How Does the Recession Impact Insurance
By Michael Giusti
It seems everyone is debating the question of a recession — are we in one? Is one around the corner? And in the event of a recession, what does that mean?
In the insurance world, nobody wants a recession to happen, but beyond that, there is less agreement about what it means for the industry if one were to take hold.
From property and casualty lines to health and life insurance, recessions hold slightly different implications, and this report will explore some of those.
What is a recession?
Getting a straight answer to the question about what constitutes a recession isn’t easy. One snarky response is that a recession is when your neighbor loses his job, while a depression is when you lose your job.
A more common, though not technically correct answer is that a recession is two consecutive quarters of gross domestic product declines. While that is commonly repeated in the popular press and by commentators, it isn’t how the official economic scorekeepers define a recession.
The group formally charged with defining a recession is the National Bureau of Economic Research’s Business Cycle Dating Committee.
That committee uses a bit of an esoteric and wholistic look at the economy that includes jobs data, consumer spending, business spending and inventories, industrial production, personal incomes and savings, and other data. And according to them, we are not currently in a recession. At least for now.
So, while there isn’t a single quick checklist to define a recession, there is no denying there is a general feeling that things could be better in the economy.
And there are a few objective measurements that back that feeling up. For one, the Standard and Poor’s 500 Index is down about 15% from a year ago. Stock prices are swooning driven by shaky earnings reports and CEOs who all seem to be warning of impending recessions.
And the Federal Reserve is continuing its inflation fight, pushing the federal funds rate up to a target of between 4.25 to 4.5% — higher than it has been in years.
And then there is the open question of what will happen with the fight over the federal credit limit. If brinkmanship in Congress pushes markets to the point of worry, or worse, panic, bond and stock prices in the U.S. and abroad could react wildly, and severe job cuts could follow.
On the other hand, there are signs pointing in a generally good economic direction at the moment. For one, employment is back to pre-pandemic levels right now. And consumer confidence is coming back according to the Conference Board’s most recent measure.
So, what gives?
Much of the push and pull within the economy is being driven by the Federal Reserve’s inflation fight. There are signs that the rising interest rates appear to be doing their job – the consumer price index is only up 6.5% for the 12 months ending in December, which is down sharply from the mid-year highs. But there are no signs the Fed is going to let up on rate hikes any time soon.
So, what drove inflation in the first place? Again, that answer tends to depend on who you ask.
Many economists point to free pandemic spending by the federal government, which was meant to keep the economy from tanking during the COVID-19 lockdowns. When Congress authorized stimulus payments to prop up households and small businesses during the initial pandemic shutdowns, household goods ranging from lawn furniture to appliances became scarce, and construction material prices spiked as people undertook renovation projects.
Other economists point less to the stimulus payments and more to the realities of the pandemic as driving the prices up — factories had to shut down during waves of the virus, making goods less available. Ports had fewer workers to clear containers and trucking companies had fewer drivers. Restaurants had fewer people to wait tables. And all that scarcity led to wage and price growth as employers all competed to fill their workforces and shops competed to keep their shelves stocked.
And then there were some one-off odd variables. Egg and poultry prices spiked during the holidays, not because of worker shortages or loose monetary supply, but because of a wave of avian flu that killed millions of birds in farms across the nation.
Gasoline prices spiked as people returned to work after oil producers had reduced supply in response to the pandemic, and then Russia invaded Ukraine, pushing them even higher.
One cost specific to the insurance world that has spiked recently is the cost of reinsurance. These are policies insurance companies take out themselves as backstops to protect themselves from catastrophic losses, such as when Hurricane Ian swept through Florida. With the increased frequency of natural disasters, along with global conflicts, such as the Russia-Ukraine war, renewal rates for reinsurance policies drove higher in 2023, meaning underlying costs for most insurance stands to go up, too.
So, regardless of the cause, the end result is an economy that isn’t operating at its best and a Federal Reserve actively working to muffle growth to bring down prices through interest rate hikes.
How does this compare?
One defining difference many economists are pointing to when comparing this economic moment with past recessions is the speed with which the market is responding to the Federal Reserve’s rate tightening. This may be in part because the Fed is working hard to telegraph its intention to move rates up, which seems to have moved the longer-term maturity bonds sooner than they might have otherwise moved.
Another defining difference is the still-looming shadow of the pandemic. With China recently dropping its Zero Covid policy, much of the recovery is going to depend on whether outbreaks cause supply chain breakdowns.
Also coming from the pandemic transition is the effect on the housing market, and specifically the transition back from a work-from-home environment and short-term rental speculation bubble.
Coupled with rising interest rates, causing mortgages to be more pricy, the net effect is that existing home sales are down sharply compared with just even a few months ago.
And of course, if Congress were to do the unthinkable and default on a debt payment, that would push the economy into terrifying unknown territory.
Insurance impacts
The most immediate effect of the inflationary pressures on the insurance industry came in the property and casualty lines of home and automotive insurance. With supply chains making replacement parts expensive for automobiles and materials expensive for home repairs, insurers were having to pay out more after claims. Higher labor costs played a major factor, too.
Replacements costs for homes and autos have been higher for the past few years as well.
All of that has added up to higher claims costs and lower profitability, meaning the insurers are needing to turn to higher premiums to cover those costs.
In some ways, insurance has a relatively inelastic demand curve, meaning that even if prices go up, that won’t necessarily drive down demand proportionally. That’s because in many areas of the industry, insurance is mandated by law.
But there are limits, and at some point, higher prices do have an effect. At minimum, higher prices tend to lead people to shop more, and at worse, can lead them to forgo coverage altogether.
According to their recent survey, it does look like consumers may be primed to start shopping around, said Mark McElroy, executive vice president and head of TransUnion’s insurance business.
“Carriers are seeking rate increases across the board. And with all the macro pressures weighing on the consumer’s spendable dollars, we expect that should drive people to shop for many lines in the coming quarter,” McElroy said.
In addition to shopping around, consumers might also take a hard look at their policies to ensure their coverage line items are all necessary and look for areas they may trim to save some cash — such as comprehensive coverage on auto coverage.
On the other hand, shopping may not be as robust in the coming quarter because of the smaller demand for home sales and autos driven by higher interest rates. Without those sales, buyers may not have quite as much of an automatic impetuous to shop for a new policy.
Homeowner’s Insurance
Homeowner’s insurance is one area that tends to be required — presuming the owner has a mortgage. So, even if the premium goes up, the homeowner can’t typically drop the coverage, but instead must rely on shopping around for another carrier. And in some states, such as Florida and Louisiana, there is a lack of companies writing policies in some areas right now, so choices may be thin.
While it might be tempting to drop homeowner’s insurance if the home is paid off, that would be putting what is typically a family’s biggest asset at a huge risk.
Flood insurance is similarly essential, even if it is getting more expensive this year for many people.
Federal Flood Insurance Policies are going through a new risk assessment called Risk Rating 2.0, which is re-assessing the underwriting for each home, and in many cases, leading to much higher premiums for many homes.
But homeowners need only look as far as California as a cautionary tale for why not to go without flood insurance, where earlier this year a sequence of atmospheric rivers inundated the state, causing tens of billions of dollars in damage and killing dozens of people.
As cleanup for that damage is underway, it is now clear that by some estimates, only 2% of California homeowners have flood insurance policies — half of the 4% national average. And homeowners’ policies don’t cover flood damage.
Health Insurance
Health insurance is also technically legally required by the Affordable Care Act, so in theory it should also not be quite so price sensitive. However, Congress removed the financial penalty for not carrying health insurance, so while it is a legal requirement to carry health insurance, there is no immediate financial penalty for not signing up.
Open enrollment for health insurance is over by this point in the year. Most employer-sponsored plans finish their open enrollments before Thanksgiving, and the Affordable Care Act ended its open enrollment on January 7. Medicare ended its open enrollment in December.
Much like many things in the economy, health insurance premiums did see average premium increases in 2023, but that didn’t mean demand fell for Affordable Care Act plans. By the time open enrollment ended, 16 million people signed up for plans through the marketplace — a 13% increase over last year.
A few plans are still available for enrollment, such as Medicaid and the Children’s Health Insurance Program, which can be joined at any point throughout the year, depending on income eligibility.
