Discount rate review - the importance of timing

Timing is at least as important as the substance of what we say and do. As an example it’s critical to the success of the great comic actors.

Much of the debate over the Lord Chancellor’s decision to slash the discount rate for future loss claims has naturally focused on the merits of the rate itself.  Indeed the consultation paper is sub-headed “how it should be set in future”. The published document devotes 12 pages to discussing what should determine how the rate is set and there are further sections on who might set the rate and how PPOs may play a part.  Clearly all of these are important points but let me focus on the other section which has received less coverage – the mere 3 pages devoted to when the rate should be set.  

The timing of the recent announcement has itself been a contributor to the dislocation in the market. Insurers have varying reinsurance thresholds and reinsurance renewal dates. In the short term this creates periods of competitive advantage or disadvantage in pricing until the market as a whole can normalise. The subsequent decision to shift to the negative 0.75% rate in Scotland was made at less than a day’s notice.

The timing also points to a change in the pattern of large loss claim settlements.  Now it is a matter of utmost importance that we’re all clear that correctly indemnifying seriously injured claimants is the raison d’etre of motor insurance. Correctly means applying the “100% principle” – that the claimant should be compensated no less than they should be and no more – which is both long standing and endorsed by the Lord Chancellor in her foreword to the consultation paper.  However as early as 6th March the Law Society Gazette was reporting that defendants are deferring settlement meetings in the face of the dramatic change in the rate and anticipation of a subsequent more favourable review.   

The consultation paper acknowledges that there may be a benefit in enabling the timing of reviews of the rate to be known in advance. At face value that is helpful, and if it can be managed in such a way as not to conflict with the compilation of the annual financial results of many major insurers it would be a relief to CFOs, investors and regulators alike.   

However the way in which this might be implemented is critical to both pricing and claim settlement. Such is the financial impact of shifts in the rate, as we have already seen, that a method which enables people to see favourable or unfavourable outcomes some way off could trigger a market which switches between feast and famine in terms of both the price of motor insurance and large claim settlement.   

Added to the already cyclical pattern of motor insurance the timing is going to be as important as the punchline.   

This article was originally published on the ERS website on 10th April 2017. In view of the General Election affecting the timescale for various legislation and decisions it is important that compensators keep the discount rate consultation outcome on the agenda.