<mark>In non-life insurance, the combined ratio is a standard measure of profitability used in the industry and by supervisors. It represents the profits or losses made on insurance operations, without the help of other income (e.g., investments, real estate, capital gains). The ratio is the total of the loss ratio, which represents the percentage of the claims paid in comparison with gross premiums, and the expense ratio, which is the percentage of the general expenses in comparison to the gross premiums. Insurance companies will normally have a combined ratio of around 100%, meaning that they experience a technical break even.. However, other sources of income usually transform this loss into profit. A ratio of less than 100% allows the insurance company to have a technical profit in addition to the investment profit. The combined ratio for the Mongolian (non life) insurance companies was at 56%. While the expense ratio of 34 percent is comparable to those of insurance companies in most countries, the loss ratio is remarkably low. Such a low loss ratio may be due to over priced insurance policies and/or, more probably, by a low level of reported claims.</mark> _<mark>Source</mark>_ <mark>: Authors, from Mongolian Insurance Supervisory Agency</mark> <u><mark>(2005)</mark></u> The syndicate pooling arrangement LIIP can be viewed as a joint venture established every year in which participating insurers subscribe capital. Insurance companies are given rights to sell the developed BIP product in exchange for their capital contributions. They are obligated to build up annual collective reserves into the LIIP at the beginning of the sales season. The GoM offers a stop loss reinsurance contract beyond the collective reserves, sold at an actuarially fair premium that is tied to the distribution of sales for each company.<sup>6</sup> In the initial years, a stop loss reinsurance treaty at 105 percent of the insurance premium volume (excluding operating costs) is in place. Funding for losses beyond 105 comes from the reinsurance premiums and a contingent credit from the World Bank.

In February of each sales season (starting in 2006), the participating insurance companies present a business plan with the expected sales by _soum_ . They also deposit into the LIIP the guarantee indemnity contribution (GIC), which equates the insurer’s expected portfolio reinsurance cost plus 5% of its expected written premium volume. This contribution represents their capital investment into this insurance program. After the sales closing date, they will deposit into the LIIP the herders’ premium volume, out of which the LIIP will pay the reinsurance cost of the 105% stop loss on the aggregate livestock losses. At the end of the insurance cycle, any surplus (in addition to the interest earnings) in the LIIP account will be distributed among the participating insurance companies based upon their premium volume brought to the pool.

The reinsurance premiums paid by the insurance companies to the GoM are put into a special reserve fund, BIP reinsurance reserves, and will be only used to pay reinsurance indemnities. The reinsurance premium paid by the LIIP to the government, and deposited in the BIP reinsurance reserve, may be higher than the actuarially fair reinsurance premium of the IBLI portfolio because of the pooling effect. Therefore, the reinsurance premium may be higher than the expected reinsurance payout, allowing the government to build up reserves across time.

The reinsurance agreement between the insurance pool and the government is designed to give the insurance industry time to find external capital on the reinsurance market. Although it is not expected that international reinsurers will offer such an unlimited coverage, they may offer a layer of reinsurance, e.g., between 105% and 200% of premiums, and thus the government’s stop

> 6 The Government should behave as a risk neutral decision maker as long as the cost of risk bearing is insignificant because it can be spread among a large number of taxpayers (Arrow and Lind, 1970). In the case of livestock insurance in Mongolia, this assumption may not hold as the Mongolian economy and the government fiscal revenue are negatively impacted by _dzud_ events. However, during the pilot phase, excessive losses are financed by a World Bank contingent credit facility provided at a cost well below the market costs. This allows the Government to spread potential losses across time, thus reducing its aversion towards livestock mortality risk.

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