Social inflation is an increase in claims costs — even higher than the natural effects of economic inflation. This phenomenon is often attributed to elevated legal costs and shifts in responsibility for handling risk. While it often creates higher payouts for insurance holders, it can also mean increased monthly premiums.
Social inflation is a figure on the rise. Some research estimates that social inflation has risen as much as 14% from 2010 to 2019. It impacts liability insurance, medical malpractice, and other fields where juries decide on plaintiff compensation.
The Driving Factors of Social Inflation
Social inflation doesn’t come from a single factor. Several key factors — including higher legal fees and inflation — have seen social inflation evolve over time.
Here are some other driving factors of social inflation:
- Changes in public sentiment: Public opinion can widely affect social inflation. For example, growing compassion for plaintiffs can sway more juries to award payouts.
- Aggressive litigation strategies: Some attorneys have learned to be more aggressive when pursuing a payout for their clients. For example, they might file more than one lawsuit to maximize their chances for a reward.
- Media influence: High-profile court cases now receive regular, ongoing media attention. This attention gives increased visibility, and decreases stigma, for plaintiffs seeking punitive damages.
- Economic conditions: In the face of economic challenges, some people might be more likely to recoup damages or financial losses through legal action.
These factors make it even more important for companies and policyholders to guard against rising premiums and payouts.
Impact of Social Inflation on Insurance Premiums
Insurers raising rates is a clear result of social inflation. To compensate for higher payout amounts, insurers find ways to pass costs to consumers. Many of these awards come from litigation cases like personal injury, medical malpractice, or claimed emotional distress. Higher payouts for a few plaintiffs can mean higher rates for many other policyholders.
Effects on Claims and Loss Reserves
Social inflation can quickly impact insurance companies’ financial success. Higher claims costs mean more money is awarded in legal payouts. The size and frequency of these payouts can deplete loss reserves and threaten providers’ financial stability.
More claims also force insurers to pay more in legal fees. Increased legal spending can compromise profitability, particularly in cases with higher potential payouts or more complex issues.
Challenges Faced by Insurance Companies
Maintaining profitability is only one challenge insurance companies face from social inflation. Providers also face increased uncertainty in their continued efforts to cover customers. Rising payout numbers can cloud a provider’s ability to forecast future revenue. This impacts their ability to predict costs and pursue a consistent roadmap for success.
Insurance companies also face issues in managing claims. Elevated jury payouts, aggressive litigation, and other factors can make claim satisfaction an ongoing challenge. Insurers need the right tools to effectively manage complex customer claims, particularly when legal battles ensue.
Strategies to Mitigate Social Inflation
Insurance companies are finding new ways to navigate social inflation. This often means better strategies for monitoring claims as soon as they’re made. It also means tracking social inflation trends as they evolve.
Providers are also investing in comprehensive risk analytics solutions. These programs help insurers better understand patterns in submitted claims and payouts. This information can inform policy pricing, customer satisfaction, and risk management efforts.
Better risk analytics also creates better reporting. Reporting gives stakeholders, executives, and employees equal access to the numbers behind an insurer’s performance. It can help staff understand areas of growth and opportunities for improvement. For many insurers, reporting allows entire teams to identify new insights and implement changes in the way they operate.
Data reporting often involves data visualization — charts, graphs, and other information displayed graphically for context. This capability gives insurers and their teams the ability to learn from data without spending hours analyzing it.
The Role of Reinsurance in Addressing Social Inflation
Reinsurance allows insurers to transfer some of the financial risks they face. Secondary insurance companies, or reinsurers, can handle some or all risks associated with social inflation.
Using a reinsurance strategy doesn’t eliminate risk. Instead, it redistributes risk between one or more supplementary insurers. This helps insurance companies avoid situations where massive payouts come from a single provider. It can also lead to more accurate claims and financial reports since large-scale claims are less likely to derail results.
Some insurance companies use reinsurance as a method of increasing their underwriting capabilities. Insurers can accept more policies if they actively transfer a portion of every policy’s risk to a reinsurer. This allows providers to avoid limitations that social inflation might otherwise impose on total policy counts.
Regulations and Legislation to Curb Social Inflation
Government intervention can also influence social inflation. For example, they can introduce various legislative motions or policies that reform the way claims are made. Policies can also help reduce the total size or number of claims made against a particular insurance provider.
Some government initiatives begin with consumer education. Policyholder training should explain customer rights, and restrictions according to individual policies. This education may help reduce the number of frivolous or time-wasting lawsuits an insurer faces. Reducing the number of lawsuits, even unsuccessful ones, saves insurers valuable money otherwise spent on legal defense.
Other government influences could more tightly control how an insurer acts on a policyholder’s behalf. This might mean that an insurer must disclose more information when creating a new policy or processing a claim. More insight into a provider’s claims process could help customers avoid claims filed because of a personal oversight.
Regulatory bodies could also make a habit of collaborating directly with insurance providers. This collaboration would allow governments to better understand how social inflation might influence insurers’ bottom lines — and policyholder premiums. It would also allow task forces to create regulations that operate in the best interest of both insurers and the customers they protect.
