1. The pricing of an insurance product involves the estimation of claims and costs arising from that product and the estimation of investment income arising from the investment of premium income attaching to the product. An Insurer may be exposed to significant loss where the claims, costs or investment returns arising from the sale of a product are inaccurately calculated. This risk is particularly acute in the case of Long-Term Insurance, where the Insurer does not have the option to cancel an unprofitable policy, but is also relevant to General Insurance.
2. The risk management system for product design and pricing should normally include at least the following policies and procedures:
a. minimum requirements for documentation of pricing and design decisions;
b. clear identification of product lines that the Insurer is prepared to engage in or has chosen not to engage in;
c. clearly defined and appropriate levels of delegation for approval of all material aspects of product design and pricing;
d. processes for assessing specific risks, including risks arising from:
i. inflation;
ii. anti-selection (the tendency of poorer risks in a population to seek insurance while better risks self-insure);
iii. moral hazard (the tendency of insured persons to manage their own risk less effectively, in the knowledge that they are insured);
iv. changes in mortality and morbidity patterns;
v. technology changes;
vi. catastrophes, natural or man-made;
vii. legal decisions;
viii. changes in government policy; and
ix. investment returns;
e. procedures for limiting risk through, for example, diversification, exclusions and reinsurance;
f. processes to ensure that policy documentation is adequately drafted to give effect to the proposed level of coverage under the product;
g. how emerging experience is to be reflected in price adjustments;
h. how the Insurer's product pricing responds to competitive pressures; and
i. methods for monitoring compliance with product design and pricing policies and procedures.