Project on Indian Financial Market Structure
[Source: RBI Report on Currency and Finance 1999-2000 dated January 29, 2001]

Insurance Market Structure

In an increasingly competitive economy, the need for insuring against risks is well recognised. In India, the insurance industry is broadly classified into life insurance and non-life insurance business. The life insurance business has so far been undertaken by the Life Insurance Corporation of India (LIC) and the non-life insurance by the General insurance Corporation (GIC) and its four subsidiaries. The share of insurance in the financial savings of the household sector grew up from 7.6 per cent in 1980-81 to 11.4 per cent in 1999-2000. Despite the state monopoly, the insurance business in rural areas remains underdeveloped. In terms of sum assured for life insurance by LIC, 47.0 per cent of the new business originated from the rural areas during 1998-99. By contrast, only 5.2 per cent of insurance premium of GIC and its subsidiaries was from rural areas during the same year.

Insurance penetration - measured as the ratio of insurance premium to GDP - at 2.6 per cent in 1998 has remained quite low as compared with the world average of 7.4 per cent. The insurance industry in India, so far organised as state monopoly, while contributing substantially in terms of mobilisation of long-term financial savings, has not been able to cover more than 18 per cent of the population. This was due mainly to the absence of competitive pressure resulting in inadequate development of insurance products. While the Government securities dominate the investment portfolio of LIC, market instruments, such as, shares and debentures are important investment avenues for GIC and its subsidiaries.

In the wake of financial liberalisation during the early 'nineties, the Committee on Reform of the Insurance Sector (Chairman: Shri R. N. Malhotra) recommended in 1994 the opening up of the insurance sector to private participation and the institution of a separate regulatory and development authority. Accordingly, the Insurance Regulatory and Development Authority (IRDA) Act was enacted in 1999, and a separate Insurance Regulatory and Development Authority was set up. The insurance sector was also thrown open to the private sector. This has opened up the possibility of developing India's insurance industry on a competitive basis to meet the insurance demand of a socially and economically mobile society and a rapidly changing industrial sector.

With the dismantling of the state monopoly, the emerging structure of the insurance business remains uncertain. However, the nature of the evolving insurance business would certainly influence the market position of various participants. Initially, insurance is seen as a complex product of a high advice and service component in which face-to-face interaction is important. As the products become simpler and awareness increases, they become off-the-shelf commodities, which can be sold through retail counters (e.g., banks), telephones or Internet. However, such transition is a slow process and the importance of the existing distribution channels, particularly in India, would not diminish. Nevertheless, banks, financial institutions and NBFCs may be willing to utilise their existing customer-depositor base for the purpose. While there would be a tendency for the new entrants to eat into the market share of the LIC and GIC in the existing segments, the maximum growth in business is expected to be through building up of niches around new products. Examples of potential niches of new entrants may be:

1. offering creditors' insurance schemes to financial sector players,

2. providing general insurance cover for service sector, which remains under-serviced at present,

3. greater coverage in personal insurance including health, shopkeepers, accident and professional indemnity covers, and

4. providing index-linked returns on life insurance policies.

An evolving insurance sector needs high degree of regulation to ensure solvency of insurers and also the protection of interests of policyholders. The IRDA Act 1999, while allowing private participation including foreign equity participation up to 26 per cent of the paid-up capital, has simultaneously stipulated prudential norms for investments and service obligations in the less-lucrative rural sector.

Both banks and NBFCs satisfying the prescribed criteria have already been permitted to enter the insurance business with prior approval of the Reserve Bank. All banks and their subsidiaries are permitted to undertake fee-based insurance business without risk participation. For risk participation, banks would be required to form a joint-venture company with a normal equity participation of 50 per cent. The Reserve Bank will give permission to banks and registered NBFCs, desirous of entering the insurance business on a case-by-case basis subject to the satisfaction with the laid down criteria. When a foreign partner contributes 26 per cent of the equity with the prior approval of IRDA/ FIPB, more than one bank may be permitted to participate in the equity of the insurance joint venture. NBFCs are also allowed to participate in the insurance business subject to the satisfaction of laid down criteria relating to net owned fund (not less than Rs.500 crore), CRAR, net NPAs, net profits, etc. Banks and NBFCs entering the insurance business have been directed to ensure that 'arms length' distance is maintained between the bank/ FI/NBFC and the insurance entity, so that the risks in the insurance business are not transferred to the parent entity.