Summary: Chapter 3 - External Environment

Question 1

External Environment:

Legislation and regulations

Answer 1

• Require compulsory insurance in certain circumstances
• Influence the types of product available
• Regulate the sale process

Question 2

External Environment:

State benefits

Answer 2

• Raise employers’ awareness of the need to top up State benefits
• Raise employees’ awareness of the need to top up State benefits
• Introduce moral hazard, ie the risk of individuals relying on the State and not purchasing their own cover
• Reduce levels of saving if benefits are means-tested
• If compulsory, make individuals feel less wealthy and thus less able to purchase their own cover.

Question 3

External Environment:

Tax

Answer 3

• Affects the form of benefits within products
• Means that product innovations may be designed to avoid paying tax
• Directs savings towards the most tax-effective forms or tax shelters

Question 4

External Environment:

Accounting Standards

Answer 4

• Influence an employer’s provision of employee benefits

- Influence the range of products marketed

Question 5

External Environment:

Capital adequacy and solvency

Answer 5

• forms part of banking and insurance regulation

- is carried out using a complex capital adequacy framework, Basel II, for banks

Question 6

External Environment:

Corporate governance

Answer 6

• encourages managers to act in the best interests of stakeholders
• incentivises managers accordingly
• should be monitored for effectiveness
• may utilise non-executive directors
• influences the way in which stakeholders’ needs are met

Question 7

External Environment:

Risk management requirements

Answer 7

• are concerned with measuring, monitoring and controlling the impact of risks on a firm’s balance sheet
• can be categorised using the Basel II framework

Question 8

3 types of Basel II risk

Answer 8

• market risk
• credit risk
• operational risk

Question 9

External Environment:

Mutuals

Answer 9

• No shareholders
• Better benefits for the same cost
• Can’t readily raise finance by usual methods
• Certain products may be restricted or more highly priced
• Product pricing is either “at cost” or takes allowance for surplus distribution to with-profit policyholders

Question 10

External Environment:

Proprietary company

Answer 10

• easier access to capital markets for finance
• economies of scale
• more dynamic management

Question 11

External Environment:

Private companies

Answer 11

• may find same difficulties raising capital

- benefit from a clos involvement of the owners

Question 12

The underwriting cycle relates to

Answer 12

• profitable business leading to new entrants, greater competition, “soft” premium rates and reduced profits leading to….
• insurers leaving the market or reducing their involvement, increased premium rates or loss of business or reduced solvency and the need for capital

Question 13

External Environment:

Demographic changes

Answer 13

• can have major impact on main benefit providers, eg State
• include increasing longevity and falling birth rates
• may result in angeing population

Question 14

Results of ageing population

Answer 14

• less spending, as older people save more
• strain on social welfare systems
• increased cost of healthcare
• cost of education falling

Question 15

External Environment:

Environmental issues

Answer 15

• influence the ways in which Government, advocacy groups and individual participants act, and hence the behaviour of financial markets
• has led to providers offering products that promote environmental and ethical issues
• affects how providers communicate with customers, eg reducing the amount of paperwork

Question 16

External Environment:

Lifestyle considerations

Answer 16

• younger people have preferences for loans rather than savings
• people with children look towards life insurance protection products
• older people may have a need for annuities and long-term care products

Question 17

External Environment:

International practice

Answer 17

leads to overseas products being replicated in the domestic market, subject to tax and legislative considerations

Question 18

External Environment:

Technological changes

Answer 18

impact on the way in which financial products are provided.

Question 19

market risk

Answer 19

risks relating to variations in values of assets and liabilities

Question 20

credit risk

Answer 20

risks relating to the failure of 3rd parties

Question 21

operational risk

Answer 21

relating to the failures of people, processes and systems within the company