A Financial Powershift Toward Insurance Companies?

The assessment of Dr. Nikolaus von Bomhard, CEO of Munich Re, the world’s biggest reinsurance company, in an October 15, 2008 Reuters article by Christian Kraemer states: “The credit market crisis will shift the balance of power within the finance industry towards insurers and away from banks because insurance companies have a better business model.”

Located in Germany, Munich Re has subsidiaries throughout Europe and North America. After observing the challenges affecting banks and mortgage institutions both at home and abroad, von Bomhard is confident Munich Re “is stable and well-capitalized – despite the market turmoil.” In fact, von Bomhard believes that most insurance companies “will emerge stronger from the crisis.”

According to von Bomhard, there are two reasons insurance companies should continue to survive – and thrive – in tough economic times.

First, insurance companies have a superior track record when it comes to evaluating investment risk. In the Reuters article, von Bomhard stated that many banks’ business models were based on unrealistic profit expectations, and in an attempt to meet those expectations, some institutions took more risks. But because banks did not have appropriate risk management systems in place to accurately assess their investments, they “blindly relied on the judgment of outside credit agencies.”

A second factor that favors insurance companies is what von Bomhard calls “sustainability.” The emphasis for insurance companies is long-term returns within the context of being able to pay claims. “Insurance is a promise for the future,” says von Bomhard. “Its business model is built on fulfilling obligations from insurance contracts on a durable – in other words, sustainable – basis.” In contrast, von Bomhard sees banks as too often oriented toward short-term results.

In an October 8, 2008 press release following the fallout from the financial crisis, von Bomhard said “major losses or crises like the present one are also a test for our business model. And we are passing this test.” While von Bomhard has an obvious interest in trumpeting the strength of insurance companies, his comments have some academic support as well. In his 2006 book Money, Bank Credit, & Economic Cycles, Spanish economist Jesús Huerta de Soto provides the following assessment of life insurance companies relative to banks:

The institution of life insurance has gradually and spontaneously taken shape in the market over the last two hundred years. It is based on a series of technical, actuarial, financial and juridical principles of business behavior which have enabled it to perform its mission perfectly and survive economic crises and recessions which other institutions, especially banking, have been unable to overcome.

By the way: As an example of the way things might be different if this financial shift occurs, von Bomhard said, “In my view, life insurance is going to experience a renaissance because it is secure.” De Soto concurs, calling life insurance “a form of perfected savings.