Study Of The Insurance Sector In Bahrain Finance Essay
This chapter will specify some aspects of Bahrain’s economy and what attracts foreign and local investors to invest their capital in this country; along with some important features and statistical data regarding the insurance industry. Finally, the literature review will discuss a number of corporate governance factors from an insurance perspective and some previous studies related to this topic will be covered.
2.1 Bahrain’s economy
Because it is full of human capital and natural geographic advantages, along with a stable economic climate and business-friendly environment, Bahrain has proved to be the most attractive country for foreign and local investors in the region.
Since a very long time, Bahrain has had the freest economy in the Middle East and has improved its ranking internationally – according to the Index of Economic Freedom; Bahrain is ahead of G7 economies like Germany, France and Japan, as well as other major developing countries like China and India. Demonstrating the strength of the economic model, the sovereign credit ratings have remained strong. These ratings are: Standard & Poor’s, A/Stable/A-14; Fitch, A.5.
Investors in Bahrain can enjoy conducting business worldwide as it has economic agreements and bilateral trade with more than 40 countries, including China, France, India, Singapore and the UK. Since 2004, it has had an active Free Trade Agreement with the United States. Foreign investors can preserve 100% foreign ownership and take advantage from the region’s lowest taxes, without any corporation, income, value-added or withholding tax. There are also no capital gains, wealth taxes, no inheritance taxes or death duties.
Bahrain’s regulatory regime provides an open, free and transparent environment that fosters growth. Track record and global best-practice standards are established to protect companies’ rights and strict intellectual property and copyright laws are enforced which ensure the highest standards of protection. This makes investors feel more secured by investing in transparent, safe and consistent market.
2.2 Insurance Sector in Bahrain
Situated at the centre of one of the fastest-growing insurance markets worldwide, Bahrain is a hub for the insurance and re-insurance industry with a total of 150 insurance companies of all types – general, life, reinsurers, and captive insurers. These companies include both conventional and Islamic institutions, serving onshore and offshore markets.
Conventional insurers in Bahrain include: Zurich Insurance, AIG, Allianz Insurance, Al Ahlia Insurance Co., Royal & Sun Alliance, and Arab Insurance Group. Islamic insurers include: Allianz Takaful, Takaful International Company, Bahrain Islamic Insurance Co., and Solidarity Takaful.
Insurance sector has grown steadily and strongly in recent years, especially after the downturn of the financial crisis in 2007. For example, in 2009, total gross premiums increased by 30% compared to the previous year. Long-term insurance (life and saving products) has driven the most of this expansion. The fire, engineering, medical and motor insurance sector have also grown significantly.
The Central Bank of Bahrain (CBB) supervises the insurance sector and it recently made it mandatory for all independent financial advisors to attain internationally recognised qualifications, and that’s a first in the Middle East. All legal, regulatory and supervisory insurance frameworks are provided based on the essential criteria of the International Association of Insurance Supervisors’ (IAIS) core of principles and methodology.
The Bahrain Insurance Association (BIA) received its charter in 1993 and currently it is incorporated officially under the CBB. It aims at promoting the insurance industry, setting ethical and professional insurance standards and facilitating the exchange of information and statistics among its 53 members. The Gulf Insurance Institute (GII), which specifically trains insurance professionals, opened its doors in Bahrain in 2008, providing the sector with highly trained insurance workforce.
2.3 Literature Review
The concept of insurance, according to (Gollier C., 2003), involves pooling funds from many insured entities (known as exposures) in order to pay for losses which can occur to these entities. The insured entities are therefore protected from risk for a fee - premium, with the fee being dependent upon the frequency and severity of the event occurring. In order to be insurable, the risk insured against must meet certain characteristics. Insurance is a commercial enterprise and a major part of the financial services industry, but individual entities can also self-insure through saving money for possible future losses.
The requirement to promote good corporate governance, both within and outside the financial services sector, is receiving increased international attention. The IAIS has therefore decided to produce a compilation of the Insurance Core Principle on Corporate Governance which outlines the standards and guidance notably related to various corporate governance aspects, to provide a comprehensive set of regulatory and supervisory best practice on this issue.
According to the Insurance Regulatory and Development Authority in India (IRDA, 2009), the regulatory responsibility to protect the welfare of the policyholders demands that insurance firms have in place, good governance practices for the maintenance of sound long-term investment policies, solvency and underwriting risks on a prudential basis. Any governance principles adopted by the insurance industry should be flexible enough to take into account the variety of insurers within its purview, because obviously “one size doesn’t fit all” and each insurance company tailors its corporate governance procedures according to its own circumstances.
An effective corporate governance framework will impose appropriate standards to recognise and protect the rights, relationships and interests of all interested parties in the insurance firm, named stakeholders. It also prevents the abuse of self-serving conduct along with the imprudent and high risk behaviour; therefore it resolves the conflict of interest between managers, board of directors, employees, shareholders and the policyholders.
Board of director is a focal point of the corporate governance system. It should ultimately be held accountable and responsible for the actions of the insurer and that’s why the latter should be managed prudently. The board can be formed in different structures. However, companies are expected to have a significant number of independent directors who have no employment or other material business relationship in the company. This is mainly because director independence is believed to enhance the independent business judgment by boards for the benefit of the company’s shareholders. This view has been supported in the work of (English, et al, 2005).
IAIS (2004) emphasized that directors, independent or not, in any insurance company should:
set out their responsibilities in accepting and following the regulations and principles of corporate governance and conduct an annual self assessment which intends in evaluating and addressing their weaknesses and strengths,
establish a charter to specify the code of business conduct and ethics and the means to attain them. This charter should deal with different aspects such as: transactions, relationships, risk management, fair self-dealing, minimum solvency, capital margin, required reserve requirement, confidentiality, compliance with laws, and internal control,
supervise prudently the managers and executive officers to make sure that they adhere to the policies and strategies mentioned in the firm’s charter,
conduct regular meetings with the managers and executives to keep up with flow of business and be aware of the latest updates and problems,
may establish special committees with specific responsibilities such as: compensation committee, audit committee and risk management committee,
ensure fair treatment to all policyholders and employees and guarantee the sharing of information and disclosure between them in a transparent manner.
These responsibilities are not fixed, and may be changed from one insurance company to another.
Another corporate governance aspect concerns employees and managers. Those should have a fine competence level for their roles, and should ascertain whether they have the appropriate ability and integrity to conduct insurance business. Their competence can be judged from the level of their professional and formal qualifications or the relevant practical experience in the insurance or financial industry. All insurers should conduct themselves in a fair and ethical manner in accordance to the code of business conduct and ethics established by the board of directors.
Insurance policies are legal contracts between an insurer and its policyholders. An insurer should not be able to alter the terms of a contract without notifying the policyholder. Moreover, the value and benefits of the existing policies should not be lessened or changed without the policyholder’s approval.
Internal control and auditing is a critical dimension of corporate governance. The oversight and reporting systems will allow the board and management to monitor whether the operations are conducted in accordance with the firm’s policies or not. It also provides a foundation for the safety and soundness of the insurer and a systematic and disciplined approach for evaluating and improving the effectiveness of the work process and its compliance with the regulations.
Mustafa, et al (2009) mentioned that every insurance company should maintain accurate and verifiable records of all the transactions made. These records include: a premiums register, a premiums ledger, premium reports, a claims register, claims reports, a general ledger, an income statement, and a balance sheet. Each insurance company should audit their accounts and the financial reports annually by their internal audit committee and an external legal audit firm. The audit firm should report directly to the CBB if any fraudulent actions are committed by the insurer.
The board of directors should receive regular reporting on the effectiveness of the internal controls. Internal control deficiencies, either identified by management, staff, internal audit or other control personnel, are reported in a timely manner and addressed promptly. The internal audit committee should have access to all of the insurers’ transactions and enough resources, employ highly trained and experienced staffs, use an effective methodology to assess the risk and be appropriately independent to conduct their tasks effectively.
In addition, Mustafa, et al (2009) emphasized that the corporate governance framework should ensure that timely and accurate disclosure is made on all material matters regarding the insurance corporation, including the financial situation, performance, ownership, and governance of the company, in order to give prospective and existing stakeholders a clear view of its business activities and financial position and to facilitate the understanding of the risks to which it is exposed.
Stakeholders generally and policyholders specifically have the right to deal with insurance companies that operate in a fair, efficient, and stable market. Transparency and public disclosure would provide the whole market with appropriate discipline and facilitate its smooth functioning that will reward those insurers who operate efficiently and effectively and penalise those who don’t.
Information disclosed should be:
relevant to decisions taken by market participants,
up-to-date and available in a timely manner,
accessible without unjustified expense or delay by the stakeholders,
comprehensive and meaningful so as to enable stakeholders to structure a well-formed view of the insurer,
consistent as a useful framework upon which to make decisions,
comparable among different insurance firms.
Because insurance companies are mainly in the risk business (IRDA, 2009), an insurer should identify, understand, and manage the significant risks that it faces through effective and prudent risk management systems, implemented appropriately according to the complexity, size and nature of the insurer’s business on an on-going basis in order to indicate potential risks as early as possible. This may include looking at risks by territory or by line of business.
Some risks are specific to the insurance sector, like: underwriting risks and risks related to the evaluation of technical provisions. Other risks are similar to those of other financial institutions, such as: market (including interest rate), operational, legal, and organisational risks (IAIS, 2004).
By implementing the appropriate corporate governance strategies effectively and efficiently, the insurer would guarantee stakeholders’ confidence and trust in the company’s operations and market discipline. The IRDA (2009) listed the key stakeholders in case of an insurer, which include shareholders, policyholders, supervisors and employees. Other stakeholders could include unions, service providers, creditors, equity analysts, rating agencies and the community at large.
The stakeholders are interested in the operations of the insurers in terms of:
its profitability and its capacity to provide a return on capital to shareholders, hire employees, its capability to expand its operations and contribute to economic and social activities,
its ability to meet its obligations to the different stakeholders as they come due, thus also promoting trust and confidence in the financial system.
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