The effect of geopolitical risks on insurance premiums

• Published date: 01 February 2022
• Author: Godwin O. Olasehinde‐Williams,Mehmet Balcilar
• Date: 01 February 2022
• DOI: http://doi.org/10.1002/pa.2387

ACADEMIC PAPER

The effect of geopolitical risks on insurance premiums

Godwin O. Olasehinde-Williams

1

| Mehmet Balcilar

2

1

School of Economics and Management,

Nanchang University, Nanchang, China

2

Department of Economics, Eastern

Mediterranean University, Gazimagusa, Cyprus

Correspondence

Godwin O. Olasehinde-Williams, School of

Economics and Management, Nanchang

University, No. 999 Xuefu Road, Honggutan

New District, Nanchang, Jianxi 330031, China.

Email: alanisey@gmail.com

This article deals with the estimation of the risk-insurance nexus. We specifically

examined the effect of geopolitical risk on insurance premium in a panel of 18 coun-

tries, while controlling for the effect of real income. Second-generation econometric

methods were employed for this purpose, and the results provided strong evidence

of a positive impact on insurance premiums by geopolitical risks. We specifically

found that the impact of geopolitical risks on nonlife insurance premium is higher

than the impact on life insurance premium. Real income was also found to have a sig-

nificantly positive effect on insurance premiums, and the impact on nonlife insurance

premium was similarly larger than the impact on life insurance premium. On the basis

of income elasticity, we found that insurance has the semblance of a luxury good,

and on the basis of the panel causality tests, we confirmed the feedback hypothesis.

We therefore conclude that exposure to geopolitical risks raises insurance premiums

either as a result of increased insurance demand to hedge against geopolitical uncer-

tainty or as a result of uncertainty tax factored into insurance premiums in unstable

environments.

1|INTRODUCTION

It is common knowledge thatrisks associated with wars, terrorism, and

tensions between states (geopolitical risks) exert powerful influences

on macroeconomic and financial cycles. There is ample evidence that

geopolitical disturbances create considerable amount of risks and

uncertaintiesin the economy at large and in the financial sector in par-

ticular (Aghion,Persson, & Rouzet, 2012; Apergis& Apergis, 2016;Bal-

cilar, Bonato, Demirer, & Gupta, 2016; Balcilar, Gupta, Pierdzioch, &

Wohar, 2017; Caldara & Iacoviello, 2016; Christofis, Kollias, Pap-

adamou, & Stagiannis, 2013; Drautzburg, Fernández-Villaverde, &

Guerrón-Quintana, 2017; Glick & Taylor, 2010; Guidolin & La

Ferrara, 2010; Moretti, Steinwender, & Van Reenen, 2014). Moreover,

because of recent geopolitical tensions (such as United States–China

and United States–Russia tensions, escalations in the North-Korean

and Syrian conflicts and fragmentation in Europe) and their potential

adverse effects on the general economic outlook of the affected

regions, concerns about geopolitical risks have heightened in recent

times. According to the “Global Risks (2015)”reportof the World Eco-

nomic Forum, geopolitical risks currently rank very high on the list of

issues that multinational businesses are concerned about, and this per-

ception is not expectedto change over the next decade.

A recent study by PricewaterhouseCoopers (2018) shows that

businesses are now more concerned about broader risks such as geo-

political risks than direct business risks. The study specifically shows

that geopolitical risk is currently a top-five threat to businesses in

every region of the world. Economic consequences of geopolitical

risks are therefore an issue that is currently on the front burner of pol-

icy and academic discourse. Table 1 provides an insight into how high

geopolitical risks rank on the list of threats faced by businesses

around the world.

Based on the projections of the OECD (2013), by the year 2050,

approximately 50% of the global population living below the poverty

line will be residents of fragile and conflict-affected countries. For

these nations to achieve development and stability, a viable private

sector that can drive economic growth by channeling investments

toward key sectors of the economy will be required. Unfortunately,

these countries find it difficult to attract these kinds of private sector

investment from abroad primarily due to the high levels of geopolitical

risks they are exposed to. A key means of mitigating geopolitical risks

is the purchase of insurance. The role of the insurance sector is

broadly categorized into two; protection from adverse events (risk

pooling and indemnification against losses) and financial intermedia-

tion (mobilization of savings and provision of investment

Received: 15 May 2020 Revised: 26 June 2020 Accepted: 12 August 2020

DOI: 10.1002/pa.2387

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https://doi.org/10.1002/pa.2387