Insurance basics

Need for a feeling of security

Needing to feel secure is one of man’s most basic needs. Life means exposure to risks and hazards which can threaten one’s health, life and property. That is why man has always sought to «protect» himself against life’s uncertainties through insurance. Life without insurance in the industrialized countries is hardy conceivable any more. The Swiss people are a very security-conscious people. At CHF 7,109 (USD 5'716) per inhabitant, Switzerland was the world leader in 2004 when it comes to expenditure on private insurance (excluding social insurance).

Solidarity principle

Insurance is based on the solidarity principle. A large group of individuals or companies exposed to the same risk pay their premiums into a common fund, the fund being responsible for providing contractually specified benefits in the event of a claim on the part of an insured suffering damage or loss.

This was the principle underlying the «insurance» of Babylonian caravans already in 1,700 BC, an insurance principle still very much alive today. The traveling merchants – who were all exposed to the same hazard – joined together. Society or the community took care of those who were hit by misfortune. What differentiated this risk group from insurance as we know it today was a commercial aspect. Institutional insurers – who are outside of the risk group itself – didn’t become established until the latter part of the Middle Ages.

Law of large numbers

Mathematics and statistics are the cornerstones of today’s insurance. The theory of probability and the statistical analysis of large numbers of individual claims make it possible to detect and calculate certain «laws» and make predictions.
The law of probability can be explained on the basis of dice: Each throw of the die is governed by chance. Yet certain probabilities become apparent when throwing the die many times. But the law of probability doesn’t specifically say who, but rather only that a certain number of members of a group will be affected by a certain event. Fate or uncertainty as the triggering factor for insured loss is thus transformed into a quantifiable mean (risk).

Contract of insurance

A contract of insurance offers insurance protection. This protection covers the financial consequences of a damaging occurrence. It is characteristic for a damaging occurrence that as a rule there is no way of knowing whether it will occur at all or – if it occurs – when it will do so. Property and persons may be insured against damaging occurrences under the contract of insurance (property or personal insurance).

Oversight of the insurance industry

The Insurance Supervisory Act (VAG) was enacted in Switzerland in 1885. Its primary objective is to protect the insured. Since this time, private insurance companies have been subject to the oversight of the Federal Government, this taking place through the issuing of business permits, for example, as well as through continuous auditing of their insurance operations.

Switzerland’s insurance supervisory law is currently undergoing revision. One outcome of this is that insurers will have increased operational leeway, e.g. by virtue of a shift away from preventive product monitoring. It will not only be superseded by a reorientation toward a more sophisticated, risk-based solvency oversight; additional effective supervisory instruments important for the consumer will also be implemented in the corporate governance, transparency and consumer protection areas. As a consequence, the new insurance supervisory law will continue to ensure insurance protection and the solvency of insurance companies in the future.

Premiums/benefits

All the members of a risk group effect payment of a certain amount into a fund from which the loss or damage incurred by a member of that group is covered. The amount paid is referred to as a premium. A premium is comprised of the following components:

• Risk portion: This portion of the premium is calculated on the basis of mathematical principles (actuarial statistics) and empirical values. It is designed to be sufficient to cover any loss. It is based on a long-term average.
• Expense portion: Commission fees, operating and miscellaneous expenses, processing of claims; these expenses are distributed among the group of insureds.
• Savings portion: Endowment or cash-value-accruing life insurance policies also include a savings target; this portion of the premium finances the cash benefit payable at the end of the endowment period (on the maturity date), with the interest credited by the insurance company playing a key role in this connection.

When an insured event or loss occurs, the insurance company has to make good on the benefits agreed upon, i.e.

• Monetary benefits: Capital or cash payments, annuity payments or disability benefits, daily allowances, compensations of all types
• Service benefits: Warding off unjustified third-party claims against the insured (particularly in third-party liability insurance), legal protection insurance, counseling services, loss adjustment assistance.