Two weeks ago, the Bank of Canada raised its key rate by one percentage point to 2.5% to contain inflation, the largest increase in 24 years. Inflation in Canada hit 8.1% in the year to June, its highest level in nearly three decades. Meanwhile, the consumer price index in the United States hit 9.1% in June, a 41-year high that could lead to equally aggressive tightening by the US Federal Reserve.
Swiss Re cut its forecast for annual GDP growth in the United States to 2.0% this year, from 2.8% in June. He also predicted GDP growth of just over 1% in the United States in 2023 amid tighter financial conditions and slower consumption.
The reinsurance giant also expects the Fed to raise funds rates by 3.50 to 3.75% as the central bank fights inflation. Higher interest rates will gradually bring benefits to insurers, but the short-term effects pose challenges.
“Long term, there is a gradual increase in investment returns, so that’s a positive impact [for the insurance industry]. But the immediate impact is that bond portfolios lose value on a market-to-market valuation, so there is some strain on insurance company balance sheets with falling stock indices and interest rates. rising interest,” noted Holzheu.
The biggest shock to the insurance industry comes from claims costs. Soaring property prices will continue to put pressure on underwriting profitability. In its outlook for July, Swiss Re predicted a combined ratio above 100% in 2022 for the US P&C insurance industry due to inflation.
Motor insurance remains among the most affected branches. Supply chain issues that began during the pandemic will continue to drive high costs for used cars and spare parts. Holzheu explained, “The cost of auto repairs, and therefore auto insurance claims costs, will continue to rise due to rising material costs and supply chain disruptions.
“The other sector particularly affected is the construction sector. Part of this is also related to rising material costs and supply chain issues. But there is also very strong demand for housing and home repairs – additional demand during and coming out of COVID [lockdowns] it was unusual. Cost pressure is very high in 2022, but this is also expected to continue next year. »
Regarding accidents, Holzheu pointed to wage inflation, healthcare costs and a tight labor market as the main drivers of claims costs. Rate hikes are likely to persist as insurers try to catch up with soaring prices.
“We expect the rate increases we have seen for commercial lines over the past two years to continue. In personal lines, where rising claims costs are more recent, we are also seeing an acceleration in U.S. rate filings,” Holzheu said. Swiss Re pegged premium growth at 8.0% for the year, but said growth would slow to 6.3% in 2023 as the United States enters a likely recession.
Mergers and acquisitions in the insurance industry have accelerated amid the pandemic. Forecasts for more deals this year were optimistic after an upbeat 2021: Total deal volume rose 40% year-on-year according to Deloitte research, as insurance companies thrived amid the pandemic and sought to diversify their operations.
While it’s difficult to predict the impact the impending recession could have on M&A activity, Holzheu noted that times of economic uncertainty typically sow the seeds of consolidation.
“A period of high financial volatility does not lend itself very well to executing trades. But later on, if balance sheet stress develops due to market disruptions or underwriting costs, that usually leads to further consolidation and strategic reorientation,” he said.