By giving its nod to increase the foreign direct investment (FDI) ceiling in insurance to 49 per cent from the current 26 per cent (along with permitting FDI in the pensions sector and a slew of other reforms announced in retail and aviation earlier), Manmohan Singh’s government has re-affirmed its resolve to push forward with economic reforms despite a precarious political environment. The amendment was initially introduced in the Rajya Sabha in December 2008 and had been awaiting approval since then. This is undoubtedly a step in the right direction that is expected to catalyse the much-needed foreign capital in the Indian insurance sector.
FDI limit in the insurance sector is higher not only in other BRIC nations but also in other Asian countries, such as Japan, Korea, Indonesia and Malaysia, in comparison to India’s 26 per cent. Within the financial services spectrum in India, FDI cap is higher in banking and asset management sectors than in insurance. Hence, in many ways this policy change brings about an equity in the Indian financial services market.
There is little doubt over the immense potential of the insurance business in India in the long-run - a fast-growing economy, low insurance penetration, rising income levels of the middle-class and increasing awareness of insurance. This policy reform will send a positive signal to foreign insurers who have been waiting in the wings for the FDI cap to increase before they enter India. Even the existing foreign players are likely to increase their stakes and become strategic shareholders from minority shareholders.
The Indian insurance sector needs $10-12 billion capital infusion in the next five years. The government’s move can bridge this capital gap. The key beneficiaries of this amendment will be those struggling private insurance companies that have lost money in the past decade due to restrictions on foreign holding and on account of stringent regulations and thus, require a large amount of capital to sustain this competitive environment. Insurance is a high-gestation and capital-intensive business and it takes around 8-10 years for an insurance company to turn profitable. During this time, it needs regular capital infusion for ongoing business and expansion. Increased capital by foreign partners can help insurers stay afloat. Currently, 22 out of 24 life insurance players and 18 out of 27 non-life insurers in India have foreign partners, and many more are in the queue to enter the Indian market.
Public sector players, who still dominate the Indian insurance sector, will not be impacted directly by this move. However, the capital inflow is likely to bridge the gap between the private and public insurers in terms of scale and market share.
Capital infusion through FDI will benefit the industry as a whole by increasing the access of insurance and improving penetration in the country. Higher economic stake means higher operational flexibility, which will entice the foreign insurers to contribute to technical aspects of insurance business, including product innovation, streamlining the claims settlement processes and introducing technological best practices. The sector can witness a flurry of innovative products, focused towards the large uninsured and rural population. Currently, only about five per cent of India’s population invests in insurance, majority of whom are in Tier-1 and Tier-2 cities. A vast majority of the population that stays in rural and semi-urban areas is still either ignorant or unreachable to insurance. This policy change can bridge the gap for the insurers to reach out to this segment by targeted products, effective distribution and efficient claim settlement mechanism.
This much-awaited amendment, once passed by Parliament, is expected to flag-off the next phase of development in the Indian insurance sector and is likely to provide the much-needed fillip to the industry.
The author is Partner & Leader Insurance Advisory Services, Ernst & Young