Looking out a few years, do you see any major trends or changes in store for the PRI and Trade Credit marketplace?
We’re in the risk business, and major trends will be driven by the risk environment. Any clear-eyed assessment indicates more negative developments than positive ones. Of most concern is the loss of faith in the “Washington Consensus” that promised development in emerging markets through privatization and fewer restrictions on the movement of capital. However, with a move to the political left in some countries it’s not difficult to imagine events of “renationalization” in the future. At the same time there is an enormous amount of liquidity in the world that, over the past several years, has created significant downward pressure on risk spreads and premiums. In late May, emerging market spreads in the capital market began to go back up. It’s too soon to tell if this is a blip on the radar screen or the beginning of a trend. The insurance markets, trained to look backward at actuarial trends, have historically lagged behind rate trends in the capital markets. However, in this risk environment, trends of lower rates and broader cover cannot continue indefinitely. A correction is in our future.
What scope do you see for new or significantly modified PRI products—or have the limits of innovation been reached?
I have listened to presentations that characterized traditional CEN language as “archaic.” A new approach may lie with providing a backstop to Bilateral Investment Treaties (“BITs”). There are now over a thousand BITs in existence and that was not the case when the CEN market developed. “BIT coverage” would include outright expropriation and would replace the “series of acts” language with coverage insuring the foreign investor receives “fair and equitable” treatment by the host government based on the provisions of the relevant BIT. A loss resulting from an outright physical taking could be paid immediately. A finding of unfair treatment would only be finally paid after default on an arbitral finding. This approach has several advantages. “Fair and equitable” treatment of the foreign investment is at least as broad as the existing coverage and an indemnifiable loss will be much easier to prove. After the loss is paid the underwriter becomes subrogated to an award that has international standing. The principal disadvantage is that the arbitration process may take two or three years. This shortcoming could be remedied with advance payments to insureds.
Non-honoring coverage looms very large in many PRI portfolios relative to traditional CEN, CI and PV exposures. Is this a healthy development, or just a necessary response to demand?
We learned in the 1980’s that, while countries don’t necessarily “go broke,” they are not always capable of paying their debts. More recently we’ve seen countries, some of whom could pay their debts, negotiate repayment at a steep discount.
The nature of the agreement subject to non-honoring coverage is also relevant. It is generally riskier to insure performance risk that may become subject to commercial disputes, than unconditional payment risk. It is even riskier, unhealthily so, to insure contracts, such as Power Purchase Agreements, that are likely to be subjected to renegotiation pressures prior to their expiry.
Finally, underwriters need to be mindful of the law and jurisdiction of agreements they’re insuring. There are some, but not many, emerging markets that will give foreign interests a level playing field using local courts and local law.
Pricing discipline is always a challenge. Is it significantly more or less difficult in the PRI industry than in property and casualty lines?
We’re a market like any other. Each participant has to decide whether the rate is sufficient to cover the risk and the underwriter’s expenses. It is more of a challenge in PRI because we cannot rely on actuarial analysis to give us a reliable break-even point. AIG has always taken the view that risk selection, including an analysis of the value of subrogation rights, is more important than price. This is even more critical in a low rate environment.
In a competitive insurance market, “standards” discipline may also be difficult to maintain. Are there any important PRI terms and conditions that you think are in danger of being eroded?
Our market is not only competitive, it’s filled with a lot of creative people. Whether a new approach is an attack on a “standard,” or just a new, creative way to lose money is something time will tell.
Are you satisfied with the level and effectiveness of cooperation between public and private sector insurers these days? What changes, if any, would you like to see?
I can honestly report that the old split between public and private sector insurers is breaking down and the catalyst has been the Berne Union. There are two trends at work. First, the Berne Union has opened its doors to private sector insurers that meet its standards. AIG led the way when we were admitted in 1999, after three years of negotiations. Second, many European underwriters are becoming more of a commercial insurer and less of a government underwriter. Since joining the Berne Union, AIG has worked on transactions with 11 other members. We have even placed facultative reinsurance with several wholly owned government underwriters. This would have been unimaginable ten years ago, but is now seen as a win-win situation.
I think the next frontier will be the development of direct relationships between the Berne Union and the governments of emerging markets that are the beneficiaries of the members’ activities.
AIG has deep roots in the Far East. Do you see any significant differences in the way investors and lenders there view and use PRI, compared to Western investors?
AIG has deep roots in Asia but we are newcomers there in the world of trade credit and political risk insurance. Our Asian HQ is in Hong Kong but we now have satellite offices in Tokyo and China, where we have only recently obtained licenses. We think our business in Asia will grow over the next decade.
AIG has invested in PRI joint ventures overseas. How have these worked out? Is the model a good one?
We have two of them. They have proven to be excellent sources of underwriting intelligence and, in one case, a successful risk management tool that resolved a contractual dispute before it became a loss.
What impact do you see Basel II having on the PRI marketplace?
I think some have tried to use Basel II as an opportunity to turn insurance into financial guarantees. That isn’t going to happen. Reinsurers will withdraw all capacity and, in New York, financial guarantees cannot legally be issued by multi-line insurers. I think the bankers have come to understand that. However, Basel II will force us to re-examine all the clauses in our policies with an eye to helping banks manage policy conditionality, not eliminate it. ■
John Salinger is President of AIG Global Trade & Political Risk Insurance Co., a wholly owned subsidiary of American International Group. AIG Global is a longstanding and leading private sector underwriter of political risk and export credit insurance. Mr. Salinger is one of the PRI industry’s most experienced and knowledgeable figures. He currently serves as Chairman of the Short Term Export Credit Committee of the Berne Union and on the OPIC Advisory Committee.