P2P Insurance models in blockchain
There is a shift going on in the financial sector. The FinTech industry has witnessed a sharp rise where investments went up eightfold in the approximately 5 years and touched the $20B benchmark and consequently inflicting the traditional companies.The most interesting development in the FinTech industry is, undoubtedly,Blockchain.
Numerous excerpts exemplify that impact of Blockchain on the banking industry, especially payments services and security and commodity trading.
In the insurance industry it can be called Internet of Things, big data and crowdfunding that are widely described.Perhaps this is the reason that the impact of blockchain on the insurance industry hasn’t been a strong point of focus for new innovators especially. Though papers, like the Ethereum white paper and “Chain of a lifetime” put up a variety of detailed examples of new products that could be developed using blockchain technology, but these focus less on new possible business models.
A report from the Dutch National Bank of March 2016 has put forward sustainable future business models within the insurance branch on deep red. Although it seems that the sense of high urgency of new business models is not always present within the traditional insurance companies. They focus majorly on incremental change of the current model instead of disruptive change or even green field set up of a new model.
Benefits to gain
The question that pops-up here is:
“What could be a new model and how could this model be executed?”
And guess what!? We got an answer to this one! A detailed answer!
Blockchain, especially smart contracts, can act as a terrific backbone for a true P2P (peer-2-peer) or crowdfunded insurance model.
In the new business model, the focus of the insurers would divert from asset management to matching supply and demand and to risk calculation research. The insurer would, thus, provide a platform, similar to a marketplace, where customers can post their insurance demand, which could vary from a standardized product to a relatively customized demand.
The insurer then would use its “risk intelligence” and risk models, based on their historical data, to perform a premium calculation to post the expected return, keeping their margin in mind, of course.
After analyzing this premium calculation, the interested investors may either bid or subscribe to the demanded insurance. This can be executed by a group through crowdfunding, or by individuals in a P2P way. These ways depend on the kind of insurance request, the available resources of the investor and his or her risk appetite.
Well! Readers might think that this model resembles the one Lloyd’s have already proposed in the insurance market or the ones companies like Funding Circle have set up in the P2P lending market.
But wait! Here is where blockchain will play a vital role.
Yet the administration is being done in a decentralized ledger, one could still guarantee the payment from the investor to the customer,with the use of smart contracts, in case the event for which the customer posted their insurance demand happens. The smart contract is thus analogous to traditional guarantee, but does not need a bank.
By doing this in a blockchain, the administration and execution processes become relatively less complicated, almost fully automated, completely transparent and cost effective as compare to a traditional set up. Additionally, the investors have an idea of their maximum exposure as the amount defined in the smart contract.
The insurer can also play the role of assessor of the damage to check upon the validity of the insurance claim. On the other hand, this facility can be easily outsourced to a third party and by connecting the blockchain to other ledgers. This validation can then be checked automatically.
In this model, the use of smart contracts in the insurance market is not restricted to the example of P2P types of insurance, but could be put to practice for all kinds of insurance. Especially, if one will be able to aggregate the amounts from all the interested individual investors who are willing to invest in the crowdfunding model. This will help to minimize the impact per investor in case of a major event happening.
Dividing essential tasks
This new business model offers a bouquet of benefits to all parties involved- the insurers, the investors and of course the customers.
The capital required to insure the customers remains at the discretion of investors, so the insurer, in turn, can operate with minimal levels of capital or even become completely capital-free.
With regards to regulatory licenses, similar models in the P2P lending business don’t need a license at all. As for the development of the platform, this could (and should) be outsourced to a third party on a pay-per-use basis, making the company even more “capital agile”.
This could result into a very lean, agile and cost-efficient organization.
Looking at the investors’ side, this throws light on a new opportunity for investments in leaner organizations, and consequently, the potential for higher returns. Private investors with limited resources to spare could also join the market, and there will be clear insight into the maximum financial risk exposure for investors.
Finally, for the customers, due to competition among and multiple investors bidding and subscribing, the insurance can be cheaper.
This model could give the customer the possibility to post demand for very specific insurances as per convenience, and the payment of the insurance can be guaranteed due to the smart contracts.
Problems in new propositions are obvious; the most urgent would be whether regulators allow the market to operate with these new efficiency.
Insurers also need to critically pressurize the investor side in order to spread risk in case of larger payments to customers, and flexibility would be needed on the demand side in the case of very specific insurances.
In accordance with the risk calculation, due to the nature of very specific insurances, an insurer would need to have the capability to design a risk-return calculation that attracts both customer and investor.
Customers play a pivotal role as well, as they would to invest their trust in a system in which there is no third party with capital reserves.
In nutshell, this business model could be very interesting, and could bring multiple benefits, creating a true P2P, crowdfunded insurer.