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Role of insurance industry in economic growth of Pakistan

IMPORTANCE OF INSURANCE

Broadly, there are two main channels through which the insurance sector can help the economic and social development of a country: first, by reducing uncertainty, and second, by generating long-term financial resources. Through the first channel, a well-functioning insurance sector facilitates the investment decision-making process and enables businesses to continue operating even if catastrophic events (such as earthquake, floods, and severe weather conditions, etc.) hit the economy. The latter, in turn, provides some protection to households by reducing probability of job and income losses. A developed and healthy insurance industry also protects households from any major financial losses resulting from idiosyncratic shocks such as fires, thefts, illness, accident and death, etc.

The second channel, i.e. increasing supply of long-term financial resource, plays a vital role in economic development. Funds generated by the insurance industry are mainly invested in other financial instruments; especially in government securities, stocks, corporate debt and long-term certificates of deposits issued by other financial institutions. The insurance sector also plays a supportive role in the development of other financial institutions and markets. For example, both availability of funds and insurance facility, allow financial intermediaries to enter into new markets.

From 2001 onwards, the insurance sector saw a consistent improvement in terms of structure and growth. Macroeconomic stability and high economic growth played a vital role in this regard. Specifically, higher per capita income, expansion in trade sector, and the growing private sector credit spurred the exceptional growth in the insurance sector. Importantly, this growth was broad-based, as both the life and non-life insurance sectors witnessed double-digit growth although life insurance sector continues to dominate the insurance industry.

The concept of life Insurance has evolved from a primary emphasis on conventional insurance protection to a relatively advanced form of a savings product. Life insurance products enhance the role of insurance in an economy by helping in the: (1) mobilization of savings; (2) development of capital markets; and (3) facilitation of the pension system. Specifically, by entering into life insurance contracts, individuals or groups of individuals can save and invest effectively for long periods of time. Life insurance companies pool the periodic premium payments into huge investment portfolios of long-term securities, which in turn provide a stimulus for the development of the capital market. Also, the introduction of attractive pension products partly shifts the role of the government for pension provision to the private insurance sector.

 

While most people do not like to discuss insurance considering it as an unpopular topic, insurance does benefit our economy in following ways:

  1. Makes businesses safer
  2. Stimulates the economy
  3. Eases business transactions
  4. Provides recovery
  5. Protects assets/purchases made by customers

The indemnification and risk pooling properties of insurance facilitate commercial transactions and the provision of credit by mitigating losses as well as the measurement and management of non- diversifiable risk more generally. Typically, insurance contracts involve small periodic payments in return for protection against uncertain, but potentially severe losses. Among other things, this income smoothing effect helps to avoid excessive and costly bankruptcies and facilitates lending to businesses. Most fundamentally, the availability of insurance enables risk averse individuals and entrepreneurs to undertake higher risk, higher return activities than they would do in the absence of insurance, promoting higher productivity and growth.

On the investment side, due to the long-term nature of their liabilities, sizeable reserves, and predictable premiums, life insurance providers can serve an important function as institutional investors providing capital to infrastructure and other long-term investments as well as professional oversight to these investments. Of course, these benefits are fully realized only in markets where insurance providers invest a substantial portion of their portfolios domestically.

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