Andrew Scott shows how, as new technologies emerge with potential to monitor and encourage healthy living, shared-value insurance is beginning to shape the future of insurance globally
Shared-value insurance is emerging as a product category that is shaping insurance structures around the world. The business model simultaneously provides material benefits to members, insurers and society; and is being scaled through a network of leading global insurers who are using the model in their markets to transform their offerings, and the health of their members.
We make profound cognitive errors about how long we will live, how healthy we are and what will kill us. While people seek better health, many do not act accordingly. The reason lies in a simple paradox: people over-consume healthcare but under-consume prevention. This is because at the point of care (with insurance or single payer systems), the total cost of healthcare is hidden, while many benefits are immediate and evident, leading to over-consumption.
On the other hand, with prevention, the price is immediate and evident (go for that dreaded run, avoid that desirable food), whereas the benefits are only evident in years to come, leading to under-consumption. Behavioural economists now know well the power of instant gratification and our inherent over-optimism. We tend to be our own worst enemies when it comes to decisions about our health, with significant implications for the societal cost of healthcare.
Insurance also faces new opportunities in the form of disruptive technologies and increased customer expectations of the role of institutions in society. New technologies are emerging, with potential to enable individuals to live longer, healthier and more independent lives. In addition, social expectations of institutions have increased, given the financial crisis and the growing influence of millennials. This generation demands that organisations act not only as profitable entities but as purpose-driven ones too. Innovative approaches are required to take advantage of the emerging technologies and to build businesses with social impact.
Of all industries, the insurance industry has a unique opportunity to align its commercial interests with making society healthier. Insurers, with government, are the only stakeholders that directly 'monetise' better health, reduced sickness and fewer deaths, because all of these translate into higher profits. Yet traditional insurance models do little to recognise the behavioural nature of risk, let alone to be proactive in promoting and incentivising better health. Indeed, existing life insurance systems are based on the idea that risk is static, with underwriting taking place once, at policy inception. But, with sickness and mortality now overwhelmingly caused by lifestyle choices that are dynamic over a customer's lifetime, this approach no longer makes sense. The case for disruption is strong.
A virtuous cycle
What does make sense is to make people healthier, and since this leads to increased profits, some of these profits could be used to provide incentives to customers to make healthier choices, fuelling a virtuous cycle of value creation and health improvement.
This requires a business model that addresses the shortcomings of human behaviour and insurance design, integrating the two into a powerful form of insurance that actively promotes health. Vitality shared-value insurance, now used by a network of leading insurers across the globe, is one such approach. Vitality shared-value insurance supports, incentivises and rewards people for improving their health and prices insurance risk dynamically over the course of the policy, which results in material benefits that are shared between members, insurers and society.
The result is a structural transformation of insurance - additional economic value is unlocked, creating benefits for the member (less risk, more years of life), the insurer (reduced claims over time) and society (healthier, more productive citizens). What makes the model unique is that there are no trade-offs. This form of shared-value insurance is accepted as an exemplar of what Harvard management guru Michael Porter coins a "shared-value" business model - addressing social needs, profitably. Porter argues that business models such as these are less a "nice to have" than an imperative for long-term growth, particularly in today's age, where civically minded millennials will only endorse institutions that respect both profit and purpose.
The World Economic Forum contends that we are on the cusp of a fourth industrial revolution. This will build on previous technological inventions and will be characterised by cognitive computing advancements in artificial intelligence and predictive analytics, and smaller, more powerful and cheaper sensors. These advancements underpin many new innovations, including self-driving cars, robots, virtual reality and connected homes.
Shared-value insurance is uniquely positioned to incorporate these technologies, so that new technology is a positive catalyst to, rather than a disruptor of, an established business model. One leading example is the explosion of wearables and smartwatches in the marketplace. Often linked to a smartphone, these devices allow people to passively quantify their health status. With the technologies becoming more personal and predictive, tailored and context-specific recommendations can be delivered to individuals to facilitate healthy behaviours.
Implications for actuaries
Since its inception, insurance has played an important social role through the pooling of resources to protect against uncertainty, from the exchange of information in Edward Lloyd's coffee house to the more specialised and sophisticated varieties of protecting people's health, life and property. In this tradition, shared-value insurance responds to new challenges with a definite social purpose. Actuaries have always been at the forefront of industry innovation and are ideally positioned to engineer these products for maximum impact. Already, shared-value insurance has been extended from life and health insurance to short-term insurance, where it promotes and incentivises better driving behaviour; as well as showing promising applications in investments and banking.
From an actuarial perspective, shared-value insurance products are characterised by three key attributes: they promote, track and incentivise positive risk behaviour; capture actuarial surplus from better risk behaviours; and share part of the actuarial surplus with policyholders to incentivise better risk behaviour. Given the combination of these attributes, the model calls for new analytical methods in shared-value insurance, which relate morbidity and mortality outcomes not only to static rating factors but also the relationships between incentives, behaviour, risk outcomes and uplift in economic value.
In shared-value insurance, the economic value created per member is a function of the incentive for a member, which is associated with a change in behaviour for the given incentive, which is further associated with an improved risk outcome given the change in behaviour, which is finally associated with a valuation uplift given the improved risk outcome. This should more than offset the cost of the incentive to reflect a 'sharing' of surplus between the insurer and the member. Optimal product design and pricing requires that diverse insights from behavioural economics, epidemiology, psychology and actuarial science be brought together in models designed specifically for shared-value insurance.
To enjoy the triumph of longevity and address the cognitive biases that prevent us from making healthy choices, innovative approaches are required that suit 21st-century customer expectations. Shared-value insurance enables this, and presents a tremendous opportunity to the industry to establish a new model that is appropriate to the evolving role of technology in insurance and business in society.
Andrew Scott leads strategic initiatives across the Vitality Network