Solving information asymmetry in insurance-examples

     While reading up on the insurance industry, I noted the following clause/contract types which go a long way
     towards reducing information asymmetry issues.

1. Utmost good faith:-Within a stipulated period, the insurer can repudiate the contract if any intentional misstatement is found in the contract
   
2. Renewal discount/No claim bonus:- The lure of getting steep renewal discounts for good track record, may deter petty claims.
   
3. Average clause:- This encourages the insured to go for 100%+ insurance, so that when loss occurs he is totally covered.
   
4. group insurance discount/mandatory insurance cheaper since lemons problem absent.
   
5. Universal insurance-Adverse selection problem is avoided here.
   
6. Treaty reinsurance over facultative reinsurance(optional;- It just means that neither party can pick and choose the polices which they will submit/accept for reinsurance. This ensures that cherry picking is minimized by informed originator. 
7. Use of insurance brokers to give confidence to both client(about rates) and underwriters(about client risk). The primary role of the broker is to inspire in underwriters, on a case-by-case basis, the confidence to accept the risk presented. Market now works on guide wordings that can be modified to suit a client`s needs. These are negotiated accordingly and the risk transfer negotiated with skill in structuring policy wordings acceptable to the insurer and providing protection to the client.

Safety first-how IRDA regulates investment management in insurance industry

Given the vast AUM of the insurance industry, investment management is a big business there. So the regulator(IRDA) has guidelines for that, which Chartered Accountants are asked to certify the company's compliance in that regard. Some of these guidelines are;-

1. Seperate front office from middle office/back office. Former reports to CIO and latter report to CFO, so CIO cannot hide trade data
2. Automatic data transmission from Front Office to Middle Office w/o scope to manually edit. Back office cannot rectify wrong data but only reject it
3. For AUM>500Cr, fund manager cannot be the trader
4. Outsourcing ban with limited exceptions-that too to be paid for by shareholders fund not by policy holders. At first blush, it seems unfriendly(why insist on expense in house handling) but then one should remember that outsourcing core competency(investment management IS one for this industry) is frowned upon by regulators, and by others.
5. For security not traded within past 30days, book value used. Much stricter than SEBI which allows DCF valuation with appropriate liquidity discount. 
6. Mandates extensive use of automation, especially for cash management and generation of routine/exception reports. Also, investment limits(sector/caps/liquidity/mix) are preset in the system, to ensure alerts before the trade happens. IRDA mandates this.

To their credit, the sector has never had a publicly reported major scam. So IRDA does seem to be on a right track in this regard.