/3 of the premium back. So in a percentage they get more of their loss comparing with situation 3. 6. In this case the farmers get there complete claim. Because Peoples mutual pays 1/3. The other 2/3 you can pay with the benefits of the weather insurance. They are going to pay as if there is a total loss. If the first year situation 1 or 2 will happen, you can build reserves so that you can more if the second or third year situation 3 to 5 will happen.
11.8. Test Below there are several questions meant for you to find out which parts of the course you have understood. You can find out for yourself how you have arrived at the answers to the following questions. Do you half-know the answer and do you have to read back a bit? Or do you immediately know the answer? You can also try to answer the questions a week after you have read the text. a. What is meant by ex ante and ex post strategies? b. Why is there no moral hazard in weather insurance index? c. What is meant by adverse selection and why is it especially in agricultural insurance a problem? d. Why is on-farm risk management important? e. Explain the working of weather index insurance. f. There is a paragraph titled “Mutual solution combining advantages�. Which advantages are combined and why is this only possible in a mutual solution?
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h. What is the most important advantage of a weather index based insurance? i. What is a systemic risk?
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12. Live stock Insurance 12.1. Livestock insurance (single animal and herd) Livestock insurance usually covers losses resulting from death, diseases and accidental injuries. As single animal policies are very expensive to administer, herd insurance is the most common livestock insurance cover in developing countries. In some cases, diseases are covered through governmental programmes.
12.2. Aquaculture insurance Aquaculture comprises the breeding and raising of aquatic animals in inland ponds or coastal waters. It usually covers losses resulting from death or loss of fish stock due to meteorological events, diseases, pollution, algae blooms and escape from damaged installations.
12.3. Common problems in microinsurance Like many other forms of insurance, traditional agricultural insurance suffers from problems arising from asymmetric information, which means that insurers have different (mostly less) knowledge about the risks facing the insured than the insured themselves. The asymmetry of information causes adverse selection and moral hazard problems.
12.4. Background information Livestock provides rural households with an important source of income, jobs and food security, and a means for investing and storing their wealth. However, India is prone to extreme climatic events that can cause high rates of livestock mortality, jeopardizing rural livelihoods. In particular, the frequent droughts can devastate herd numbers. Insurance is a logical complement to on-going agricultural risk management activities, as it has the potential to protect herders against unavoidable livestock loss, and replaces the need for Government re-stocking programs. Although insurance is recognized as a key element of risk mitigation, the conventional approach to livestock insurance (based on individual losses) has been found to be ineffective by individual poor farmers. One key point needs to be underlined at the start. This is that insurance does not and cannot obliterate risk. It spreads risk. There are two dimensions to this spread. The first dimension is the spread across an industry or an economy, extended in the case of international reinsurance to the international sphere. The second dimension of spread is through time. Most insurance programmes operate on both dimensions. The important fact to note is that insurance does not directly increase the income from the livestock or aquaculture enterprise. It merely helps manage risks to this income. An insurance indemnity becomes payable in the event of a claim under a policy. The policy must be in force, with premium paid, by the time of the loss event. Most policies incorporate an element of risk sharing, by means of a deductible. This amount is the percentage of the loss that is borne entirely by the insured. Farmer/producers are one obvious party to insurance. Those who depend on a supply of livestock, livestock products, fish or other aquaculture products for their business are another. The latter group includes processors and product buyers. These firms often stand to lose financially if products are not available from their local primary producer In the event of a loss on the farm, the buyer or processor may face increased acquisition costs in order to meet ongoing contractual or other market obligations. They therefore have an insurable interest in the livestock and fish. One of the factors, which can lead to an increased demand for insurance, is the growth of contract farming arrangements. When insurance can economically address some of the production risk involved, risk that affects both growers and contractors, then there may be a case for making insurance automatic. This is the same as making it compulsory, but “automatic� is a better Version 3.0 22-09-2008
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description of the process when insurance becomes just one of a range of services being provided, as a package, to contracted growers.
12.5. Approaches to livestock & aquaculture insurance In conventional livestock/aquaculture insurance policies, a claim leading to payment of an indemnity can be made in the event of an insured peril leading to stock mortality, with the loss measured on the basis of an agreed value for the stock. This is still by far the most common form of livestock and aquaculture insurance. Moreover, it is likely to be the most readily form of insurance cover, for most developing country situations, for the foreseeable future. An alternative approach is when an insured peril impacts on the profit of the specific enterprise being insured, i.e. the gross margin. This impact may be due to mortality of numbers of stock – or it could be due to loss of production due to adverse climatic factors, to a ban on marketing stock or stock products, to the outbreak of an infectious disease or pollution of the environment (particularly applicable to aquaculture enterprises). Again, it could be due to a marked increase in on-farm costs, following an insured event - even without the actual death of the insured stock. Perils covered in traditional mortality insurance include: • Flood, windstorm • Pollution, poisoning, land subsidence • Machinery/electrical breakdown • Fire, lightning, explosion • Malicious damage, riot, strike Common exclusions in the traditional policy are: • Consequential loss & legal liability • Epidemic diseases and Government slaughter order • Cannibalism/ malnutrition • Overcrowding Adapting traditional cover to needs of Vayalagam members The challenge is now to design products that would have wide applicability for many developing country farming types and systems, and would cover: • Epidemic disease with or without a Government slaughter order • Ban on selling animals or animal products • Drop of production as a result of an insured peril
12.6. First steps • • • • • • • • • •
Demand assessment – ensuring that any initiatives are in response to real risk management needs Identification of the key insured parties; where is the risk carried, and is there a place for automatic as opposed to voluntary insurance cover? Are farmers willing to pay for insurance? Which is the most important factor for the farmer to insure? Is it mortality and perhaps in some cases, loss of performance? Alternatively, is it rather the risk to the gross margin generated by the livestock enterprise? Determination of the perils that the insurance contract can cover Decision on types of enterprise to be covered – a key factor in insurance design Analysis of insurance options, administrative models and loss assessment procedures, together with determination of associated costs Rating – determining the pure premium required, plus administrative and loss adjustment overheads to derive the initial premium level to be charged. Note: this step needs reliable historical data on incidences of perils and resulting losses Identifying possible complementary roles for the government and for the private sector
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following questions. Do you half-know the answer and do you have to read back a bit? Or do you immediately know the answer? You can also try to answer the questions a week after you have read the text. a. What forms of livestock insurance do we have? b. Can you explain asymmetric information is a problem for live stock insurance? c. What are common exclusions in traditional live stock policies? Can you explain why insurers exclude these risks? d. What risks can be covered in live stock policies? e. Why is there a paragraph with the title “first steps�?
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13. Health insurance 13.1. Introduction The fundamental aim of Health Insurance is to dramatically reduce families’ vulnerability to financial shocks such as the medical bills of a family member who falls ill – thereby reducing the likelihood that the family will fall deeper into poverty. Health insurance works by estimating the overall risk of healthcare expenses and developing a routine finance structure (such as a monthly premium or annual tax) that will ensure that money is available to pay for the healthcare benefits specified in the insurance agreement. The benefit is administered by a central organization, most often either a government agency or a private or not-for-profit entity operating a health plan. Key issues that need to be addressed in designing a health insurance in general but more particular the critical challenges to scaling insurance products to the poor are: managing for adverse selection and moral hazard; finding low-cost distribution methods; promoting client understanding and demand;
13.2. Background information The concept of health insurance was proposed in 1694 by Hugh the Elder Chamberlen. In the late 19th century, "accident insurance" began to be available, which operated much like modern disability insurance. This payment model continued until the start of the 20th century. Hospital and medical expense policies were introduced during the first half of the 20th century. During the 1920s, individual hospitals began offering services to individuals on a pre-paid basis, eventually leading to the [ development of Blue Cross organizations. The predecessors of today's Health Maintenance Organizations (HMOs) originated beginning in 1929, through the 1930s and on during World War II.
13.3. Managing for adverse selection and moral hazard; Insurance companies use the term adverse selection to scribe the tendency for only those who will benefit from insurance to buy it. Specifically when talking about health insurance, unhealthy people are more likely to purchase health insurance because they anticipate large medical bills. The fundamental concept of health insurance is that it balances costs across a large, random sample of individuals. For instance, an insurance company has a pool of 1000 randomly selected subscribers, each paying Rs 400 per year. One person becomes very ill while the others stay healthy, allowing the insurance company to use the money paid by the healthy people to pay for the treatment costs of the sick person. However, when the pool is self-selecting rather than random, as is the case with individuals seeking to purchase health insurance directly, adverse selection is a great concern. Moral hazard occurs when an insurer and a consumer enter into a contract under symmetric information, but one party takes action, not taken into account in the contract, which changes the value of the insurance. A common example of moral hazard is third-party payment—when the parties involved in making a decision are not responsible for bearing costs arising from the decision. An example is where doctors and insured patients agree to extra tests which may or may not be necessary. Doctors benefit by avoiding possible malpractice suits, and patients benefit by gaining increased certainty of their medical condition. The cost of these extra tests is borne by the insurance company, which may have had little say in the decision.
13.4. Mutual pooling to overcome these problems In general co-payments, deductibles, and less generous insurance for services with more elastic demand, attempt to combat adverse selection and moral hazard, as they hold the consumer responsible. To overcome the problem of adverse selection in the DHAN context one might decide to combine the membership in a Kalanjiam or Vayalagam with a health insurance. This will lead to a 100% participation of the group and thus elimination of the problem. Compel clients to manage health needs more proactively, rather than reactively. Studies indicate that access to health insurance often encourages care-seeking behaviour, with clients seeking health care earlier than they would without the insurance, thus preventing illness from worsening before treatment can be obtained. Clients with health insurance also seek preventive care at higher rates, thus reducing morbidity and mortality.
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To overcome the problem of moral hazard it is advisable to manage the expenditures by entering into agreements with hospitals and pharmacists.
13.5. Finding low-cost distribution methods; Health insurance seems to be the most challenging product to offer. This is in large part due to: • Administrative challenges of managing the link with health care providers (ensuring correct level of care and managing potential for fraud); • Limited availability of quality health care providers, though preventative health care and drug coverage seems widely possible; • Limited ability to pay for health care given operational costs • Too few examples from the developed or developing world on how to deliver insurance in a highquality, sustainable way so as to mitigate adverse selection, fraud, and moral hazard; and • Limited actuarial data, and in some cases, information asymmetries between insurers and patients The best way to overcome all above mentioned challenges is piloted in the SUHAM project. Out-patient as well as in-patient care, preventive as well as curative care, cashless insurance both provided by mainstream insurance as well as People Mutuals, are combined into one major pilot.
13.6. Promoting client understanding and demand: Studies among the low income families in India show that for a young family - husband and wife 20 years old (eventual family size of 5) there is a • 15% probability of premature death of the bread winner (earnings loss) during his/her economic life – 15 to 20 years from now • 45% probability of a death in the family (funeral expenses) – 10 to 12 years from now • 100% probability of unmanageable hospital expenses – 7-10 years from now BUT……….There is the much more frequent anxiety that any visit to a hospital might lead to unmanageable expenses. Promotion might be a combined effort by people with a marketing background as well as people from a medical background.
13.7. Test Below there are several questions meant for you to find out which parts of the course you have understood. You can find out for yourself how you have arrived at the answers to the following questions. Do you half-know the answer and do you have to read back a bit? Or do you immediately know the answer? You can also try to answer the questions a week after you have read the text. a. What is the main difference between accident insurance and health insurance? b. What is moral hazard? c. How can we avoid adverse selection in health insurance? d. What exactly is the risk covered by health insurance?
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14. Claims Handling 14.1. Claim The Mutual pays out the moment an insured person suffers claims. It can happen that in a certain year there is more claim than in an average year. This is why general reserves are needed. Reinsurance can be bought for exceptional calamities. The general reserves are in fact a buffer capable of absorbing a year with much claim, because the general reserves are replenished in a year with little claim. See the chapter Mutual Insurance Company paragraph General Assembly. It is important that the Mutual only pays for claims to people who have bought a policy. The Mutual must judge if the claim complies with the policy’s standards. Staff must, e.g., appraise the following: 1. Is the claimant insured with a policy? 2. Have the premiums been paid? 3. When did the claim happen? 4. Under what circumstances did the claim happen? 5. How old is de claimant and how long has he had the policy? 6. How is the claim amount to be paid out?
14.1.1. The concept of claims What is claim? Claim is a reduction in capital. At a particular moment a person can give a monetary value to all of his possessions. The total sum of his possessions minus his debts and obligations is his capital. Claim is the difference in capital: the difference in capital owned before the insured event and the capital owned immediately after that event. For instance, somebody is building a house and borrows 100,000. When the house is completed it can be valued at 150,000. His capital is 50,000: 150,000 in property minus 100,000 in debts. A month later there is a fire in the house. The partly burnt house now has a value of 90,000. His capital has become minus 10,000: 90,000 in property minus 100,000 in debts. The fire has reduced his capital. The claims are therefore 60,000. In principle this person should be able to have his house repaired for 60,000. In principle, because the height of the repairs do not always equal the claims. There could be a maintenance backlog. Or the repairs use better materials than original. After the repairs the house is worth more than 150,000 and we can speak of an increase in capital.
14.1.2. Bodily Injury Claims The value of people cannot be expressed in terms of money. That is why the amount to be paid out in the case of death or disability is set in advance in such insurance. You do have to keep an eye out that these amounts are not set so high that people main themselves or even sacrifice themselves to obtain a payment for the survivors. This is why some insurers exclude suicide in the first two years after taking out insurance. This prevents people with suicide plans from taking out insurance just before the deed to benefit their survivors.
14.2. Claims handling With claims handling we mean the entire process that takes place when there is an event that is covered by the insurance policy. The client took out an insurance to cover financial risks. When such an event happens, it is a nice opportunity for the insurer to show that the insurance product works. The claims handling take place using the following checklist. The insurer’s assistant must be able to answer precisely to the questions below. A claim must be dealt with very accurately. Should payment be refused when the policy does give the right to a payment, the insurer acquires a bad reputation. Should claims be paid out unjustly, it damages solidarity. The insurer is then left with less money to transfer to the members’ accounts or for contributing to certain projects. It is also important for the insurer’s management to monitor if the claims are spread proportionally over the insured persons. If after a while it turns out that particular groups incur more damages, the cause must be investigated. Are there any irregularities? Was the Version 3.0 22-09-2008
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insurance sold to groups with an above-average risk? From time to time overviews must be made of the claims to draw conclusions for future policy.
14.3. For which person was the claim filed? The insurer must judge if the person for whom the claim is filed is also registered in the administration as insured. If not, the claim cannot be processed.
14.4. On which date did the uncertain event take place? We call this the ‘date of occurrence’. The date of occurrence must be entered into the administration. It speaks for itself that the date of occurrence must fall after the date that the insurance began. Should the date of occurrence lie before the starting date, then no payment will be done. Should the date of occurrence lie within 2 or 3 years of the starting date, the payment is pro rata in the case of a natural death.
14.5. What did exactly happen? To be able to assess the amount of money that the insurer must pay, we must first know what exactly happened. Is death the case, or a permanent disability? Or is it only a case of a temporary disability? If some one died, what was the cause? Is it a case of a natural death or was an accident with deadly consequences?
14.6. Where the premiums paid on time? The policy is only valid when the client has always paid the premium on time. The management decides what exceptions to allow and what period to accept for premiums to be in arrears. Some insurers work with the system of pro rata payments when not all premiums have been paid.
14.7. Test Below there are several questions meant for you to find out which parts of the course you have understood. You can find out for yourself how you have arrived at the answers to the following questions. Do you half-know the answer and do you have to read back a bit? Or do you immediately know the answer? You can also try to answer the questions a week after you have read the text. a. What is exactly a claim? b. What is meant by claims handling? c. Why is it important to know the cause of death? d. What has reputation to do with claims handling?
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15. Reinsurance Reinsurance is important to the insurer. It allows insurer to protect himself against large or sizeable claims. As such reinsurance serves the interests of the insured in the end. Without a good reinsurance the insurer can get into big financial problems. One must then, e.g., substantially increase premiums. Finally, when new contracts do not come in because premiums are too high, this could lead to insolvency. When reinsuring the reinsurer becomes the risk-bearer and the insurer himself is insured.
15.1. Spread The principle of reinsuring is based on the law of big numbers. An example will make this clear. An insurer has 1,000 policies and the reinsurer insures in turn 100 such insurance companies. Indirectly the reinsurer insures 100,000 insured people. In addition there is also the effect of spreading risks. Insurers work at the regional or national level, whilst reinsurers insure insurers from different countries. This leads to a spread by region. In this manner claims resulting from natural disasters can be insured.
15.2. Insurers Risks An insurer calculates in advance the expected probability of claims. Certain factors see to it that the real sum of the claims deviates considerably from the calculated probability of claims: Large claims on individual risks. Large claims resulting from an event which may lead to many cases of individual claims, e.g. natural disasters. A high frequency of many small claims. Altered risk structures, caused by social changes. Sociological, economic or demographic changes can lead to changes in the number of claims or in their size. This also applies to technological advances. Think of the risk of motorised traffic or the use of computer directed business or production processes.
15.3. Kinds of reinsurance There are different kinds of reinsurance contracts. An insurer has to make a good analysis of his risks and can then use that to make a choice from among the different reinsurance contracts. In practice a combination of different forms occurs. The primary distinction is between proportional reinsurance and non-proportional reinsurance. Proportional reinsurance re-insures a certain portion of the insured risk. Non-proportional reinsurance is not concerned with reinsuring the insured risk, but is based on the amount of claims to the insurer.
15.3.1. A. Proportional reinsurance The risk the insurer insures is the point of departure for proportional reinsurance. The reinsurer’s contribution in the case of a claim is determined as a portion of the insured risk. For every policy the reinsurer’s contribution when claims occur has been determined. In proportional treaties the insurer pays a fixed portion of the premium to the reinsurer. This can differ per policy. A part of the insurance premium is meant to cover costs, which are made by the insurer above all. This is why the reinsurer pays the insurer a commission to cover these costs. This is usually a fixed percentage of the ceded premiums. We distinguish between the Quota Treaty, also called the Quota-Share Treaty, and the Excess Treaty or Surplus Treaty.
15.3.2. The Quota-Share Treaty In the case of a Quota-Share Treaty all the assets (premiums) and liabilities (claims) are divided between the insurer and reinsurer using an agreed ratio. This form has an obligatory character, which sees to it that the reinsurer cannot select a client. The advantage is that it is a simple system and it does not lead to extra administration costs.
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Example 1 The insurer can enter into a Quota-Share Treaty, which determines that of every policy 30% is reinsured in the Quota-Share Treaty. In that case, 30% of every premium goes to the reinsurer and the reinsurer pays out 30% of any claims in a claim. The insurer also receives a commission because of administrative burdens. The advantage for the insurer is that the peaks in paying out for claims are muffled, so to speak. The law of big numbers is applied and the insurer’s liabilities are divided as if he had 30% more policyholders.
Example 2 The insurer enters into a Quota-Share Treaty on the basis of 30%, but only for frequently occurring risks and with reasonably low insured amounts. A fire hazard insurer has, e.g., a portfolio in which 95% of the objects has an insured value less than 1,000,000. The treaty can stipulate that there is a 30% Quota up to 1,000,000. In 95% of the cases this construction has the same result as example 1. For the other 5% of cases it means that the reinsurer’s share of the premium and claims has to be determined per policy. For a policy with an insured value of 2,000,000 this is 50%, and for a policy of an insured value of 10,000,000 this is 10%. It is always the ratio of the maximum in the Share contract; in this case 1,000,000 up to the amount insured with the insurer. It will be clear that the administrative burden is much higher in example 2 than in example 1. Example 2 demands much more from a computer programme.
15.3.3. Excess Here the insurer does not reinsure his entire portfolio. Only policies with a high insured amount are reinsured in part. Of every insurance the insurer takes the first segment of an insured amount to a certain maximum. One calls this the retention. The premium is determined by looking at the ratio in every policy between the insured segment and the uninsured segment. In the case of claims the reinsurer pays the corresponding share.
15.3.4. Example An insurer sells accident insurance with different insured amounts, e.g., of 10,000, 30,000 or 50,000. The insurer could decide to include all posts with an amount higher than 25,000 in an Excess or Surplus Treaty. In this case this means that all policies of 10,000 are excluded from the reinsurance contract in any case. The policies with an insured sum of 30,000 fall under the reinsurance contract for 5/30 part and the policies with an insured sum of 50,000 fall under the reinsurance contract for 25/50 part. Of these policies 5/30 and 25/50 part of the premium is for reinsurance, and vice versa the reinsurance pays these shares of the claims.
15.3.5. B. Non-proportional reinsurance treaties The non-proportional reinsurance treaties are not based on the amount insured or a part thereof, but on the claims. The insurer insures his portfolio with a reinsurer and has in a sense his own risk whenever claims are claimed. This can be an own-risk per policy, but it can also be an own-risk per event or an own-risk over a whole year. An own-risk per event protects an insurer from, e.g., storm claims. Another example is the explosion of a fireworks factory. All the claims of the different policies are then added for this one disaster. Should total claims exceed the agreed priority or retention, the insurer then pays the excess. The same procedure is applied for an annual retention.
15.3.6. Excess of Loss In the case of Excess of Loss the reinsurer participates in the claims when they are bigger than the priority (i.e. retention) up to a certain maximum. For claim amounts over this maximum a new reinsurance treaty is entered into up to a next maximum. As such the claims sum can be divided over different layers, whereby the maximum of layer t is also the bottom of layer t+1. Within Excess of Loss two forms are distinguished: the Working Excess of Loss (WXL), in the case of one or more claim claims per year, and the Catastrophe Excess of Loss (cat.XL), which is only invoked when different risks lead to claims. This form offers the insurer protection against the Version 3.0 22-09-2008
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accumulation of different losses caused by one event (catastrophe). Storm claims, e.g., fall into this category.
15.3.7. Stop Loss In a Stop Loss contract the reinsurer compensates that part of the total claims of a particular sector in a year that exceeds a certain amount. This amount is expressed as a fixed percentage of the premium income. Stop Loss serves to protect an insurer’s year results in a particular sector against negative deviations resulting from a noticeable increase in the number and height of claims. This form is rarely used because the costs are rather high. These high costs are due to the fact that Stop Loss offers coverage of many kinds of risks (frequency, size claims and fluctuations in external factors).
15.4. Final thoughts Reinsurance serves to protect the insurer. The size of claims can be bigger than the insurer had anticipated. The insurer can cover these risks by reinsuring his own portfolio in part. Proportional reinsurance treaties serve above all to allow the law of big numbers to work better. A Quota Treaty provides a better spread and caps peaks in claims. An Excess Treaty allows the insurer to also insure individual big risks. Non-proportional reinsurance treaties serve to limit the burden of claims. The Stop Loss treaty does this very directly. The insurer then knows that annually he will never lose more than a certain amount on claims. The Excess of Loss Treaty protects the insurer against individual big claims. This can be big claims in one particular policy, but it can also be a particular event leading to a large number of policies submitting a claim. Think of an insurance for storm claims, for a building, or an epidemic or accidents. Many insurers prefer a mix of different reinsurance treaties. You then get a greater spread of risks because the law on big numbers is operating, and protection against higher claims than anticipated.
15.5. Test Below there are several questions meant for you to find out which parts of the course you have understood. You can find out for yourself how you have arrived at the answers to the following questions. Do you half-know the answer and do you have to read back a bit? Or do you immediately know the answer? You can also try to answer the questions a week after you have read the text. a. What is the difference between proportional and non proportional insurance? b. Describe the working of a stop loss contract. c. Will the premium for a certain cover increase or decrease if the insurer starts to reinsure his risks? Explain. d. Most insurance companies prefer a mix of different reinsurance treaties. Can you imagine why? e. What is the advantage of a quota share treaty? f. What is a disadvantage of a stop loss cover? g. What is the best form of reinsurance to protect an insurance company against the risk of a tsunami? h. What is meant by a layer?
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16. The Mutual Insurance Institutions The people Institutions (Kalanjiams, Vayalagams etc) promoted by DHAN through its various thematic programmes are functioning with the concept of mutuality. With that concept they are providing various services to their members. Since they are providing insurance services those institutions also act as mutual insurance institutions. The role of these institutions is discussed in the following three areas:
16.1. Member Administration Member administration denotes the selection of eligible members and collection/ maintenance of details of the insured (memberwise).
16.1.1. Eligibility Members (and their family members) of various People organisations promoted DHAN Foundation are eligible to join the scheme. They should be poor and their age should be between 18 to 59 years. It is very essential to check adverse selection. Adverse selection means selection of the persons for insurance who are not insurable and also the persons in adversity of insurance. E.g. the persons who are imminent to death may try to purchase insurance at any cost. It has to be checked.
16.1.2. Exclusion 1. To reduce moral hazard that gives incentives to policyholders increase the likelihood that the insured event will occur 2. To reduce the adverse selection problem caused by people who have been diagnosed with progressive illness and 3. To protect the insurer from covariant risks. For life polices, suicide is generally excluded as it presents as moral hazard problem. Two other common exclusions include a. Driving while intoxicated and b. Participating in an illegal activity. As exclusions, if a policyholder dies from these caused, the insurer is not obliged to honor the claim. Similarly, a common exclusion for disability is self-mutilation, blindness caused by cataracts.
16.1.3. Collection of contributions from members Members should have the necessary knowledge / literacy on insurance. Street plays, Video film and training are being utilized as effective tools to bring the desired results under literacy on insurance. In Group meetings, contributions are collected from the members against receipts duly mentioning the collected amount with the narration “ Nalathittam�. The details of insured should be collected by the group at the time of receipt of the contribution from the members as follows : 1. 2. 3. 4. 5.
Name of the insured Member / Spouse Name of the kalanjiam / Vayalagam Name of the cluster Age of the insured - Completed age (Ration card, Voter’s identity card, School certificate, Horoscope, etc., to be verified and kept at Cluster level) 6. Sex of the insured 7. Occupation 8. Name of the Nominee
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9. Age of the Nominee 10. Relationship to Nominee 11. Name of the Guardian, if the nominee is a minor 12. Relationship of the Guardian to the insurer 13. Death, Disability, Health, Livestock, Assets, Pension – Name of the product / insured. 14. Premium amount 15. Name of the Insurance Company* 16. From date 17. Due date *Federation will decide after consulting People Mutuals Groups should remit the member contributions to cluster along with the covered member / spouse details. The cluster should keep proper records of these details. These records should be readily available for reference at any time. Also, the cluster should remit the amount to federation along with these details. The federations should have consolidated data and details of lives covered in their location. The premium collection should commence at least 2 months in advance in a location. Suppose the policy period is from 01, October 2004 to 31 September 2005, groups should start collecting the contributions for renewal from their members / spouses during the period from 01 September 2005 to 15 September 2005 and see that the collected contributions reach the clusters along with individual member / spouse insurance details immediately for onward transmission to federation. Insurance transactions in every federation will be audited by People Mutuals during the months of September and March of a financial year.
16.2. Policy Administration 1. The premiums thus pooled in the federation (In this case, during the period September 15 to September 30, 2005) and should be sent to concerned insurance companies with in a week as advised by the People Mutuals. 2. Original proposal, the details of lives covered (Soft copy and Hard copy) and demand draft for the premium amount should be sent by the federation to the insurance company and Xerox copy to be sent to People Mutuals for updating the data and monitoring. 3. After receiving the policy from the insurance company, federation should check its correctness by comparing with the details furnished in the copy of proposal kept at the federation. Discrepancies if any, should be brought to the notice of the insurance company and got rectified. 4. Every year federation should renew the insurance policy / policies. Efforts are to be taken before 2 months to the expiry period of the policy. Suppose the policy is due for renewal on 1st October, efforts should be intensified during the month of August itself. 5. New members should be identified and insured along with the renewal. 6. Selection of Insurance company and remittance of premium have to be done duly consulting People Mutuals. 7. People Mutuals collects individual member / spouse data from the location and creates a base line data. Further, it updates the insurance details as follows for analytical purpose. a. Programme wise b. Region wise c. Federation wise d. Year wise e. Insurance company wise f. Sex wise The gap between total members and insured members is being monitored by People Mutuals and suitable instructions are given to federations to bridge the gap.
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8. People Mutuals diarise the due dates of policies and intimates them to federations well in advance enabling them to get the policies renewed on time. 9. People Mutuals will conduct insurance steering committee meetings twice a year with the insurance partners to sort out the issues and enable further collaboration.
16.3. Claim Administration This denotes the instructions to be carried out by the people institutions when a covered event takes place. 1. Death details has to reach the group immediately. 2. Death details of the deceased member should be informed to federation by the group within 24 hours. 3. If a member / spouse of the member died, all group members / federation & cluster EC representatives / cluster associates along with MD should go to the deceased member’s house and share the condolence with the other family members. The following system may be put into practice. a. The other members of group should not go for work and should be with the family of deceased member & extend the necessary help required for them. b. At Cluster level, arranging for Tea, coffee, and food to the relatives of the deceased member may be done. c. At federation level, arrangement for immediate release Rs.3000/- to the nominee to meet the funeral expenses of deceased. The amount may be adjusted from the death claim benefits. d. At movement level, steps to offer the Kalanjia Kodi 4. Duly filled up & signed claim form along with the Death Certificate should be submitted to federation by the group with in a week 5. Federation will send it to insurance company with in a week. 6. If the member died in an accident, or had permanent / partial disability, claim should be preferred in special claim form meant for that purpose. In the case of accidental death FIR, postmortem certificate, Police Inquisit Report (PIR) should be annexed with the claim form. 7. If the claim is not preferred with in 45 days of death of the member, Insurance Company may not accept the claim. 8. Time schedule : The following time schedule may be followed by the location. Duly filled claim applications from Nominee to Federation - 1 week Federation to insurance company - 1 week Ensuring claim settlement from the company - 1 week Payment of claim to member through group by federation - with in a week 9. After receiving the claim amount from the insurance company, federation should give the claim amount to the nominee in a regular / special meeting of kalanjam after adjusting the amount of Rs.3000/- given to the nominee on the day of death of the member.
16.4. Nalathittam Committee Separate Nalathittam Committee, consisting of 4 Board of Directors and Managing Director should be constituted for implementation and operation of Nalathittam. The Nalathittam should be a permanent agenda in the board meetings. The contributions, benefit payments should be shared by way of report to every month by Managing Director. In the case of federations, they have to open a Savings Bank account with the name “Nalathittam Account” and transact all transaction related to insurance under this account only. If there is no federation, a designated cluster could open a Savings Bank Account on the above lines and transact the insurance transactions. Once the federation is formed, the Nalathittam amount available under the cluster account have to be transferred to the federation’s Nalathittam Account.
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2. Half yearly auditing of Nalathittam accounts by People Mutuals 3. Copy of monthly report of Nalathittam shared by Managing Director in the board meeting should be sent to People Mutuals. Rating system on Nalathittam implementation by federations will be designed by People Mutuals and half yearly rating will be shared in the review meetings.
16.4.2. Accounting Step
Activity
1. On receiving the contribution Get Cash from the members. Issue receipt to the member 2. When the group is remitting Prepare voucher the contributions to the Credit the bank account of cluster and get the bank cluster. counterfoil and cluster receipts ( The receipt from Cluster has to be attached after remitting to Cluster) 3. When the cluster is receiving Verify bank counterfoil and the bank pass book entry the contribution from the Issue receipt to the group group,
4. When the cluster is remitting Prepare voucher the contribution to the Credit to bank account of federation and get the federation bank counterfoil & federation receipt (The receipt from Federation has to be attached after remitting to federation) 5. When the federation is Verify bank counterfoil and bank pass book entry receiving the contribution Issue receipts to the cluster (Bank counterfoil to be from the cluster, attached) (Please note that the amount has to credited only to the Nalathittam account of the Location / Federation.) 6. When the federation is Prepare voucher remitting the contribution to Send the cheque or Demand Draft (Bank counterfoil the insurance company, to be attached)
In the balance sheet of group / cluster, the amount of contribution kept with them should be shown under accounts payable, and in case of federation, the amount will be shown as “Specified funds� named as Nalathittam.
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17. FAQ: Frequent asked questions 17.1. What are insurable risks? Only common uncertain risks are insurable. For instance people suffering from cancer can not insure. Risks that are very particular to some members of the group are not insurable.
17.2. Will the risk not happen if we insure? No; the chance a risk occurs is not depending on insurance. Insurance will reduce the financial consequences of risks. In the paragraph risk management in chapter social security you can read about risk avoidance, risk reduction and risk prevention. These techniques we call risk control. They influence the chance a risk will happen or not. The next step is risk financing. The most important techniques of risk financing are: risk retention, risk transfer and insurance.
17.3. Can I have my premium back when the risk did not happen? No; the premium you pay is the price of risk financing. An insurance policy is a contract. You pay the premium as the price and you get the certainty you need. Example: if you buy a banana, you can not get you money back when you have eaten the banana. You can also not get your money back if the banana is rotten after days.
17.4. Many insurance products give the entire premium plus a bonus when a person is alive after some years; can we have a product like this? In theory it is possible. There is a difference between saving and insuring. If you combine them you can make product like this. In the chapter Underwriting there is a paragraph saving or insuring. The purpose of saving is not the same as the reason for insuring. Only in one case it can be useful. You can read it in the chapter called pension; there is a paragraph combination with life insurance. In all other cases there is the rule that you save for a certain defined purpose or for risks that can not be insured. And you insure common risks that sometimes happen.
17.5. Can I insure a person not related to me in a mutual program? For example my neighbor or my friend. No; because you can only insure risks that can occur yourself or your relatives. If you insure risks that will not harm you in financial way, there is always the risk of moral hazard. Perhaps you say it is your friend, but you hope he will die soon, so get the money.
17.6. The woman insures her husband and he dies. Who will receive the benefit amount? The woman. In the chapter The insurance products you can read about the client, the insured and the benefiary. The client has a contract with the insurer. The insured is the one whose risk is covered and the beneficiary is the one that receives the claim amount.
17.7. Can the insured be the beneficiary also? Yes; in the chapter The insurance products you can read about the client, the insured and the beneficiary. The client has a contract with the insurer. The insured is the one whose risk is covered and the beneficiary is the one that receives the claim amount.
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In non life products is normally the case that the insured and beneficiary are the same person. But also in pension schemes the insured and the beneficiary are mostly the same person.
17.8. There is an insurance cover. After the risk happens, the claim is not received sometimes. How is that possible? The insurance contract has a lot of conditions. So; all conditions are looked over in the process of claim handling. Examples: • There are exclusions like fraud and other moral hazard issues. • There can be exclusions for some diseases. • Some risks are only covered within a certain period. That period can be over. Dying after the age of 60 years for example. • The premium is not paid.
17.9. Can you start a mutual program with only 100 members? No; because the law of the big numbers is not working. With only 100 members there is no sustainable program. The law of the big numbers is not working. That means, that there is a big chance the losses of the first year are a lot more than the total premium. This effect is even stronger if there is adverse selection and because of adverse selection only the worst risks in a group are covered. Only when you start with minimal 80% of a small group you can start with this small number. Then you have make arrangements in case the total claims will be more than the total premium. In the chapter on agricultural risks you can read in detail about these problems and some solutions.
17.10. Since it is a mutual, can we have a program with a small premium and still a high cover? The premium is the price to cover the risks. The basis of the premium is based on the risk itself, on interest and on costs. Covering the risk doesn’t influence the chance a risk occurs. So the pure risk premium is the same for a mutual program and a commercial program. The interest for a mutual and a commercial insurance company is almost the same. There can be a difference in the cost loading. Since a mutual belongs to the members there is no need for big offices and high salaries. So in the end the premium of a mutual can be a little bit lower. An other possibility is to increase the insured some or to make more friendly conditions.
17.11. How to calculate the premium of ….? Calculating the premium = calculating the risks and costs. So you need historical data to calculate. If you have historical data, you can predict the claims. For life this is easier than for non life. The reason is that you are dead or alive. There is nothing in between. In crop, health and live stock you can have partial losses. But the principal is the same. In this syllabus there is a chapter on calculating the premium and also in the chapter Pension you can read about calculating the premium.
17.12. Can I change the policy of any insurance company on an annually basis? No; for the policy is a contract. So you can only change if both parties agree. Life insurance works with age wise premiums. So when you change it, there are consequences for the premium an insured already paid. Because a part of this premium is a reserve for coming years. Besides there are a lot of administration costs. Further can there be changes in the aspects of moral hazard and adverse selection.
17.13. What happens to the mutual insurer if a backup insurance will not come forward in future? The mutual has to raise the premium than, because the mutual has a higher retention. To take credit from the bank is also possible. This can be done if in a certain period there are more claims than expected. It is also possible to decrease the insured sums if the members agree.
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17.14. Does reinsurance influence the premium of the member? No; the premium is based on the chance a risk happens and not on having reinsurance. By using reinsurance the insurance company makes more use of the law of the big numbers. By doing so there is less need of reserves. The premium includes the risks and the costs. The costs can be reinsurance premium or costs for reserve funds.
17.15. What is the safety net construction for crop mutuals covering small number of farmers, diverse risks, and different areas? There are more possibilities. • back up insurance / reinsurance of a commercial insurance company; • reinsurance of Peoples Mutuals; • You can have in your conditions that you collect a second premium afterwards from all the farmers; • In your policy you can prescribe that in some cases farmers can get only a certain part of their claim. In the chapter Agricultural Insurance there is a paragraph mutual solutions combine the advantages. • Over the years you can build up a fund as a safety net construction.
17.16. What is the safety net construction for livestock mutuals covering small number of farmers? There are more possibilities. • back up insurance / reinsurance of a commercial insurance company; • reinsurance of Peoples Mutuals; • You can have in your conditions that you collect a second premium afterwards from all the farmers; • In your policy you can prescribe that in some cases farmers can get only a certain part of their claim. • Over the years you can build up a fund as a safety net construction.
17.17. Whether surplus in mutual program can be given as dividend among members or premium can be reduced or benefits can be increased? Everything is possible. Since the mutual is owned by the members, they can decide themselves what to do with surplus. In the first years the mutual has no reserves. So, we advice to use the surplus in the general reserves. That makes the mutual less depending on reinsurance. In case the general reserves are at a good level, the mutual can use the surplus to increase the benefits or to start new programs.
17.18. What can be done if there is a deficit in the mutual program? The mutual is owned by the members. They have to decide how to solve this problem. There are several possibilities. You can afterwards ask for another extra premium. You can decrease the insured sum / benefits. You can make more exclusions in the program. You can increase the premiums for the future. It is important to analyse the cause of the deficit! • Adverse selection? • Calamity? • Enhancing claims? • Lack of reinsurance? • Incorrect premium calculation?
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18. Tips for trainers 18.1. Talk slowly It is about communicating ideas and principles, not about the words themselves. The students must get the time to convert the words into an understanding of their own. Most principles are logical. When some one understands the logic of the cases, it will not be difficult to remember them.
18.2. Use the tell, tell, tell principle Use the introduction to say what you are going to tell. Then you can really talk in detail about what you have to say. And finally, summarise what you have just said. People will have heard three versions of the same, increasing the chance that people remember and understand it. After all, it is not about knowing, but about understanding.
18.3. Use eye-to-eye contact Look at the students. Not all the time and always at the same students, but at different ones. You then see the problems they have to understand things and know if you need to explain it again with the help of an example. When you have problems looking at individuals, then look at the people in the back row. When you look at the people in the front row, the ones in the back row will think that you are not looking at them; when you look at the people in the back row, the ones in the front will think that you are looking at everybody.
18.4. Organize the classroom The ideal organisation is for students to sit with their backs to the window and for you to at least stand alongside a blind wall. See to it that people have pens and paper and the facility for taking notes.
18.5. Use examples Clarify your explanation with examples that you have chosen, and use different examples all the time. The examples must also appear new to you each time. Examples linked to the students’ world are to be preferred.
18.6. Use a whiteboard or blackboard Do not write entire sentences on the board. Only write down keywords and key concepts. Use circles and lines to link one concept with another. In particular, use the board to write down lists or contradictions, and also number them or assign letters. The board is ideal for you to make an inventory when you are asking questions to the students. For example: you have explained the difference between saving and insuring. You then draw the following schematic on the board and let your students name the advantages and disadvantages.
advantage 1. 2. 3.
saving disadvantage 1. 2. 3.
advantage 1. 2. 3.
insuring disadvantage 1. 2. 3.
Pick a student and let him or her name one advantage or disadvantage. Do not let others whisper the answer or take over, and pick another student for the next advantage or disadvantage. The less vocal students must also have their turn. Prepare the schematic at home, because they may forget something, and then you will have to complete it. Do not just give the answer then, but name aspects and ask a student where to fill it in. Preferably, do not use a Powerpoint presentation. You are then tied too much to what you had prepared in advance. A board allows you to be more
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flexible. You can then go deeper into issues, depending on your students’ needs.
18.7. Use different colours If available, use different colours to emphasise matters or to highlight contradictions. For example, advantages in green and disadvantages in red, or words in one colour and relationships or lines in another.
18.8. Give compliments People appreciate getting compliments. Therefore, thank a student when he takes the initiative to ask a question. He or she at least dares to do so, and gives you an opportunity to explain again. When you ask a question and find that it is a difficult one, or when you write down a question on the board for the students to work on, you can then also go around the classroom and ask everybody for their answers. Do not react directly to the answers, but make an inventory. At the end you pay a compliment to the student who got the right answer. The others you let be for the time being.
18.9. Ask questions: open and closed, broad and in-depth Ask question to see what your students are thinking and to test if they understand it all, or to involve the students in the lesson. When a student asks a question you can ask another student to give the answer, and then possibly ask a third one whether number two had given the right answer. You thus encourage the thinking process. Already think of a few questions when you are preparing, and be deliberate about asking open or closed questions. Open questions inventorise thoughts, ideas and opinions: What do you think of…? How important is it in your situation for….? How would you solve this? Closed questions ask for facts: What is the time? What forms of insurance exist? To what age can you get insurance? What is the price of….? Maintain the dialogue with your students by asking broad and in-depth questions. A broad question is asking for more information. For instance, your question is about the advantages of an aspect. The student spontaneously mentions two. You then ask: what other advantages can you think of? It is about you encouraging a student to become involved and think. In-depth questions inquire into the meaning of an answer. For instance: can you elaborate on your response? Can you give an example of it? What did you mean with ………….. in your answer?
18.10. Have breaks After half an hour the students’ span of attention will drop clearly. Therefore, have a short break every, e.g., hour. Preferably, let them out and enjoy a different environment for a while, and tell them that you will be seeing them again in ten minutes. The break will reward you twice over, you and your students have refreshed their brains. A break is not a waste of time, but an investment.
18.11. Gesticulate Talk with your hands and arms. Especially when you are discussing advantages and disadvantages or contradictions; look to the left when you are listing advantages and to the right when you are listing disadvantages. Or first move both hands to the left when you are talking and then to the right. It stimulates students to better absorb the material.
18.12. Make schematics When it is about processes, lists, advantages, disadvantages, contradictions or relationships between matters, make the material insightful with the help of schematics or graphs. This makes it easier to remember than a long text would.
18.13. Stand in front of the group and walk up and down a bit Do not sit on a chair in front of the students, but stand up. You then get a better overview of the class and it forces you to think and talk, instead of read and talk. The second advantage is that it is easy to write down a concept on the board when you are talking. You are more flexible, literally, Version 3.0 22-09-2008
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when you stand up and walk around a bit. It also provides more authority, when you need that.
18.14. Test if people understand you Ask control questions to break the lesson to see if people understand the material, e.g. right before a break. During the break you can think the answers over and consider whether or not to present the material differently after the break. An ideal method for testing if the class understands the materials is to call a student to the head of the class to present to the class what he or she had understand of the subject. You then quickly notice if a student only knows or also understands. The student will find this hard to dare and do, which is why you must always thank and pay a compliment. Even though it was not good enough. When a students fails to understand a subject it is just as much, or even more so, the teacher’s fault as it is the student’s.
18.15. Assignment Make a new list of the above-mentioned fourteen tips, and place the tip that appeals most to you on top of the list. Then prepare a lesson and take it home to practice without an audience. When finished, judge if you had really applied the three most important tips for you. Success!
18.16. Test a. b. c. d. e. f. g. h.
What is a closed question? What is the difference between knowing and understanding? Why would you have breaks? What is meant with the tell, tell, tell principle? What is a broad question? How can you best use a blackboard or whiteboard? What is the advantage of a board over a Powerpoint presentation? Can a closed question be an in-depth question at the same time? If no, why not? If yes, give an example? i. What tip did you place on top in the assignment of paragraph 15? Why did that tip appeal strongest to you? j. How would you define teaching? k. Which of the above questions a to j are open questions, and which are closed questions?
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19. People Mutuals 19.1. Operational Guidelines To protect the poor from various vulnerabilities and to provide social security services to poor, who are members of the various development programmes of DHAN Foundation, People Mutuals was promoted by seven people organisations / Federations of Kalanjiam / Vayalagam on October 2, 2003. It was registered as a public mutual trust by the founders (Kalanjiam federations of Kanakapura, Kadamalaigundu, Mandapam, Tiruppathi, Appanthiruppathy and Vayalagam Federations of Punganur and Ramanathapuram) on 11.12.2003.
19.1.1. Role of People Mutuals •
• •
•
• • • •
• • •
• • •
Providing social security services to the individual members, to support and protect them and their families against the vulnerabilities caused due to: Natural or accidental death of individual member or member’s spouse, Permanent partial or total disability of the individual member or member’s spouse. Ill health of individual member and their family members. Death of livestock belonging to the individual members Loss or damage to movable and immovable properties / assets of the individual members by theft or natural calamities like flood, fire, earthquake etc. Loss due to failure/damage of / to crops /agricultural produces Providing annuity and pension benefits to individual members Acting as an intermediary to link the poor who are part of people organisations with various social security schemes and development programs of governments, formal insurance companies and insurance providers. Organising and conduct training and capacity building programmes and impart skills to individual members, leaders, staff of people institutions, self help groups for educating the poor in building awareness about various social security programmes and welfare schemes Conducting research on social security programmes to poor. Extending support by way of training and consultancy to other similar organisations for promotion and development of social security for the poor. Developing knowledge base on social security schemes and act as a resource centre for micro insurance. Organising and conduct short duration training programmes and exposure visits, seminars and workshops on social security involve in policy advocacy by participation in various events and policy forum. Engaging in poverty alleviation initiatives with specific focus on social security to poor. Enrolling eligible federations, clusters, cascades as members of People Mutuals. Collecting individual member / spouse data from the location and creating a base line data and updating the insurance details as follows for analytical purpose. Programme wise Region wise Federation wise Year wise Insurance company wise Sex wise Monitoring the gap between total members and insured members and giving suitable instructions to locations to bridge the gap. Diarising the due dates of policies and intimating them to federations well in advance enabling them to get the policies renewed on time. Conducting insurance steering committee meetings twice a year with the insurance partners to sort out the issues and enable further collaboration.
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• •
Conducting Half yearly review meetings of member federation for review and further directions to provide social security. Designing Rating system on Nalathittam implementation by federations and half yearly rating will be shared in the review meetings.
19.1.2. Role of Programme 1. Ensuring social security to all members of the people organizations of the locations by one year through regions. 2. Ensuring coverage of life risk to spouse by the second year 3. Ensuring coverage of livestock immediately 4. Ensuring coverage of house building constructed under housing loan programmes immediately. 5. Ensuring coverage of health risks by the third year 6. Ensuring coverage of other problems / risks through evolved mutual solution 7. Interfacing with programmes through CGMs, half yearly and yearly review meetings 8. Identifying facilitating / conducting trainings on social security to professionals 9. Identifying and facilitating of social security training programmes on social security to people staff & leaders to be conducted by People Academy 10. Ensuring conduct of social security training programmes at regional and locational level to people staff and leaders through trainers trained by People Academy 11. Facilitating insurance literacy afforts through campaigns, Mobile teatre programmes, street plays etc. 12. Facilitating monitoring of performance of locations under social security 13. Facilitating information flow and MIS on social security 14. Providing assistance to People Mutuals in research and documentation.
19.1.3. Role of Regions 1. 2. 3. 4.
Ensuring coverage of life risk to members by the first year Ensuring coverage of life risk to spouse by the second year Ensuring coverage of livestock immediately Ensuring coverage of house building constructed under housing loan programmes immediately 5. Ensuring coverage of health risks by the third year 6. Ensuring coverage of other problems / risks through evolved mutual solution 7. Identifying facilitating / conducting trainings on social security to professionals 8. Identifying and facilitating of social security training programmes on social security to people staff & leader to be conducted by People Academy 9. Ensuring conduct of social security training programmes at regional and locational level to people staff and leaders through trainers trained by People Academy 10. Facilitating insurance literacy afforts through campaigns, Mobile teatre programmes, street plays etc. 11. Facilitating monitoring of performance of locations under social security 12. Facilitating informations and consolidation of information and MIS on social security 13. Providing assistance to People Mutuals in research and documentation. 14. Half yearly auditing of Nalathittam accounts.
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19.1.4. Role of Locations Various thematic organization of DHAN Foundation like federations cluster development association of Kalanjiam Federations and cascade of Vayalagams, people institutions of other themes by remitting the precreibed fee of Rs.150/- could become members of People Mutuals. The role of locations are as below. 1. Insurance literacy to members through campaigns, mobile theatre programmes, street plays 2. Training to leaders on social security by professionals. 3. Training to People Staff on social security by professionals. 4. Organising workshop and brainstorming session among people to initiate social security programmes in the location. The problems of social security and mutual solutions for the problems to be evolved from people. The workshops and brainstorming sessions can to be conducted involving People Mutuals 5. Ensuring coverage of life risk to members by the first year 6. Ensuring coverage of life risk to spouse by the second year 7. Ensuring coverage of livestock immediately 8. Ensuring coverage of house building constructed under housing loan programmes immediately 9. Ensuring coverage of health risks by the third year 10. Ensuring coverage of other problems / risks through evolved mutual solution 11. Sending copy of monthly report of Nalathittam shared by Managing Director in the board meeting to the regions
19.2. Member Administrations Group level Collection of contributions from members: Contributions should be collected yearly. In group meetings, contribution should be collected from the members against receipts with the narration nalathittam. • Groups should remit the member contributions to cluster along with the covered member / spouse details as follows : 1. Name of the insured member 2. Name of the insured spouse (If the insured is spouse) 3. Name of the kalanjiam / Vayalagam / Uzhavar Kuzhu 4. Name of the cluster 5. Age of the insured - Completed age (Ration card, Voter’s identity card, School certificate, Horoscope, etc., to be verified and kept at Cluster level) 6. Sex of the insured 7. Occupation 8. Name of the Nominee 9. Age of the Nominee 10. Relationship to Nominee 11. Name of the Guardian, if the nominee is a minor 12. Relationship of the Guardian to the insurer 13. Name of the head of the family (bread winner of the family) Name of the product / insured Death, Disability, Health, Livestock, Assets, Pension 14. Premium amount 15. Name of the Insurance Company 16. From date 17. Due date At Cluster level • The cluster should collect and keep proper records of these details. These records should be readily available for reference at any time.
• •
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• The cluster should remit the amount to federation along with these details. At Federation level • The federations should have consolidated data and details of lives covered in their locations as mentioned above in the case of clusters. • The premium collection should commence at least 2 months in advance in a location. Suppose the policy period is from 01, October 2004 to 31 September 2005, groups should start collecting the renewal premiums from their members / spouses during the period from 01 September 2005 to 15 September 2005 and see that the collected premiums reach the clusters along with individual member / spouse insurance details immediately for onward transmission to federation specific insurance month should be fixed for each location by them. • Insurance transactions in every federation will be audited by Region during the months of September and March of a financial year and report should be sent to People Mutuals. The federations Nalathittam associate should keep all the information of the programme and activity operationalise of field level.
19.3. Policy Administration The premiums thus pooled in the federation should be sent to concerned insurance providers companies with in a week as advised by the People Mutuals. - Original proposal, the details of lives covered (Soft copy and Hard copy) and demand draft for the premium amount should be sent by the federation to the insurance company and soft copy, Xerox copy of hard copy to be sent to People Mutuals for updating the data and monitoring. - After receiving the policy from the insurance company, federation should check its correctness by comparing with the details furnished in the copy of proposal kept at the federation. Discrepancies if any, should be brought to the notice of the insurance company and got rectified. - Every year federation should renew the insurance policy / policies. - New members should be identified and insured along with the renewal. - Selection of Insurance company and remittance of premium have to be done duly consulting People Mutuals. Accounting : -
Step
Activity
7. On receiving the contribution Get Cash from the members. Issue receipt to the member 8. When the group is remitting the Prepare voucher contributions to the cluster. Credit the bank account of cluster and get the bank counterfoil and cluster receipts ( The receipt from Cluster has to be attached after remitting to Cluster) 9. When the cluster is receiving the Verify bank counterfoil and the bank pass book entry contribution from the group, Issue receipt to the group
10. When the cluster is remitting the Prepare voucher contribution to the federation Credit to bank account of federation and get the bank counterfoil & federation receipt (The receipt from Federation has to be attached after remitting to federation) 11. When the federation is receiving Verify bank counterfoil and bank pass book entry the contribution from the cluster, Issue receipts to the cluster (Bank counterfoil to be attached) Version 3.0 22-09-2008
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(Please note that the amount has to credited only to the Nalathittam account of the Location / Federation.) 12. When the federation is remitting Prepare voucher the contribution to the insurance Send the cheque or Demand Draft (Bank company, counterfoil to be attached) •
In the balance sheet of group / cluster, the amount of contribution kept with them should be shown under accounts payable, and in case of federation, the amount will be shown as “Specified funds” named as Nalathittam.
19.4. Claim Administration 1. Death information has to reach the group immediately within an hour by any EC member of the group. 2. Death details of the deceased member should be informed to federation by the group within 24 hours by the EC members with the following information to Federation associate (insurance) / Managing Director Name of the deceased Cause of death Time of death Time of cremation 3. If a member / spouse of the member died, all group members / federation & cluster EC representatives / cluster associates along with MD should go to the deceased member’s house and share the condolence with the other family members. The following system may be put into practice. The other members of group should not go for work and should be with the family of deceased member & extend the necessary help required for them. At Cluster level, arranging for Tea, coffee, and food to the relatives of the deceased member to be done. At federation level, arrangement for immediate release Rs.3000/- to the nominee to meet the funeral expenses of deceased. The amount should be adjusted from the death claim benefits. At movement level, steps to offer the Kalanjia Kodi 4. Duly filled up & signed claim form along with the Death Certificate should be submitted to federation by the group with in a week 5. Federation will send it to insurance company with in a week. 6. If the member died in an accident, or had permanent / partial disability, claim should be preferred in special claim form meant for that purpose. In the case of accidental death FIR, postmortem certificate, Police Investigation Report (PIR) should be annexed with the claim form. (If the claim is not preferred with in 45 days of death of the member, Insurance Company may not accept the claim.) 7. Time schedule : The following time schedule may be followed by the location. Duly filled claim applications from Nominee to Federation - 1 week Federation to insurance providers - 1 week Ensuring claim settlement from the providers - 1 week Payment of claim to member through group by federation - 1 week 8. After receiving the claim amount from the insurance company, federation should give the claim amount to the nominee in a regular / special meeting of kalanjam after adjusting the amount of Rs.3000/- given to the nominee on the day of death of the member.
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19.5. Nalathittam Committee Separate Nalathittam Committee, consisting of 4 Board of Directors and Managing Director should be constituted for implementation and operation of Nalathittam. • Where federation is yet to be registered the committee could be constituted with 4 identified leaders and the Block Integrator • The Nalathittam should be a permanent agenda in the board meetings. • The contributions, benefit payments should be shared by way of report to every month by Managing Director. • In the case of federations, they have to open a Savings Bank account with the name “Nalathittam Account” and transact all transaction related to insurance under this account only. • If there is no federation, a designated cluster could open a Savings Bank Account on the above lines and transact the insurance transactions with the joint operations of Nalathittam Committee leaders and Block Integrator • Once the federation is formed, the Nalathittam amount available under the cluster account have to be transferred to the federation’s Nalathittam Account. Note :
•
19.6. Products – Life •
• • •
New locations can cover the lives of members and spouses for Rs.10000/- and accident disability cover for Rs.25000/- with private insurance companies, duly consulting People Mutuals. No LIC product is available at present for a life coverage, of Rs.10000/-. Young locations could cover the lives for Rs.20000/- life cover & 50000 accident disability cover by having insurance with LIC – JBY. Matured locations could cover the lives for average loan size by insurance with LIC and private insurance company’s. Advanced federations could cover for average loan size by insurance with LIC, Private insurance companies’ They should graduate for community based self managed schemes.
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Annex I
For poor: Life risk coverage products S.N Company / Annual premium for the year – 2004 to o Scheme 05 payable per life 1 LIC – JBY Rs.100/- for age between 18 – 59
Benefits
Remarks
Normal Death:Rs. 20000/Accidental death: Rs. 50000/Total disability: Rs. 50000/Partial disability: Rs. 25000/-
a.
b.
c. 2
MetLife India
31.80 for age between 18 to 59
Normal & Rs.10000/-
Accidental
death:
Normal & accidental Rs.20000/100 times of Premium
death:
63.60 for age between 18 to 59
3
Birla Sunlife
4
Birla Sun Life
Rs. 50, 100, 150, 200 for 3 years For ages between 18-50 ( for ages 45 years and above, age proof is necessary. Eligibility: a) Poorest of poor b) Residing in Rural Area. - Individual policy Rs.34 to Rs.36 for ages between 18 to 59 according to age distribution
Normal & death due to accident : Rs.10,000
a. b.
Educational scholarship of Rs.300 per quarter available for children studying IX to XII std. for a maximum of 2 children under ‘Shiksha Sahayag Yojana’ of Government of India. The scholarship will be released on discretionary basis by LIC subject to availability of funds under the above scheme. Administrative cost of Rs.4/- per life to the location for I year & Rs.2 per life for 2nd year if the lives covered under policy are above 250 under a policy. Any numbers of lives can be covered for this premium – minimum 25 lives Administrative cost Rs.2/- per life Maximum of 10000 lives only will be covered under these terms
Death benefit - 100 times of premium Maturity benefit - 1.10 times of premium after 3 years Surrender Benefit i) Only Premium - I year ii) 1.04 times premium - II year iii) 1.08 times premium - III year
For poor and non poor persons residing in rural area at the time of taking the policy:
Co mp an y
Product a)
Whole life Insurance
Age 19-55 Years (For ages up to 35 with out medical certificate, policy up to 25000 only can be taken, for others medical certificate is necessary)
Sum Assured Minimum Rs.10000/Maximum Rs.1 lakh in multiples of Rs.5000/-
Premium 1. 2. 3.
Post office Rural Postal Life Insurance
b)
Endowment Assurance
19-55 Years (For ages up to 35 with out medical certificate, policy up to 25000 only can be taken, for others medical certificate is necessary)
Minimum Rs.10000/Maximum Rs.1 lakh in multiples of Rs.5000/-
1. 2. 3.
c)
Convertible whole life assurance
d)
Anticipated Endowment Assurance (Money back)
19-55 Years (For ages up to 35 with out medical certificate, policy up to 25000 only can be taken, for others medical certificate is necessary) 19-45 Years (For ages up to 35 with out medical certificate, policy up to 25000 only can be taken, for others medical certificate is necessary)
Vary according to age of entry and age of maturity Mode of payment of premium monthly / quarterly / Half yearly / yearly
Benefits On death to the nominee sum assured + accrued bonus (not < Rs.50/- per 1000 per year)
Rs.14.75/- annual premium for entry age of 19 for Rs.1000/- sum assured for the condition of premium payable till 60 years of age. Rs.50.75/- annual premium for entry age of 45 and maturity age of 60 for Rs.1000/- sum assured for the condition of premium payable till 60 years of age. Vary according to age of entry and age of maturity Mode of payment of premium monthly / quarterly / Half yearly / yearly
Annual Premium of Rs.18.95/- for entry age of 19 & maturity age of 60 for Rs.1000 /- sum assured Annual premium of Rs.66.95 for entry age of 45 and Maturity age of 60 for Rs.1000/- sum assured
Minimum Rs.10000/Maximum Rs.1 lakh in multiples of Rs.5000/-
Vary according to age of entry and age of maturity
Twin benefits – pay less premium initially under whole life plan and get the policy converted in to Endowment assurance after 5 years
Minimum Rs.10000/Maximum Rs.1 lakh in multiples of Rs.5000/-
Vary according to age of entry & term of policy
a .
10 year Rural Postal Life Insurance (Money back in 4 , 7 & 10th year)
19-45 Years (For ages up to 35 with out medical certificate, policy up to 25000 only can be taken, for others medical certificate is necessary)
Minimum Rs.10000/Maximum Rs.1 lakh in multiples of Rs.5000/-
Survival benefits to the insured 20 Years 8 years – 20% 12 yrs – 20% 16 yrs – 20% 20 Yrs - 40% + Bonus
b e)
On maturity to member sum assured + bonus accrued (not < Rs.50 per 1000 per year) On death to nominee – sum assured + accrued bonus.
Vary according to age of entry
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a.
15 Years 6 Yrs – 20% 9 Yrs – 20% 12 Yrs – 20% 15 Yrs – 40% + Bonus
On death – Sum assured + accrued bonus
Survival benefits: 4 Yrs – 20% 7 Yrs – 20% 10 Yrs – 60% + accrued bonus b. On death – sum assured + accrued bonus
For non-poor: Life risk coverage products
Company LIC of India – Group Insurance scheme ICICI Prudential Suraksha
Sum Assured
Age
–
ICICI Prudential - Mitr
18-59 years 18–45 years 18–45 years
Annual premium
Remarks
10000 (Maximum 50000) 5000/10000/ 15000/20000
60 for 10000 for average age of 40 (Vary according to average age) 50/100/150/200
Renewable policy
term
Renewable policy
term
5000/10000/ 15000 / 20000
5000 – 5y: 961 – 972 10y: 424 - 441 15y: 253 - 277
Maturity benefit 5000/10000/ 15000 / 20000
10000 – 5y: 1922 - 1945 10y: 847 - 882 15y: 507 - 553 15000 – 5y: 2884 - 2917 10y: 1271 - 1323 15y: 760 - 830 20000 – 5y: 3845 - 3890 10y: 1695 - 1764 15y: 1013 - 1107
General insurance products:
S. N o
Name of the company / Scheme
Annual premium 2004 – 05 payable per life
1
Janatha Personal Accident insurance policies - Death / disability due to accident
a. Rs.15/- for 10 to 70 years of age by NIC, OIC, NIIC. b. Rs.10.50 for 10 to 70 years of age by United India Insurance company
Total disability / death – Rs.25000/Partial disability – Rs.12500 25000 (Can be covered up to Rs.1 lakh by paying proportionate premium)
2
Cattle insurance (Milk cows and buffaloes, sted bulls, Bullocks,He buffaloes, Sheep/Goat insurance
3.4% of value of the animal + 12.24% of premium amount as service tax United India Insurance Company
According to value of animal and premium paid
Sheep of 4 months to 7 years. 3.4% by Royal Sundaram + 12.24% service tax United India Insurance Company Rs.168 for 60000 worth of house for 10 years without earthquake cover and Rs.240/- with earthquake cover
According to value of animal and premium paid
3.
4.
House property other assets
&
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Benefits
According to value of house & premium paid
Annex II Insurance of Animals â&#x20AC;&#x201C; Special arrangement with United India Insurance Company Limited Cover offered: The animal is covered for death due to disease or accident (including fire, flood, cyclone, riot strike and civil commotion) Animal that can be covered
Animals Cows Buffaloes Sheep & Goat
Age 2-10 years of age 3-12 years of age 4 months to 7 years
Other Conditions 1. Animals recently calved, sound in health and yielding milk alone should be covered. 2. Age of the calf should be furnished in the proposal 3. If the calf is not alive, the date of calving is to be indicated.
Max cover available per animal Rs.15000 or value of animal which ever is less.
Animal not to be covered: 1. 2. 3.
Dry animal i.e. animal that is not yielding milk should not be covered. Animal in advance stage of pregnancy should not be covered. Animals having calf more than 3 months of age should not be covered.
Maximum Premium For Cows, Buffaloes, Plough Bullocks Premium @ 3.4% of the Sum Insured per annum (the standard rate is 4.5%) Service tax @ 12.24% on the premium will be charged. Service tax is exempted for covering animals falling under Government scheme. Proof for the same should be enclosed along with proposal for eligible cases. For Sheep & Goat @ 3.4 % of the sum insured per annum. Service Tax @ 12.24% on premium will be charged; service tax is exempted for covering animals following under Government scheme. Proof for the same should be enclosed along with proposal for eligible cases.
Identification: United India Insurance Company will supply required tags, applications and specially designed proposal forms.
Block integrator arrange for tagging the animal, enters the details in the form and certify for insurance. The Ear tag should be firmly fixed to animal and should remain intact in the Ear at all times. If the tag is fallen it should be reported to United India Insurance Company.
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Premium remittance:
Block integrator has to collect the premium and take a DD in favour of United India Insurance Company Alliance Insurance Company Limited payable at Madurai
The above DD should be sent to People Mutuals, Madurai along with the proposal form.
United India Insurance Company collects the details with the premium and issue policy.
Cover commences from the date of DD.
Monthly review meeting will be held on this business operations during the last week of the month. Minutes of the meeting will be recorded and follow-up of the same will be addressed in the next meting.
Important conditions:
15 Days waiting period: Death of animal due to disease occurring within 15days of insurance is not covered. However this 15days-waiting period will not be applicable for animals died out of accident.
No tag â&#x20AC;&#x201C; No claim: Ear Tag should be surrendered while submitting the claim form. No claim will be entertained if tag is not surrendered.
Claim process
Insured has to intimate the death of animal immediately to Federation / Location office. Federation / Location office informs United India Insurance Company & People Mutuals through mail on the same day and also uses the services of veterinarian for certifying the loss.
Claim form will be sent to Federation / Location which in turn will handover to the insured (Member).
The Insured obtain the veterinary certificate on this format. The management committee (4 Federation / Cluster EC members & Managing Director / Block Integrator) should also certify the genuiness of the death.
The insured surrender the tag along with the claim form.
Federation / location conducts enquiry and forward the claim form and the tag, with recommendation to People Mutuals, Madurai.
United India Insurance Company process the claim and settle within 15 days of receipt of all claim papers.
United India Insurance Company will arrange for investigation at random. The settlement period will be extended for another 15 days where it is referred for investigation.
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Annex III Insurance for Dwellings (Royal Sundaram Insurance Company private limited)
Premium Basic Premium 10 Years Premium Less 50% Long Term Discount Service Tax @ 12.24% Plus Earthquake cover additional Including 12.24% Service Tax Hence without Earthquake cover With Earthquake cover
Amount Per annum (Rs.) 30 300 150 150 18 168 72 240 168 240
Premium remittance:
DD in favour of United India Insurance Company Limited payable at Madurai
The above DD should be sent to People Mutuals, Madurai.
United India Insurance Company collects the details with the premium from them and issue policy.
Cover commences from the date of DD.
Claims process
Insured intimate the loss to Federation / Cluster office. Federation / Cluster office informs Royal Sundaram & People Mutuals through mail on the same day and also uses the services of veterinarian for certifying the loss.
United India Insurance Company will appoint surveyor to assess the loss.
Claim form will be sent to Federation / Cluster which in turn will handover to the insured.
United India Insurance Company process the claim and settle within 15 days of receipt of all claim papers
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GLOSSARY Sl. No. 1 2
Terminology Accident Adverse selection
3
Annuity
4
Concealment
5 6 7
Claim Death Claim Deductible
8
Exclusions
9
Group Insurance
10
Indemnification
11
Insurance
12
Insurance Regulatory and development Authority Act, 1999
13
Law of Large Numbers
14
Moral Hazard
16
Mutual insurer
17
Obligations of General Insurer towards Rural Sector
18
Obligations of Life Insurer towards Rural
Explanation A loss causing event that is sudden, unforeseen, and unintentional. Tendency of persons with a highter-than average chance of loss to seek insurance at standard (average) rates, which, if not controlled by underwriting, results in higher than expected loss levels. Periodic payment to an individual that continues for a fixed period or for the duration of a designated life or lives. Deliberate failure of an applicant for insurance to reveal a material fact to the insurer. A claim is a demand for the promise made by the insurer Death Claim is due on the death of the life assured during the term A provision by which a specified amount is subtracted from the total loss payment that would otherwise be paid. Provisions in an insurance contract that list the perils, losses, and property excluded from coverage. Group Insurance is a scheme which provides insurance benefits to a number of people under a single policy Compensation to the victim of a loss, in whole or in part, by payment, repair or replacement. Pooling of fortuitous losses by transfer of risks to insurers who agree to indemnify insured for such losses, to provide other pecuniary benefits on their occurrence, or to render services connected with the risk. An Act to provide for the establishment of an Authority to protect the interests of holders of insurance polices, to regulate, promote and ensure orderly growth of the insurance industry and for matters connected therewith or incidental thereto and further to amend the Insurance Act, 1938, the Life Insurance Corporation Act, 1956 and the general Insurance Business (Nationalisation) Act, 1972 Concept that the greater the number of exposure, the more closely will actual results approach the probable results expected from an infinite number of exposures. Dishonesty or character defects in an individual that increase the chance of loss. • Insurance Corporation owned by the policy owners, who elect the board of directors. The board appoints managing executives and the company may pay a dividend or give a rate reduction in advance insured • Two percent in the first financial year • Three percent in the second financial year • Five percent thereafter of total gross premium income written direct in that year. • Five percent in the first financial year • Seven percent in the second financial year
Sector
19
Obligations of the Insurer towards Social Sector
20 21
Peril Premium
22
Reinsurance
23
Riders
24
Risk
25
Rural Sector
26
Social Insurance
27
Social Sector
28
The Insurance Act, 1938
29
Underwriting
Ten percent in the third financial year Twelve percent in the fourth financial year Fifteen percent in the fifth year of total policies written direct in that year • Five thousand lives in the first financial year • Seven thousand five hundred lives in the second financial year • Ten thousand lives in the third financial year • Fifteen thousand lives in the third financial year • Twenty thousand lives in the fifth year If the period of operation is less than twelve months, proportionate percentage or number of lives, as the case may be, can be undertaken. Cause or source of loss. The consideration payable for a contract of insurance or life assurance. The shifting of part or all of the insurance originally written by one insurer to another insurer. They are a special policy provision or a group of provisions that can be added to a policy to expand or limit the benefits otherwise payable Risk is a condition where is a possibility of an adverse deviation from an expected outcome. Rural sector is defined as a place which as per latest census has • A population of not more than five thousand • A density of population of not more than four hundred per square kilometer and • At least seventy five percent of the male working population is engaged in agriculture Government insurance programs with certain characteristics that distinguish them from other government insurance programs. Programs are generally compulsory; specific earmarked taxes fund the program; benefits are heavily weighted in favor of low-income groups; and programs are designed to achieve certain social goals. Social sector includes • Unorganized sector • Informal sector • Economically vulnerable or backward • Other categories of persons, both in rural and urban areas An Act to consolidate and amend the low relating to the business of Insurance. It provides for the registration of insurance companies, and the various rules and regulation they need to follow. It also vests IRDA with enormous power to ensure that the insurance sector is managed well. The selection and classification of applicants for insurance through a clearly stated company policy consistent with company objectives. • • •
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