Insurance sector, an untapped growing market to which African companies should look

The insurance sector in Africa (in both the life and non-life segment) is largely underdeveloped and in its early stages of development, this is known. But many economic analysts concur on the fact that this is also one of the sectors with the highest profitability rate and growth potential, in a continent where the insurance penetration is currently only 3,1% (2022 data), i.e., less than half of the global average, according to data from Statista.

Recently, many studies have been conducted to assess the potential of the insurance market in Africa and effects of institutional quality on insurance demand and penetration in Africa. A recent one, published on the Journal of Financial Risk Management, notes that the reasons of the low penetration of insurance in Africa range from the low availability of income by large subsets of the African population (combined with a generally low awareness and sensitiveness about the importance and benefits of insurance), to significant government interference in the sector, strict regulatory requirements, and high entry barriers for financial institutions to operate in most of African countries, mainly because of the prohibitive financial capital requirements demanded. A study on insurance regulatory regimes in Africa made in 2015 shows that over time, African countries have overregulated this sector. However, despite these challenges, there are some dynamics and developments at which insurers, and African insurance companies in particular, should look to for expanding their cross-border offer of these services.

The first aspect is that the rapid expansion of many of African economies and their youthful demographic profiles will cause a significant growth of the demand of insurance services, as observed in an article published on African Business a few days ago. As a matter of fact, the rapid growth of many African economies means that as such countries develop, insurance penetration will most likely increase alongside incomes. This situation will offer interesting opportunities for those financial institutions that operate in the insurance sector for expanding their business to other countries in the continent. Mentioning a McKinsey article written in December 2020, the African Business article argues that Africa, after Latin America is the continent worldwide that will offer the highest opportunities for insurance development.

The above mentioned study published on the Journal of Financial Risk Management is on the same line. It argues, mentioning data from Research and Markets, that the African insurance market, estimated in US $75.3 billion in 2021, it is expected to grow almost twofold by 2027, reaching US $115.9 billion.

The second aspect to consider, which is interesting especially for African insurers, is that the financial services (which include the insurance services) are among the sectors that have been prioritized under the African Continental Free Trade Area (AfCFTA) for liberalization and regulatory harmonization. This means that the above-mentioned market access restrictions limiting insurance penetration in Africa will be dismantled and that standardized regulations will make it easier for African insurance companies to operate across the borders and offer a broader range of products without restrictions. Moreover, the AfCFTA Protocol on Investment will facilitate the establishment by such companies of branches and subsidiaries in other African countries, establishing a direct presence in these markets.

But Africa is huge, and not every country offers the same opportunities. So, what countries on the continent should insurers look to for expansion and, especially, when to make this move? A study published on the African Development Finance Journal in February this year gives an answer to these questions. It suggests to look at two key elements: inflation and exchange rate volatility.

Countries where inflation is low are those where the insurance demand is supposed to grow more in the next years, because high inflation rates decrease the real value of savings, which in turn deters consumers from buying insurance products. Therefore, better to stay away from these countries.

More interesting is the relation between insurance demand and exchange rate volatility. An exchange rate is an indicator that tells how much of a country’s currency can bought for each unit of another currency. For this reason, it is usually expressed in an equation. For instance, KES/USD=0.0078 means that a person will obtain US$ 0.0078 for each Kenyan Shilling (KES) exchanged on the currency market (assuming that there are no other fees applied by financial intermediaries).

Many studies have been conducted to analyse the relation between insurance demand and exchange rate volatility, each of them coming to totally different conclusions. Some authors argue that countries where the local currency is highly volatile are those where insurance demand tends to rise over time. This happens because in these countries, uncertainty and risk about a sudden loss of purchasing power are high, which results in a higher need for insurance cover.  Other studies say exactly the opposite.

The study published on the African Development Finance Journal proposes a slightly different theory. It argues that insurance demand grows as exchange rates go up, while it decreases as exchange rates decrease. In the example above, it means that when buyers obtain more US$ for each Kenyan Shilling exchanged (i.e., the local currency appreciates with regard to other hard currencies exchanged on the financial market), the demand of insurance services increases because the purchasing power and confidence of consumers grows. It is therefore important to focus at countries showing a trend towards the appreciation of their currencies. This is the right moment where a insurance company should make its choice to invest.