BLOCKCHAIN TECHNOLOGY HAS A WIDE VARIETY OF USE CASES IN INSURANCE, AND THE EXAMPLES DISCUSSED BELOW ARE JUST THE TIP OF THE ICEBERG. OUR AIM, HOWEVER, IS TO SHED LIGHT ON THE POSSIBLE IMPACTS ON THE INSURANCE VALUE CHAIN.
A smart contract is a contract between two or more parties that can be programmed electronically and is executed automatically via its underlying blockchain in response to certain events encoded within the contract.
The data needed to execute the contract may be located outside the blockchain. In this case, a new type of trusted third party known as an “oracle” pushes this information onto a certain position in the blockchain at a given time. The smart contract reads the data and acts accordingly (execution/non- execution). For example, in the case of cancellation insurance for a train journey, the oracle supplies information about the train’s arrival time (which can be taken from the carrier’s website or from a GPS sensor fitted on the train).
The company Ledger proposes a hardware oracle solution that allows information to be pushed onto the blockchain in real time6. These hardware oracles use a series of sensors (connected devices, the IoT) to track events. There is huge potential here: in 2015, there were already over
5 billion connected devices; this should rise to 20 billion by 2020, for an estimated world population of under 8 billion.
THERE IS A TWO–FOLD BENEFIT OF USING SMART CONTRACTS ASSOCIATED WITH THE IOT:
1. Automation and autonomy of management processes based on data reported by connected devices and needed to fulfil the conditions for executing the smart contract.
2. Infinite and immutable data history based on a ledger that records all data (including data provided by connected devices). For both the insurance firm and its customers, this acts to guarantee transparency and simplicity, since the related data is present and secure on the blockchain without any action by either party.
Smart contracts therefore offer great potential, particularly in helping to accelerate the development of new models such as on-demand or just-in-time insurance.
On-demand insurance, which can be activated and deactivated at the customer’s request, is an increasingly popular product, particularly thanks to the boom in the sharing economy. New players are positioning themselves in this niche, including for example the InsurTech Cuvva, which allows drivers to arrange insurance in just a few minutes when borrowing a car. Beyond this easy example, smart contracts can facilitate and help develop insurance cover in the sharing economy. With blockchain and the IoT, the insurance policy, claim and settlement can be automatically activated provided that the shared asset carries a sensor that can detect the start or end of the insured customer’s journey, or any other event triggering an insurance claim or pay out. A company called Slock is even trying to build the future infrastructure of the sharing economy by enabling anyone to rent, sell or share anything – with no intermediary but with insurance that can be activated/ deactivated by means of a smart contact. Based on this principle, DocuSign and Visa have already piloted a smart contract for the purchase, finance lease or operating lease of a connected vehicle, where the smart contract is fitted into the dashboard. This partnership aims to facilitate and speed up the process of obtaining the associated paperwork, particularly for insurance, using a purely online solution.
In insurance and reinsurance, several major players have already shown an interest in smart contracts through:
• Partnerships/acquisitions of equity interests. AXA Strategic Ventures took part in a US$ 55 million round of fund-raising for Blockstream, a start-up and partner of PwC. This young company is a renowned specialist in implementing sidechains, or “blockchains underlying a blockchain”, which give secure access to applications not available on the initial blockchain (e.g.: micro-transactions on Bitcoin).
• Pilot schemes such as Allianz Risk Transfer’s collaboration with Nephila (an investment fund specialised in climate risk). These companies successfully piloted smart contract technology with the aim of accelerating and simplifying transaction processing along with the claims and settlement process between investors and insurers in the natural catastrophe insurance segment. Among those firms without a PoC or partnership, many have already begun analysing the technology or are at least tracking developments.
Index-based insurance is insurance linked to an underlying index such as rainfall, temperature, humidity or crop yield. This approach addresses the limits of traditional crop insurance in rural regions of developing countries, for example, by reducing management and settlement costs. In a region such as Africa, where insurance penetration is just 2% there is genuine scope for this type of insurance to gain in popularity.
However, despite the multiple benefits of such insurance, putting in place an index-based product remains complex and costly. Considerable resources and technical expertise are essential in order to develop such products, particularly the infrastructure needed to gather data.
By basing such insurance on smart contracts, index- based products would be automated, simpler and cheaper. A smart contract between a farmer and an insurer may for example stipulate that payment is due after 30 days without rainfall. The contract is fed by reliable external data (e.g., rainfall statistics compiled by national weather services) supplied by oracles and payment is triggered automatically after 30 days’ drought with no need for an insurance claim from the insured party or for an expert on-site assessment. This type of mechanism could represent an alternative to traditional agricultural insurance.
The IRSA Agreement in France – or agreement for the direct compensation of the insured and recourse between car insurance firms – seeks to facilitate the settlement of damages in the event of a traffic accident. Created in 1968 and signed by most insurance firms in France, the IRSA Agreement is key in defining liability for an insured event and in settling insurance claims.
The agreement applies to traffic accidents in France involving at least two land borne vehicles insured by member companies. The principle is simple: “Irrespective of the type of traffic accident and the nature or amount of the damage, member companies undertake, prior to seeking recourse, to compensate their own customers to the extent of their compensation rights, as per the provisions of general legislation.”
After an expert has assessed the damage, the insurer determines the liability of its customer and directly compensates the customer for any damage and injury caused. Compensation is directly based on France’s traffic regulations, and the liability determined is often in line with the provisions of general legislation. The insurer then seeks recourse against the insurer(s) of the opposing party on the basis agreed between the insurance firms:
If the amount of damages is below €6,500 excluding VAT, recourse is based on a fixed amount of up to €1,354 excluding VAT if the insured is fully liable. The recourse effected is proportionate to the share of liability of the insured.
If the amount of damages is above the €6,500 threshold, recourse is based on the actual amount of damages.
The main purpose of the IRSA Agreement is to speed up the settlement process for insured parties based on a common scale, and to ensure that insurance firms settle claims from their customers.
This is a typical situation in which several players are organised around a consensus process based on automatic mechanisms. We could imagine it as a consortium- type blockchain in which the approval process would be controlled by a limited number of selective nodes. For example, participating insurers could agree and organise the blockchain in such a way that a given block must be approved by at least 10 members in order to be valid. In this arrangement, not only is there a limited, selective number of participants involved in the approval process, but the notion of majority rule no longer applies.
In such a context, by acting as an automated trusted third party, the blockchain could clearly help to lower overhead costs while at the same time accelerating management processes and making them more secure. However, for industry agreements, the cost of setting up such an arrangement could be an obstacle, since all participants need to be able to connect their IT processes to such a system. Other similar industry agreements exist, explaining the recent interest shown by the French Insurance Federation (FFA) in blockchain technology.
Reinsurance Over the past few years, most major insurance groups have set up internal reinsurance mechanisms, often in conjunction with the introduction of Solvency II. The use of internal reinsurance enables capital requirements to be reduced for individual entities since the risk is transferred to a captive reinsurer, which may be a separate entity, or a department within the holding company. The insurance group can therefore gain in capital efficiency as diversification is concentrated at the level of the captive.
Internal reinsurance mechanisms often entail swift and complex exchanges of information in accordance with regulatory or fiscal requirements. These information exchanges may involve third parties such as brokers or professional reinsurers which supply internal transfer pricing for insurance at arm’s length.
Insofar as there is a natural internal consensus for this type of situation, it may be possible to organise information flows for the internal reinsurance via a private blockchain.
By automating the execution of reinsurance treaties through smart contracts, the entities concerned (e.g., group subsidiaries) would no longer need to be involved in the “declarative” phases of insurance (contracts, claims reporting, verification, settlement trigger, etc.).
The removal of intermediaries from asset transfers by the blockchain relies on a tamper-proof ledger. Transactions can be verified and traced without the need for a trusted third party. Since there is less human input, the risk of error is substantially reduced.
Reduction of settlement/ delivery and compliance costs following market transactions as well as custodian costs for collective investment undertakings. The blockchain can provide certification for each stage of the process, allowing a significant reduction in overhead and operating costs at this level. Although traders may react in nanoseconds, settlements can take several days. Spanish bank Santander believes that blockchain technology will allow banks to save US$ 20 billion each year by reinventing the back office.
Illinois start-up Blockchainiz is currently developing projects in this area, working in particular with leading banks to reduce their reconciliation costs in asset management. For all compliance issues, the data needed to ensure compliance with applicable regulations may be written onto a blockchain that can be accessed and audited by all parties or by authorised parties, as applicable.
A new method of pricing assets: the blockchain should help to reduce fraud risk and to refine risk assessments thanks to its role as a distributed ledger enabling all parties to obtain the data they need. This could pave the way for a faster, more efficient asset pricing process.
Blockchain technology will also help organisations to tackle fraud. As an example, Everledger, which emerged from the start-up accelerator programme implemented by insurer Allianz France, has developed a certification system for luxury products that uses a mix of private blockchain/public blockchain technology. Everledger uses a blockchain to create a global registry for precious stones. Specifically, Everledger inputs 40 characteristics for every stone recorded (cut, colour, clarity, etc.). This represents 40 metadata components which are then used to create a unique series number. This number will be laser-engraved on the stone and added to the relevant blockchain. Once the database contains sufficient data (over one million diamonds had already been recorded at end-2016), if sellers cannot provide encrypted proof that they own the rights to the precious stone, it will be very difficult to sell. Any stones that are not engraved with the serial number or on which the engraving is difficult to see will lose substantial value. By creating a global, tamper-proof registry, Everledger is making an effective contribution to the fight against theft and fraud, which costs insurers an estimated US$ 50 billion every year.
An equivalent example can be found in the directors’ and officers’ liability insurance market, which insures business leaders for actual or alleged errors that may be committed during the exercise of their duties, such as publishing inaccurate financial statements, failing to comply with legal provisions, and failing to pay salaries, severance or taxes. Making financial transactions – and even companies’ published financial statements – securing them would help to increase transparency and therefore mitigate risks for a market with a total theoretical capacity of over €500 million.
Thanks to blockchain technology, processes can be automated and rendered more secure by eliminating the need for certain instances of human input.
A practical example of this is natural catastrophe insurance, which can be arranged using smart contracts as has been successfully piloted by the Allianz group since June 2016. The group’s settlement system simply requires two items of information that are incorporated into the programme:
- The event must have been declared a natural catastrophe.
- The location of the insured event must correspond to the region recorded as having suffered a natural catastrophe.
The aim is to avoid a repeat of Storm Xynthia (February 2010), when most victims were no longer in possession of the documents needed to submit their claims and had to wait over a year to receive their insurance payout. This type of incident, as well as being costly and protracted, tarnishes insurers’ reputations and makes customers wary of the insurance system.
The Allianz group’s use of a system based on a smart contract for reinsurance (“natural catastrophe swap”) improves the way in which claims are dealt with while reducing human input (since the contract is automated). When an event occurs that meets predefined conditions, all eligible catastrophe insurance contracts are automatically executed thanks to a code. This code also directly activates insurance payouts without the need for the customer to supply the requisite paperwork. However, the principle prohibiting unjust enrichment of a claimant on occurrence of an insured event is still applied.EMERGENCE OF NEW MARKETS
BLOCKCHAIN TECHNOLOGY WILL ENABLE NEW LINES OF INSURANCE TO BE DEVELOPED OR EXPANDED, AS WELL AS EMERGING MARKETS TO BE REACHED. TODAY, 40% OF THE WORLD‘S POPULATION POSSESSES NEITHER A BANK ACCOUNT NOR INSURANCE, PARTICULARLY IN AFRICA, ASIA AND SOUTH AMERICA.Using blockchain technology, insurers will be able to more quickly develop personalised products and services and enhance their insurance offer.
One trend in travel insurance for example is to offer insurance payouts in real time in the event of a covered claim. This is the value proposition developed by Berkshire Hathaway Travel Protection for instance. Such positioning means that the insurer must connect its systems to those of airline companies (to obtain information on flight delays or cancellations for example) and then identify in its customer database those customers affected by the flight in question. This would then proactively open a claim which would entitle the customer to a prompt payout.
With blockchain technology, this value proposition could be managed in a fully automated manner, thereby reducing costs. InsurETH, based on an Ethereum smart contract and the result of a hackathon launched in 2015, has positioned itself precisely on this type of market.
In this case, blockchain technology enables the fast-paced development of new services linked to a given product range. By combining data from contracts, claims and customer documents in general, the blockchain will also speed up the development of personalised insurance.Blockchain technology will also enable companies to reach new geographical markets, especially in developing regions in Asia and Africa. Thanks to the low incremental costs associated with smart contracts, new insurance products should be able to be developed in these countries.
As mentioned earlier, insurance penetration in Africa remains low. At the same time, the mobile telephony market has enjoyed explosive growth over the past few years, with over 70% of sub-Saharan African individuals now owning a mobile phone. This has led to the development of mobile-based payments via telecom operators, which are increasingly usurping the role of banks. The most striking example of this is Vodafone’s hugely successful M-Pesa, launched in Kenya in March 2007. This mobile phone-based payment system already has more than 20 million users and sees over US$ 19.7 million transferred through its network each day.The insurance sector could also capitalise on the boom in new technologies to develop across Africa. Blockchain technology can help to simplify underwriting and information gathering processes, since those with an account would not need to show ID or present their bank details. A smart contract could be set up for a blockchain linked to customers’ mobile data, triggering an automatic settlement process should an insured event occur.
In many African countries, a substantial portion of the population does not have an official address. This causes numerous administrative headaches, since the lack of property rights generates problems with inheritance, limits the use of lending and makes it hard to take out any home insurance. Thanks to blockchain technology, simple GPS coordinates written onto a server would serve as the basis for a tamper-proof land register that can be accessed by all users, thereby facilitating the arrangement of home insurance.Several other applications for distributed ledger technology have already been identified.
Blockchain technology would make contract subscriptions easier, such as in corporate insurance, for which a formidable amount of documentation needs to be provided (type of collateral, presence of alarms, type of windows, etc.) and often requires the on-site presence of an expert appraiser. In the future, insurers could help municipalities and construction/housing development companies to create DAOs using blockchain technology to store construction data or references used for security purposes. Companies would find it easier to take out insurance in these markets where there is still relatively little coverage.If blockchain technology is attracting unprecedented attention from senior management, it is because the potential impact on current business models raises a host of questions.
Blockchains will help to manage increasing global complexity by combining security, decentralisation and transparency. They will give power back to the customer and will help bring new players into the market.The technical limitations of blockchains must be considered. However, the fact remains that the use cases for which blockchains are paving the way will be deployed regardless, whether with blockchain technology or with an alternative. For the insurance industry, the number of potential use cases goes well beyond those discussed in this report, with varying impacts on the value chain.
Certain uses seem easier to implement and appear to offer significant benefits, while others may be riskier, particularly in light of the expected rewards.The scope of possibilities brought about by the blockchain is huge in the insurance industry but will require a period of adaptation and adjustment.The key challenge for all players, irrespective of their industry, will be to identify the use case that will be of most benefit to them and to explore others if their first choice proves unsuccessful.