European Commission Issues its Final Report on Competition in the Insurance Sector
A recent report released by the European Commission ("EC") on competition in the European business insurance sector highlights the need for the insurance industry to comply with competition law.
In June 2005, the EC initiated an inquiry into the manner in which insurance products and services are provided to businesses by European insurance companies, re-insurers, insurance intermediaries, as well as the role of national associations of insurers and the authorities regulating insurance in the Member States. In particular, it focussed on the manner in which insurers associations and committees jointly set standard policy conditions, the extent to which insurers cooperate with one another in the context of coinsurance arrangements and within the framework of insurers associations, and arrangements for the distribution of insurance products and services to business customers.
The Final Report notes that the insurance sector is an important one and that "the functioning of this industry in a pro-competitive way is not only crucial for the insurance industry as such, but for the economy as a whole." The report identifies two practices in the business insurance sector which raise potential competition law concerns. The first relates to the manner in which in which large risks are covered by co-insurance and re-insurance arrangements, and in particular, the fact that participants in the so-called "follow market" are prevented from undercutting the premiums offered by the lead insurer. The EC concluded that this may lead to:
"aligning terms, conditions of cover and premiums at levels which are, to a varying degree, detrimental to the (re)insured and which are correspondingly more favourable to the (re)insurers."
However, the EC did not determine that these practices constitute an infringement of the prohibition on restrictive business practices set out in Article 81 of the EU Treaty. The EC merely invited the insurance industry to overhaul this practice themselves, or to justify its continuance on the basis that it results in efficiency gains.
The second practice highlighted in Final Report relates to insurance intermediaries. The Report highlights that conflicts of interest and the lack of transparency in brokers remuneration may inflate prices and reduce choice, in particular for small and medium enterprises. Conflicts of interest may arise because brokers act both as an advisor to their clients and as a distribution channel for the insurer, often with underwriting powers and binding authorities. The Report notes:
"This dual role can be a source of conflict of interest between the objectivity of the advice they provide to their clients and their own commercial considerations."
Once again, however, the EC did not determine that these practices contravene the Treaty, and notes that its concerns might be addressed by disclosure of relevant information to customers. However, the EC indicated that it will explore this issue in more detail during a review of the Insurance Mediation Directive.
Enforcement action in Europe in relation to these practices (similar to that taken in America in relation to contingent commissions), thus seems unlikely at this stage. However, the Report concludes that the Commission has yet to be persuaded that block exemptions for insurance, which presently exempts certain practices in the insurance industry from the competition law provisions of the EU Treaty, are still necessary. This issue will be considered by the EC in more detail in March 2009, before the exemption lapses in 2010. If it is not renewed, this could have a significant impact on the way in which insurance is offered in Europe and this would affect a wide range of industries, such as aviation, shipping and real estate developments, which are heavily dependent on insurance.
The Report is of interest to the South African insurance industry in view of the fact that our Competition Act prohibits horizontal and vertical anticompetitive practices and abuses of dominance similar to those prohibited by the EU Treaty. In particular, Section 4(1)(a) of the Act prohibits agreements between competitors which have the effect of substantially preventing or lessening competition in the market, unless the parties to the agreement can show that there is a pro-competitive gain that outweighs the anti-competitive effect (known as the "rule of reason" test). However, unlike the EU Treaty, section 4(1)(b) of the Competition Act imposes an outright prohibition on agreements between competitors which involve the direct or indirect fixing of a purchase or selling price or any other trading condition (generally referred to as "price-fixing"), the division of markets by allocating customers, suppliers, territories or specific types of goods or services ("market allocation") and collusive tendering. Thus, in South African competition law, these practices cannot be justified on the basis that they result in pro-competitive or efficiency gains. So, for example, to the extent that cooperation by South African insurers on studies, technical specifications, or codes of practice concerning safety or the joint establishment and distribution of standard policy conditions results in direct (or indirect) price fixing or market allocation, this would contravene the Competition Act and could expose participants to substantial fines of up to 10% of their turnover in the Republic.
The EC's focus on the insurance sector highlights that it is particularly important for players in the South African insurance industry to institute and maintain an effective competition law compliance programme which minimises the risk of the severe administrative penalties which may be levied in the event of a contravention of the Competition Act, as well as the legal costs, business disruption and risk to reputation associated with protracted litigation against the competition authorities.
Heather Irvine, Director, Deneys Reitz Inc
