Will Korean life insurers follow Japan's path?

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By Kim Bo-eun

Concerns are growing over local life insurers as they appear to be facing similar circumstances to those faced by their Japanese counterparts in the past, circumstances that saw seven Japanese life insurers go bankrupt two decades ago.

While a combination of factors drove the seven mid-sized life insurers and one non-life insurer into bankruptcy between 1997 and 2001, reverse margins based on lowered interest rates was a dominant factor.

Japan's life insurers saw strong growth in the 1980s, in step with the country's robust economic growth in the late 1980s that averaged 5 percent. Competition led insurers to offer generous long-term guarantees, of typically 6 percent. They invested in domestic assets such as equities and real estate.

However, after Japan's asset price bubble burst in 1992, the country's economy saw a prolonged period of recession and deflation, which was followed by zero interest rates. The low interest rate and negative return on assets created a significant gap between the money made by the insurers and the high guaranteed returns they were required to give policyholders.

Korean insurers now face a similar situation, based on a key rate cut to counter the effects of the coronavirus pandemic that has brought the rate down to 0.75 percent.

"Korea's major life insurers hold a bulk of policies guaranteeing 6 percent returns. However, the rate of return on investments is about 3 percent. And now insurers face a zero percent interest rate," an official of a local insurer said.

Insurers are estimated to suffer a record of over 6 trillion won in reverse margin this year.

Data shows life insurers saw an accumulated 3.3 trillion won in reverse margin in the first three quarters of last year. Their average return for policyholders was 4.22 percent, but the rate of return on investments stood at 3.5 percent.

The reverse margin of insurers was 1.2 trillion won in 2015, but jumped to 5.7 trillion won in 2018.

An official of the Korea Life Insurance Association said the coronavirus pandemic has made circumstances increasingly difficult for insurers.

"Face-to-face sales have been restricted, as part of virus containment efforts. Meanwhile, global interest rates are falling and resulting in a further drop in returns on investment," the official said.

"This is putting growing pressure on insurers, for which policies guaranteeing over 5 percent of return account for 40 percent of their policies."

Moody's Investors Service on April 1 changed its outlook on the Korean life insurance industry to “negative,” citing lower-for-longer interest rates are challenging profitability and raising asset risk, as insurers turn to higher-risk investments.

The introduction of new accounting rules under the international financial reporting standards (IFRS) 17 is posing an additional burden on insurers.

The new accounting standards, set to come into force in 2023, calculate insurance contract liabilities according to market value instead of book value. This requires insurers to secure a greater amount of capital for financial health.

Financial authorities here decided Korea will fully endorse the new standard, but insurers are calling on the authorities to introduce the new system gradually.

"Under the new standards, life insurers are estimated to have to increase a combined 40 trillion won in capital," the official of the life insurer said.

In order to minimize the potential impact from the new accounting standard, the authorities plan to introduce a system of coinsurance under which insurance companies can split risk among multiple parties, which will help reduce debts for insurers and improve their financial soundness.