“Another opening, another show,” wrote Cole Porter in “Kiss Me Kate,” Here
we are opening the 27th volume of Risk Management Reports in a year with
three naughts. Given luck (and proper risk management), my readers will have
avoided any computer unpleasantness and are ready to face other risk issues
for this new year.
My 1999 issues sported both hits and misses. I forecast the bursting of the
stock bubble in the US (for the second straight year) and found myself
staring again at new market records, wondering why I put my money into
Treasury bills. Political and military turmoil also topped the list: no miss
here, with impeachment in the US, Kosovo, India-Pakistan, Iraq, Indonesia and
Northern Ireland leaping out of the headlines. Other correct calls riveting
our attention were the continuing legal hysteria in the US, the Y2K problem,
the development of AIDS into a huge human disaster in Central Africa, the
gambling craze (again in the US), the movement toward a geriatric society in
many developed countries, and the need to re-define risk management. There
is a persistency to most of these issues, as you will see.
For 2000, I restrict my issues to financial institutions and trust, two areas
that offer unusual opportunities and pitfalls.
First, financial institutions. We’re entering a maelstrom of rapid and
tumbling change brought about by the globalization of trade and radical
upheavals in regulation. Nowhere is this more apparent than in the US, where
the old rules and regulations are crumbling, leaving insurance companies,
depository banks and investment firms scrambling to enter each other’s
businesses. After sixty-six years, these institutions may now acquire and be
acquired by each other. What is likely to happen?
First, look at the condition of the insurance industry. It is in terrible
shape. The property and casualty side has under-priced its product for
almost 40 years, leading to the suspicion that the proper name for its
employees should be undertakers, not underwriters. This resulted in
under-reserving and an over-reliance on both investment income and on an
out-moded distribution system (insurance agents and brokers) when other
financial services are quickly moving to direct relationships. Its overhead
costs are exorbitant (averaging almost 30% of each premium dollar). One
securities firm suggests that the industry overspends $54 billion annually in
“sloppy and redundant paper processes.” Its services have been rated by its
customers as D-, almost failing: the industry has a chronic inability to
deliver a policy on time without mistake, and its treatment of claimants
borders on the absurd. Apparently it thinks most claimants, including its
own policyholders, are inherently dishonest, and therefore it creates delays
and obfuscations that fulfill its prophecy: claimants become so irate that
they do, in fact, inflate losses!
Some investment analysts argue that the industry is one-third, or $100
billion, over-capitalized. They press for capital reductions to increase ROI
and stock prices. At the same time, other observers warn of the rising
susceptibility of insurers to wind, water and earthquake catastrophes, any
one of which may sink a number of major carriers. Is it too much or too
Consider also the rapidly declining reputation of the industry: public
outrage at medical insurers and HMOs, accused of meddling in medicine,
substituting profit for sound health care; lawsuits that now forbid insurers
from using secondary market, instead of OEM (original equipment
manufacturer), parts for auto damages; lawsuits that re-define both coverage
and exclusions; and the often-comic political machinations of
less-than-reputable persons trying to become elected state insurance
No wonder Myron Picoult, the astute industry analyst for Wasserstein Perella
Securities Inc., writing in Business Insurance (September 20, 1999), says
that “the industry is in a period that is both mesmeric and frightening.”
What’s likely to happen in 2000? The welcome demise of the Glass-Steagall
Act, the extraordinary productivity inherent in new information technology,
and the threatened change in accounting rules in the US, from
“pooling-of-interests” to the “purchase” method, suggest twelve months of
intense jockeying for position. Banks will be the aggressors. I doubt that
they try insurance through the sales route. This sandbags them with
underwriting and expense inefficiencies, plus the sad claims-handling
reputation of conventional companies. I suspect they will use the next
twelve months, before the new accounting rules take effect, to acquire
selective property & casualty insurers with knowledgeable underwriters,
modest expenses, and reasonable claims-paying reputations. If that fails,
they will create underwriting vehicles de novo, blending insurance risk
financing with existing banking products and services, stealing quality
personnel and services from other firms. In a few, very few, cases, insurers
may actually acquire banks.
The second effect in 2000 will be the acceleration of direct insurance
services to customers, particularly personal and small business buyers.
Insurance companies that fail to offer coverage directly may find themselves
hopelessly buried with their albatross counterpart, the agency and brokerage
system. The President of the Federal Reserve Bank of Dallas summarized the
situation in the Wall Street Journal: “The real key to our growth in
productivity is information technology and the Internet revolution. . . . the
Internet’s disintermediation is squeezing it all down to wholetail.” My
prediction: within five years, more than 50% of all risk financing will be
purchased directly from risk financing institutions.
This, of course, does not mean that there is not a position for “advisors.”
Some will succeed, but as the consultants to their clients, not as
One final comment about financial institutions in 2000. We have yet to
conclude how best to regulate these new combinations. Will it be
state/provincial, national, regional or international? In the US the utility
and efficiency of state regulation of insurance is under serious question.
With global competition, I believe that some form of Basle Committee will be
necessary to oversee financial organizations, with all their permutations.
Global risk-based capital requirements are inevitable, however much they may
impinge on national sovereignty, with the resulting and inevitable
chauvinistic political outcry.
In the US, a rapid move to Federal regulation
will probably occur, especially if some form of the proposed Policyholder
Disaster Protection Act (H.R.2749), for catastrophe reserving, is approved.
So we have an extraordinary opportunity to create and deliver new risk
financing products, attuned to current and future needs, blending the skills
of three financial institutions ć banks, investment houses, and insurers.
The pitfall is that some will not make it.
My second issue for 2000 is trust. My over-arching concern is the growing
lack of trust of individuals in profit-making corporations and their
governmental servants. Some of this disillusionment is evident in the
frequency and size of individual and class action lawsuits that invoke even
frivolous allegations. We simply can’t trust one another.
The noises from Seattle early in December illustrated the magnitude of the
problem. Luddites on both sides insinuated the worst possible inclinations
of the others, and the anarchists said “to hell” with everything! The World
Trade Organization could not see that its deliberations should be far more
transparent and reflective of broader issues than simply trade. The
demonstrating groups piously intoned their concern for workers and
environments in other jurisdictions while attempting to protect their own
comfortable and insulated positions. Neither side could believe that the
other possessed even a modicum of altruism or honesty. There was no trust.
The Economist (December 11) summarized it neatly: “Free trade, like freedom
in general, is not a panacea. It is not likely to bring better welfare on
its own. But also, it is not likely simply to enrich multinationals and
destroy the planet. Trade is about greater competition, which weakens the
power of vested interests. It is about greater opportunity for millions
rather than privileges for the few.”
When we have elected officials who patently lie to us, when we have an
industry deny for years that its products are harmful to our health (in the
face of almost uniform scientific evidence to the contrary), when other
scientists assure us of the relative safety of some technology in terms that
are incomprehensible, trust is eroded. And when trust disappears, so too
does civility and confidence in the uncertain future. We turn to constant
threats, recriminations, and the use of lawsuits to redress imagined
Last year’s film, A Civil Action, drawn from the earlier book of the same
title, illustrates that lack of trust: the plaintiffs mistrusted neighbor
corporations and even their own attorney; the corporations mistrusted the
community and the civil justice system; the court mistrusted the competing
lawyers. Who can we trust if everyone seems hell-bent on personal gain?.
How is the public to react when a corporation appears to value its
shareholders over any other constituents? A review in the Journal of
Contingencies and Crisis Management (September 1999) described the first
response of the company that owned the Estonia, the ship that sank in the
Baltic on the night of September 28, 1994 with the loss of 800 lives. The
next morning the company advised the press that insurance covered the loss of
the ship and possible ensuing damages! No wonder that the public loses trust
in corporations, organizations that, in Peter Bernstein’s words, give
evidence of “a ruthless and cold-blooded drive to maximize shareholder
If mutual trust is rapidly disappearing, what can we do about it? Lance
Odden, the Headmaster of Connecticut’s Taft School, recently wrote: “None of
us can entirely change the world, but we are morally challenged to try to
make it a better place.” This is as true of the organizational risk manager
as it is of a teacher or preacher. Perhaps this new century will see a
retreat from the “me” decade of the 1990s toward a new recognition of our
interconnectedness with others, our communities, and our environment. Yes,
we need to be efficient, and productive, and profitable, but not at the
expense of all those values that create a livable community.
We place great stock in “scientific” risk assessment. But how does the
public view it? Peter Montague, in an Internet essay that John Ross (The
Polar Bear Strategy, see RMR, December 1999) brought to my attention,
writes: “Risk assessment is inherently an undemocratic process because most
people cannot understand the data, the calculations, or the basis for the
risk assessor’s judgment.” How can we democratize the process without
compromising its intellectual rigor?
The solution lies in improving how we communicate with all those affected by
our decisions. There’s an eye-opening chapter in Risk and Responsibility, wr
itten by William Leiss and Christina Chociolko (McGill-Queen’s University
Press, 1994), that describes a power line siting controversy in British
Columbia. In 1989, British Columbia Hydro proposed additions to an existing
set of power lines to support a pulp and paper plant expansion. Leiss and
Chociolko tell the fascinating story of the public reaction to the plan, the
conflicting scientific evidence offered about the risks of electric and
magnetic fields, the growing resentment of both sides in the argument, the
attempt of government to intervene and arbitrate, and the conclusions,
unsatisfactory to all. It’s a lesson that every risk manager should read,
mark, and inwardly digest. It is a lesson of the erosion of trust and the
failure to communicate intelligently and in a timely fashion. It is a lesson
of how not to present so-called “expert” scientific data to the public. By
the end of the affair, no one participant trusted another.
Another example is the decision by Royal Dutch Shell to sink its
Brent Spar facility in the North Sea. The outcry from environmental
organizations, including Greenpeace, forced the company eventually
to scrap it ashore, even though most expert opinion, including that
of some “greens,” was that sinking it was the least offensive to
the environment. The lesson: consider seriously the views and risk
perceptions of all interested parties before making a decision.
Who can we believe? How can we establish mutual credibility? That
is the question that risk managers should ask in 2000 as they attempt
to rebuild the bridge of trust that once existed with multiple stakeholders.
We must learn how to communicate clearly and intelligently with
all of our audiences.