Reinsurance country report: China - Taming the dragon

Chinese dragon

A strict regime and a fierce response from local insurers have limited international reinsurers success in China - so will the latest developments be another false dawn? Jem Golden reports

The international (re)insurance community can be excused their polite scepticism about the impact of the sweeping legislative changes in China that came into effect from 1 October 2009 and the opportunities that the newly-amended Insurance Law can provide for expansion.

Foreign (re)insurers have been here before with deregulation in 2004. Liberalisation was hard won from the Chinese authorities but six years later the huge promise from entering a dynamic market in the world's fastest growing economy and with a deeply 'financially literate' population, has barely materialised on the level hoped for, at least not for the outsiders.

According to the latest figures from the China Insurance Regulatory Commission (CIRC) as of October 2009, there were 52 foreign life and non-insurance companies. Foreign companies generated premium income of $5.31bn during the first 10 months of 2009, representing just 4% of the total premium and around 1% share for non-life business.

Restrictions on where foreign insurers can operate continue; limited to cities where branch offices are established and bureaucratic approval for new branch offices is slow. As a result, most branches are concentrated in Beijing, Shanghai and Guangzhou. Foreign companies have tried to use local Chinese insurers in other cities where they do not have a branch as a 'fronting company' but on the whole this has been unsuccessful.

But geographic limitations are not the only reason for the poor returns. Foreign insurers have been surprised by the fierce and sustained local response by Chinese insurers to their 'invasion'; fighting back with skill and product innovation - and in this case bureaucracy smoothing, not obstructing their path.

A report last year by Pricewaterhouse Coopers, Foreign Insurance Companies in China, based on a comprehensive and detailed survey, noted that: "For the first time foreign insurers have identified the key driver of change in the marketplace as the domestic insurers. The scope and momentum of the domestic insurers (is apparent). Companies such as Ping An, China Pacific Insurance Company and People's Insurance Company of China (PICC) frequently came at the top of the list."

The intensely competitive cut and thrust has led to a rate cutting war even in sectors where one would have expected rates to climb, and in which foreign companies do not want to get caught up as it will hurt the bottom line. There were a series of natural disasters in 2008 including catastrophic snowstorms and an earthquake in Shenzhen, yet the pricing of catastrophe risks actually declined in 2009.

Foreign non-life insurers are mainly supporting foreign multinational clients in China as part of their global account and promoting quality of service including risk management and loss adjusting.

McLarens Young International, the global loss adjuster, has been operating in China for four years, initially in co-operation with, now in a JV with, a locally licenced adjusting company and covers a wide range of sectors including manufacturing, construction, energy including all types of power plants, petrochemicals, and leisure/hotel. MYI acts in a supporting capacity to foreign insurers servicing multinational clients in joint ventures with Chinese partners or as wholly-owned entities.

Iain Mellors, MTI branch manager in Shanghai, enthuses about the enormous infrastructure and energy projects happening: "From a business challenge point of view, the scale of construction is staggering and enormously exciting, an opportunity that we, as loss adjusters, dream about getting involved with."

The paperwork required by insurers from the loss adjusters on a recent joint venture petrochemical project was a highly technical report detailing every step of the adjustment, which Mellors calls with amusement a "labour of love", and which he believes was beneficial as learning material for a relatively young market. The tower of documentation intended to show that they were getting 'good value for money'.

Through the newly-amended Insurance Law, tighter controls are likely across the board including solvency, risk management, corporate governance, consumer protection and product supervision and pricing, partly but not wholly related to the global financial crisis.

Clarence Wong, Swiss Re's chief economist for Asia, says: "Insurance regulations in China continue to converge with global best practices. For example, the supervision of insurance solvency is increasingly based on the risk profile of insurers rather than only on their scale of operation. Recent changes in financial reporting of insurers also point to alignment with the IFRS. The Chinese insurance regulatory regime is still evolving but in a predictable path toward convergence with global best practices."

The law provides greater access to the foreign reinsurers in theory. It removes the current requirements that reinsurance cessions be offered first to domestic reinsurers.

King & Wood, a full-service law firm in China, outlines the changes: "The previous Article 103 of the Insurance Law, which provided that an insurance company that needs to cede reinsurance business shall give priority to insurance companies established within China, has been removed in the amended law. This step is consistent with China's commitments for entry to the World Trade Organization.

"However, the Provisions on the Administration of Reinsurance Business specifically require that a direct insurer, when handling contract reinsurance and temporary reinsurance to reinsurers, must offer to at least two professional reinsurers in China no less than an aggregate of 50% of the risks to be reinsured before it can offer such business to overseas insurers. It remains unclear if and when the CIRC will abolish the 50% rule to reflect the spirit of non-discrimination against cross-border reinsurance business under the amended Insurance Law."

Global reinsurers, including Swiss Re, Munich Re and Scor, have long held bases in China, albeit mainly concentrated on underwriting joint venture projects in energy - both conventional and alternative - for which the foreign partner would need to provide underwriting guarantees from their global partners.

Alternative energy projects have taken off spectacularly in recent years. From January 2008 to March 2009, the Clean Development Mechanism (CDM), part of the United Nations Framework Convention on Climate Change grew steadily to about 1,730 projects, and 800 projects entered the pipeline since January 2008. The largest volumes of annual emission reductions come from hydro and wind energy projects, while a handful of supercritical coal initiatives have emerged.

The vast international infrastructure and construction projects - including the flagship $5bn, 38km bridge to link Guangdong province to Hong Kong and Macau - have strong participation by the multinational reinsurers.

Swiss Re's Wong says: "China has been able to offset the negative impact of the global crisis by means of supportive fiscal and monetary policies. Strong growth in domestic consumption and investment has largely offset the drag on GDP growth from shrinking exports.

"Part of the construction boom will linger on into 2010, as a result of the long lead time in some projects. However, government policies indicate that the bulk of the 2010 fiscal package will be shifted from infrastructure to healthcare and education. This will imply that demand for insurance/reinsurance in relation to infrastructure construction will largely return to the trend level later in 2010".

 

Growth areas

Agriculture and product liability reinsurance are two dynamic growth areas. In 2007, the Chinese government decided to introduce agriculture insurance and to subsidise insurance premiums in order to support the sector and to contribute to food security concerns. The key insurance product is multi-peril crop insurance (MPCI) for main crops like rice, wheat, corn and soybean and all major natural perils (typhoon, flood, drought), as well as pests and diseases.

For livestock, the insurance policy covers disease, accidents, fire and natural perils. Forestry insurance has also come up recently.

Agriculture insurance premium is estimated at $2.5bn for 2009 and is expected to grow to $3bn in 2010, making China the second largest market after the United States.

Chinese insurers mainly buy agricultural reinsurance from the state-owned China Re. In a few provinces local governments also provide reinsurance protection to insurers.However, due to the considerable growth in national crop and livestock programmes, most insurers started to use the international reinsurance markets for non-proportional capacity.

Additionally, some provincial governments also approached reinsurers to protect their own exposure to local insurers in case of catastrophe type losses.

Foreign (re)insurers and multinational brokers are starting to find that Chinese companies that are beginning to globalise want to have relationships so as to access their international expertise and pricing power.

Demand for product liability lines across a range of different, fast-moving consumer goods categories, which are mainly marketed in China at present by foreign (re)insurers, is also increasing as more Chinese manufacturers set up plants abroad and are exposed to potential lawsuits and product recalls. The recent Toyota problems vividly highlighted this.

Ironically, foreign re(insurers) arrived in waves in China decades ago to capitalise on the opening up of the retail market. Major success on the retail front has proved elusive, while the internationalisation and expansion of Chinese business overseas is now considered worth chasing.

Constraints on multinational reinsurers

• Entrenched relationships between the primary market and Chinese reinsurers mainly China Re difficult to dislodge

• Price cutting across all sectors of the primary market threaten a profitable business model

• Direct market must offer to at least two professional reinsurers in China no less than an aggregate of 50 per cent of the risks to be reinsured before it can offer such business to overseas insurers (the 50 per cent Restriction Rule).

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