Month: July 2021

Management Notes

Business Economics Characteristics

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Business Economics is playing an important role in our daily economic life and business practices. In actual practice different types of business are existing and run by people so study of Business Economics become very useful for businessmen. Since the emergence of economic reforms in Indian economy the whole economic scenario regarding the business is changed.

Various new types of businesses are emerged, while taking the business decisions businessmen are using economic tools. Economic theories, economic principles, economic laws, equations economic concepts are used for decision making. On this ground students of commerce should know the importance of basic theories in actual business application. Hence the introduction of Business Economics becomes important to the students.

Professors H.C. Peterson and W.C. Lewis suggested that Business Economics must be considered as a part of applied microeconomics.

  • In Business Economics, the primary importance upon the firm, the environment in which the firm finds itself and the business decision that the firm has to take.
  • Business Economics is an application of microeconomics which focuses on the topics which are of much importance and interest. The topics include the theories of demand, production and cost, profit-maximising, the model of a firm, optimal prices of the advertising expenditures, government regulation etc.
  • Business Economics seeks to investigate and analyse how and why a business behaves. It looks at the implications of action, policies of the firm in which they operate and the economy as a whole.

Broadly there are two main branches of economics “positive” economics and ‘normative’ economics. Positive economics deals with “description” while normative economics deals with ‘prescription’. By building up propositions on the basis of a set of assumptions, positive economics tries to explain economic phenomenon.

Normative economics comments on the desirability of that phenomenon and suggests policy measures. Value judgments are, thus, pronounced in normative economics. In the words of Profs. Mote, Paul and Gupta: “Managerial economics is a part of normative economics as its focus is more on prescribing choice and action and less on explaining what has happened. Managerial economics draws on positive economics by utilizing the relevant theories as a basis for prescribing choices.”

Business economics not only seeks to investigate and analyse how and why businesses behave as they do but also the implications of their actions and policies for the industry in which they operate and, finally, for the economy as a whole. In this business environment, both internal and external factors work.

Macro Analysis:

Macro economics which deals with the principles of economic behaviour for the economy as a whole is also useful for business economics. A business unit operates within some economic environment which is in turn shaped by the behaviour of the economy as a whole. Therefore, business manager must know the external forces working over his business environment.

Normative in Nature:

Business economics is also called normative economics which prescribes standards or norms for policy making. Business economics is prescriptive rather than descriptive in nature. In economic theory, we try to explain economic bahaviour: in business economics, we try to prescribe policies for a business manager which are most likely applied to achieve his objectives. In economic theory, we build ‘laws’ such as the law of Demand and the Law of Diminishing Returns. In business economics we apply these laws for policy planning at the level of a firm.

Pragmatic in Approach:

Business economics is pragmatic in its approach. It does not involve itself with the theoretical controversies of economics. Yet it does not relegate the realities of business decision-making to the background by bringing in abstract assumptions. While economic theory abstracts from realities of the individual business units to build up its theories, managerial economics takes proper note of the particular economic environment in which a firm works.

Basis of Theory of Markets and Private Enterprises:

Business economics largely uses the theory of markets and private enterprise. It uses the theory of the firm and resource allocation of private enterprise economy.

Micro in Nature:

Business economics is micro-economics in nature. This is due to the study of business economics mainly at the level of the firm.

Generally, a business manager is concerned with problems of his own business unit. He does not study the economic problems of an economy as a whole.

Management Notes

Business Economics Role

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The vital role which business firms play in increasing social welfare is quite clear. It is due to the working of business firms that a high rate of economic growth has been achieved in the United States and other western countries.

Benefits of this economic growth have been widely shared. The high rate of economic growth has resulted in improving social well-being and removing poverty. To put in the words of Adam Smith, the father of economics, business firms have greatly increased the ‘wealth of nations’ (that is, the volume of output of goods and services) in the capitalist world.

The social benefits conferred by business firms on the communities are despite the fact that businesses work to maximise their profits or maximise the value of their firms. In their bid to maximise profits, business firms organise the work of production by engaging and combining the various productive resources and bringing about coordination between them. The suppliers of capital, labour, raw materials and other resources receive rewards from the firms for their contribution to the production of goods and services.

These business firms generate income and employment for labour, the owners of capital, land and other resources. This has greatly benefited them and contributed to their well-being. Besides, consumers too have gained from increasing quantity of goods and services produced by business firms for their consumption.

Apart from the gain to the resource owners and consumers, business firms contribute a good deal of revenue to the government. Taxes on profits (i.e. income of business firms), excise duties on their production, sales tax on the goods produced by them and other such taxes yield a lot of public revenue which are used by the Government to expand the services provided by it and to increase public investment for economic growth.

All the above mentioned contributions of business firms to economic growth and social well-being depend on the efficiency with which they use national resources and allocate them among products and services, A fundamental question that has been often raised is how business firms, which in their productive activities are guided by maximisation of private profits, work to increase social welfare.

The answer to this question was provided by Adam Smith, the author of now well-known classic ‘Wealth of Nations’. Advocating for a free-market system he clarifies the role of business in promoting social well-being despite the fact that it pursues the goal of profit maximisation.

Adam Smith argues that it is the profit-driven market system (also called price mechanism) that drives business firms to promise welfare though they work for private’s gain. It is worth quoting him. “Every individual endeveavours to employ his capital so that its produce may be of greatest value. He generally neither intends to promote the public interest, nor knows how much he is promoting it.

He intends only his own security, only his own gain. And he is in this led by an invisible hand to promote an end which was no part of his intention. By pursuing his own interest, he frequently promotes that of society more effectively than when the realty intends to promote it.

Business economist applies economics in decision­-making. He uses the tools of economic analysis in clarifying problems, in organizing and evaluating information and in comparing alternative courses of action. He is concerned with analytical tools that are useful, that have proven themselves in practice or that promise to improve decision-making in the future.

The economist is an expert model builder and this is the most important thing which the economic theorist can contribute to the work of management science. In management science it is important to be able to recognize the structure of a managed problem. The second way in which economic theory can help management science is to provide a set of analytical methods.

A managerial economist can become a far more helpful member of a management group by virtue of his studies of economic analysis, primarily because there he learns to become an effective model builder and because there he acquires a very rich body of tools and techniques which can help him to deal with the problems of the firm in a far more rigorous a far more proving an a far deeper manner.

The economic department is a relatively recent addition to corporate management in most developed countries of the world the business economist is an important member of the management group. This is possible so because he has developed a technique which can help the company to manage its business more efficiently.

Modern business is a very complex affair because organizations have become vast in size and they can be run only with a well coordinated management cadre specialized in different aspects of business. In the words of Prof. Galbraith it is management by technically.

A managerial economist is an important piece in this zig saw puzzle. In countries like ours businesses are small but the management is no more a one man show. It consists of a number of specialized personnel and the managerial economist has now become a familiar face.

Management Notes

Micro Economics, Meaning, Objectives, Scope, Limitations, Microeconomic Issues in Business

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The word ‘micro‘ is derived from the Greek word ‘mickros’ meaning small.

Microeconomics is a branch of economics that studies the behavior and decision-making processes of individual economic units such as consumers, households, firms, and industries. It focuses on how these units interact within markets to allocate scarce resources and determine prices, output levels, and the distribution of goods and services. The term “micro” means small; thus, microeconomics analyzes the economy at a smaller, more detailed level.

One of the key objectives of microeconomics is to understand how individuals and firms respond to changes in prices, incomes, and market conditions. It examines demand and supply, consumer preferences, utility maximization, cost of production, and profit maximization. These concepts help in understanding how equilibrium is achieved in various markets and how resources are efficiently distributed among alternative uses.

Microeconomics also studies various types of market structures such as perfect competition, monopoly, monopolistic competition, and oligopoly. Each structure has different implications for pricing, output, and consumer welfare. It also covers the theory of factor pricing, explaining how wages, rent, interest, and profits are determined in factor markets.

This field of economics is essential for business decision-making as it provides tools to analyze market trends, forecast consumer behavior, set competitive prices, and maximize profits. Microeconomic principles are also applied in public policy, especially in areas like taxation, subsidy design, and regulation.

In summary, microeconomics provides a detailed understanding of the functioning of individual parts of the economy and is fundamental for making informed and rational economic decisions.

Objectives of Microeconomics:

  • Understanding Consumer Behavior

One of the primary objectives of microeconomics is to understand how consumers make choices based on their income, preferences, and prices of goods. It analyzes how individuals maximize their satisfaction or utility within budget constraints. Microeconomics uses concepts like the law of demand, indifference curves, and marginal utility to explain consumption patterns. This understanding helps businesses in demand forecasting and pricing, and assists policymakers in crafting policies related to subsidies, taxation, and welfare programs.

  • Analyzing Production Decisions

Microeconomics studies how firms decide what to produce, how much to produce, and the methods of production. It focuses on cost structures, production functions, and input-output relationships to understand the optimal utilization of resources. The goal is to minimize cost and maximize output and profit. This analysis helps managers make decisions regarding resource allocation, process improvement, and investment in technology. It also helps determine economies of scale and efficiency in production systems.

  • Price Determination in Markets

A key objective of microeconomics is to analyze how prices are determined in different types of markets. It explains how the forces of demand and supply interact to reach equilibrium price and quantity. Microeconomics also studies how prices change in response to shifts in market conditions. Understanding price determination is essential for business strategy, as it impacts revenue, market competition, and consumer behavior. It also guides policy on price controls and subsidies.

  • Allocation of Resources

Efficient allocation of scarce resources is central to microeconomic theory. It seeks to understand how limited resources can be distributed optimally among competing uses to maximize output and welfare. Microeconomics examines how households and firms allocate resources based on prices, costs, and preferences. It helps in evaluating market efficiency and the role of price signals in guiding production and consumption. Proper resource allocation leads to increased productivity and economic growth.

  • Understanding Market Structures

Microeconomics analyzes different market structures—perfect competition, monopoly, monopolistic competition, and oligopoly—to understand how they influence prices, output, and efficiency. Each structure affects the degree of competition and consumer welfare differently. Studying these structures helps in assessing market performance and the behavior of firms under varying competitive pressures. It is vital for regulatory bodies to identify anti-competitive practices and ensure a fair marketplace through policy and legal measures.

  • Distribution of Income and Wealth

Microeconomics explores how income and wealth are distributed among the factors of production—land, labor, capital, and entrepreneurship. It studies the pricing of these factors through rent, wages, interest, and profit. The objective is to understand economic inequalities and suggest ways to ensure fair distribution. This helps governments in formulating labor laws, wage policies, and social welfare programs. It also informs debates on income taxation and economic justice.

  • Welfare and Efficiency Analysis

Microeconomics aims to maximize social welfare by studying economic efficiency. It analyzes conditions for achieving allocative efficiency (optimal allocation of resources) and productive efficiency (maximum output with minimum cost). Concepts like consumer surplus, producer surplus, and Pareto efficiency are used to evaluate welfare. It helps identify market failures and the need for government intervention in case of externalities, public goods, or monopolistic exploitation.

  • Business Decision-Making

Microeconomics provides a framework for rational business decision-making. Firms use microeconomic tools to determine pricing strategies, production levels, input combinations, and market entry or exit. Understanding cost curves, demand elasticity, and competitive dynamics allows firms to optimize profit and market share. Microeconomics also supports risk analysis and forecasting, making it essential for strategic planning, budgeting, and resource management in businesses of all sizes.

Scope of Microeconomics

  • Theory of Consumer Behavior

The theory of consumer behavior studies how individuals make purchasing decisions based on income, preferences, and prices of goods. It aims to understand how consumers maximize their satisfaction (utility) with limited resources. Tools such as utility analysis, indifference curves, and budget constraints are used in this study. Understanding this behavior is crucial for businesses in product positioning, pricing strategies, and demand forecasting. It also guides policymakers in framing subsidies and welfare programs.

  • Theory of Production

The theory of production focuses on how businesses convert inputs like labor, capital, and raw materials into outputs (goods and services). It analyzes production functions, input-output relationships, and cost structures. The aim is to achieve maximum output at minimum cost. It also explains the laws of variable proportions and returns to scale. This helps firms optimize resource use, select the best production techniques, and improve efficiency for better profitability and competitiveness.

  • Theory of Cost

The cost theory in microeconomics explores how the cost of production changes with varying levels of output. It includes concepts such as fixed cost, variable cost, marginal cost, and average cost. The theory helps firms understand cost behavior, manage expenses, and plan pricing strategies. Cost analysis is essential for break-even analysis, budgeting, and profitability assessment. It allows businesses to control costs and increase operational efficiency by identifying wastage and improving productivity.

  • Price Theory and Market Structures

Price theory explains how the prices of goods and services are determined in different types of markets such as perfect competition, monopoly, monopolistic competition, and oligopoly. It examines the interaction of demand and supply forces and how equilibrium is reached. This part of microeconomics is critical for understanding pricing policies, consumer choices, and firm behavior. It helps both businesses and regulators identify competitive practices and set strategic pricing for market survival.

  • Theory of Factor Pricing

Factor pricing refers to the determination of rewards for the factors of production—land, labor, capital, and entrepreneurship. Microeconomics studies how wages, rent, interest, and profits are set in the factor markets. These prices influence income distribution in an economy. This theory is important for understanding labor markets, investment decisions, and resource allocation. It helps firms design compensation strategies and governments formulate fair wage and interest policies for economic balance.

  • Welfare Economics

Welfare economics is a branch of microeconomics that evaluates how resource allocation affects overall economic well-being and social welfare. It uses concepts like consumer surplus, producer surplus, and Pareto efficiency to measure welfare. This study helps identify whether markets are delivering maximum benefit to society and when government intervention is needed. It is particularly relevant in analyzing public goods, externalities, and economic inequality, and supports policies aimed at improving quality of life and equity.

  • Theory of Demand and Supply

The theory of demand and supply is foundational in microeconomics. It explains how the quantity of a good demanded and supplied varies with its price, and how equilibrium is achieved in markets. Demand theory includes the law of demand, elasticity, and consumer preferences. Supply theory focuses on production capabilities and costs. This theory is used for price setting, inventory management, and production planning, making it crucial for both private businesses and public policy.

  • Microeconomic Policy Application

Microeconomics provides the basis for several policy applications, such as taxation, price control, market regulation, and subsidy design. Policymakers use microeconomic principles to address market failures, ensure competitive practices, and correct income inequalities. It also aids in creating sector-specific strategies—for agriculture, labor markets, small businesses, etc. For businesses, it helps in strategic planning, resource optimization, and market analysis. Thus, microeconomics offers a practical toolkit for decision-making in both private and public sectors.

Limitations of Micro-economics:

  • Ignores the Broader Economic Picture

Microeconomics focuses on individual units like consumers and firms, but it does not consider the economy as a whole. It cannot explain large-scale economic problems such as inflation, unemployment, and national income. For instance, even if individual industries perform efficiently, the overall economy may still face a recession. Therefore, microeconomics is insufficient for understanding macroeconomic challenges and requires supplementation with macroeconomic perspectives to form a comprehensive analysis of an economy.

  • Unrealistic Assumptions

Microeconomic theories often rely on unrealistic assumptions such as rational behavior, perfect competition, and full employment. In reality, markets are imperfect, information is limited, and people often act irrationally. These assumptions may simplify analysis but limit the applicability of theories to real-world situations. For example, the assumption that consumers always make utility-maximizing decisions does not hold in many behavioral situations, reducing the practical relevance of some microeconomic models.

  • Neglect of Social and Ethical Factors

Microeconomics mainly emphasizes efficiency and profit maximization, often ignoring social justice, ethical concerns, and income inequality. It does not adequately address the needs of marginalized sections of society or the ethical implications of business decisions. For example, a firm may maximize profits by paying low wages, which may be economically efficient but socially unjust. Thus, microeconomics may not provide solutions aligned with fairness or equity.

  • Limited Role in Policy Formulation

While microeconomics provides tools for business decisions, its usefulness in formulating wide-ranging economic policies is limited. Issues like monetary policy, fiscal policy, and national development strategies fall under macroeconomics. Microeconomics does not adequately address the complexities involved in these areas. For example, while it can explain the pricing of a single commodity, it cannot guide decisions about national investment or inflation control, which require macroeconomic insights.

  • Static in Nature

Microeconomics is often criticized for being static. Many of its models do not consider the dynamic nature of economies where preferences, technology, and market conditions constantly change. For example, classical microeconomic models assume fixed tastes and production functions, which are not true in evolving economies. This static nature limits its ability to predict long-term trends or respond to economic disruptions, technological advances, and changing social behavior.

  • No Solution to Aggregate Problems

Microeconomics cannot address problems like economic growth, business cycles, or trade imbalances, as it does not deal with aggregate economic variables. For instance, analyzing a single firm’s output cannot help understand a country’s GDP growth. It also does not account for aggregate demand and supply forces that drive national income and employment levels. Hence, microeconomics is inadequate for solving broad economic problems affecting the entire nation or global markets.

  • Overemphasis on Individual Decisions

Microeconomics places too much importance on individual choices and neglects collective behavior and institutional influence. It fails to capture the role of governments, trade unions, multinational corporations, and other institutions in shaping economic outcomes. This overemphasis makes it less effective in analyzing complex economic systems where collective actions and regulations play a crucial role in determining outcomes like wage levels, labor rights, and social security.

  • Difficulty in Measuring Utility and Satisfaction

Microeconomic theories are heavily based on the idea of utility maximization. However, utility and satisfaction are subjective and cannot be measured accurately. While tools like indifference curves offer graphical representation, they cannot quantify individual satisfaction precisely. This makes it difficult to apply microeconomic concepts reliably in real-world decision-making. The abstract nature of such concepts reduces their effectiveness in analyzing and improving actual consumer behavior or welfare.

Microeconomic Issues in Business:

  • Pricing Strategy

One of the most critical microeconomic issues for businesses is setting the right price for their products or services. Pricing depends on demand, cost of production, competitor behavior, and perceived customer value. Firms must understand price elasticity, marginal cost, and consumer preferences to make informed decisions. Incorrect pricing can lead to reduced demand, loss of competitiveness, or reduced profits. Microeconomics provides tools like demand-supply analysis and marginal analysis to set optimal pricing strategies.

  • Demand Forecasting

Demand forecasting helps businesses predict future customer demand to plan production, inventory, and marketing strategies. It is influenced by factors like income levels, consumer preferences, market trends, and price changes. Microeconomics analyzes consumer behavior and demand curves to make accurate forecasts. Errors in forecasting can lead to overproduction or stockouts, affecting profitability. Thus, understanding the determinants of demand is crucial for efficient resource planning and market success.

  • Cost and Production Decisions

Microeconomics assists businesses in understanding how costs behave with changes in production levels. It helps distinguish between fixed and variable costs, calculate marginal and average costs, and determine the most cost-effective production level. Businesses use this information for budgeting, pricing, and profit planning. Efficient cost management leads to higher profitability, while poor cost control can erode competitive advantage. Microeconomic tools help firms optimize input combinations and production methods.

  • Market Competition and Structure

Understanding the type of market a business operates in—perfect competition, monopoly, monopolistic competition, or oligopoly—is crucial. Each market structure has different rules for pricing, entry, product differentiation, and consumer behavior. Microeconomics provides insights into competitive strategies, pricing power, and market behavior. For example, in an oligopoly, businesses must consider the actions of rivals when making decisions. Knowing the market structure helps in strategic planning and long-term positioning.

  • Resource Allocation

Businesses must allocate limited resources—labor, capital, time—efficiently to various functions like production, marketing, and R&D. Microeconomics helps determine the optimal allocation of these resources to maximize output or profit. Concepts such as opportunity cost and marginal productivity guide decision-making. Inefficient resource use leads to higher costs and lower productivity. Understanding microeconomic principles enables managers to make informed choices that align with the company’s goals and market demands.

  • Labor and Wage Issues

Labor is a key factor of production, and wage determination is a critical issue for businesses. Microeconomics studies the labor market, supply and demand for workers, and factors influencing wage rates. Businesses must decide wage levels, incentives, and employee benefits by considering productivity, labor laws, and market wage trends. Overpaying or underpaying affects profitability and employee morale. Understanding labor economics helps businesses design effective human resource policies and manage costs efficiently.

  • Profit Maximization

The primary objective of most businesses is to maximize profit. Microeconomics provides the tools to determine the output level where marginal cost equals marginal revenue, the point of maximum profit. It also helps analyze how changes in cost, output, and demand affect profitability. Profit maximization strategies include cost control, efficient pricing, and market expansion. Using microeconomic analysis, firms can identify profit leakages and develop long-term strategies for financial sustainability.

  • Government Regulations and Taxation

Microeconomic decisions are also influenced by government policies such as taxes, price controls, subsidies, and regulations. Businesses must understand how these factors affect costs, pricing, and profitability. For instance, an increase in GST may reduce consumer demand, or a subsidy may lower production costs. Microeconomic analysis helps businesses assess the impact of policy changes and respond proactively. It also assists in compliance and strategic planning within the regulatory framework.

Management Notes

Exposure to Perils

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A peril is a potential event or factor that can cause a loss, such as the possibility of a fire that could engulf a house. A hazard is a factor or activity that may cause or exacerbate a loss, such as a can of gasoline left outside the house door or a failure to regularly have the brakes of a car checked.

Risk, peril, and hazard are terms used to indicate the possibility of loss, and are often used interchangeably, but the insurance industry distinguishes these terms. A risk is simply the possibility of a loss, but a peril is a cause of loss. A hazard is a condition that increases the possibility of loss.

Peril means danger, and it has a connotation of imminent danger. A rockslide is a peril to anyone standing underneath the cliff when the rocks start sliding.

In insurance contracts, the perils that are covered are usually specified. Fire, wind, water, and theft, are the perils that are commonly listed. However, note that the language may indicate that the damage will not be covered in certain circumstances, such as if the insurance company finds that neglect by the insured caused the damage or made it worse.

This is the root cause of many disputes between insurer and insured. For example, the insurer may deny a claim for roof damage after a storm, citing owner neglect in not replacing an old roof.

Speculative risk differs from pure risk because there is the possibility of profit or loss, such as investing in financial markets. Most speculative risks are uninsurable, because they are undertaken willingly for the hope of profit. Also, speculative risk will generally involve a greater frequency of loss than a pure risk, since profit is the only other possibility. So, although many people take precautions to protect their lives or their property, they willingly engage in speculative risks, such as investing in the stock market, to make a profit; otherwise, a person could avoid most speculative risks simply by avoiding the activity that gives rise to it.

Legal risk is a particular type of personal risk that you will be sued because of neglect, malpractice, or causing willful injury either to another person or to someone else’s property. Legal risk is the possibility of financial loss if you are found liable, or the financial loss incurred just defending yourself, even if you are not found liable. Most personal, property, and legal risks are insurable

Personal risks are risks that affect someone directly, such as illness, disability, or death. Property risk affects either personal or real property. Thus, a house fire or car theft are examples of property risk. A property loss often involves both a direct loss and consequential losses. A direct loss is the loss or damage to the property itself. A consequential loss is a loss created by the direct loss. Thus, if your car is stolen, that is a direct loss; if you have to rent a car because of the theft, then you have some financial loss a consequential loss from renting a car.

Pure risk is a risk in which there is only a possibility of loss or no loss there is no possibility of gain. Pure risk can be categorized as personal, property, or legal risk. Pure risk is insurable, because the law of large numbers can be applied to estimate future losses, which allows insurance companies to calculate what premium to charge based on expected losses.

Static and dynamic risks are distinguished by their temporality. The possibility of loss is uniform over an extended period of time for static risks, so static risks are more predictable, and, therefore, more insurable. Dynamic risks change with time, making them less predictable and less insurable. For instance, the risk of unemployment changes with the economy, so it is difficult to predict what unemployment will be next year. On the other hand, the number of houses that burn down within a given year within a specific geographical area is steadier, not cyclical, and so is more predictable.

Management Notes

Insurance Customer Behavior

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Triggering moments

A common misperception is life events are point-in-time when, in fact, they are small journeys in a consumer’s life: “marriage,” for example, may begin with the decision to propose and may end with thoughts on future financial decisions (e.g., family planning), with the wedding itself as a step in the journey. Similarly, homeownership may begin with the decision to purchase and potentially end with the resale of the home itself.

To buy or not to buy

The decision to buy or not to buy life insurance goes well beyond life events and the helpfulness of advice. Non-buyers cite a variety of reasons for not purchasing insurance, including unclear benefits, complexity, and lengthy application process. There is a clear disconnect between prospective buyers’ views on short term financial goals and priorities and the potential longer-term financial benefits associated with purchasing life insurance.

Loyalty is good for business. Carriers that win the loyalty of their customers find that they stay longer, buy more products and recommend the company to their friends and colleagues. Higher loyalty means lower churn, and that can help companies reduce costs and expand margins.

Insurers have made concerted efforts in recent years to build customer loyalty. They’ve embraced digital platforms, retrained employees and started to redesign customer episodes. These initiatives can pay off. Our survey shows that insurers that concentrate on building loyalty can gain considerable ground as much as 20 percentage points in Net Promoter Scores over a three-year period. Conversely, insurers that lose focus can find their loyalty scores slipping by similar margins.

Insurer have to adapt the operating hours to service consumers specially in digital channels since users are “always” online and it is minutes of winning, the faster with adequate information respond wins.

Some organizations implemented Chatbot to interact with customers as first tier, some organization has dedicated team who support online customers with all enquiries. This is really depends on interaction and transaction volumes of each company to consider whether it is worth to invest on the dedicate team to support online consumers 24/7.

All these 3 keys behavior has definitely impact and affect insurance company especially at the pre-purchase stages. Moving forward, insurers do have to think ahead in offering products and services specially for online consumers which might also involve KYC, automate-underwriting approval, modular products for consumers to drag and drop, digital identity verification, and etc.

Management Notes

Actual and Consequential Losses

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Actual Loss

Actual loss in insurance represents the actual costs or expenses incurred due to a claim. It makes up the insurance company’s total payout for the entire loss or claim, per the insurance policy wording.

Actual total loss is a loss that occurs when an insured property is destroyed or damaged to such an extent that it can be neither recovered nor repaired for further use. Often, an actual total loss triggers the maximum settlement possible according to the terms of the insurance policy.

Actual loss refers to how much money has been paid out by the insurance company on behalf of the damage caused to your property by the insured perils in a claim. It does not necessarily represent the amount you receive directly in your claim check.

The term “actual loss” is also used to distinguish the portion of the expense that is directly resulting from a claim. That amount will be covered, rather than the total expenses or value claimed during the loss.

The actual loss is often only known once the claim has been fully assessed and is closing. It will include all amounts related to the claim, including:

  • Costs for contractors or other specialists
  • Additional living expenses
  • Costs of repairs
  • Debris removal
  • Storage of items (if applicable)

With respect to actual total loss, s 57(1) of the Marine Insurance Act 1906 applies to any subject matter insured within a policy of marine insurance, and this may include, amongst others, ship, goods, freight, profits and commissions, wages and disbursements when it states:

Where the subject matter insured is destroyed, or so damaged as to cease to be a thing of the kind insured, or where the assured is irretrievably deprived thereof, there is an actual total loss.

Consequential Losses

A consequential loss is an indirect adverse impact caused by damage to business property or equipment. A business owner may purchase insurance to cover any damage to property and equipment, and may also obtain coverage for secondary losses. A consequential loss policy or clause will compensate the owner for this lost business income. 

This type of insurance is also called business interruption or business income insurance.

Any interruption in business operations caused by fire or other special perils, resulting in a financial loss of various kinds is called consequential loss. A consequential loss insurance policy for fire or other special perils financially compensates the owner for the lost business income due to fire.

An incident of fire has the potential to not only damage the goods and machinery, but also impact the projects in pipeline and in hand. This can cause business interruption and financial loss. An insurance plan like Standard Fire and Special Perils Policy covers fire and allied perils but not financial loss due to business interruption. This is where Consequential Loss Insurance comes in picture.

Functions

  • In case of misfortune due to fire or special perils, resulting in loss in income or revenue or increased fixed cost covered under the policy, a policyholder must immediately call the toll-free number of the insurance company and register the case.
  • At the end, insurance company analyses the Final Survey Report (FSR) submitted by the Surveyor, and compensates the organization for the consequential loss subject to the terms and conditions.
  • Insurance company will consider Annual gross profit, indemnity period selected and extensions selected while calculating the premium for consequential loss insurance.
  • Licensed surveyor is appointed to survey the case and the documents and for proper evaluation of loss to the organisation.

The insurance policy provides coverage against various kinds of business loss:

  • Layoffs and retrenchment compensation
  • Loss of gross profit due to a decrease in turnover
  • Auditor’s fees
  • Spoilage consequential loss
Management Notes

Common and specific terms in Life and Non-Life Insurance

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Life assured:

Life assured is the insured person. Life assured is the one for whom the life insurance plan is purchased to cover the risk of untimely death. Primarily, the breadwinner of the family is the life assured.

Life assured may or may not be the policyholder. For instance, a husband buys a life insurance plan for his wife. As the wife is a homemaker, husband pays the premium, thus the husband is the policyholder, and wife is the life assured.

Policyholder:

The policyholder is the one who proposes the purchase of the life insurance policy and pays the premium. The policyholder is the owner of the policy and may or may not be the life assured.

Sum assured (coverage):

Life insurance is meant to provide a life cover to the insured.

The financial loss that may arise due to the passing away of the life assured is generally chosen as a life cover when buying a life insurance plan. In technical terms, ‘Sum Assured’ is the term used for an amount that the insurer agrees to pay on death of the insured person or occurrence of any other insured event.

Policy tenure:

The ‘policy tenure’ is the duration for which the policy provides life insurance coverage. The policy tenure can be any period ranging from 1 year to 100 years or whole life, depending on the types of life insurance plan and its terms and conditions. Many a times, it is also referred to as policy term or policy duration.

The policy tenure decides for how long the company is providing the risk coverage. However, in the case of whole life insurance plans, the life coverage is till the time life assured is alive.

Nominee:

The ‘nominee’ is the person (legal heir) nominated by the policyholder to whom the sum assured and other benefits will be paid by the life insurance company in case of an unfortunate eventuality. The nominee could be the wife, child, parents, etc. of the policyholder. The nominee needs to claim life insurance, if the life assured dies during the policy tenure.

Premium:

The premium is the amount you pay to keep the life insurance plan active and enjoy continued coverage. If you are unable to pay the premium before the payment due date and even during the grace period, the policy terminates.

There are various options on how you can pay the premium; regular payment, limited payment term, single payment.

Policy tenure:

The ‘policy tenure’ is the duration for which the policy provides life insurance coverage. The policy tenure can be any period ranging from 1 year to 100 years or whole life, depending on the types of life insurance plan and its terms and conditions. Many a times, it is also referred to as policy term or policy duration.

Maturity age:

Maturity age is the age of the life assured at which the policy ends or terminates. This is similar to policy tenure, but a different way to say how long the plan will be in force. Basically, the life insurance company declares up front the maximum age till which the life insurance coverage will be provided to the life insured. For instance, you are 30 years old, you opt for a term plan with a maturity age of 65 years. That means the policy will have a coverage till you are 65 years old, which also means, the maximum policy tenure for a 30-year-old is 35 years.

Automobile Insurance Terminology

Requirements regarding auto insurance vary state by state, but the following definitions can be helpful for understanding the basics when shopping for auto insurance:

Insured: The person(s) covered by the insurance policy.

Premiums: The monthly or annual amount that you must pay in order to have the exchange for insurance coverage.

Deductible: The amount of money that you must pay out of pocket for damages sustained, such as in a collision, before your insurance kicks in and starts to make payments.

Collision Coverage: The type of coverage that pays for the damages to your vehicle sustained as a result of a collision with another vehicle or object.

Comprehensive Coverage: The type of coverage that pays for damage to your vehicle sustained as a result of fire, theft, vandalism, or various other stated causes.

Medical Payments Coverage: The type of coverage that pays for medical and funeral expenses for anyone covered under your insurance policy in the event of an accident, regardless of fault.

Uninsured Motorist Coverage: The type of coverage that pays for injuries, including death, which you and/or other occupants of your vehicle sustain as a result of a collision with an uninsured driver who is at fault.

Bodily Injury Coverage: The type of coverage that pays for medical expenses and/or funeral costs of other individuals injured, or killed, in an accident for which you are liable.

Health Insurance Terminology

The Patient Protection and Affordable Care Act enables more Americans to have access to quality, affordable health insurance. The federally facilitated marketplaces are just one place where people can compare plans. Here is some of the basic terminology for health insurance:

  • Insured: The person(s) covered by the insurance policy.
  • Deductible: The annual amount of money that you must pay out of pocket for medical expenses before your insurance kicks in and starts to make payments.
  • Premiums: The monthly or annual amount that you must pay in order to have the insurance coverage.
  • Co-payment: A flat fee that you must pay toward the cost of medical visits, your insurance provider pays the remaining balance. For example, you could be responsible for a $10 co-pay for each visit to the doctor.
  • Coinsurance: The percentage that you must pay to share responsibility for your medical claims after you meet your annual deductible.
Management Notes

Constituents of Insurance Market

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The insurance market has evolved from the establishment of the first automobile insurance policy to the various types of life insurance products that are available today. The insurance market has a structure that involves property and casualty insurers, life insurers as well as health insurers. Each of these types of insurers have regulations that apply to the policies that they provide. Insurers are regulated by a combination of state and federal laws, depending on the type of insurance they offer.

Common Ownership

Many insurance companies are under a common ownership in which one corporation has one or more insurance business that act as independent companies. The most common type of common ownership for an insurance company is when it is established as a captive insurer. A captive insurer can be formed to provide coverage for various types of business risks. The most common type of captive insurer provides reinsurance coverage. This is a type of insurance where multiple insurance companies share the same loss.

Mutual Insurance Companies

A mutual insurance company is a company owned by policyholders. This means that each policyholder is given a vote to decide who will sit on the board of directors. A mutual insurance company can sell types of insurance or only provide one type of product or service to their customers. The earnings from a mutual insurance company are distributed to policyholders in the form of dividends.

Health Insurance

The insurance market also contains companies that provide health insurance policies to individuals as well as employers in the form of a group health insurance policy. Companies that provide a group health insurance policy to an employer are regulated by a combination of federal and state laws. States can also provide health insurance to residents if it is unavailable from a private insurer because of cost or ineligibility.

Life Insurance

Property and casualty insurers can also provide types of life insurance. A life insurance company can be a mutual insurance company or part of a stock insurance company. Companies that provide life insurance usually offer financial products to their policyholders, such as annuities and certain types of mutual funds.

Stock Insurance Companies

A stock insurance company is a company owned by stockholders. Unlike a mutual insurance company, a stock insurer not only needs to protect its policyholders but also maximize profits for the company’s policyholders. A stock insurance company can pay dividends to stockholders but generally do not pay dividends to their policyholders.

Property and Casualty

Property and casualty insurers offer various types of insurance for individuals to purchase, such as automobile and homeowners insurance. A property and casualty insurer can also offer types of commercial insurance, such as a small business package, general business liability, umbrella policies and workers compensation. Property and casualty insurers are regulated by laws in each state where they sell policies.

Management Notes

Importance of Ethical Behavior in Insurance Sector

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The Insurance Institute encourages the highest professional and ethical standards in insurance and financial services worldwide.

The Council and membership of The Insurance Institute look to all members to meet these standards and to maintain the reputation of The Insurance Institute by following this Code of Ethics and Conduct (the Code). It sets down the principles which all members should follow in the course of their professional duties.

Members are obliged to comply with this Code. If they do not comply, this may result in the Institute taking disciplinary action against the member.

The key values which set the standards for the behaviour of all members in respect of the key stakeholders in sections 1 to 5 are:

(a) Behaving with responsibility and integrity in their professional life and taking into account their wider responsibilities to society as a whole. Acting in a courteous, honest and fair manner towards anyone they deal with. Being trustworthy and never putting their interests or the interests of others above the legitimate interests of their stakeholders;

(b) Complying with all relevant Laws (including the laws of the Institute) and meeting the requirements of all applicable regulatory authorities, and appropriate codes of practice and codes of conduct.

(c) Demonstrating professional competence and due care including:

Meeting the technical and professional standards relating to their level of qualification, role and position of responsibility;

Completing their duties with due skill, care and diligence;

(d) Upholding professional standards in all dealings and relationships;

(e) Respecting the confidentiality of information;

(f) Applying objectivity in making professional judgements and in giving opinions and statements, not allowing prejudice or bias or the influence of others to override objectivity.

Members should respect the traditions and cultures of each country in which they operate. They should carry out business in any country according to all applicable local Laws, Rules and Regulations. Where there is a conflict between local custom and thevalues stated above, the Code will act as a guide to help members act professionally.

A member operating in a professional capacity has duties, arising from these key values, to a number of different groups. Within these relationships a member should always act ethically and their behaviour and conduct should meet the following principles:

Relations with customers

Members will seek to earn and maintain the trust of their customers at all times and should:

  • Give fair and proper consideration and the appropriate priority to the interests and requirements of all customers. Obtain and provide relevant information, including all necessary documentation and respect the confidentiality of information;
  • Avoid conflict between personal interests, or the interests of any associated company, person or group of persons, and their duties to all customers;
  • Avoid conflict between any competing interests of one or more customer(s), stepping aside in one or all matters if such conflicts cannot be resolved;
  • Act at all times with due skill, care and diligence;
  • Act only within the limits of personal competence and any limits of authorisation;
  • Act in a financially honest and prudent manner, including ensuring the protection of any money and /or property held on behalf of customers;
  • Act openly, fairly and respectfully at all times, providing all customers with due respect, consideration and opportunity;
  • Be honest and trustworthy with customers and communicate with them in a clear, prompt and appropriate manner;
  • Provide suitable and objective recommendations to customers;
  • Comply with all Laws and Regulations regarding the supply of goods and services to customers;
  • Not provide or accept money, gifts, entertainment, loans or any other benefit or preferential treatment from or to any existing or potential customer or provider, other than occasional gifts, entertainment or remuneration, which are provided as part of accepted business practice, and which are not likely to conflict with duties to customers.

Relations in employment

Members should aim to ensure good relations with their employer and employees and should:

  • Avoid conflict between personal interests, or the interests of any associated company or person, and their duty to their employer;
  • Not make improper use of information obtained as an employee or disclose, or allow to be disclosed, information confidential to their employer;
  • Seek to be a responsible employer or employee and be honest and trustworthy at work;
  • Act openly, fairly and respectfully at all times, treating other employees, colleagues, customers and suppliers with equal respect, consideration and opportunity;
  • Aim to take every opportunity to improve their professional capability, knowledge and skills;
  • Accurately and completely account for and report in employer records all business dealings;
  • Not provide or accept money, gifts, entertainment, loans or any other benefit or preferential treatment from or to any existing or potential supplier or business associate, other than occasional gifts, entertainment or remuneration, which are provided as part of accepted business practice, provided this is not likely to conflict with any duty that is owed to their employer.

In addition, where a member holds a position of influence within an organisation they should:

  • Provide, or encourage their employer to provide, suitable arrangements for the internal review of decisions, policies and actions where an employee raises concerns of unethical behaviour. (Employees should not be penalized for raising matters of ethical concern even if this results in a loss to the organisation or a customer);
  • Incorporate, or encourage their employer to incorporate, ethical standards into the organization’s governance standards, including the development of an ethical code.
  • Not disclose any employer/organisational confidential or sensitive information in written assignments.
Management Notes

Management of Risk by Individuals and Insurers

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Insurance Risk Management is the assessment and quantification of the likelihood and financial impact of events that may occur in the customer’s world that require settlement by the insurer; and the ability to spread the risk of these events occurring across other insurance underwriter’s in the market. Risk Management work typically involves the application of mathematical and statistical modelling to determine appropriate premium cover and the value of insurance risk to ‘hold’ vs ‘distribute’.

Risk = Probability x Severity

Probability is the likelihood of an event occurring, and severity is the extent and cost of the resulting loss.

Speculative Risk: Risks where the possible outcomes are either a loss, profit, or status quo. It includes things like stock market investments and business decisions such as new product lines, new locations, etc.

Pure Risk: Risks where the possible outcomes are either a loss or no loss. It includes things like fire loss, a building being burglarized, having an employee involved in a motor vehicle accident, etc.

Steps to Implement Risk Management:

  • Quantify and prioritize: Risk mapping is one way to do this. Essentially, you chart all of the identified risks on the map. The map will make you aware of those risks on which you need to focus. Work with your broker to make sure that you are covered for all of the appropriate risks and look for ways to prevent and mitigate these risks. The image on the right is a sample of a common risk map. However, risk maps are often altered to reflect organizational needs.
  • Risk identification: It is a good idea to chart your risks in a way that allows you to identify the more common and serious risks so that you know the areas to which you need to commit resources.
  • Be risk sensitive, not risk adverse: Being risk sensitive is not the same as being paranoid. Realize that there are risks associated with everything. Take a deliberate and methodical approach to dealing with risk, while at the same time being realistic.
  • Identify risk in business decisions: Identifying risks in business decisions is much the same as with the process of identifying any risk. The key is to be thorough and use all the sources available. These risks can be prioritized and mapped in the same way as all other risks.

Property damage

Insurance companies are often concerned with protecting their clients’ physical assets, including their brick and mortar properties. While natural disasters and other events may not destroy property entirely, they always pose a significant threat to a business’ ability to operate normally.

Mitigation options:

  • Implement controls for mitigation and prevention.
  • Invest in adequate insurance coverage.
  • Develop a foolproof business continuity plan that is proactively communicated with your entire organization.

Product or service issues

When customers feel that their product did not meet expectations, challenges and risks are inevitable.

Mitigation options:

  • Implement ERM software into your organization to prevent negligence claims.
  • Invest in professional liability insurance.
  • Conduct vendor due diligence to prevent third party providers from producing products or services that don’t meet your organization’s standards.

Property damage

Insurance companies are often concerned with protecting their clients’ physical assets, including their brick-and-mortar properties. While natural disasters and other events may not destroy property entirely, they always pose a significant threat to a business’ ability to operate normally.

Mitigation options:

  • Implement controls for mitigation and prevention.
  • Invest in adequate insurance coverage.
  • Develop a foolproof business continuity plan that is proactively communicated with your entire organization.
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