Digital transformation can reduce the impact of inflation on insurance companies. Here’s how.
We are witnessing gradual economic growth coupled with high inflation. The cost of living has surged while wages haven’t significantly increased. All industries have absorbed the impact of inflation to a certain extent, and insurance is not an exception. Insurance companies face higher claims and operating costs, which ultimately leads to more expensive premiums for customers. Consequently, customers decide to drop their coverage or switch to a cheaper policy to save money.
It’s sort of a catch-22 paradox – insurance companies need to increase prices in order to survive in the fierce market. On the other hand, consumers need access to lower-priced services they can afford.
So, how can insurance companies strengthen their damage control? Better yet, how can they prepare for future periods of economic uncertainty?
The answer is simple – digital transformation.
The financial industry dodged the bullet, and insurance got seriously wounded
In the midst of the economic crisis, many industries started thinking outside of the box and innovating their processes in order to navigate new challenges. On the other hand, the crisis exposed the incapability of the insurance sector to jump on the bandwagon and keep up with rapid digital transformation.
There are a lot of doubting Thomases who believe that the digital transformation of the insurance industry is impossible due to legacy IT systems and resistance to change. But there is one great example that proves that approach wrong: the financial industry.
Digitalization in the finance sector is no longer a tactic to stay ahead of the competition. It has become a norm. The expectations of modern consumers have significantly changed over the past few decades. Seamless experience, digital products, instant gratification, and immediate access to online banking solutions have become users’ everyday practices. Internally, financial organizations and companies have moved away from paperwork to modern IT solutions.
The change made a positive impact on both customer experience and revenue. Moreover, thanks to digital transformation, the financial sector secured more flexibility and resilience during inflationary periods.
So, if there are undeniable benefits to boarding the digital transformation bandwagon, why is the insurance sector so resistant to hop on?
Why the insurance industry was slow to adopt digital transformation
The insurance sector is heavily marked by the “old school” way of thinking, and that’s exactly what’s holding it back from evolving.
Insurance companies still rely on outdated, ingrained legacy IT systems. This makes it challenging for them to provide better user experiences, gain valuable insights, and, ultimately, increase user adoption rates. However, aware that innovation takes time, they are not quite eager to halt their business operations to implement new technology.
Then there is the issue of complex regulations and data security. The insurance industry is heavily regulated, with rules varying by country and even by state or province within countries. These regulations can create a significant barrier to digital transformation, as insurers must ensure they comply with all legal requirements, which can be a time-consuming and costly process.
Last but not least – it’s due to the collective culture. Traditional insurance companies often have a conservative and hierarchical corporate culture. Embracing digital transformation may require a cultural shift within the organization, which can be met with resistance from employees who are accustomed to traditional ways of doing business. This also includes the focus on personal relationships, having meetings face-to-face, and generally – sticking to the “old school” business practices.
How inflation impacts the insurance industry
There are two main ways inflation impacted the insurance industry: increased claim costs and wage inflation. Realistically speaking, there is no quick relief for these problems. According to McKinsey, even before inflation took off, prices for goods and services that drive personal insurance claims went higher. This was the first alarm bell for the insurance companies, but only a few realized how important it was to act and get prepared.
Instead of being proactive and preventing further financial losses, most insurance companies relied on adjusting their prices and taking firmer control of their expenses. This had a positive effect, but metaphorically – it was like putting a band-aid on a broken leg.
There are quite a few things insurers would need to monitor, but claims cost inflation and wage inflation should be a priority.
Claims cost inflation
If we take a look at the historical US inflation rates, we can understand the fundamental economic change that happened over the past two decades. In such an economic climate, claim cost inflation is a significant concern for insurance companies because higher claim costs can negatively impact profit margins and lead to higher premiums for policyholders. Inflation led to supply chain disruptions, and just like in a domino effect – the price of vehicles and vehicle parts went through the roof. The commodities and the energy sector are not far behind.
Let’s not forget about the fundamental changes the pandemic brought. According to Ingrid Hobbs, Head of the Complex Casualty Coverage Team at Kennedy's, “black swan events” such as COVID-19, along with other factors (e.g. social inflation), created an environment in which insurance companies face a number of challenges. They need to develop new products and strategies to ensure they survive in the market. This requires innovative thinking and digital solutions, which implies quite an uncomfortable growth for an industry that’s used to the “analog” way of doing business.
Wage inflation in insurance, like wage inflation in any other industry, refers to the increase in the average or overall wages and salaries paid to employees within the insurance sector over time. It means that employees are earning higher wages compared to previous periods, typically due to various economic, market, and industry-specific factors.
Wage inflation inevitably impacts the operational costs of insurance companies. However, ensuring good working conditions and a liveable wage is one of the key levers employers have to attract new talent and prevent employee turnover. Over the last year, 78% of employers increased their employees’ pay, and looking at the entire insurance sector, we have seen a 4.1% increase in salaries.
The vast majority of insurance companies want to continue with this positive trend. But at what cost? And how can they create a safety net for the company as a whole in uncertain times?
How can digital transformation help insurers with the future crisis?
The insurance industry faces a multitude of challenges posed by inflation, including the need to respond swiftly and effectively to unforeseen circumstances. Whether it's a global pandemic, natural disasters, economic downturns, or emerging risks like cyber threats, insurers must balance between providing services to their customers and protecting the company as well.
Digital transformation can be a powerful ally in this context.
Digitalization of business processes
Insurance companies should invest in optimizing processes by leveraging digital solutions. The lack of integration between different systems necessitates additional manual steps and communication through phone calls and emails. Existing systems are usually old, slow, and inflexible, making integration a challenging or impossible task.
The leadership team needs to initiate the transition to digitally-driven solutions where integration between systems is easy and feasible. This removes the need for manual processing of data, lowering operational load on employees and making communication and data flow more efficient.
Innovation in policy management tools that provide clients the ability to gain insight into the policy state, build reports, download documents, submit claims, and track premium installments can significantly reduce the need for frequent communication between policyholders and business employees. That would reduce operational load and distractions on employees and give them opportunities to focus on higher-value tasks. It’s an upfront investment that pays off long-term.
Faster innovation of new products and faster time to market
When insurers are first to launch a new product, they have a better chance of winning over competitors. Fresh and relevant products attract customers and win their hearts by appealing to their exact needs, values, and challenges. This leads to higher user satisfaction, helping insurance companies retain clients and build a trustworthy brand.
Insurance companies can accelerate the innovation of new products and reduce time to market through digitalization by implementing several key strategies and leveraging modern technologies.
One such example is using digital tools to rapidly prototype and test new insurance products. By creating digital mock-ups and conducting user testing, insurers can identify and address issues early in the development process, saving time and resources.
Additionally, modifying internal processes can also help in the process. The most successful insurance companies rely on cross-functional teams dedicated to digital product development. Bring product managers, data scientists, and software developers together and see the magic happen. Streamlined results. Better decision-making. Efficient product development processes. Shortened time to market. Those are just some of the numerous benefits of digitizing insurance operations.
Legacy systems are usually complex and inflexible, requiring manual workarounds to increase speed to market and follow market agility. For that reason, it is important to invest in modern policy administration platforms and product configuration tools, increasing speed to market with new or updated products.
Pricing transformation with AI and robotics
Since economic conditions are changing rapidly and costs are increasing for businesses in the insurance industry, they need the ability to quickly adjust prices.
Data shows that 20% of most profitable property and casualty (P&C) insurers have made significant investments in pricing innovations. Pricing will be a primary differentiator for long-term value generation in this sector.
Modern consumers expect personalized experiences and fair pricing. This is why insurers need to align their offerings more closely with individual customer needs and preferences and improve overall customer satisfaction and loyalty. Additionally, pricing innovations enable insurers to more accurately assess and price risks.
So, how do you get there with the help of digitalization?
You’d need a superior data infrastructure in place which will allow for pricing tech and self-learning algorithms. As the system constantly gets fed with new data, you can adjust premiums in real time based on changing risk factors and market conditions. This flexibility allows insurers to adapt to evolving risks quickly, potentially reducing losses and improving their competitive edge.
The starting point of pricing transformation should be the application of generalized linear models (GLMs). More than half of all P&C insurers across Europe and the United States have already checked this off their lists.
The second stage would be the implementation of AI-based, automated pricing tools upon existing GLMs.
AI-based GLMs can analyze vast datasets containing policyholder information, historical claims data, and external factors. This way, you can easily identify and quantify various risk factors more accurately as opposed to using traditional methods. You can refine your risk assessment and pricing models, resulting in more precise premiums.
The third stage would be the implementation of robotics into the pricing process. In insurance, robotics can handle repetitive tasks such as collecting customer information, extracting data in claims, performing background checks, consuming and analyzing external market data, and so on.
Robotics would provide the ability to continuously update all parameters required for their price processes. According to statistics, it improves new business profitability, premiums by 10-15 %, and retention by 10-12%.
The best time to start with digital transformation was yesterday
Digitalization can be quite challenging, but it gets a lot easier when you have the right partner by your side.
At Vega IT, we have significant experience working with InsurTech companies and traditional players as well (e.g. carriers, traditional insurance companies). We understand the unique complexities of the insurance industry and have a team of domain experts who know your niche like the back of their hand. Don’t fall behind: contact us today or check our case studies here.
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