What is Social Inflation and how does it affect rising insurance costs?
We have an increasingly litigious culture in the US.
As if general economic inflation—which can be mitigated by insurance companies using pricing models and loss reserves—wasn’t enough, another type of inflation is driving recent premium price hikes: social inflation.
This refers to the rising costs of insurance claims due to the following reasons:
A more litigious culture, where people are more likely to sue for damages and seek larger compensation.
A more sympathetic public opinion, where juries and judges are more likely to side with plaintiffs and award higher amounts for pain and suffering, punitive damages, and medical expenses.
A more aggressive legal industry, where lawyers use sophisticated tactics to attract and represent clients, such as mass advertising, third-party litigation funding, and class actions.
A more complex and uncertain regulatory environment, where insurers face changing rules and standards, such as expanded liability, consumer protection laws, and data privacy regulations.
This means that insurers have to pay more for claims than expected, which can hurt their profitability and force them to raise premiums or reduce coverage.
But hang on. I used a four-word (three?) insurance jargon above that flew over your head. I’ll do my best to describe it in simple terms.
Third-party litigation funding is when a company or an individual lends money to a plaintiff or a lawyer to pursue a lawsuit in exchange for a share of the potential winnings. It’s also known as lawsuit lending, litigation finance, or legal funding. It can help plaintiffs who lack the resources or the willingness to pay for their legal expenses upfront. However, it can also increase the number of frivolous or exaggerated claims and create conflicts of interest or ethical issues. Plus, it contributes heavily to social inflation because it drags litigation and makes insurance coverage more expensive. I hope that was simple enough.
Social inflation is a challenge for the insurance industry because it makes it harder to predict and price risk accurately. It also erodes the trust between insurers and policyholders, who may feel they need to pay more for their coverage or get more value for their claims.
So, what can the industry do to cope with social inflation? Here are some possible solutions:
Invest in data analytics and technology to improve risk assessment, claim management, fraud detection, and customer service.
Improve communication and transparency to educate policyholders about insurance costs and benefits and explain the rationale behind pricing and coverage decisions. Here’s the Insurance Information Institute’s three-pillar strategy. Just a heads up, it’s full of three- to four-syllable words.
Advocate for legal and regulatory reforms to promote a fair and balanced system that protects the rights of both plaintiffs and defendants and encourages alternative dispute resolution methods.
Collaborate with stakeholders, such as regulators, lawmakers, consumer groups, and industry associations, to share best practices, exchange information, and address common challenges.
Social inflation is not a new phenomenon, but it has become more prevalent and impactful in recent years, and it’s likely to continue to shape the insurance landscape.
As a consumer, you should know how social inflation affects your insurance options and costs. If you need help navigating these unpredictable insurance waters, call us at 919-443-3300.
