Foreign Insurer's "in Good Hands": China Offers New Opportunities in the Insurance Services Sector

The WTO multilateral agreement that China has accepted in the services sector is the General Agreement on Trade in Services (GATS).⁷ The GATS specifically covers insurance services. The Annex⁸ on financial services to the GATS defines financial services to include insurance and insurance related services, as follows:⁹

• direct insurance (including co-insurance): a) life, and b) non-life;

• reinsurance and retrocession;

• insurance intermediation, such as brokerage and agency; and

• services auxiliary to insurance, such as consultancy, actuarial risk assessment and claim settlement services.

China's Basic Obligations under the GATS

Under the GATS China must:

• not discriminate among different foreign service providers (the MFN principle¹⁰) or between foreign and domestic service providers (the national treatment principle¹¹);

• ensure transparency, by publishing all relevant laws and administrative guidelines affecting trade in services;¹²

• establish enquiry points for information on the regulation of the services sector;¹³

• regulate services in a reasonable, objective and impartial manner;¹⁴

• establish judicial, arbitral or administrative tribunals to grant prompt review and remedies for decisions affecting trade in services;¹⁵ and

• ensure international payments for services are freely transferable.¹⁶

These obligations will require significant changes to China's current legal, administrative and regulatory practices.

Modes of Supplying International Services

The GATS does not define a service. Instead, it defines trade in services according to the mode of supply of an international service to include:¹⁷

• services supplied from one country to another ("cross border supply");

• consumers or firms making use of a service in another country ("consumption abroad");

• foreign companies setting up a commercial presence to provide services in another country ("commercial presence"); and

• individuals travelling from their own country to supply services in another ("presence of natural persons").

These modes of supply and limitations on any mode of supply, in respect of different types of insurance services, are found in China's schedules of commitments for insurance services. Scheduled commitments are bound,¹⁸ which means they cannot be changed for a fixed period of time.¹⁹ Unbound modes of supply are those for which no commitment has been made. Care must be taken in reading China's scheduled service commitments to see if they are bound or unbound and which insurance services and modes of supply are covered.

Further Liberalization of the Insurance Services Sector under the GATS

The GATS is only a framework agreement. Detailed commitments are to be made through negotiations in particular service sectors. Partial liberalization of the financial services sector, including insurance, was achieved as a result of the 1995 financial services negotiations.²⁰ Increased liberalization was achieved as a result of the 1997 financial services negotiations.²¹ These negotiations have resulted in over 100 WTO members making market access commitments for financial services.

A new round of financial services negotiations, to further liberalize trade in services was initiated under the GATS Council for Trade in Services in January 2000. WTO members have been tabling proposals for the structure and content of the new negotiations. Sectoral proposals include insurance services. The insurance industry has indicated that in the new round of services negotiations, the following matters need to be addressed:²²

• achievement of a fair balance between solvency and prudential requirements and market access;

• transparency and fair enforcement of insurance regulations to create a pro-competitive regulatory framework;

• equal competition between foreign and local insurance firms;

• removal of obstacles to establishing and operating competitively;

• higher levels of foreign equity participation and fewer restrictions on foreign ownership; and

• more flexibility in the range of products that can be offered by foreign firms.

Many of these issues were considered in China's bilateral WTO entry negotiations. They will be reconsidered in the multilateral context of the GATS. As a WTO member, China can take part in the new round of financial service negotiations, which are likely to lead to further market opening for the insurance services sector.

China's Changing Insurance Sector

In recent years, China's insurance sector has experienced a wave of fundamental restructuring initiatives in preparation for WTO accession. The China Insurance Regulatory Commission (CIRC), the current PRC approval and regulatory authority, was established in 1998. It replaces the People's Bank of China, as part of China's WTO commitments to provide separate regulation for each service sector. Despite such institutional reform, it is worth noting that the WTO Working Party report has already expressed concern about the "independence" of certain PRC regulatory agencies from their domestic services suppliers,²³ in part apparently directed at the CIRC and its close relations with large state-owned insurers presently dominating the industry.

The PRC insurance industry has been significantly reorganized over the last few years. At present, the insurance sector is dominated by the "Big Three": People's Insurance Company of China, China Life Insurance Company and China Reassurance Company.

At the same time, several Chinese non-state domestic insurance companies have entered the market, including Ping An, China Pacific, Taikang Life and Xinhua.²⁴ These non-state players have taken significant market shares in both life and non-life insurance, and have been viewed by foreign insurers, such as Winterthur and Goldman Sachs, as prime candidates for joint ventures so as to circumvent current and future restrictions on foreign-funded insurance operations.

Foreign insurers have also entered the PRC insurance market in increasing numbers as WTO accession has neared, although their combined market share has been estimated at a mere 1% to date.²⁵ American International Group (AIG) historically has taken the lead and assumed the risks associated with entry into the Chinese insurance market. AIG was rewarded for its efforts with its establishment of the first wholly foreign-funded branch office in Shanghai in 1992. However, since that time, both American and European insurers have narrowed the distance so that, as of mid-2001, licensed foreign insurers operating in China included the US insurers Aetna, Chubb and John Hancock (in addition to AIG), and European insurers AXA, Allianz, Royal & Sun, CGNU, Winterthur, Generali and ING. ²⁶

The foreign licensing situation has been further complicated by the AIG-EU controversy over grandfathering and the raft of nine European licences or applications approved by the CIRC on September 25 2001,²⁷ events which may be inter-related. To date, there have apparently been some 19 licences approved, although it has been reported that over 100 licence applications are currently pending before the CIRC.

When other US and European insurers have entered the Chinese market, they have not been able to enjoy the same benefits, in terms of form of business establishment or geographic scope of operations, as AIG. As the pioneer in China, AIG has enjoyed a preferential position and has been able to establish additional wholly foreign-owned branch offices, while other foreign insurers, particularly in the life sector, have had to content themselves with joint venture limited liability companies and Chinese partners. For non-life (property and casualty) insurers, branch offices have been the rule, but with restrictions imposed on the extent of foreign ownership of such branches. While most foreign insurers have been limited to Shanghai and Guangzhou, AIG has been permitted to operate in Shenzhen and Foshan as well.

During the past decade, China has promulgated, and continues to revise, its insurance laws and regulations to comply with GATS and its scheduled commitments. The most important current Chinese laws and regulations bearing on China's GATS obligations and commitments are:

• Shanghai Municipality, Administration of Foreign Insurance Institutions Provisional Measures (1992, revised 1995);

• China Insurance Regulatory Commission, Administration of Insurance Companies Provisions (2000); and

• People's Bank of China, Administration of Insurance Brokerage Provisions (Trial Implementation) (1998).

All of these PRC regulations are reported to be undergoing further revision to bring them into compliance with GATS requirements. In particular, it has recently been reported that new PRC brokerage regulations were issued on November 29 2001.²⁸

AIG-EU "Compromise"

One of the last hurdles to China's WTO accession arose earlier this year, when certain European insurers raised objection to the preferred position AIG would retain in the life insurance sector in the post-accession period. Pursuant to the US-PRC bilateral agreement, grandfathering of the existing rights of US companies operating in China is expressly authorized. The effect of grandfathering with respect to AIG has meant that AIG will retain its wholly foreign-funded branches in China post-accession, while all other foreign insurers in the life sector are limited to a 50% foreign ownership interest. European insurers have argued that such grandfathering is WTO-inconsistent and a violation of the MFN principle.

This autumn it was reported that AIG and the European insurers had concluded a "compromise", although few details of the purported accord have been published. To the extent that a real compromise was reached at all, it appears that AIG and some European insurers vaguely agreed that AIG may continue its current operations in China, provided that such European insurers, having been granted pre-accession licences, may also establish wholly foreign-funded businesses. In this regard, the terms of the September 25 2001 European licences loom large. There is still much uncertainty surrounding the terms of those European licences and whether the Europeans who received CIRC approval on that date also obtained grandfathered wholly foreign-funded operating rights.

It is equally uncertain as to whether the Europeans have a defensible legal basis for their demand of an extension of wholly foreign-funded rights to their business operations in China. In this regard, the language of China's official accession documents may not have given the Europeans all they wanted.²⁹

In fact, it is clear that certain European insurers have decided not to seek pre-accession grandfathered rights at all. As a result, one possible outcome of this controversy may be that such insurers will approach the European Commission to bring the matter to the WTO Dispute Settlement Body (DSB) for a definitive resolution.

In a further recent twist, it has been reported that a "final compromise" has been reached involving AIG, the Chinese government, the European Union and European insurers.³⁰ Under the terms of this compromise, AIG will be granted additional grandfathered rights to establish wholly foreign-funded operations in four more Chinese cities: Beijing, Suzhou, Dongguan and Jiangmen. In return, AIG, like all other foreign life insurers, will be restricted to operating joint ventures (with a maximum 50% foreign equity interest) elsewhere in China in the post-accession period. Such an agreement would appear to foreclose the prospect of AIG establishing wholly foreign-funded branches or sub-branches outside of cities in which it has been approved to operate pre-accession, notwithstanding the open-ended language on "internal branching" in the final Working Party report. Such a "compromise" gives AIG an even greater head start over the European insurance companies and solidifies its preferred position in the China market. Why would the Europeans agree to this arrangement? There would appear to be more to this deal than meets the eye. Further details of the compromise are expected to be forthcoming soon.

What are China's GATS Commitments in the Insurance Sector?

Pursuant to the Final Schedule of Services Commitments, China has agreed to a wide range of market opening measures, effective in some cases from the date of accession or spread over a maximum five-year period. These commitments mostly concern GATS supply mode 3 ("commercial presence" in China), although there are also important undertakings with respect to GATS supply mode 1 ("cross-border supply" of insurance services). The following discussion concentrates on "commercial presence" commitments.

General GATS Principles

China has accepted the following fundamental GATS principles:

• licences are awarded only on the basis of prudential criteria;³¹

• there will be no "economic needs" test; and

• there are no quantitative restrictions on foreign licences.

With respect to quantitative restrictions, it should be noted that the CIRC appears to have adopted, in line with other services sectors, a "batch approval" approach, whereby only certain insurers will be licensed in any given period, with other applicants having to wait in the queue to obtain licences in subsequent periods.

Market Access Conditions for Foreign-funded Companies and Branches

Foreign insurers may enter China's insurance market to establish foreign-funded companies or branches provided they have:

• more than 30 years' experience in a WTO member state;

• a net asset value of more than US$5 billion; and

• a representative office in China for two or more consecutive years.

It should be noted that the above market access requirements are likely to be augmented in revised PRC insurance regulations to be promulgated in 2002. According to these regulations, currently in draft form, additional licence approval criteria will include:

• the financial strength of the foreign insurance company;

• the company's profitability (over the previous three years); and

• the legal compliance record of the foreign company.

Geographical Restrictions

China has unequivocally committed to roll back its current stringent geographical restrictions, which limit the area in which foreign insurance providers can operate. This liberalization applies to all foreign-funded branches, companies and brokers. Besides Shanghai and Guangzhou, new cities will be opened as follows:

Accession date: 11.12.01

• Shenzhen, Foshan and Dalian;

Year 2

• Beijing, Chengdu, Chongqing, Suzhou, Xiamen, Ningbo, Shenyang, Wuhan and Tianjin;

Year 3

• all geographic restrictions will be removed nationwide.

.

Non-life Insurance

Foreign-funded insurance branches and companies in the property and casualty business will be able to offer the following services:

Accession date: 11.12.01

• master policy and/or large scale commercial risk insurance;

• insurance for enterprises abroad; and

• property, related liability and credit insurance for Chinese foreign investment enterprises.

However, foreign equity interests in these foreign-funded branches and companies will remain capped temporarily at 51%.

Year 2

• full range of insurance services to both Chinese and foreign clients;

• wholly foreign-owned enterprises (WFOEs) are allowed. There will be no restrictions on the form of business establishment.

Life Insurance

Foreign-funded insurance branches and companies in the life sector will be able to provide the following services:

Accession date: 11.12.01

• individual policies to foreign and Chinese clients;

Year 3

• health insurance to foreign and Chinese clients; and

• group policies, pension funds and annuities to foreign and Chinese clients.

However, foreign equity interests in branches or companies are indefinitely capped at 50%. Possible effective control may be available as China has committed to allow free choice of a Chinese partner and autonomous business operations.³²

Reinsurance

Foreign-funded reinsurance businesses may be established immediately, as of the date of accession, as a branch office, joint venture or WFOE. There will be no quantitative restrictions on licences and no geographic restrictions. Foreign-funded reinsurers may engage in the following services:

Accession date: 11.12.01

• full range of reinsurance services for life and non-life insurance;

Year 5

• concession for "statutory reinsurance" to state-owned China Reassurance Company is completely phased-out.

The above concessions represent a major liberalization of this key area of the PRC insurance sector. In the pre-accession period, foreign-funded reinsurance branches or companies were not permitted. Swiss Re, the world's largest reinsurance company, is expected to obtain the first foreign reinsurance licence shortly after accession.³³

Insurance Brokers

Foreign-funded brokerages will be permitted from the date of accession, but will remain subject to restrictions with respect to the form of establishment and scope of business. China's commitments on foreign-funded brokerages also represent a major breakthrough and liberalization for the foreign insurance industry. While certain risk management companies have operated in the pre-accession period, often at a loss, no legally recognized brokerages were previously authorized.

Market Access Conditions

The market access conditions for foreign-funded brokers are the same as those for foreign-funded branches and companies, except that the net asset value thresholds for brokers are considerably lower (more than US$500 million on the accession date), and are graduated downwards over a four-year period.

Forms of Business

Foreign-funded brokerages may initially only take the form of a joint venture.

Accession date: 11.12.01

• foreign equity interests capped at 50%, although possible effective control may be available;

Year 3

• increase in foreign equity to 51% allowed;

Year 5

• WFOEs allowed.

Restricted Scope of Business

Foreign-funded brokers may only engage in the following lines of business:

• large-scale commercial risk insurance;

• reinsurance; and

• international marine, aviation and transport insurance and reinsurance.

• national treatment commitment: China has undertaken to provide master policy brokerage to foreign-funded brokers no later than for Chinese domestic counterparts.

Conclusion

In light of China's recently released WTO commitments, it is clear that there will be unparalleled market openings for foreign insurers in China, including areas previously off-limits to foreign firms. The 1% market share currently held by foreign insurers will inevitably grow substantially. This opening of the PRC insurance sector by the Chinese government appears to be a deliberate policy decision that is linked to other domestic economic reforms, such as the privatization of state-owned enterprises (SOEs) and the construction of a partly private-funded social security system³⁴ in future. The net result will be historic commercial opportunities for foreign insurers. The PRC insurance industry is likely to move forward more rapidly and be characterized by greater competition than any other area of financial services, including the PRC banking sector.

Endnotes

1 WTO press release, November 10 2001.

2 The China Working Party was originally established under the General Agreement on Tariffs and Trade (GATT) in 1987 and in 1995 converted to a WTO Working Party. Membership of the Working Party was open to all interested WTO members.

3 The Working Party also monitored the bilateral negotiations China entered into with WTO members, to keep track of their progress and to ensure that all aspects of China's trade policies were dealt with.

4 The MFN principle is found in the core WTO multilateral agreements.

5 US-China Bilateral WTO Agreement, 1999.

6 EU-China Agreement on WTO, 2000.

7 In force January 1 1995.

8 GATS, Article XXIX provides that Annexes to the GATS are an integral part of the GATS. This makes the Annexes as legally binding as the GATS.

9 Annex on financial services, Section 5.

10 GATS, Article II. MFN under the GATS is conditional in that a member may take an MFN exemption in respect of Article II. The GATS Annex on Article II Exemptions sets out the scope of such exemptions and provides for their review and termination.

11 GATS, Article XVII. The national treatment obligation only applies to sectors inscribed in a member's schedule. The national treatment obligation in respect of services is effects based. Formally identical or formally different treatment must not result in the foreign service supplier being put in a less favourable position than the domestic supplier.

12 GATS, Article III(1).

13 GATS, Article III(4).

14 GATS, Article VI.

15 GATS, Article VI(2)(a)(b).

16 GATS, Article XI.

17 GATS, Article I(2).

18 GATS, Article XX.

19 GATS, Article XXI.

20 In force September 1 1996 as Second Protocol of the GATS.

21 In force March 1 1999 as Fifth Protocol of the GATS.

22 Financial Leaders Group - Insurance Evaluation Team: Necessary Elements for an Open and Competitive Insurance Market, July 1 1999.

23 Final Working Party report, Paragraph 308.

24 "Patience at a Premium," South China Morning Post, November 11 2001.

25 Ibid.

26 Boyle, "China's Long March to Join the World Trade Association," InsuranceJournal.com, November 5 2001.

27 Supra note 25.

28 "Greenlight Expected from the CIRC," China Daily, November 30 2001.

29 See final Working Party report, Paragraph 312 on "internal branching"; Footnote 8, Financial Services: All Insurance and Insurance-Related Services, Final Schedule of Services Commitments.

30 "China Will Grant AIG 4 New Insurance Licences," Asian Wall Street Journal, December 10 2001.

31 Prudential criteria only concern the soundness of the foreign insurance institution, without reference to political factors and must be applied in a non-discriminatory manner.

32 See final Working Party report, Paragraph 313 on "Choice of Partner".

33 "Top Swiss Firms Move in on Mainland," South China Morning Post, November 12 2001.

34 See Andreas Lauffs, "New Medical and Unemployment Insurance Regulations Complete PRC Social Security Reform, but Practice Will Be the Test", China Law & Practice, April 1999, 13 (3), pp. 17-21.