In this think piece, Jan Iwanik gives a response to the public consultation on the commitments to restrict the use of “What-If” and access to market information on the UK insurance market. The government cannot artificially engineer competition by restricting information between firms.
UK motor insurance companies have been using detailed market pricing information to help set insurance rates for many years. Insurers have been able to check how much their competitors have been quoting for different types of vehicles and different groups of drivers. Available information has been very precise and has allowed predicting prices for individual quotes and up to one month ahead.
The Office of Fair Trading (OFT) is claiming that using such market information limits competition. OFT is threatening (PDF) the largest UK insurers with a continued investigation to make them commit to restricting the use of market pricing information. This commitment will be applicable to all UK insurers, including smaller ones who are not signatories.
There is no valid economic case for restricting access to market pricing information. As a consequence the commitments offered, or any other regulatory action, will not be addressing an identifiable competition concern.
Why OFT’s understanding of the market process is incorrect
OFT’s main economic concern is that access to market pricing information allows a common understanding of pricing positions by insurers. OTF also believes that this common understanding will lead to “successive rounds of signaling and responses by multiple insurers and this could create upward pricing pressure”.
But this is a misunderstanding of the market process. Profit maximizing companies do not increase their prices just because they know how much others charge. If they did, we would see a constant price raises in markets for all goods where companies have this knowledge, that is in most markets. We would see, for example, an upward spiral in prices of eggs, bottled water, newspapers and houses.
Insurance pricing is a reverse auction where insurers bid and the buyer, if she is price sensitive, chooses the cheapest quote. Restricting market pricing information changes the auction from a simple English auction to a less transparent one where at each step the bidders know if they are winning or not and if they are not winning they do not know who is and what the winning bid is. The Revenue Equivalence Theorem (PDF) suggests that both auctions will result in the same price to the customer. The latter one will just converge slower, will be more volatile and hence will make the market less efficient.
It is also hard to think of an intuitive reason why better access to competitors’ prices makes a market less competitive. Telling a class of students what everybody’s grades were in last week’s test makes top students more, not less, competitive.
OTF’s is also concerned that market pricing information could allow a hypothetical cartel to monitor the market and hence to detect deviation from a hypothetically coordinated strategy. If a cartel existed then, I suppose, it would use market information this way. It could also use other means to coordinate rates.
But individual insurers’ interests are in conflict and it is difficult to maintain a cartel without a disciplining mechanism (see, for example, N. G. Mankiw's Principles of Microeconomics, Chapter 16). I do not know of such a disciplining mechanism in the UK market and neither does OFT. Until such a mechanism develops, and there is no evidence that this is happening, market information is not a threat to competition.
In fact restricting market pricing information will make it harder to start new insurance companies and for existing companies to enter new market segments. This is because new companies, unlike the established ones, do not have historical claims data and therefore need to rely on market intelligence tools to set prices.
Commitment enforced by OFT or any other such restriction of market pricing information will not address an identifiable competition concern. Instead, to the extent to which it will be enforced, it will reduce effectiveness of the market, increase insurance risk, reduce competition and increase compliance cost and consulting fees. It will also mean that seven big insurers, with OFT’s assistance, will collude to limit competition from smaller insurers and potential start-ups.