Blockchain Begins to Enter the Market
When AIG announced in June it had completed its first multinational insurance “smart contract” using blockchain technology, Risk Cooperative, a commercial insurance brokerage and consulting firm, was announcing to the industry it was partnering with blockchain tech firm Bitfury to make the same technology available to commercial insurance brokers.
One aspect of so-called smart contracts is they are digital, self-executing and self-enforced agreements. One purpose is to allow two or more parties to automatically execute contractual agreements, such a claims payout, when pre-determined conditions have occurred – thus the term “smart contract.” Because of the nature of the contract, there may be no need for a middleman, such as an insurance broker.
Big change is here.
Risk Cooperative CEO and founder Dante Disparte says brokers will be using blockchain technology to create smart contracts over the Internet on a regular basis in three to five years. “Big swaths of this industry will be changing,” he says. And more importantly, he adds, “Better the brokers do it rather than insurers, or brokers really do risk becoming irrelevant.”
As he sees it, the emerging use of the technology will hasten the changing role of brokers by expanding their role into such areas as management and risk consulting.
The first blockchain insurance contract is the latest step in bringing new, faster, secure technology to the commercial insurance sector. But it’s not the first industry use of the technology. A year ago Allianz and Nephila Capital announced they had initiated the first successful natural catastrophe swap using blockchain.
And last October a consortium of carriers (now numbering 15) was formed to explore the potential for use of “distributed ledger technology” in the industry. Known as the Blockchain Insurance Industry Initiative (B3i), the group hopes to prove the concept that the technologies can be used to create secure insurance contracts where all involved parties can view their contents in real time.
The idea is to use mutual distributed ledger technology as a platform for blockchain technology. Distributed ledgers are records of various transactions in an insurance contract and are shared among participants and stored in multiple locations with no central ownership. Each time a change is made to the document—such as a new address, name, date etc.—it is securely recorded. Each new entry is known as a “hash.” A hash from a previous entry is incorporated into the new entry hash. This results in a permanent, secure copy of both the original and corrected document that all parties can see in real time. This leaves an audit trail, which is what makes the technology so attractive for insurance contracts.
The initial AIG insurance contract in June—a pilot project it was working on for mouths—used blockchain technology and Hyperledger Fabric, a blockchain framework. AIG created the smart contract for Standard Chartered Bank of London and three of its overseas affiliates in the U.S., Singapore and Kenya. This first insurance contract did not include the services of a broker.
“The pilot took about six months from start to finish,” says Carol Barton, president of AIG Multinational. “The insurance policies were already in force prior to the pilot, and the steps necessary to execute and perform them, including premium payment, had already occurred through traditional channels. What the pilot did was build a secure, transparent blockchain platform to digitally deliver a multinational program efficiently with relevant payment and policy details visible to the appropriate global or local stakeholder in real time.”
The choice of making the Standard Chartered Bank the first smart contract of its kind was deliberate. AIG wanted something complicated to see how well blockchain would work. AIG worked with IBM Blockchain to create the technology for the smart contract. It spanned four nations with four different sets of regulations. Such multinational contracts are usually issued in the country where the client’s headquarters is located. They are frequently unwieldy because regulations, payment terms and required paperwork vary from nation to nation. Typically, such a contract would take a month or more to create along with lots of paperwork to deploy. Using its contract software developed with IBM, AIG managed to issue the new document in a matter of days.
This increased efficiency should cut costs for all parties and result in fewer delays. “By creatively leveraging smart contracts to help address tough regulatory requirements across different markets, we are seeing the enormous impact blockchain can have to improve efficiency and open up new business models,” says Marie Wieck, general manager of IBM Blockchain. With contract provisions available in real time, any issues—including regulatory ones—quickly become apparent and can be addressed.
One aspect of so-called “smart contracts” is they are digital, self-executing and self-enforced agreements. One purpose is to allow two or more parties to engage in a predetermined contract automatically when some special occurrence takes place—thus the term “smart contract.” Because of the nature of the contract, there may be no need for a middleman, such as an insurance broker. AIG says not having a broker involved in the pilot does not mean it will no longer use brokers in the future. (See Barton Q&A.)
While carriers are working together through B3i to iron out the kinks, the partnership between Risk Cooperative and Bitfury is still in its infancy, but its goals are in sync. The two firms are hoping to create blockchain pilot projects for commercial brokers in the near future.
“At the end of the day,” says Bitfury CEO Valery Vavilov, “we want to make sure people know how this technology can help them and their businesses, so we want to do everything we can to make this possible…. Our plan is to carry out pilot projects that will simultaneously improve the risk-transfer process for brokers and serve as guidance for…insurance companies interested in utilizing blockchain, so education about the technology will definitely be a part of our process.”
“Our role is to help normalize blockchain in the insurance industry,” says Risk Cooperative’s Disparte.
“We believe,” Vavilov says, “blockchain has the potential to assist both brokers working with multinational policies as well as with the insurance value chain, which is what our project will focus on. Our goal is to broaden market access and to design and implement new classes of insurance that use blockchain technology.”
Room for Modified Brokerage Model
Risk Cooperative and Bitfury want to expand the use of blockchain by creating tools to enable commercial brokers. Disparte described the AIG contract as more of an effort to “simplify policy administration. It feels like it was a service arrangement rather than a risk transfer mechanism.”
That’s important, he says, because it shows big insurance companies are starting to weigh in on smart contracts. “I think the opportunities are much bigger than that.”
Such contracts, he says, should be written by brokers, many of whom don’t like policy administration, but, he says it could very well turn into a major role for brokers in the future. “I think the fabric needs to be woven by the broker.” The technology would enable brokers to become enterprise risk managers rather than write a single line of insurance, which many tend to do today, he says. Contracts would become more of a living document that needs to be managed and changed over time. The broker role would thus evolve.
As he sees the future role for brokers, contract origination will still warrant a comparable commission to today’s business. But the efficiencies created by the new technology will cut costs and put pressure on policy administration and maintenance, which will then demand creating new brokerage business models for those aspects of the contract. Disparte says he is concerned many smaller and middle market brokers will not want to undertake the learning curve and cost of acquiring and using blockchain technologies. If that happens, he says, more innovative brokers (or carriers) will fill the vacuum.
He also thinks the efficiencies will expand markets. The lower costs for carriers as well as brokers should presumably lower premiums, enabling clients to purchase more coverages, which could then require even more broker involvement.