The Role Of Micro-Insurance
Micro-insurance is the ‘protection of low-income people against specific perils in exchange for regular premium payments proportionate to the likelihood and cost of the risk involved’ (Churchill, 2006). In equivalence with regular insurance, micro-insurance serves as an instrument to isolate fluctuations in consumption from fluctuations in income and wealth (consumption smoothing). Traditional micro-finance schemes do not address such vulnerabilities and the necessity of risk reduction for the ultra poor.
In many countries around the globe, microfinance institutions (MFIs), cooperatives, (rural) banks, service providers, commercial insurance companies, as well as informal groups, have started to provide the low-income population with micro-insurance. On the one hand, this has happened in response to the fact that poorer segments of society generally do not have access to formal insurance mechanisms, provided by either the state or private insurers, and instead rely on imperfect informal insurance. In many developing, particularly the poorest, countries, public social security systems cover employees of the formal sector, civil servants and the military but not informal sector workers, who make up the majority of the population. Market-based insurance is often non-existent, and where it exists, it is only accessible to the better-off, as premiums are beyond low-income people’s capacity to pay.
On the other hand, the emergence and expansion of micro-insurance were encouraged by the now extensive experience and widespread success with the provision of loans and savings products to the poor. In fact, many micro-insurance products are closely linked to MFIs, partly because existing networks make it less costly to deliver new products, and partly because these institutions have started to tie their loans to insurance against the death of the borrower.
The informal coping mechanisms offer limited protection and are less available to poorer households and break down when most needed. Formal financial services can offer greater benefits at a lower cost than informal mechanisms but there is vulnerability to risk is reducing effectiveness and financial performance of micro-credit. The central underlying principle is the pooling of risks, which implies that financial contributions are collected from the members of an insurance scheme, and the loss of one individual is spread among all members in case of risk occurrence. The main difference between micro-insurance and regular insurance is that the first is specifically targeted at low-income people, who have limited financial resources and often irregular income flows. Thus, the product design is adapted to these people’s needs and financial capabilities.
The global outreach of formal micro-insurance still appears to be rather limited, as a recent study of the Micro Insurance Centre – a consultancy for micro-insurance – shows (Roth et al., 2009). Out of the 100 poorest countries in the world, micro-insurance could be identified in 77. The number of micro-insured people was estimated to amount to 78 million, which is not a particularly high number, given that China and India are both among the 77 countries with micro-insurance. Due to the high population numbers in these two countries, the Asian region accounts for 86 percent of the global outreach of micro-insurance. Nevertheless, only 2.7 percent of the poor population in Asia were covered by micro-insurance; and the coverage of the poor in Africa and Latin America was 0.3 percent and 7.8 percent, respectively.
Micro-insurance providers worldwide currently offer four types of insurance: life, health, accidental death and disability, and property insurance (Roth et al., 2007). Sixty-four million people are covered by life insurance, 41 million by accident and disability insurance, 36 million by property insurance, and 35 million by health insurance.
Clearly, life insurance is the most widely distributed product. Reasons for this are manifold. Life Insurance is one of the most demanded forms of cover (together with health insurance), it is easy to price, resistant to problems of fraud and moral hazard, and independent from the existence of other infrastructure, such as clinics and hospitals. Although health insurance is a highly demanded insurance policy as well, the actual availability is well below three percent, even in the best cases.
Property insurance (including home, crop, weather index, livestock and other possessions insurance) is not very widespread either; only 0.7 percent of poor people are covered by property insurance. On the one hand, many micro-insurers, particularly non-profit insurers, ignore property insurance, as demand for property insurance is significantly lower than demand for life and health insurance. On the other hand, under-writings and claims validations are very difficult in the property policy. Compared to other micro-insurance types, the number of accidental death and disability insurance products is much smaller; the largest numbers of products and numbers of lives covered can be found in South Asia.
One major obstacle in the micro-insurance business is the relatively low level of experience of the target group with formal insurance. Many people do not understand the concept of insurance, let alone the terms and conditions of a contract, and are reluctant to pay in advance for a service they may not ever receive (Cohen and Sebstad, 2006). In East Africa, people have been found to confuse insurance with savings, and to believe that they must use the service for which they pay premiums, resulting in unnecessary visits to doctors’ practices (Millinga, 2002). It thus appears that education on insurance, or, as some people call it, promoting financial literacy (e.g. Cohen and Sebstad, 2006) is one of the crucial areas where micro-insurance providers as well as donors should engage, in order to make micro-insurance a viable enterprise.