When the Music is Playing, You Have to Keep Dancing

Specialist actuarial services firm, Retender, has released a paper which considers the sometimes-opposing forces of regulatory reform and competition within Australia’s insurance and superannuation sectors, while a second paper calls for a radical re-think of life and trauma insurance products.


The first paper, called When the Music is Playing, You Have to Keep Dancing, commences by referencing conventional thinking that there is usually an invisible hand at play that brings markets into equilibrium:

This thinking was behind the concept of laissez-faire, the favoured policy in the lead up to the 2007-2008 financial crisis whereby governments should interfere as little as possible in the workings of the free market and rely on the market to self-correct. What’s clear in hindsight, and a lesson that repeats itself over time, is that there are certain situations where the market cannot be relied on, where the laws of competition and rational choices don’t behave the way that simplified economic or actuarial models predict.

Drawing on the analogy of music and dancing, the paper argues that when the music stops, things can become complicated, but as long as the music is playing, there’s a need to keep dancing. This is the picture that is painted in describing how insurers and reinsurers, despite having to continually set aside billions of dollars in reserves which impacted returns year after year, continued to write loss-making products until APRA’s IP intervention emerged as a circuit-breaker.

In doing so, however, the paper asks whether the pendulum of government policy has swung too far in the direction of regulatory intervention.

The solution to the conflict between stability and competition

The paper asserts the unintended consequence of having the competition pendulum swing too far to the side of regulatory intervention is the cost which is ultimately imposed on consumers when both supply and competition is reduced.

The paper calls for a solution to what it considers the imbalance between free market forces and regulatory reform currently impacting both the life insurance and superannuation sectors:

This paper calls for an annual report for government that measures the levels of competition in these two industries, as a way to transparently reflect how the objectives of prudential stability and competition are being balanced in practice

Why were they dancing?

Drilling deeper into cause and effect – and what sometimes might be considered illogical behaviour or decisions, the paper endeavours to articulate a rationale that has seen the life insurance companies continuing to write loss making insurance business – to keep on dancing – while all the profitability and sustainability warning signs were obvious. The answer rests, at least in part, with the implications associated with first-mover status:

To give a simplified example, consider two organisations faced with the following choices in respect of a loss-making product:

  • If they both took action and repriced the loss-making product, they would both stand to increase their profits by $5m;
  • If one took action and the other didn’t, the one who did nothing would end up stealing the other’s customers (gaining market share and ability to reprice) giving the former$10m and the latter $0; and
  • If both didn’t take action, both would carry on losing $5m each on those products.

Correctly pointing out that each competitor needs to make its own independent decisions to avoid collusion, the paper says uncertainty as to what their competitors will do to address such profitability and sustainability issues can lead to irrationality in decision-making, despite the eventual result of those decisions, such as further discounting of first-year IP premiums, being a worse market outcome for everyone.

Called the prisoner’s dilemma, the paper argues this first-mover problem goes some way towards helping explain why, in the end, no individual insurer acted.

Consolidation, market share and size

The make-up of the Australian life insurance and superannuation sectors also comes under the microscope in the paper.

Focussing on the life insurance sector, the paper notes a rule of thumb is that an oligopoly exists when the top five firms account for more than 60% of total market sales. It says that in the life insurance space (once BT’s insurance arm has been absorbed by TAL) the top five insurers will account for more than 85% of the market share.

It argues, though, that too much consolidation may ultimately impact product choice and flexibility for consumers:

The reviewable nature of Australian life insurance means that the limited practical ability to change providers can lock certain consumers into having no choice but to either accept the increases in price or reduce their cover levels to balance affordability. If consumers become captive in this way, and do not have the power to exercise choice themselves because of the nature of life insurance risk, then it is all the more important that competition is nurtured and flourishes at an institutional level to drive optimal consumer outcomes.

The following extract of a table included in the paper summarises the life insurance market consolidation over the last two decades:

Source: Retender paper: When the Music is Playing, You Have to Keep Dancing (the full table also documents estimates of the embedded value multiples associated with the merger activity…)

Balancing the pendulum

The paper says that if the insurance market itself cannot be relied on to self-correct its sustainability issues, there may only be two government intervention options available to address what it refers to as the hot potato, namely APRA and the ACCC – but that neither of which would act, because of their respective agendas, to balance the pendulum:

Ideally owning the challenge is APRA but there is a conflict between prudential stability and competition. Its purpose statement is to ‘balance the objectives of financial safety and efficiency, competition, contestability and competitive neutrality and, in balancing these objectives, is to promote financial system stability in Australia.’ Competition is secondary to prudential stability, not the other way around. So, APRA do not own the government role for ensuring competition.

The ACCC is the other body but whose involvement in this particular space appears to be primarily related to sizeable merger assessments rather than through ongoing engagement with industry. Their role states that ‘We focus on taking action that most promotes the proper functioning of Australian markets, protects competition, improves consumer welfare and stops conduct that is anti-competitive or harmful to consumers.’ Here, prudential stability is ignored which would potentially pendulum the problem too far away from balance.

The beginning of the answer

To balance these two differing sets of guiding principles, Retender advocates what it says is a simple proposal to take a first step towards a better outcome for consumers.

Arguing that ‘what gets measured gets done,’ Retender proposes that government request an annual report, ideally from APRA, which sets out how competition is being considered in the insurance and superannuation industries on an annual basis.

In making this call, Retender references a precedent for such reporting that is undertaken by the Prudential Regulation Authority in the UK, in which a number of areas are considered, including the extent to which different-size firms exist within the sector and the benefits to competition of having a scaled range of institutions successfully operating within it:

This thinking is critical to ensuring that innovation can take place, where a one size fits all approach which can only be implemented for the scale players isn’t allowed to become standard.

The Retender paper concludes that an annual report for government will take that first step to transparently reflect how the objectives of prudential stability and competition are being balanced in practice to seek the best outcomes for consumers.

Click here to access the full Retender paper: When the Music is Playing, You Have to Keep Dancing.

The author of this paper is Retender Managing Director, Ilan Leas. Ilan has written a variety of articles and presented at a number of conferences (including ASFA, FSC, AIST and the Actuaries Institute) on members reasonable expectations, the group risk market, longevity, reinsurance and the future of life insurance.

Call for Radical Re-think of Life, Trauma Products

Specialist insurance risk firm, Retender, has released a discussion paper in which it challenges the industry to reconsider how life insurance and living insurance products might be re-designed if the sole measure of success was the lowest possible number of declined claims:


With the ultimate goal of generating greater certainty and trust in the mind of the consumer, the basis of Retender’s rationale lies in considering the re-design of life insurance products around two critical elements:

  1. A claim must be able to be objectively measured
  2. An actual financial loss must have occurred

According to Retender MD, Ilan Leas, the paper, called ‘The Thanksgiving Turkey‘, is intended to challenge current thinking by exploring the nature of declined risk product claims with a view to advancing a concept – as a thought experiment – about how insurers and government might rethink the design of life risk products to achieve a different outcome.

The paper reflects on the volume of declined claims across the range of Death, TPD, Trauma and DII products and asserts one of the key reasons for the number of declined claims rests in the subjective nature of whether the illness or accident has met the definition required to successfully claim.

The paper argues that the more subjective the claims criteria, the higher the decline rates, before asking the key question: “So, what if, as a thought experiment, we defined our most important criteria for life insurance being the lowest level of decline rates?” It says the first part of the answer may lie in increasing objectivity, which then leads to the paper’s call to structure a new era of risk insurance products around the ability to objectively measure the claim and for financial loss to have occurred:

Coming back to the principle of financial loss, this is the reason for buying insurance (as opposed to receiving a windfall benefit). So, consider if life insurance disability products leaned more into the health insurance and trauma severity-based space and only paid benefits linked to a clear financial loss.

In considering trauma insurance through this lens, the paper asks:

So, rather than a windfall lump sum benefit, what if our Trauma products could instead link to the expenses actually incurred due to the condition in question?

The paper notes in its proposed model that there would be no severity-based definitions or limits on replacement ratios but rather, if the claimant ha­s had a condition on the list, they have purchased insurance to recover their actual costs – up to their sum insured.

The paper provides more detailed backgrounding and rationale around its proposed re-think on developing true-to-label and sustainable life and living insurance products, and it also acknowledges there must be additional effort and potentially alternative solutions developed when it comes to insuring mental health and some musculoskeletal conditions.

Emphasising the critical importance of rebuilding consumer trust, the paper concludes with this reflection:

Trust is keeping a promise, so there is an argument that the surest way to rebuild this relationship is for every person purchasing insurance to have full confidence in the outcome, not relying on fate, nor probability…

Click here to access Retender’s ‘The Thanksgiving Turkey’ thought experiment discussion paper.

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