Amending the Insurance Law: Long-Term Policy or Expedient Measures?

Amendment Principles

• Legislators kept firmly in mind the following four overriding themes while drafting all 38 items included in this amendment:
• sustained reform and development of the China insurance industry;
• strengthened supervision and regulation of the industry;
• standardized regulations on insurance enterprises and business operations; and
• fulfilment of pledges to adopt international practices, made during WTO accession negotiations.

Specific Improvements

Though the amended Insurance Law hasn't received an overwhelmingly enthusiastic response from the insurance industry, some of the adjustments it makes to insurance business do merit commendation.

Supervision and Regulation

An important characteristic of this amendment is a reversal from the former micro-managing style of regulatory activities, which overemphasized bureaucratic control over the internal operations of insurance companies, and a corresponding shift to more market-oriented and policy-based regulation. A key component of this strategy is the careful monitoring of the solvency capability of insurance companies according to specially formulated benchmarking standards. Although, as pointed out above, strengthened regulation of the insurance industry was a major priority of this amendment, legislators have chosen a progressive approach to exercising their supervisory authority. The newly adopted method entails stepping back and diagnosing problems from outward symptoms, rather than attempting to control all contingencies through administrative enforcement. This shift in emphasis not only greatly simplifies the regulatory process, freeing administrative resources for attention to other issues, but also liberates companies from overbearing regulatory interference in their daily business affairs.

Several other sections of the amended law also partially lift restrictions against insurance enterprises and their business operations. These changes are generally all in accord with major trends in international practice and with the goal of achieving compatibility with the international market. Cumulatively, such changes help pave the way for the further development of China's insurance industry.

Another important formal modification included in the amended law is the substitution of the new term "insurance regulation and supervision organs", referring specifically to the CIRC, for the original term "financial supervision and control department", which referred mainly to the central bank. This change signifies the transfer of authority for administration of the industry to the CIRC and its newly established nation-wide network of branch agency offices.

Insurance Premium Rates and Insurance Policy Clauses

The new Insurance Law achieves a breakthrough by "privatizing" the formulation and regulation of insurance premium rates and insurance policy clauses.

Under the 1995 Insurance Law, the insurance clauses and insurance premium rates of most major insurance products on the market were fixed by insurance regulatory authorities, thus denying commercial insurance companies the ability to compete through innovation or competitive price advantages. The direct outcome of this regulation was extreme uniformity between insurance products and sluggish industry response to diverse specialized market sectors. To resolve this dilemma, Article 107 of the amended law stipulates that only the insurance policy clauses and premium rates for policy-mandated insurance and new types of life insurance products need pre-approval from insurance regulatory authorities, while clauses and rates for insurance products of all other types are to be reported to such authorities merely for filing on the record. Thus, by this amendment, insurance companies in China have at long last been given the legal prerogatives of free-market product development and price competition.

Scope of Business

The original Insurance Law made a simple across-the-board prohibition against a single insurer simultaneously engaging in both property and life insurance businesses. This provision was intended to effectively close the gate on any cross-over between short- and long-term insurance funds held within a single company, which conventional wisdom suggests would tempt the misappropriation of long-term life insurance reserve funds to pay off contingent indemnity on short-term property insurance.

However, although health and accidental injury insurance may be academically classified as an insurance of the person, or "life insurance", both short-term health insurance and accidental injury insurance are insurance products having many financial properties that are actually more in keeping with the characteristics of short-term casualty insurance than with life insurance. Furthermore, in light of current developments in financial markets, many property insurance companies are now positioned to provide very cost-effective short-term personal health and accidental injury insurance products through their growing service networks. Moreover, the problem of misappropriation of reserve funds may now be more efficiently resolved through the establishment of more transparent accounting systems, separate accounts and effective withholding of reserve funds. Therefore, the new consensus is that, with proper legal safeguards, the combination of certain forms of short-term health and accidental injury insurance with property insurance operations will be conducive to providing better quality comprehensive financial services to consumers, while also making a positive contribution in consolidating the economic strength, increasing business income and strengthening the overall solvency capability of these insurance companies. In response to this rationale, the amendment to the Insurance Law makes an important relaxation, allowing property insurance companies to engage in cross-class operations in short-term health insurance and accidental injury insurance businesses, subject to regulatory approval. This new stipulation is also completely in line with current international operations, in which the combination of banking and insurance operations is continuing to gain momentum.

Insurance Agents

Another outdated and overly simplistic provision in the original Insurance Law prohibited insurance agents from providing agency services to more than one insurance company, while making no distinction between individual agents and incorporated agency companies. Now however, apace with recent developments in the insurance intermediary market, professional insurance agency organizations and affiliated insurance agency organizations such as banks are becoming increasingly important sales channels. In this situation, using the same brush to paint both individual agents and incorporated agency companies puts a severe limitation on the competitive advantages offered by such organized incorporated agencies. Therefore, while the amended Insurance Law clearly stipulates that an individual life insurance agent shall represent only a single company, the new law places no restrictions on the number of insurance companies that an incorporated agency may serve.

A Cautious Step Forward

Pocket Clause Promises Ray of Hope

In discussions over the draft modifications, the issue of most pressing interest to many industry players centred on the utilization of insurance funds. Whereas the original law strictly limited the ways in which accumulated insurance funds could be utilized, the most prevalent call for change, and the one that had been advocated most ardently by insurance companies, was "release of restrictions against free usage of insurance funds by insurance companies". With the recent development of the insurance industry and increase in sales of insurance products, the accumulated value of insurance premiums held by insurance companies has been increasing rapidly. This in turn has placed greater incentives on insurance companies to find lucrative means of handling such funds. In short, insurance companies are in great want of diversified investment channels for the premium reserves they hold. Therefore, insurance companies were expecting the newly amended Insurance Law to open broad avenues for investment and active utilization of the approximately Rmb500 billion in accumulated insurance reserves.

In fact, the amended Insurance Law gives only a tacit response to this demand. Whereas the original law flatly forbid direct investment of insurance funds into enterprises of any nature, Article 105 of the amended Insurance Law makes a slightly looser restriction in stipulating that insurance funds shall not be used to establish securities business organizations or to establish enterprises beyond the realm of insurance, while retaining a clause permitting the State Council to stipulate appropriate investment vehicles for insurance funds in addition to the traditionally accepted bank deposit or purchase of government or financial bonds.

An initial analysis of this provision reveals that it is actually intended as a small "pocket clause" for more extensive utilization of insurance funds, specifically within the field of "insurance enterprise". Although limited in degree, this provision is a relaxation that makes a narrow opening in the previously tightly locked door to the use of insurance funds. In light of the State Council's ability to use administrative discretion, as displayed over the course of China's ongoing process of economic reform, there may be a small, but bright, ray of promise for solving the dilemma over the profitable use of insurance funds.

Artful Design

Since the orthodox principle that insurance funds must not be used for speculative activities or high-risk investments still obtains, some experts applaud the approach taken in this amendment as an "artful design". They argue that, in addressing an immature domestic capital market over which the Insurance Law has virtually no restraining force, regulators' foremost need is a flexible provision enabling quick, efficient control, while nevertheless promising insurance companies reasonable options for the usage of insurance funds to generate profit. This viewpoint is reinforced by the observation that the profitable employment of insurance funds is also limited by the realistic condition of the prevailing capital markets. In other words, unless the general condition of the capital markets improves, the optimistic projections on the potential of insurance fund utilization may not be attainable even if legal restraints are eased. Therefore, limited by such objective constraints, the cautious loosening of restrictions on the utilization of insurance funds is still a wise course of action. On the one hand, cautious employment of insurance funds is reflective of the requirements for maintaining stability in insurance industry business operations. On the other hand, insurance companies are nonetheless presented with the hopeful prospect of being allowed to place insurance funds, not only in bank deposits and government and financial bonds, but also in other, new forms of investment as stipulated and regulated by the State Council, subject to the precondition of healthy capital markets and a stable economic outlook.

Much Left Undone

The dust has settled for the time being, and the new Insurance Law will become effective as of January 1 2003. However, reflecting on the amendment process and the amendments themselves, one cannot help noticing several significant areas in which the amendment remains silent.

Legislative Framework

Certain senior management personnel, insurance experts and academics had expressed hope that the amendment would entail a fundamental change to the legal framework of insurance regulation. Such proponents of structural change point out that the sophisticated insurance legislation adopted in many of the world's leading insurance markets utilizes dual statutes, one to regulate contractual transactions, and another to regulate government administration in the marketplace.

In societies that pledge adherence to notions of the rule of law, it is theoretically and conceptually necessary to maintain a distinct separation between civil and administrative legislation. Legal relationships between parties of equal status are governed under civil law, while administrative law legislates the manner in which necessary adjustment and coordination of prevailing social and market activities is achieved through government administration. In the case of insurance law, the issue is to clearly and carefully separate matters better dealt with through contractual agreements of mutual consensus from matters appropriately governed by administrative mediation. Wise legislation to this end will protect insurance participants' rights from being arbitrarily subjected to inappropriate administrative power. Such separate legislation is now being strongly urged by participants in China's insurance market, who have long felt themselves under the sway of overbearing administrative powers. It is hoped that such reform will contribute to substantially clarifying the boundary between legal rights and administrative powers, and furthermore imposing legally binding standards on the usage of such administrative powers, thereby enabling insurance industry participants to be confident of the consequences of their actions, while still leaving scope for necessary administrative regulation.

Another advantage of using separate statutes to address the administrative and contractual aspects of insurance law respectively, is that adjustments may be made to one part of the regulatory structure without disturbing other parts of the overall legislative framework. This practice maintains the continuity and stability of the law as a whole, and minimizes disruption to the balance between flexibility and consistency built into the overall regulatory system.

All this notwithstanding, there are others who hold the pragmatic view that the most pressing reason for this amendment of the Insurance Law is for China to fulfil its commitments for accession to the WTO. Therefore, it should only be viewed as an interim measure of little fundamental import, aimed mainly at the few clauses that were formerly out of step with China's accession commitments. It is naturally unavoidable that such fundamental matters as how to structure overall legislation of the industry and the market must be sacrificed for the sake of quickly addressing matters of immediate concern. Yet either way the matter is viewed, for better or for worse, the finally adopted version of the amendment makes no fundamental change to the structure of insurance law in China.

Insurance Contracts

Adding aggravation to this structural issue, changes adopted in the new amendment to the Insurance Law mainly address administrative insurance law, with insufficient changes made to insurance contract law. Although it is acknowledged that certain disputed articles relevant to insurance contracts are unclear and in need of clarification and amendment, the new Insurance Law makes little change to the clauses pertaining to contractual relationships. This shortfall has been explained as being the result of China's limited legislative resources coupled with the backlog of pending legislation on all fronts subsequent to WTO accession, as well as uncertainty over possible changes to come after full opening up of the China insurance market. Perhaps, as experts from the CIRC have suggested, judicial interpretations may be the best resort for immediate resolution of the current dilemma. However, constricted by the basic principle that judicial interpretation must not overrule what is stipulated in law, the definition and clarification of such basic concepts as insurance interest and the principle of good faith, as well as details of the conclusion and execution of insurance contracts and insurance compensation, will not be easy in the context of judicial interpretation. Again, this shortfall may result in compounded problems for insurance legislators, adjudicators and administrators in future.

Company and Enterprise Structures

Lack of provisions for more forms of insurance companies, such as mutual insurance companies and cooperative insurance companies, is another oversight in the amended version of the Insurance Law. Limiting the forms of insurance companies to just two types, namely wholly state-owned companies and stock companies with limited liability, is not in keeping with current international practice. Furthermore, the law should give more details on management structures that may be adopted by insurance companies of differing general forms. It is inappropriate for insurance companies to simply follow the rules of the PRC Company Law ((中华人民共和国公司法)), because insurance enterprises are significantly different from other types of businesses. Likewise, there should also be adequate stipulations in the law concerning organizations that can invest in the insurance industry. The burning issue of foreign investment in China's insurance market is also implicit in this issue, as more and more foreign insurance companies continue to enter China's market in various ways. It has therefore also been suggested that there should be more provisions addressing foreign-invested companies in the Insurance Law.

Insurance Intermediary Organizations

Lack of adequate provisions on insurance intermediary organizations is another major oversight in this amendment. Insurance agencies, insurance brokerages and insurance assessors, for example, must be adequately dealt with by the Insurance Law. But as it stands, few specific provisions for such matters as procedures for insurance adjustment, principles of insurance claim settlement, and the respective rights and obligations of insurance companies and their agency companies are stipulated in the Insurance Law. These oversights may all prove to be sticking points later. Likewise, the law should also contain more complete provisions for insurance industry associations and other organizations that can offer ethical and disciplinary support and guidance to the industry as a whole. As the final item in this list of oversights, it must also be noted that the status of insurance salesmen and corresponding forms of organization for them should also be made clear in the law.

Supporting Statutes and Regulations

The last but certainly not least significant issue that needs to be covered in our brief assessment of this amendment is the legislation of adequate supporting statutes and regulations. In light of the blank spots and murky areas pointed out above, it seems that the CIRC faces the particularly urgent task of adding supporting statutes and regulations to flesh out the gaps in the Insurance Law, perfect the insurance regulatory system and strengthen its lawful administration of the insurance industry. Specifically, the CIRC will be turning its attention to the drafting of penalty provisions for illegal insurance behaviour, accelerated amendment of administrative regulations for insurance companies, and enactment of measures for the regulation of insurance clauses and rates, reinsurance, the drawing and carrying forward of reserve funds for insurance liability, and application of insurance guarantee funds, among others.

Conclusion

Experts in the industry generally hold the opinion that although this amendment to the Insurance Law both meets the requirements mandated by China's accession to the WTO and gives adequate consideration to the interests of insurance consumers, it will nevertheless be quite hard-pressed to deal with the challenges that will arise after the full opening of China's insurance market. Therefore, this amendment may best be considered an interim measure.

Naturally, the question of how long the current expedient will last immediately comes to mind. According to the pledges that China made upon its accession to WTO, the insurance market will be fully opened to the world market within three to five years. At that juncture, the Insurance Law will most likely need to be amended again. Whether it is three years or five, when the time comes for a second amendment, the various opinions voiced throughout the process of this amendment will undoubtedly be reiterated and debated anew.