Rising interest rates could boost insurers
Commercial insurers could see higher investment income and changes in exposures due to recent and expected U.S. interest rate hikes aimed at curbing inflation.
It also remains to be seen whether monetary policies will have the desired effect on the economy as policymakers press ahead with plans that appear directionally in sync but indicate some differences.
On March 16, the Federal Open Market Committee of the US Federal Reserve raised the target range for the federal funds rate by a quarter of a percentage point to 0.25% to 0.5% and said it “expects that continued increases in the target range will be appropriate,” with one committee member dissenting and in favor of a half-point increase.
Roland Eisenhuth, an economist and assistant vice president of policy, research and international in Chicago for the American Property Casualty Insurance Association, said higher interest rates will have a profound impact on the economy. global,” and this action could also impact the P&C insurance industry wherever it relates to the wider economy.
Potential increases in investment returns from higher interest rates could help offset any downward pressure on stock market valuations, Eisenhuth said.
However, higher interest rates could also reduce demand, causing people to buy fewer cars or homes, which could slow the growth of P&C insurers’ exposures.
Ludovic Subran, chief economist for Allianz SE in Munich, sees a potential opportunity for insurers in interest rate hikes.
Rising rates could present “a good opportunity to reinvest portions of portfolios” at higher yields, he said.
“It’s quite positive because the rate hikes mean that profitability will increase on the asset side as we are primarily invested in bonds,” Subran said of commercial insurers.
Raising interest rates to curb inflation also benefits insurers struggling with claims inflation, due to things like rising construction material costs, he said. The P&C insurance industry will “welcome” rate hikes to help curb claims inflation, he said.
Allianz’s “base case” includes six rate hikes this year, the first of which has taken place, and three next year, Subran said.
In April, Swiss Reinsurance Co. Ltd. raised its Fed Funds forecast to six rate hikes this year from four, for a total of 200 basis points, implying potential hikes of 50 basis points at some Fed meetings. In addition, Swiss Re expects the Bank of England to hike rates five times instead of four and the European Central Bank “likely to exit negative interest rates by the end of the year”. .
“Further rising inflation from already high levels will likely see major central banks raise interest rates faster and more forcefully,” the reinsurer said as it revised its forecast.
Michel Léonard, chief economist at the Insurance Information Institute in New York, said the Fed was looking to end the year at around 4.3% inflation, down from current levels closer to 8%. “We have a very clear direction. We know that inflation will go down and growth will go down. It’s very clear and helpful,” he said.
Indicators such as shipping container futures markets show a slowdown in demand, Leonard said. Trading in these futures “gives us an idea of where this is going to go and there is light at the end of the tunnel when looking at futures for container rates, and the worst is behind us”.
Although the III sees the US inflation rate hitting Fed targets, Leonard said it could pick up in the first or second quarter of next year rather than by the end of the year. ‘year. “Our view is that the Fed numbers are doable, but quite quick and steep. The question is how fast this happens.
Federal Reserve Bank of New York President John C. Williams, who is also vice chairman and a permanent member of the Federal Open Market Committee, said in recent public comments that in the face of rising inflation but otherwise to strong economies, the Fed and other central banks moved away from the “extraordinarily accommodative” stances they had taken in early 2020. The Bank of England began raising rates in December, followed by the Bank of Canada in March.
Other Federal Reserve officials have advocated a range of slightly different policy alternatives along the way. On March 18, two days after the Fed’s initial quarter-point hike, St. Louis Federal Reserve Chairman Jim Bullard released a statement explaining his dissenting vote in which he called for a hike in a half point.
“In my view, raising the target range from 0.5% to 0.75% and implementing a plan to reduce the size of the Fed’s balance sheet would have been more appropriate actions,” the statement said.
Supply chain shortages and high demand drive current inflation
Although rising interest rates have long been used as a cure for rising inflation, some experts warn policymakers should tread carefully.
The causes of inflation today are not the same as those of the past, they say.
“The inflation we have now is different. It’s not driven by the same drivers,” like oil prices in the 1970s, said Michel Léonard, chief economist at the Insurance Information Institute in New York. .
Today, inflation in the United States is fueled by shortages in the supply chain and very strong demand in certain sectors, such as used cars. “It’s inflation driven by an economy that is recovering and doing well,” said Leonard. “Will raising interest rates have the desired impact at the desired scale?
For example, “what will rising interest rates do for supply chain delays? Not much,” he said.
“If we believe that a tightening of monetary policy could solve the supply chain crisis in China, of course that is wrong,” said Ludovic Subran, chief economist at Allianz SE in Munich. He also sees some strength in the U.S. economy, in part due to stimulus payments during the COVID-19 pandemic.
The Federal Reserve’s desire to “come out big” and control the political narrative of the situation must also be carefully managed, Mr. Subran said. Taking too heavy a hand could result in recessionary conditions.
“The Fed as a lender of last resort to the United States and the world” has increased in importance and complicates monetary policymaking, he said.