Transcript Chapter 1

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Risk Management and Insurance: Perspectives in a Global Economy
1. Introduction to Risk Management and
Insurance
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Study Points
 The importance of an international perspective
 Risk management and economic growth
 The language of risk and insurance internationally
 The environment for risk and insurance internationally
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Risk
Risk and Economic Development (Figure 1.1)
Level of Economic Development
4
The Importance of an International Perspective
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The Importance of an International Perspective
 Decisions about how to deal with some risky activities and
processes have become incredibly complex.
 The world is getting smaller!
 In most markets, a significant proportion of goods and
services competes directly or indirectly with those of other
countries.
• The proportion of cross-border trade continues to grow worldwide.
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The Importance
 “Foreign direct investment (FDI)” inflows tend to grow at
rates greater than merchandise trade
 Competitiveness is heightened as price differentiation
becomes a less feasible alternative to improved operating
efficiency.
• Even firms not directly involved in international activities are affected.
 In a global economy, the way risk is dealt with naturally
differs to suit each country’s socio-cultural, demographic,
political, and economic circumstances.
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The Importance
 Decisions about how to deal with some risky activities and
processes have become incredibly complex.
 The world is getting smaller!
 In most markets, a significant proportion of goods and
services competes directly or indirectly with those of other
countries.
• The proportion of cross-border trade continues to grow worldwide.
• See Figure 1.2
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World Merchandise Trade and GDP (Figure 1.2)
Source: WTO
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The Importance – FDI
 The importance of “foreign direct investment (FDI)”
• FDI inflows tend to grow at rates greater than merchandise trade
 Competitiveness is heightened as price differentiation
becomes a less feasible alternative to improved operating
efficiency.
• Even firms not directly involved in international activities are affected.
 In a global economy, the way risk is dealt with naturally
differs to suit each country’s sociocultural, demographic,
political, and economic circumstances.
10
Risk Management and Economic Growth
Growing Importance of Risk Management
 A rise in the number of high-value (highly protected) risks
 Resource concentration
 Pollution as another externality
 Risk management has assumed greater importance as its
scope continues to expand.
• Today, it finds application in minimizing financial risks to business
and in helping governments resolve public policy issues.
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Role of Risk Management in Economic Growth
 Reduce long-term financial variability and render firms more
competitive
 From a macroeconomic standpoint, reduce the number of
commercial and industrial enterprises that would otherwise
become insolvent
 Via effective loss control measures, reduce the frequency
and severity of causes of economic losses, such as workrelated injuries and work interruption
 Reduce production costs, thus making goods and services
at lower cost
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Defining Risk and Insurance
 “International risk” and “international insurance” commonly
refer to (1) unintended outcomes and (2) insurance
transactions that transcend or cross national boundaries.
• International risk can also flow from the consequences of
international business activities.
 The importance of the concepts on both a cross-border and
comparative basis.
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Country Classifications – By State of Economic Development
 Developed market economies
• Also known as high-income
countries, advanced
countries, economically
advanced countries,
industrialized countries, the
north, and the first world.
• “Newly industrialized
economies”
 Developing economies
• Also known as underdeveloped
countries, undeveloped
countries, low- (or middle-)
income countries, the south
and the third world.
• Emerging markets
• Economies in transition Least
developed countries
 Centrally planned economies
• Also known as planned
economies, Communist
countries, and the second
world
BRIC
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World’s Distribution of GDP, Trade & Population (2002)
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World’s Distribution of GDP, Trade & Population (2009)
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Country Classifications by Membership
International Organizations
Regional Organizations
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The United Nations
The International Monetary Fund
The World Bank
The World Trade Organization (WTO)
The World Health Organization (WHO)
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
The Organization for Economic
Cooperation and Development
The European Union
The North American Free Trade
Agreement
Association of Southeast Asian Nations
Asia-Pacific Economic Cooperation
Southern Cone Common Market
Common Market for Eastern and
Southern Africa
Other (newer)
organizations?
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OECD Member Countries
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E.U. Members and Applicants
Map
Risk Classifications
 Risk
 Loss exposure
 Peril
 Hazard
• Physical hazard
• Moral hazard
Risk Classifications – Risks
 Pure risk
 Financial risk
• Market risk
• Interest rate risk
• Exchange rate risk
• Other systematic risk
• Credit (counterparty) risk
• Price risk
 Operational (internal) risk
•
•
•
•
•
•
Personal risk
Personnel risk
Property risk
Liability risk
Concentration risk
Reputational risk
 Strategic risk
Risk Management Process
 The process
• Risk analysis
• Identification and evaluation of the possible outcomes associated
with events or activities
• Risk control
• Exploration of techniques to control adverse outcomes
• Risk financing
• How to finance the costs of adverse outcomes that occur
 The view of risk management is changing
• A fragmented approach to the management of risk is less effective
and efficient than an integrated approach that involves all the risks to
which an entity is exposed.
Insurance Classifications
 Social vs. private insurance
 Life vs. nonlife insurance
• Nonlife insurance also known as general insurance, propertycasualty and property-liability insurance
• Life insurance dealing with:
• Death
• Living a certain period
• Incapacity (disability and long-term care need)
• Injury or incurring a disease
Chapter 9 (Social Insurance)
Chapter 20 (Insurance Globally)
Insurance Classifications
 Personal vs. commercial insurance
• Industrial insurance
• Large risks and mass risks in the E.U.
 Direct insurance vs. reinsurance
• Direct (writing) insurer, primary insurer
• Direct premium
• Reinsurer, assuming company
• Reinsurance premium
• Retrocession and retrocessionaire
Chap 21 (Life Insurance)
Chap 22 (Nonlife Insurance)
Chap 23 (Reinsurance)
The Changing Environment and Risk Management
Rapidly
Changing
Environment

Greater
Uncertainty

Increased Need for
Effective
Risk Management
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Discussion Questions
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Discussion Question 1
 Is an appreciation for international events important to
students of risk management and insurance, even if they
intend to work exclusively for domestic firms with no
international operations?
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Discussion Question 2
 Is the study of risk management becoming more or less
important in your country?
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Discussion Question 3
 What special risks would you expect multinational
corporations to encounter that purely national firms
ordinarily would not encounter? Speculate about some of
the ways of dealing with such special risks.
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Discussion Question 4
 Randomly select one economically developed country and
one developing country, and compare classification of
insurance between the two countries.
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Discussion Question 5
 What do you think are the prerequisites for the development
of insurance in economically underdeveloped countries?
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