Monday, September 19, 2011

Unraveling Sovereign Ratings

A lot of interest at a common man’s level was generated recently when the country rating for USA was downgraded from AAA to AA+ .While it might have been a coincidence, very little actually is known regarding what is a country rating, how it’s done and the implication it carries. Other questions that come to one’s mind are – how many such agencies are involved in such ratings, is there any accepted yardsticks on the basis of which it’s carried out and what’s the source of information on the basis of which such ratings are done?
What is a Credit Rating?
The credit rating represents the credit rating agency's evaluation of qualitative and quantitative information for a company or government; including non-public information obtained by the credit rating agencies analysts. Credit ratings are not based on mathematical formulas. Instead, credit rating agencies use their judgment and experience in determining what public and private information should be considered in giving a rating to a particular company or government. The credit rating is used by individuals and entities that purchase the bonds issued by companies and governments to determine the likelihood that the government will pay its bond obligations.
A sovereign credit rating is the credit rating of a sovereign entity, i.e., a national government. The sovereign credit rating indicates the risk level of the investing environment of a country and is used by investors looking to invest abroad. It takes political risk into account.
There are three major credit rating agencies in the World -
1. Standardandpoors (S&P)
2. Moody's
3. Fitch

Let’s first look at ratings assigned to some of the countries, both ‘emerging’ as well as ‘vulnerable’ and the ratings assigned to them by S&P
It seems a bit strange that while Ireland which has been struggling economically but for the bail out packages is BBB+ while India which has consistently been achieving a GDP growth rate of 8% + is rated BBB-!. India’s internal credit rating is lower than that of countries under severe financial stress. Lets try and unravel some of the factors involved in the country rating.
There are four major pillars determining a country’s rating – its Economic resilience which is dependent on 1) economic strength, 2) Institutional strength and financial robustness which is pillared on 3) financial strength and 4) event risk. While it’s not disclosed by the rating agencies, it is expected that per capita GDP, Real GDP, Inflation rate, Gross Investment/GDP, and openness of the economy determines the economic strength while Government Effectiveness, Rule of law, political stability (all these three terms as defined by the World bank) and the corruption index (as defined by Trans International) determine the Institutional strength of the country. Government financial strength is perhaps determined by Govt. rev/GDP, Govt. primary balance/GDP, Govt. debt/Govt. rev, Current Account balance/GDP and Interest paid on external debt and the susceptibility to an Event risk refers to a risk of debt default due to Financial events such as speculative crises; Economic events such as the earthquakes and other natural disasters or Political which includes war or political chaos/instability.
While the economic resiliency determines the sovereign’s rating range, the final rating is calibrated based on the financial robustness. The sovereign rating mechanics thus is determined by : A study was done recently, based on ordered logistic regression to establish relation between variables & ratings, based on the ratings available for about 100 countries and using 30 variables fitting into the four pillars as mentioned above and based on the statistical analysis, the significant variables and their estimated weightings are
Is there a bias?
A look at the country rating of BRIC countries vis-à-vis some of the vulnerable countries (Portugal, Ireland, Italy etc) often is baffling. While India and Brazil have AAA-, Ireland has BBB+ . While China has AA-, Italy has A+! One often wonders where there’s any bias against the emerging countries. While the exact strategy and the factors which are considered by the rating agencies are not exactly known, based on the above analysis one can make a calculated guess that certain factors which may reflect the prevailing situation more realistically not considered while arriving at the country’s rating. For instance, per capita GDP is considered and this will automatically put countries such as India & China in a disadvantageous position. Also the fact that countries like India and China have a relatively younger population and will have a demographic advantage gets neglected in the process. While countries like Italy may have a higher per capita GDP based on the existing population, it doesn’t capture the equally, if not more important, the fact that the actual population in Italy is declining. More importantly, the Purchasing Power Parity (PPP) is not considered and the absolute GDP is taken into consideration. Automatically thus, countries with higher absolute GDP get an advantage whereas countries such as India whose GDP might be lower in absolute terms but will be higher if PPP is considered are at disadvantage. Also, factors like unemployment ratio etc are perhaps not considered.
It clearly gives an impression that the country ratings are from a commercial view point ie the attraction of the country as a trading destination. While it is important to look into the rating criteria which required institutional strengthening and take up necessary measures accordingly, it is equally important for emerging countries, esp. the BRICS countries to take it up with the rating agencies the fact that ratings should reflect a more realistic scenario. Otherwise, such ratings will continue to be an exercise in ‘self-denial’ as countries like China take off.

Sunday, September 11, 2011

Only 2% of enrolled Students actually get to become an Actuary in India!

Who is an Actuary?
An actuary is a business professional who deals with the financial impact of risk and uncertainty. Actuaries provide expert assessments of financial security systems, with a focus on their complexity, their mathematics, and their mechanisms.
Actuaries mathematically evaluate the likelihood of events and quantify the contingent outcomes in order to minimize losses, both emotional and financial, associated with uncertain undesirable events. Since many events, such as death, cannot be avoided, it is helpful to take measures to minimize their financial impact when they occur.
The profession has consistently ranked as one of the most desirable in various studies over the years. In 2006, a study by U.S. News & World Report in included actuaries among the 25 Best Professions that it expects will be in great demand in the future. In 2010, a study published by job search website CareerCast ranked actuary as the #1 job in the United States.
Actuaries' insurance disciplines may be classified as life; health; pensions, annuities, and asset management; social welfare programs; property; casualty; general insurance; and reinsurance. Life, health, and pension actuaries deal with mortality risk, morbidity, and consumer choice regarding the ongoing utilization of drugs and medical services risk, and investment risk. Products prominent in their work include life insurance, annuities, pensions, mortgage and credit insurance, short and long term disability, and medical, dental, health savings accounts and long term care insurance. In addition to these risks, social insurance programs are greatly influenced by public opinion, politics, budget constraints, changing demographics and other factors such as medical technology, inflation and cost of living considerations.
Indian scenario

Institute of Actuaries of India (IAI) is a statutory body established under The Actuaries Act 2006 (35 of 2006) for regulation of profession of Actuaries in India. IAI is the parent body governing the conduct of Actuaries in India.
Who can become an Actuary in India ? Any person with minimum 18 years of age and having a high degree of aptitude for mathematics and statistics can take up this course and become an Actuary. Generally, first class graduates or postgraduates in Mathematics, Statistics or Econometrics will be in a better position than others to qualify as actuaries.
To qualify as an Actuary, a candidate has to pass all examinations in the prescribed subjects. In addition, he has to comply with other criteria such as experience requirement and attendance at a professionalism course prescribed for the purpose.
There is no fixed duration to complete the course.
The subjects for the examinations can be categorized in to three groups:
The first group Comprises of the CT (Core Technical) series- there are 9 subjects to be cleared- these involve development of theory of actuarial science and applications of mathematics and statistics to actuarial applications such as life insurance, general insurance, employee benefits, investment and other areas. An introduction to economics, financial economics and financial reporting is also included at this stage. Although most part of the course is somewhat theoretical, the exercise and the question in the examination are practical in nature as they reflect real life situations of the area of work to which the subject is applicable.
The second group comprises of CA (Core Application) and ST series subjects - there are 3 subjects to be cleared- CA3 subject is mean to develop skills of communication of technical aspect of the CT series subjects in simple language to non-technical persons; here again the stress in examination question is demonstration of the skills of communications in real life environment. The ST series subjects are entirely tuned to development of the practices and related principles in the respective areas of work while some part of the CT series could be learnt either through a distance education approach or through a classroom approach, the ST series subjects can be fully understood only in a practical work environment.
However, having cleared these 12 subjects, the candidate becomes an Associate ( & not a full fledged Fellow). In order to become a fully qualified Fellow Actuary, the candidate has to clear additionally 3 more subjects (out of the third group mentioned below) and also work for three years.
The third group of SA series subjects involve application of knowledge and understanding of principles as well as demonstration of skills professionalism and judgment in an essentially practical situation.

Present scenario of Actuaries in India
Key sectors requiring the services of these Actuaries are Insurance companies, reinsurance companies and consultants. In addition, the off shored actuarial agencies operating in India (presently about 30 such units in India, as informed by IAI) also engage their services. At present, there is no estimate available with IAI of the likely requirement of Fellows in India. However, a very rough requirement at the present level of Insurance and Pension operations in India is around 600 and will increase to about 1000 by 2014. It clearly implies that there is a severe shortage of Fellows in India.
It is also noticed that while 34 % of Actuaries in the World are working in the Pension Sector, the percentage is minimal in India and is practically yet to take off. Pension is an upcoming and emerging market in India and this will bring in additional demand of Actuaries in India in the coming years.
It is also noticed that a number of Associates and Fellows are working in non-actuarial assignments in India. At a time, when we are being faced with a severe shortage of Actuaries, it is paradoxical that they should work in non-actuarial activities. The reasons along with general profile of such individuals need to be examined in detail.

The enrolment of students and the status of Fellows/Associates is as under:
While the enrolment has nearly doubled from 6200 in the year 2007 to about 12000 as on June 2011, the actual number of Fellows has been 217 in 2007 and increased to 236 in 2011. It is less than 2% of the total students enrolled. And this is a cause of serious concern. If one looks at the age profile of these 236 Fellows, 73 of them are aged 65 and above (almost one third)! Even when one considers 137 Associates also, it is only 3 % of the total students enrolled. While the general feeling as gauged by interacting with IAI President and some of the council members is that most of these students don’t have the capacity to clear the exam, it doesn’t also means that only 2% are found eligible. Clearly, there’s something wrong.
The emerging issues are :
There is no entrance exam for the students to be enrolled in the Actuarial course. Along with the demand of Actuaries going up, the number of students seeking out this course has almost doubled in the last 5 years. On the other side, the students actually passing out the exams & becoming Fellows have remained stagnant. Given this scenario, it is felt that there should be an initial screening entrance examination for students seeking admission for this course especially in Mathematics, Statistics, Econometrics and familiarity with IT based mathematical models – subjects which are crucial to work as a Fellow and these are the subjects in which most of the students are not able to clear the exams.
IAI doesn’t conduct any formal classes for the students enrolled and most of the teaching is course-material based. It is felt that IAI should collaborate with (i) reputed & recognized Universities such as Delhi University; (ii) IIMs or equivalent institutes who can conduct classes in these subjects; (iii) specialised institutes dealing with quantitative courses and work out an arrangement wherein students are made to undergo classes on a payment basis so that the quantitative skills required can be honed for the students and pass percentage can be improved. Alternatively, IAI can have an arrangement with some of the Institutes (including National Insurance Academy, Pune) to be its institute to conduct a course as designed by IAI.
The Mutual Recognition Arrangement (MRA) at present exists with (i) Institute & Faculty of Actuaries, UK, and (ii) Institute of Actuaries of Australia. IAI is in touch with Casualty Actuarial Society, USA for MRA. The MRA implies that IAI & the concerned society recognise each other so that the Fellow of them can be considered at par and be employed as an actuary. In order to meet the requirement of Actuaries, it is felt that IAI should examine other Societies such as the one in South Africa, Germany & other such well recognised and reputed societies and work out MRA with them. A number of students from India are enrolled in such courses and MRA will help in increasing the pool of qualified Actuaries. However, some of the Council members informally voiced their concern regarding a very deliberate vested motive in not refining the examination process within IAI so as to favour more entrants from the existing MRAs and to enable more such MRAs.

Ganesh Chaturthi, female Feticide and "Lokmanya's vision"

I was in Mumbai on 9th & 10th September and at a time when Ganesh chaturthi festival was at its peak. I have always wanted to be in Maharashtra during Ganesh Chaturthi and in West Bengal during Durga Puja time. It was also a coincidence that a school time friend Naveen B Sharma was just back in Mumbai from one of his African trips. We happened to be in Dubai airport in the first week of May 2011 and despite having pre planned, we just couldn’t meet there.
Naveen came over by the evening and we set out around 9 pm to see a Ganesh pandal. Since we didn’t want to waste time travelling, we decided to go in for the one nearby and went to see a Ganesh pandal in Santa Cruz area (alongside the flyover). There was a queue outside the pandal and crowd was being sent in batches every 15 minutes. I was getting intrigued on this but was impressed by the manner local youths were managing the crowd. The crowd in general consisted of families, perhaps, from the nearby localities, all well dressed up for the occasion. Most of these families seem to be from middle & low middle income background. We also stood in the queue and waited for our turn. By the time our turn came, I realised I was the only one perhaps wearing formal shoes. We had to take off our shoes out side the pandal and I must confess I was mentally ready that shoes won’t be there by the time we come back!
The pandal was such that we had to climb up about 30 stairs and walk through a small makeshift cave before finally climbing down in the pandal. It was a typical Ganesh pandal one would expect at every nukkad/ street corner and without much of the expensive get ups. The Ganesh idol was kept in the right side as one faced the pandal and it was a small sized idol, the size one would keep at home. I was a bit perplexed as to why such a small sized idol is kept and that too not in the middle but on one side. Moreover, there were cut outs of a tree, a hospital wall , a well and life size man and a woman made of card board. I thought that these are made by children during the daytime competitions being conducted by the organisers. We would there for about 2-3 minutes when it became dark and a puppet show began. We also stood there bemused and watched as it progressed. And within two minutes of its start, it was clear that the theme was concerning ‘female feticide/infanticide’ – a father wanting to kill his new born because the fetus was that of a girl. The mother of the new born kept crying and begging for her daughter’s life but the father was hell bent and took the new born to the well in the night to drown her. And that’s when a boy emerged from the well and made the father realise that he wouldn’t have been around if his mother had been killed the same way. This little boy also made him realise the importance of a girl and that there are no longer any differences between a son and a daughter. The father, after listening to this boy felt ashamed of his behaviour and promised to bring up his daughter in the best possible manner. It was only then once the skit was over that the actual screen opened up in the center of the pandal and a very beautiful, large sized Ganesh came into the light. It was a divine experience.
I have been involved in various attempts aimed at arresting female feticide since 2003 and this play came as a completely pleasant surprise. It was kept very simple and in a language that most of the visitors can easily understand. The pandal was located in a upcoming slum area and I am sure this skit would leave a huge impact in the minds of all those watching. This was, I thought, one of the most effective ways of communicating a very strong message.
And this is when I also realised the importance of Lokmanya’s vision in organising Ganesh utsav as a social festival wherein people were mobilized to take up common causes. It was Tilak, who brought back the tradition of Ganesh Chaturthi and reshaped the annual Ganesh festival from private family celebrations into a grand public event.
Lokamanya saw how Lord Ganesha was worshipped by the upper stratum as well as the rank and file of India. The visionary that he was, Tilak realized the cultural importance of this deity and popularised Ganesha Chaturthi as a National Festival "to bridge the gap between the brahmins and the non-Brahmins and find an appropriate context in which to build a new grassroots unity between them" in his nationalistic strivings against the British in Maharashtra. He knew that India couldn't fight her rulers until she solved the differences within her own. Hence, to unite all social classes Tilak chose Ganesha as a rallying point for Indian protest against British rule because of his wide appeal as "the god for Everyman".
It was around 1893, during the nascent stages of Indian nationalism, that Tilak began to organize the Ganesh Utsav as a social and religious function. He was the first to put in large public images of Ganesha in pavilions and establish the tradition of their immersion on the tenth day. The festival facilitated community participation and involvement in the form of learned discourses, dance dramas, poetry recital, musical concerts, debates, etc. It served as a meeting place for common people of all castes and communities, at a time when all social and political gatherings were forbidden by the British Empire for fear of conspiracies to be hatched against them. An important festival during the Peshwa era, Ganesha Chaturthi acquired at this time a more organized form all over India largely due to Lokmanya's efforts. Under Tilak's encouragement, the festival facilitated community participation and involvement in the form of intellectual discourses, poetry recitals, performances of plays, musical concerts, and folk dances. It served as a meeting ground for people of all castes and communities in times when, in order to exercise control over the population, the British discouraged social and political gatherings.

Lokmanya would have very proud today that his legacy is still very much alive today. And to complete the story, my shoes were very much there where I had left them. I felt humbled and very light visiting this Ganesh Utsav and felt greatly soothed & elevated. In fact, we talked inane for a while and later went to 'va' for our dinner. It turned out to a great evening and an unforgettable experience of witnessing a Ganesh utsav.

Saturday, September 10, 2011

Presenteeism worse than Absenteeism -I didn't know

Woody Allen once said that 80% of success in life can be attributed to simply showing up. But growing research in recent past is showing it otherwise. I was reading one of the issues of HBR (while boarding yesterday) on “managing health care” and came across a very interesting term – PRESENTEEISM- the problem of workers being on the job but not fully functioning because of illness or other medical conditions and which can cut down the individual productivity by one third or more. In fact, presenteeism appears to be a more costlier problem that it counterpart – absenteeism. Worse still, unlike absenteeism, presenteeism is not always apparent. The hidden cost of Presenteeism is pyramidical source: page 35, "Presenteeism - at work- but out of it", Paul Hemp, HBR on Managing Health Care
Presenteeism, as defined by researchers, is not about malingering or goofing up at work but refers to productivity losses resulting from real health problems. Presenteeism is on the assumption that employees don’t take their jobs lightly (by choice or otherwise) and would work if they can. Many of the medical problems that result in presenteeism are relatively benign – seasonal allergies, asthma, migraines, back pain, arthritis, gastrointestinal disorders and depression. Most of these illnesses which we take with us to work, even though they incur far less direct costs usually account for a greater loss in productivity mainly because they are so prevalent, so often go untreated and typically occur during peak working years. It affects both quantity as well as quality of the work output. One study, quotes this article, concludes that in 2006, depression costed $35 billion in terms of reduced performance while pain conditions such as arthritis, headaches and back aches problems cost nearly $ 47 billion. Pain, no matter what the cause, will always translate into lost time at work. (dark shade bars represent the loss of productivity on account of presenteeism vis-a-vis light shaded bars which are on account of absebteeism)
Presenteeism also appears to cost companies more than they spend directly on medical treatment and drugs. Typically, studies have shown that presenteeism costs employers two to three times more than direct medical care ie insurance premiums or employee claims.
While these studies are based in US, the problem I guess is universal and has started manifesting itself equally in India too. Somewhere the traditional mindset that longer working hours are linked to better output also has been contributing to lesser productivity with inverse economies on time scale. No surprises that increasingly, corporate world is setting up ‘employee friendly’ workplaces – gyms, walking tracks, meditation rooms and play areas in office space and during office hours.

The term Presenteeism, as I understand, is now widely used to convey any activity during working hours which brings down the productivity.

Pension Reforms- PFRDA Bill 2011- Recommendations of the Standing Committee of Finance

Pension reforms in most countries initially are driven by the budgetary difficulties of supporting a public pension system, the longer-term problems of ageing of the population and social change, including breakdown of traditional family support for old age income security, are equally important factors. However, in India, in the absence of a country-wide social security system (formal pension coverage being about 12% of the working population), while the ageing and social change are important considerations for introducing pension reform in the unorganised sector, fiscal stress of the defined benefit pension system was the major factor driving pension reforms for employees in the organized public sector (Government employees).
The New Pension System- now called as National Pension System (NPS) is based on the concept of defined contribution pension system. The Central Government operationalised the NPS from the 1st January, 2004 through a notification dated the 22nd December, 2003. The NPS is mandatory for new recruits to the Central Government services (except the armed forces). The Government had constituted an interim pension sector regulator named as ―The Interim Pension Fund Regulatory and Development Authority‖(PFRDA) through a Government Resolution in October, 2003 as a precursor to a statutory regulator.
An early legislative mandate was considered necessary as the NPS is already in place without the statutory regulatory mechanism. The Pension Fund Regulatory and Development Authority Bill, 2005 (hereafter referred to as PFRDA Bill, 2005) was introduced in Lok Sabha in March, 2005 to establish a statutory Pension Fund Regulatory and Development Authority. The PFRDA Bill, 2005 was referred to the Standing Committee on Finance on the 24th March, 2005 for examination and report thereon. The Standing Committee on Finance gave its Report on the 26th July, 2005. The Government proposed official amendments in January, 2009 to give effect to certain recommendations of the Standing Committee on Finance, but the official amendments could not be moved and the PFRDA Bill, 2005 could not be considered and passed and the same lapsed due to dissolution of the 14th Lok Sabha.
However, pending the passage of the PFRDA Bill, 2005, the Interim Pension Fund Regulatory and Development Authority has created the institutional arrangement of NPS Trust, central recordkeeping agency (CRA), pension fund and a trustee bank (Bank of india). Twenty-Seven State Governments and Union territories have adopted the NPS for their employees and are in the process of extending the NPS to their employees. Sixteen State Governments have already joined the NPS institutional architecture. The NPS has been launched for all citizens of the country including unorganised sector workers, on voluntary basis, with effect from the 1st May, 2009. It has now become necessary to replace the interim arrangements with proper infrastructure under a regulatory framework in order to avoid future complications.
In view of the urgency of the matter, the Pension Fund Regulatory and Development Authority Bill, 2011 is being introduced in Parliament to provide for the establishment of a statutory Pension Fund Regulatory and Development Authority (PFRDA) to promote old age income security by establishing, developing and regulating pension funds, to protect the interests of subscribers of various pension fund schemes and for matters connected therewith or incidental thereto. The Pension Fund Regulatory and Development Authority Bill, 2011 was introduced in the Lok Sabha on 24 March, 2011 and the same has been referred to the Standing Committee on Finance on 29 March, 2011 for examination and report thereon.
The Pension Fund Regulatory and Development Authority Bill, 2011, inter alia, provides for: (a) establishing a statutory regulatory body to be called the Pension Fund Regulatory and Development Authority which will undertake promotional, developmental and regulatory functions in respect of pension funds; (b) empowering the PFRDA to regulate the National Pension System, as amended from time to time; (c) empowering the PFRDA to perform promotional, developmental and regulatory functions relating to pension funds (including authorising and regulating intermediaries) through regulations or guidelines, prescribing the disclosure standards, protecting the interests of subscribers to schemes of pension funds; (d) authorising the PFRDA to levy fees for services rendered, etc., to meet its expenses; (e) empowering the PFRDA to impose penalties for any violation of the provisions of the legislation, rules, regulations, etc.
Standing Committee of Finance submitted its report on August 30, 2011. The major recommendations of the Standing Committee are:

1. The provisions of the Bill being broadly in line with the lines of the PFRDA Bill, 2005, the Committee reiterate in principle their recommendations on the PFRDA Bill, 2005 (21st Report, 14th Lok Sabha).
2. The Committee thus find that the subscriber base of the voluntary component of the NPS has been rather narrow, suggesting low popularity of the scheme launched on countrywide scale. The Committee would, therefore, expect the Government to make serious efforts to popularise the scheme so as to achieve the intended objectives.
3. The Committee find that the performance of the Fund Managers appointed by the PFRDA to implement the scheme has been uneven over the last three years or so and the returns generated by them show a downward trend, particularly with regard to the unorganised sector, where the returns have been abysmal. The Committee are extremely concerned to note the negative returns in some of the schemes involving all fund managers. Against such a dismal performance scenario, it becomes imperative that the PFRDA exercises stringent monitoring and reviews the guidelines instructions issued to the Fund Managers periodically and strictly evaluates their performance with a view to ensuring stability of returns to the subscribers.
4. The Committee, therefore, would like to reiterate their earlier recommendation that any decision relating to permitting FDI in the pension sector should be implemented only by way of bringing forward suitable amendment in the present legislation.( and not as per the suggestion of the Department of Financial Services that foreign investment in the pension sector may be capped at 26% under the general regulations framed under the Foreign Exchange management Act, 1999 (FEMA) which is in line with most of the legislations in the financial sector).
5. The Standing Committee has reiterated their earlier recommendation that membership of the Authority should be confined to professionals having experience in economics or finance or law (& not in addition in Administration as suggested by the Department of Financial Services) only.
6. Clause 14(e)(i) should be appropriately amended so as to make it mandatory for pension fund managers to insure the funds deposited by the subscribers in order to provide complete security for their funds.
7. The Committee would recommend that the spirit of the Committee‟s earlier recommendations may be captured in the above clause relating to „withdrawals‟ by wording the same positively as – „withdrawals shall be permitted from the individual pension account, as may be specified under the regulations.‟ The Committee desire that the facility of repayable advance should also be provided to subscribers to enable them to meet important commitments. For this purpose, the subscribers may be allowed to take a repayable advance from their accounts, say after 10-15 years of service. Suitable enabling amendments may accordingly be made in the Bill.
8. The Committee therefore desire that the Government must devise a mechanism to enable subscribers of NPS to be ensured of such a minimum assured/guaranteed returns for their pensions so that they are not put to any disadvantage vis-à-vis other pensioners. The Committee would recommend that the minimum rate of return on the contributions to the pension fund of the employee should not be less than the rate of interest on the Employees Provident Fund Scheme. In the absence of such a guarantee/assurance, the NPS cannot justifiably claim to provide “old age income security.”
9. Clause 23(2) should be amended appropriately to ensure that at least one-third of the fund managers are selected from the public sector.
10. the Pension Advisory Committee to be constituted under Clause 44 (2) of the Bill should be made more representative by specifically providing that the representatives of stakeholders including the employees are directly made as Members of the Committee instead of ‘members, to represent the interests of employees’ associations, subscribers etc.’ as proposed in the Bill. The Committee, therefore, recommend that Clause 44(4) may be amended appropriately to allow the Pension Advisory Committee to play a more meaningful role by rendering advice suo-motu even on matters not referred to it.
11 The Committee would expect the Government to make concerted efforts to extend the coverage of the scheme in both public and private sector without remaining confined to Central Government employees.
12. As the unorganized sector is a very important part of our society and economy, the Committee desire that their social security should be adequately safeguarded in the present era of craving for social inclusion. The Committee would, therefore, like the Government to work out a tripartite kind of a scheme where the State Government, the Central Government and the unorganized sector workers could make contributions.
13. The Committee would further like to emphasise that the National Pension System should not put employees in a straitjacket or in a very rigid framework. The Committee, therefore, desire greater flexibility in the operation of the scheme, whereby the employees will have the choice of the model / scheme as well as the fund managers. On the whole, the Committee would like the National Pension System to evolve in a manner that is more re-assuring to its subscribers.

The Department of Financial Services has examined these recommendations in detail and prepared a cabinet note proposing certain amendments. It is slated to be taken up for discussion shortly.

Monday, September 5, 2011

Third Party Motor Insurance Pool in India


Insurance is a contract whereby one party, the insurer, undertakes in return for a consideration, the premium , to pay the other, the insured or assured, a sum of money in the event of the happening of a , or one of various ,specified uncertain events.

Motor third-party insurance or third-party liability cover, which is sometimes also referred to as the 'act only' cover, is a statutory requirement under the Motor Vehicles Act. It is referred to as a 'third-party' cover since the beneficiary of the policy is someone other than the two parties involved in the contract i.e. the insured and the insurance company. The policy does not provide any benefit to the insured; however it covers the insured's legal liability for death/disability of third party loss or damage to third party property.

The Indian motor vehicle third party insurance pool (“the pool”) as it exists now covers only ‘commercial vehicles’. Commercial vehicles are an omnibus class that includes all vehicles other than ‘private cars’ and ‘two wheelers’ as specified in the erstwhile India Motor Tariff of the Tariff Advisory Committee (TAC). The TAC definition of ‘two wheelers’ also includes two wheelers with side cars.
The pool encompasses standalone third party insurance as well as third party insurance forming part of comprehensive motor vehicle insurance. Comprehensive insurance covers ‘Own Damage’, that is, damage to the insured vehicle, apart from third party liability. The premium for third party (TP) insurance is notified by the Insurance Regulatory and Development Authority, India (IRDA). Insurance companies are required to charge the premium strictly as notified by IRDA. The rates currently notified with effect from April, 25, 2011 are 68% higher than what it was in 2007. The losses however continue to be higher.
The pool is a multilateral reinsurance arrangement. The General Insurance Corporation of India (GIC Re) is the pool manager. All general insurance companies in India that are licensed to transact motor vehicle insurance are required to be members of the pool. It is important to bear in mind that the motor pool is not a voluntarily pool evolved by consent among the participating insurers but one that is notified and mandated by IRDA.

History and present status

Third party insurance is compulsory for all vehicles under the Indian Motor Vehicles Act. Prior to opening up of the insurance market in 2000-2001, all four public sector companies (PSUs) transacted motor vehicles insurance. Though TP insurance was generally felt to be unprofitable and thus unattractive, no significant reluctance on the part of the PSUs to write TP business was perceived. The position changed with the opening of the insurance market in 2000-2001 when several private sector companies were licensed to transact insurance business in India. Consumers complained of reluctance and avoidance on the part of some companies to write TP business. Since IRDA had mandated that no insurer shall refuse the compulsory TP insurance, the complaint was that reluctance and avoidance were practiced by using clever subterfuges. There was also a demand from the PSUs for creating an equitable sharing mechanism for sharing the unattractive business among all insurers, public and private.
The initial design of the pool was a ‘declined pool’ to cover only those vehicles for which there were no takers. But, the pool that was finally notified by the IRDA with effect from April 1, 2007 covered only commercial vehicles. This position continues as of now.

Serving purpose and learning lessons
As mentioned in the introduction, the basic purpose of mandating the pool was to address the supply side constraint. The supply side constraint has been tackled satisfactorily by the pool. Complaints of refusal, reluctance and avoidance are now far and few. But there are questions of sustainability of the pool at the current administered premium rates. Recently, insurers have been required to provide for sizable premium deficiencies which may possibly go further up in the coming years as the losses develop and average size of compensation for victims of road accidents escalate.
One view is that continuance of the unattractive pool is the price the insurers will have to pay for doing business in India. Another view is that the pool should be withdrawn, if not immediately, at least gradually: the reluctance and avoidance will disappear once the insurers are given freedom to charge premium rates commensurate with the risk .While some fear that the premium rates will go up exorbitantly if pricing freedom is given, others feel that competition will eventually bring the rates down.
Another possible downside of a mandated pool is that it may not encourage cost cutting and efficiency. The pool is everybody’s baby and hence nobody’s baby. Ultimately, the danger of a ‘convoy syndrome’ where the speed and inefficiency of the least efficient participant becomes the speed and efficiency of the industry is possible and real. This is what seems to have happened in the earlier oligopolistic era when the four PSUs set up Motor Third Party Claims Offices (MTPCOs) at regional centers to transfer and settle motor TP claims across the companies. Ultimately, the MTPCOs were wound up. Drawing a comparison between the MTPCOs and the present mandated pool can throw up useful lessons.

The Future
World over, a pool mandated by the market regulator is not a preferred practice; on the contrary, market regulators encourage participants forming pools voluntarily to share risks. An example in India is the ‘terrorism pool ‘where, in the aftermath of the US 9/11 incident, the insurers were encouraged by the IRDA to form a voluntary pool to create collective capacity within India for terrorism risks.
It is reasonable to presume that the motor pool is not intended to be a perpetual arrangement. Hence it is quite possible that the IRDA may like to move away from the mandated motor pool eventually. What form this will take is not easy to predict.
One method could be to replace the present pool by a ‘declined risks pool’ wherein an insurer is given the freedom to write a TP risk for his own account if he chooses to do so, or write for the pool account if he does not want it for his own account. In this process, the pool size itself will get reduced and can be a forerunner for its eventual dissolution when its size becomes insignificant - thus indicating that the market has matured. Here the expression ‘declinature’ is not used in a strict sense but only as an internal formality in the insurers’ records.
Within this methodology, variants are possible. One variant could be keeping out of the pool, TP business forming part of comprehensive policies, and keeping in only pure TP policies. The possible advantage in this variant is that while it helps to reduce the size of the pool considerably, it may also help to put an end to the current unhealthy practice of indiscriminate under cutting of Own Damage (OD) premiums by insurers. Whatever may be the method adopted, safe guards will have to put in to ensure that there is no misuse by the insurers or harassment of the policy holder.
A system of gradual phasing out has been followed successfully in a few other markets which had similar pools. What method our market will follow remains to be seen.

I thank Sri K K Srinivasan, ex-member IRDA for all useful inputs