Social Inflation and it's effect on insurance


Craig Montgomery

Social inflation, like regular inflation, refers to the ballooning prices that customers and companies experience due to a range of factors. Specifically, social inflation tends to focus on the rising cost of litigation that insurance companies face. Why is this important to business owners? Read on to find out more!

What is social inflation?

Social inflation, like regular inflation, refers to the ballooning prices that customers and companies experience due to a range of factors. Specifically, social inflation tends to focus on the rising cost of litigation that insurance companies face. Claim payouts, loss ratios, jury awarded settlements and the basic amount that policyholders pay for coverage is all increasing. Fifteen years ago, if a trucker got into an accident, the trucking company’s insurance could expect certain claims costs. Now, that same accident is more likely to cost the insurance company more than expected.

There are a number of reasons why social inflation happens.

Nuclear verdicts:

Because of increased inequality and waning trust in corporations since the financial crisis in 2008, juror emotions lead to higher jury awards. Juries are more sympathetic to the injured party than they used to be.

Runaway Litigation:

Increased litigation means more lawyers. More people, entities and governments are turning to litigation than before, and lawyers are getting better at what they do.

Litigation Funding:

Third party litigation funding is where investors finance a lawsuit against large companies and then share in the settlements. That means smaller companies have more power to start a lawsuit than they did before, and there’s more incentive for behind-the-scenes players to want a lawsuit.

Tort Reform:

The legal landscape is changing. New judges on the bench mean laws are perceived differently than they used to, and new laws put in place have been rolling back tort reforms, which used to keep the costs of litigation in check.

There are other, less obvious elements at work in the social inflation phenomenon, too. For instance, worker’s compensation claims are awarding more money more often in response to increased safety standards and worker-health expectations. And there are emerging risks like new scientific evidence that shows the negative effects of toxic or harmful substances or products that can increase insurance claims, as well.

Social inflation hits some parts of the insurance industry are hit harder than others. The commercial auto industry is really seeing the effects of social inflation. In 2020, The American Transportation Research Institute released a study that found that from 2010 to 2018, there was a 33 percent annual growth in verdicts awarded. The commercial property industry also is seeing major cost increases because with labor shortages and supply chain disruptions, the cost to repair or rebuild damaged structures has soared. During the pandemic, the cost of lumber and steel have almost doubled.

Across all industries, verdicts of $20 million or more were 300% more likely in 2019 than in any year of the decade before.

How is social inflation putting commercial insurance at risk?

Commercial insurance, like any in the insurance industry, operates on the idea that most of their clients will not need significant payouts, and will not need them regularly.

But the more people who have claims that need to be paid out, the thinner the insurance business stretches to cover everyone’s needs. If the insurance company can predict a rise in risk or a rise in claims, then they can set up more restrictions, bring in fewer risky clients, or otherwise handle the change. But when the rise in claims increases without an accurate prediction, these companies, and their clients, are out of luck.

All this leads to rising costs for everyone. When premiums rise, insurance affordability suffers. The whole point of affordable insurance is for companies and individuals to pay a little bit every month, but if they’re already paying a large amount, a client may not see the value in having all their bases covered. That means that a company may forgo flood insurance to pay for auto insurance. When the 100-year flood hits they won’t be able to rebuild, even if they had a well-run business before.  

What steps can businesses take to mitigate risk?

Warranted or not, anti-corporation bias is a motivating factor for social inflation. If the public does not trust the businesses in their region, juries will continue to award large amounts, policy makers will roll back more tort reforms, individuals and state-run agencies will sue more often, and insurance costs will continue to rise as a result.

Businesses can take a number of proactive steps to keep their own insurance costs down and also contribute to a better public image for themselves and all companies.

Renew policies early, and reassess property valuations regularly:

Policy holders should give themselves ample time to renew their insurance coverage to make sure they can be properly informed on inflation trends, policy and pricing changes, and take adequate steps to address any new risks. Insurance policy meetings every quarter will ensure that the business can adjust their coverage as needed, and prepare for changes that may be underway.

When a company reassess their property values routinely, they can accurately reflect the cost of rebuilding based on current construction and labor pricing. That means they can ensure that their insurance coverage is adequate.

Mitigate Risk:

Businesses have a plethora of options to mitigate risk. There are cutting edge sprinkler systems to reduce risk of fire, for instance. Companies can do their due diligence to replace outdated machinery and check their product quality regularly. When a company can show that they have less risk for incidents, their rates will go down. Companies can and should work with insurance agencies, industry experts and the public to maintain and showcase safe and secure systems.  

Businesses can also mitigate risk by employing better modeling systems to help determine how a litigation will play out. With better modeling, businesses can decide on a strategy that is aimed at reducing costs.

Transparency and Corporate Social Responsibility:

Businesses that have records of treating employees well, maintaining and exceeding environmental standards, and contributing to the common good will not only lower their risk assessments, but will also be treated more gently in public sentiment. Start in-house, by maintaining good relations with past, present and future employees. Give back to the area’s charitable foundations and work with locals to determine what would best serve their community. Cultivating good faith and demonstrating corporate responsibility will go a long way towards preventing extraneous attacks.

Advocate for more reasonable litigation systems:

Third party litigation funds contribute to social inflation with lengthier litigations. They also encourage plaintiffs to hold out for higher settlements to appease the people who funded the litigation in the first place. Attorneys, too, advertise that any slight can be a reason to sue. With regulations and constraints in place for players like these, litigation can be more affordable, less contentious, and used only in appropriate circumstances.

Lower social inflation with sound business practices

Everyone feels the impact of social inflation. When your business runs a tight ship, you can better control the risks you incur. Saving money in the short term on old equipment, low wages and poor PR will only drive insurance costs and settlement costs up, for you and for all the businesses around you. Talk with your insurance agent about what risk management strategies they can advise to keep your rates low.

Download our checklist.
Thank you! Your submission has been received!
Oops! Something went wrong while submitting the form.
Share this article

Why Montgomery?

From the start of your relationship with a Montgomery agent, your insurance strategy is always monitored, always evaluated for efficiency and always subject to a cost-effective adjustment when needed.  It’s why our clients — our friends and neighbors in the Delaware Valley — have invested their trust and faith in us for more than 75 years.

Our Insights

5 cyber security threats you need to be aware of

Here are five cybersecurity threats and how to keep your data and personal information safe.

Read Full Article

5 types of business insurance coverage

If you are trying to evaluate an insurance provider for your business, here are 5 types of business insurance to consider.

Read Full Article

8 tips to consider when creating a disability accommodation policy

Check out these 8 tips on how to best implement disability accommodation policies in your small business

Read Full Article