FNLIA Position Paper

The Importance of Insurance to Economic Growth andSecurity: An open invitation to dialogue
Fostering long-term, sustainable growth is a goal shared by government and industry alike. Much has
been written about the various measures being taken and the reforms that at long last seem to be
taking hold in the world’s third largest economy. But insurance has received little attention. Herein wewill look briefly at the role insurance can play in encouraging an environment of sustainable growth,
touching on the domestic Japanese context and global insurance best practices. We will then propose
three areas of focus for further discussion.

Our objective is to promote a constructive dialogue amongst regulators, policy influencers, andindustry practitioners for the benefit of customers and Japanese society as a whole.

Why insurance?
To some, insurance is nothing more than a common utility. However, this assumption is bothmisleading and inaccurate as it does not consider the broader social and economic benefits offinancial protection, public burden sharing, employment, and long-term capital investment thatinsurance fosters. Numerous studies over the years have repeatedly demonstrated the importance ofinsurance to economic development, starting with the findings of UNCTAD 19641 :“A sound national insurance and reinsurance market is an essential characteristic ofeconomic growth”.

We live in an increasingly connected world where risk can spread quickly and where reliance solely
on public health and retirement schemes is becoming increasingly tenuous. By creating anenvironment of greater certainty, insurance fosters stable consumption, investment, and innovation,
thereby promoting economic development by reducing the capital firms need to operate.

Insurance provides the peace of mind needed to confidently navigate the many facets of both
opportunity and disruption in a global economy characterized by rapid social and demographic
change and the emergence of new risks in areas such as political, climate, fiduciary, and cybersecurity. An increased awareness of risk management influences companies’ investment decisions,protects value, and improves financial soundness.
Greater insurance penetration2 de-risks governments, businesses and communities. It takes thefinancial burden of recovery off the taxpayer and boosts economic growth. Indeed, research showsthat a 1% rise in insurance penetration translates into a 13% reduction in uninsured losses - a 22%
reduction in taxpayers’ contribution following a disaster. 3

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Japan insurance industry operating environment: A changing landscapeJapan has the second largest pool of insurance premium of any country in the world following theUnited States – both life and general insurance. Japan’s corporate insurance market is the thirdlargest in the world behind only that of the US and China and is estimated to be $36 billion in direct
premiums written.4
Japan, however, ranks only 16th in overall insurance coverage relative to GDP5, remaining underinsured compared to peers in advanced countries. This is due at least in part to the traditional style ofbusiness co-ownership amongst the larger companies. Since each company held shares in the others
in its ecosystem, when something untoward happened to one company, all either pitched in to help or
all struggled together. This approach to governance, which is based more on relationships andkeiretsu links than on a clear understanding of risk management principles or an empowered Chief
Risk Officer, has contributed to a general lack of risk sophistication.

One outgrowth of the traditional approach has been the creation of insurance intermediaries formed
as subsidiaries of corporations and commonly referred to as ‘case agents’. These case agents aregiven the responsibility for overseeing insurance placements for all the group’s subsidiaries andrelationship partners. Case agents are typically housed inside the logistics arm of the group and aremanaged as part of an administrative function, often with a focus more on generating commissions ormaximizing business with group entities than on finding the best risk transfer or risk management
options. Given the requirements of the role as traditionally defined, case agent staff often have nothad, and indeed have not needed, formal risk management training to perform their assigned function.
This is in contrast to the more globally prevalent risk advisory or brokerage model, wherein staff are
typically seasoned, often certified, risk professionals focused on providing the proper type and amountof coverage. In Japan, however, the brokerage model represents less than 2% of distribution.

A clear example of problems stemming from this non-rigorous approach to risk management is severe
corporate under-insurance as evidenced by the paucity of Natural Catastrophe, Business Interruption,and Contingent Business Interruption coverage bought in Japan. This lack of sufficient coverage
became very apparent in 2011 following the disastrous events of the Great East Japan Earthquake
where only approximately 17% – about US$35 billion – of the economic losses were recoverablethrough insurance. This meant that an estimated US$205 billion of the emergency relief
reconstruction costs fell on taxpayers, slowing down the reconstruction of vital infrastructure andservices, and impairing the ability of communities and businesses to get back on their feet, By
contrast, economic losses from the Christchurch earthquakes in New Zealand were approximately
NZ$40 billion, but were 75% covered by insurance, allowing the long, hard process of recovery to
begin more quickly.

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Major initiatives from the Japanese government looking to strengthen the economy and build a moresustainable international business environment are being put in place in response to increased
demand for heightened risk awareness and more transparent corporate governance in the Japanesecommercial marketplace. Investors and other stakeholders are giving greater scrutiny to the decision
making processes and risk management philosophy espoused by each company. Landmark pieces oflegislation and other initiatives are indicative of the realization of the need to improve on old models
that are not in the best interest of the economy or society.

The Japan Revitalization Strategy approved by the Cabinet in June 2013 (and subsequently revisedin 2014) laid the path to enhanced corporate governance that specifically addresses crossshareholding issues and other concerns. It also has led to revisions to the Companies Act, which waspassed in the Diet and became law in June 2014. Interest shown in the JPX Nikkei Index 400 index isan example of how better corporate governance – with a strengthened focus on ROE, long-term
profitability, and the appointment of independent external directors – is of increased importance to theinvestment community. The Stewardship Code, though voluntary, is another initiative that has
attracted considerable attention.

Global best practices: Risk management is integral to good corporate governance
Unlike in other developed countries where risk management is a regular item on management andboard agendas, in Japan there is much room for improvement in placing risk at the forefront ofmanagement awareness. Best practice among largest multinational corporations outside Japan
involves regular management and board discussions on the risks and rewards associated withparticular business strategies. With the introduction of the new Corporate Governance Code in Japanand a significant increase in independent directors compared to a decade ago, there is a clear
opportunity to inject more vigor and purpose into Japanese board meetings by establishing risk as acore standing agenda item.

Having board leadership that understands the roles and responsibilities of risk management does notcome without its challenges in any jurisdiction. It takes time for mindsets to change. In the UnitedStates, the Securities and Exchange Commission released new disclosure rules in 2010 that require
listed companies to disclose details about the boards’ role in risk oversight. Although the rule onlyrequires disclosure about current practices and does not require a specific framework, it indirectly
promotes the adoption of best practices in risk management. Similar rules have been adopted acrossthe European Union.

In the normal course of business insurers are exposed to a wide variety of global and domestic
corporate clients and have the opportunity to gain insight into underlying practices as they review
various risk structures. Companies that leverage risk management as a competitive advantage often
incorporate some form of Enterprise Risk Management (ERM) into their top-level oversight functions.

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Strong risk cultures are those that include operational, financial, strategic, and compliance risk acrosstheir ERM program. However, risk should not be seen as something to be avoided at all costs, butrather as something that can be managed and used by the corporation as a potential opportunity.
Proactive risk identification and the discussion of mitigation plans need to be part of formal strategicplanning processes in order for corporates to improve their risk management capabilities.
Communications on risk assessments need to be methodically rolled up to risk committees andboards in order for top-level management to be aware of and have opportunities to assess, mitigate,
and where appropriate leverage risk appropriately.

Ever increasing sophistication and rigor with advanced analytical techniques is required for corporateboards to catch up to and maintain best risk management practices in a rapidly changing globalenvironment. Prediction is difficult. However, as risk management programs at Japanese corporations
gain more maturity and experience, risk owners will increasingly be more knowledgeable andequipped to manage the unpredictable.

Global best practices: The role of brokers in international markets
An examination of the insurance brokerage model prevalent in developed economies can be
instructive as an alternative approach to risk sophistication and customer-focused service. Brokers
are legally obligated to act in the client’s best interest, representing the client in the insurance buying
process and acting independently in relation to insurers. They help clients with their insurance andrisk management thinking by presenting them with alternative products and solutions from various
sources, working at times with multiple companies to place coverage for their clients.

The professionalization of insurance intermediaries in overseas markets has been driven byincreasingly complex business requirements as well as changing legislation, compliance, and productsolutions. This has produced brokers with a broad knowledge of the insurance market, a high level ofproduct and technical knowledge, and a professional understanding of insurance terms andconditions. This knowledge serves corporations well and also provides an important economic benefit
in that their professional advice increases breadth of cover, improves access to markets, and reduces
risk exposure and cost for clients thus enabling them to focus their efforts on better growing theirbusiness.

As professional intermediaries, brokers add value to insurance companies by saving time anddeveloping effective solutions for customers. For larger clients, they may utilize several insurance
carriers for placement of different lines of business or to spread risk where capacity is an issue. In
addition to benefiting the client and the insurance companies involved, the increased efficiency also
leads to cost reductions, benefiting the economy as a whole.

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Time of Transition: FNLIA focus and invitation
In this time of transition and opportunity where interest in shifting to best practices in corporate
governance and risk management is increasingly aligned, FNLIA is looking to promote constructive
dialogue and appropriate collaboration amongst regulators, policy influencers, insurance practitioners,and clients for the benefit of the industry, customers, and Japanese society as a whole. We call foraction focused in the following three areas:

Support Stronger Corporate GovernancePromote efforts to support the enhancement of corporate governance activities in Japana. Enhance Board involvement in crucial risk management decisions
b. Increase transparency in decision making
c. Balance relationships between customers, intermediaries, insurers, and regulators

Foster a culture of risk management
Increase awareness of international risk management practices and help foster risk
management skills among the industry participants and customers through educationalseminars conducted by global experts
Help expand educational and training opportunities for professionals by supporting risk
management associations, internationally recognized certification programs, and thedevelopment of risk management study programs at universities

Leverage best industry practicesThrough industry dialog, share global insurance industry best practices in Enterprise Risk
Management, distribution/channel management and solicitation oversightWork with the various insurance industry associations to support Japanese customers
and society by providing more risk-matched coverage products
Support innovation and entrepreneurial activities through need-specific risk consultationand mitigation
Promote discussion around ways to enhance and support Japan’s unique social
healthcare and pension system via cooperation with the private insurance industry

We invite dialogue from all interested parties in moving forward with these important initiatives.
FNLIA
August 2, 2016

1 Proceeding of the United Nations Conference on Trade and Development, first act and report, p.55, Vol. I,

annex A.IV.23
2 Insurance penetration: the ratio of insurance premium underwritten in a given year to GDP
3 Source: Lloyd’s Global Underinsurance Report – published October 2012.
4 Swiss Re January 2015 Japan’s Commercial Insurance Market
5 Based upon OECD data: overall insurance penetration for 2013

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