The challenges facing Saudi Arabia’s economy amid the slump in oil prices has prompted its government to take austerity measures and also jumpstart the process of economic diversification by facilitating the growth of a viable non-oil sector. While cynics may point to previous failed attempts to wean the Kingdom from its oil excesses, structural changes in the global energy landscape has ensured a strong political will on the part of the rulers to chart a new economic route into the “post-oil era”.
What does this then mean for insurers as the Gulf economies make the tough transition towards lesser oil-dependance? And how does the insurance industry prepare itself to take advantage of the anticipated growth of a more vibrant SME sector – a crucial plank of the reform agenda?
The slump in oil prices has been well-documented with the current price of approximately US$43 a barrel representing less than half the level it was just two years ago. For a region at the forefront of global energy markets, many Gulf States have had to react to these developments by tightening their belts mainly through cutting public spending and government subsidies, as well as increasing efforts to develop the non-oil sector of the economy.
The Kingdom of Saudi Arabia, more than others, encapsulates the challenge faced by the energy-producing states in the Gulf looking to wean itself from decades of oil-led growth – approximately 90% of the Kingdom’s revenue coming from oil.
To its credit, the KSA government has duly led the way with Deputy Crown Prince Mohammed bin Salman, 30, recently unveiling a comprehensive blueprint that seeks to steer the Kingdom’s economy away from oil dependence, while also trimming state expenditure.
And central to this plan is boosting private sector investment in order to create more jobs. At present, two-thirds of Saudi workers are employed by the government, although the blueprint hopes to create 450,000 new jobs in the private sector by 2020 – as well as reduce public sector wages from 45% to 40% of government spend.
Cynics may point to the fact that past oil slumps have always prompted a call for reforms, only for it to dissipate once prices pick up. But there is clear recognition by Saudi Arabia, and other Arab states, of the structural change taking place in the oil industry which makes it unlikely for prices to return to levels that could sustain the lavish government budgets of before.
Moving into the post-oil era
Saudi Arabia’s reform plans known as “Vision 2030”, seeks to support the growth of the SME sector – a key initiative if the government hopes to reduce the bloated civil service and create new jobs for the country’s youthful population. The government aims to increase SME contribution to GDP from 20% to 35% by 2030.
It also hopes to improve the country’s business competitiveness; and also cultivate new industries – with manufacturing, tourism, and technology among those cited.
While there are doubts as to whether such wide-scale reforms could be undertaken within a relatively short time span – also not to mention challenges such as human capital and expertise necessary to drive new areas of economic growth – political will in Saudi Arabia has never been stronger to fashion a more sustainable and diverse economic base in which to grow.
In short, big changes to the Saudi Arabian economy have been set in motion, regardless of whether the eventual change meets or exceeds current deadlines.
Opportunities for insurers
So what does it mean for insurers doing business in the Kingdom? As the economy moves into a new phase, the insurance market will surely evolve in tandem.
Lesser business concentration
For one, economic diversification will lead to lesser concentration in the Saudi insurance market. Currently, approximately 90% of premiums net of ceded reinsurance resides in medical and motor business.
Insurers in the market also have a tendency to focus on “big-ticket” accounts as a way to obtain market share and grow the top-line, leading to cut-throat competition and pricing, said Mr Salman Siddiqui, Senior Financial Analyst at A.M. Best.
“The development of new industries should create further opportunities for risk carriers in the country, and the greatest opportunity lies in diversification of revenues away from infrastructure/engineering projects and into other fields,” he said.
“Additionally, new industries will also provide an opportunity for insurers to specialise and find niches. Currently, insurance companies in the country operate under a ‘jack of all trades’ model, hoping to write any business they can source without identifying niches, which leads to high levels of competition and pricing pressure.”
Opportunities from SME growth
As mentioned, the SME segment will be a major plank of the reform agenda and plans to stimulate the sector – which includes supporting SME entrepreneurship, privatisation and investments in new industries – will provide insures with more avenues for growth.
The Vision 2030 document notes: “To help us achieve this goal, we have established the SME Authority and we will continue encouraging our young entrepreneurs with business-friendly regulations, easier access to funding, international partnerships and a greater share of national procurement and government bids.”
Risk Management & medical insurance
Mr Mahomed Akoob, Managing Director of Hannover ReTakaful, said there is an opportunity for insurers to gain first-mover advantage among SMEs by providing a viable solution to protect their risks.
“SMEs’ insurance needs are perhaps wider than the larger companies, since many of the larger enterprises have their own dedicated risk management teams and systems. SMEs, on the other hand, might require the assistance of their insurers in this regard, so a well-established insurer would be able provide risk management advice and perhaps legal advice when it comes to liability insurance,” he said.
Touching on the concept of an SME insurance package, Mr David Anthony, Lead Analyst at S&P Global Ratings, said: “More SMEs will likely imply more office buildings, more stock held in warehouses, and more imports as building materials and products are brought in from abroad. This suggests more opportunities for insurers to sell fire and cargo insurance to local SMEs – and for insurance Marketing Departments to find effective ways to package these covers into a single, cost-effective ‘bouquet’.”
He also added that a steady growth in private sector employment will “likely result in a similar increase in the number of insureds covered by the group health contracts that all private companies are already obliged to take out on behalf of their employees”.
Industry ready to play a part
While the insurance industry is bound to benefit from a diversified economic base moving away from over-reliance on energy, it can also be a key contributor to the re-making of the Saudi Arabian economy, said Mr Basem Odeh, Chairman of the Insurance Executive Committee (IEC) in Saudi Arabia, which represents insurers in the Kingdom.
“While, on the one hand, insurance will benefit from the growth of the economy in general in the non-oil sector, the industry will also contribute by way of providing more employment opportunities for young Saudis of both genders,” he said.
Mr Odeh, who is also CEO of Riyadh-based composite insurer, Arabian Shield, believes there are potentially more than 2,000 new jobs that could be created annually within the insurance sector as the number of insurable risk in the country grows.
“I believe the insurance sector will play a key role in developing the SME sector and increasing the contribution from non-oil sectors in the economy,” he said.
Construction major casualty in economic remake
The once booming Saudi Arabian construction industry has been one of the biggest casualties of the move towards austerity. Data published by Jeddah-based National Commercial Bank show construction contracts shrinking by approximately 65% in the second quarter compared to the same period last year.
While projects already awarded will proceed, many are expected to be scaled back or rescheduled over a longer period, while the costs of future projects are expected to be trimmed.
However, Mr Odeh believes the loss of premiums arising from the dramatic slowdown in the construction sector can be offset by growth in other lines of business.
“It is obvious that growth in certain business classes like CAR and EAR will be negatively impacted. However, the overall picture remains positive as I believe the continuous growth in other classes will weigh out the reduction in the limited impacted classes,” said Mr Odeh.
The fact that not much of the major infrastructure-related risk is retained by local insurers also means the direct impact on the insurance industry would be fairly contained.
However, there are the indirect impact from infrastructure spending cuts which could affect some in the industry.
1) Lack of Inward reinsurance commissions
Firstly, seeing how local insurers have benefited from high levels of inward reinsurance commissions when ceding the infrastructure risks, the subsequent loss of this income may be detrimental to technical results for some.
“Consequently, while a slowdown in new energy, property and construction risks may not impact the net written premium base of most local insurers, given their extremely low retention levels on these risks, technical profitability may be subject to deterioration,” said Mr Siddiqui.
2) Uncertainties in construction alters risk profile
Secondly, while reiterating that the share of retained business is small, Mr Akoob said insurers however would need to re-analyse the existing construction and engineering business on their books given how risk profiles may have changed considerably.
“The more pressing issue in this context is the reserving and the development ‘tail’ of the business. If new projects are expected to be aborted, there is a reasonable chance that running projects might be delayed or even cancelled midway. This is likely to change the risk profiles of this line of business for the insurers in question,” he said.
3) Related impact to group health
The slowdown in construction as the economy reboots have led to massive layoffs within the sector – with media reports estimating nearly 100,000 foreign construction workers have been let go since the start of the year.
Foreigners account for 10 million of the total 30.8 million population in Saudi Arabia. But with economic changes starting to put pressure on many businesses who have traditionally depended on state contracts, foreign worker numbers are expected to decrease with many forced to leave the country as jobs dry up.
And this naturally means a reduced pool of workers for insurers to underwrite health business, said Mr Anthony.
“Reduced public works and construction will impact the insurance sector indirectly as reduced activity means fewer private sector workers which in turn means fewer insureds under compulsory group health contracts,” he said, adding that 90% of net retained premiums in Saudi Arabia relates to group medical and motor business.
As the Saudi Arabian government look to reduce spending, there have been cuts in some of the welfare benefits as well as a fine-tuning of lavish subsidy programmes. Consequently, the government has been pushing for a bigger role for private players, as part of its economic transformation, in order to relieve the financial burden of the state.
A prime example is in healthcare, which has led to mandatory medical insurance for private sector employees being introduced in the Kingdom.
“Yes, the use of private sector insurance is potentially part of the solution to Saudi Arabia’s desire to reduce government spending,” said Mr Anthony, citing how the expansion of compulsory health insurance to cover the Kingdom’s entire working population could lead to even bigger savings.
While state benefits still remain generous by normal standards, with education and healthcare provisions remaining robust, could the incremental reforms and gentle loosening of some safety nets eventually lead to greater private sector involvement in areas of savings and retirement?
In theory it should, although the fact that certain social pillars such as financial support for retirees still remain strong, means it will be a long-term game.
Moving with the times
Evidently, the challenges around promoting life insurance remain unchanged, said Mr Steven Cosgrove, CEO of SAAB Takaful – citing potential reluctance on religious grounds and hence the importance of takaful solutions; as well as a lack of financial awareness and planning.
However, current economic changes could allow for the message of financial planning and protection to resonate much better.
“As most of the citizens have been enjoying good support from the government in the ways of supporting their children for education abroad as well as generous retirement pensions there has never been a real need for financial planning amongst the citizens.
“However, in the coming times with the reduction of government spending, citizens will need to consider the value of financial planning to achieve their goals and dreams,” said Mr Cosgrove.
Incentives and challenges
In many countries where governments look to incentivise long-term savings, tax reliefs have proven to be a popular solution – although the absence of personal income tax in Saudi Arabia excludes such option.
“A possible solution, however, would be for government to contribute to any long-term savings or pension plan that an individual may opt to set up,” said Mr Anthony.
And he believes the insurance sector in Saudi Arabia has the capabilities to manage such long-term savings plan, if one comes to fruition.
“Some of the larger insurers would undoubtedly be able to make a good case by offering a competitively priced savings plan that could also be formatted as an insurance product offering embedded life and other protection features,” he added.
Undoubtedly, a more holistic approach is needed to support the growth of life insurance in the Middle East. Not least the introduction of life insurance regulations, and the development of a more robust capital market to allow insurers to effectively design solutions for savings and retirement.
But a move to initiate a long-term pensions fund and the accompanying development of government bond markets, would in the long run allow states like Saudi Arabia access to additional capital to support its infrastructure needs.
While things are still a long way away, current prevailing needs do make for a more conducive environment for the belated development of the country’s life and pensions market.
The economic transition that will have to take place in Saudi Arabia, and other Gulf states, presents an opportunity for the insurance industry to prepare to take on opportunities in a more diverse risk landscape underpinned by growth in the private sector – challenges notwithstanding.
“Companies have operated in a certain economic environment for a long time and this environment is changing. As the economy moves in this planned direction, opportunities for insurers are expected but moving away from covering predominantly government backed projects to covering private sector businesses would require a bit of a paradigm change on the part of insurers.
“The nature of the business is different and so would insurers’ involvement,” said Mr Akoob.
But the positive news is that the Saudi insurance industry is already preparing itself for this economic transition.
“We at IEC have started moving by establishing a task force to work on setting out our own vision that is inspired by ‘Vision 2030’, and will become complementary to government efforts in this regard. We will work closely with our regulator (SAMA) and all others concerned to ensure that we play an active role in making the vision a reality,” said Mr Odeh.
As the local sector re-tools to equip itself to take advantage of new opportunities, the international insurance market would be able to help fill in the technical gap, said Mr Anthony.
“The provision of new and more complex insurance products and solutions will necessitate a steep learning curve for the Saudi insurance industry. But international brokers and reinsurers will likely prove eager to help manage the risks of innovative insurance covers until such a time as local insurers feel they have sufficient data to carry more of the risk themselves.”
The risk landscape in Saudi Arabia, and conceivably the wider GCC, will evolve in the same direction as the domestic economies – with countries seeking to expand the non-energy sectors and support private enterprise.
Now is the window for insurers to prepare themselves to construct the right product offering and support services for tomorrow’s economic reality – which has come sooner than some might have anticipated.