Critical insights on the potential of smart contracts and distributed ledger technology for the Insurance sector are explored in an interview with Senior Economist at Willis Towers Watson, Magdalena Ramada Sarasola
Adjoint: Can you first tell us about your professional background?
Magda: I have been a senior economist at Willis Towers Watson for about 15 years. Part of what I do is international consulting for multinational corporations. Formerly, I assisted them with expansion into emerging markets and in the past 5 years, I have been working mostly with clients in the insurance industry. I came across blockchain technology in 2014 while helping an insurer with its strategy to expand into Africa. After doing some initial research in I realized it would have a huge impact on the insurance industry. I then wrote an article about it when the term InsurTech was not even widespread. On its first week out that article got us 45 thousand impressions on LinkedIn and it literally shifted the focus of my role overnight.
Today, 99% of my time is leading our thought leadership efforts in that space and working with insurers on blockchain specific projects. Some of these projects evolved to incorporate other technologies – as AI and IoT – that are now being integrated more and more with distributed ledger technologies. A lot of the work I do relates to blockchain consulting and education, including client workshops for executives and other specialized teams. There is still a lot to do in that space, which is why I often refer to myself as a “blockchain crusader”, still some other project get as concrete as developing a PoC or MVP from scratch. Those are the most fun ones!
Adjoint: In terms of your experience with distributed ledger technologies, can you elaborate more on some of the pilots or use cases that you’ve seen?
Magda: We have been working with several clients on distributed ledger technologies. Most of them have been in the parametric insurance space - as I just said, starting first with assisting them in understanding the technology, so a majority of my focus with clients has been educational. Once they understand the technology, I work with them to figure out a specific area where a simple product can be put on the blockchain to show how it works and could impact their business.
One of those projects involves the marine insurance space, and we are looking at a very specific parametric insurance product in very concrete areas like cold pharma or for certain types of bulk. Making use of IoT-enabled smart containers to act as oracles and provide data to an insurance smart contract. Certain parametric products, with fairly simple underwriting formulae are a great place to start since the process of translating the insurance policy into a smart contract is very straightforward. Although these projects are not strategic nor will move the needle on disrupting the insurance industry, I see them as low-hanging fruit that serve two purposes: firstly, underwriters get exposure to the technology and an opportunity to understand it from both an intuitive and a technical perspective. It generates conversations like “Why are we doing this process in this way? Does it make sense to change it? What can be done with blockchain that we cannot do otherwise?”; Secondly it triggers a process that involves assessing the in-house talent that can be trained and deliver on a project like this, as well as the internal buy-in at management and C-suite level, without much threat to status-quo. So we usually start there. Many of these use cases require substantial process re-engineering and redefining the process architecture. Very often, it just does not make sense to replicate an existing process on a distributed ledger.
Then it can get more complex. You take a very simple and tech-enabled product like insurance for cold pharma tracked via smart containers and then transition it to a more complex one like insurance for bulk, in which more data points and actors – like local port inspectors – are involved and have to be integrated into the process. In that case, the “product” looks very similar to the manual process, except that its on the distributed ledger and works with multiple validating parties collaborating on a single ledger across the ecosystem.
The blockchain will only reap its full potential once it gets enough scale and scope. We need everyone to be on board or you soon hit what I like to call the “blockchain frontier” and risks are just transferred to that invisible boundary. The advantages of an immutable and safe system get quickly diluted if the information you need to feed it – as oracles for example – come from outside the blockchain and are not cyber-protected. So, many of the solutions we work on have to be able to plug into other blockchain solutions along the same value chain that may or may not be built by other parties. In the case of marine insurance these could be blockchain solutions focusing on trade finance, subrogation, and supply chain managements for the logistics industry.
Adjoint: Clearly you have seen a number of use cases in which distributed ledger technology would make an impact. Where you think DLT would make the most impact in the insurance industry?
Magda: When I look at blockchain and the transformational impact that it will have, I believe it will happen in different timeframes. In the short term, this impact will be driven by automation through smart contracts, standardization, and reducing certain frictions and human error around processes that are highly manual today. Good examples are around reconciliation of databases and automated claims handling. That’s the first level of impact and it is using blockchain as an excuse for an automation of the industry that is long due. There already are various examples of that type of impact of blockchain technology in the insurance industry. They are a good way of starting to engage with the technology and they do not change current business models, only make them more efficient.
In the medium term, I think the technology impact will come from other areas that focus on delivering and securing individual data in a decentralized way. Data self-sovereignty and identity solutions will transform the way people share data, the amount and type of data they are willing to share and, as a consequence, the way in which the insurance industry is able to assess and price risk. Many startups that are building blockchain infrastructure have a vision of the DLT ecosystem as a whole and what the building blocks of that new system will be. These firms are working on provenance, portable identity and KYC solutions, as well as prediction markets as new sources of actuarial data. They are also combining blockchain with AI and IoT. From DNA to behavioral wallets, these ideas will disrupt the way in which the insurance industry deals with data and its accuracy and reaction ability towards risk.
In the long term, I believe that we will see a lot of transformation around new ways of mutualizing risk and new business models that are decentralized and P2P driven. Indeed, P2P insurance is a good example. P2P insurance is not new and its idea is the very one that started insurance 300 years ago. In the past 5 years, several insurtech startups appeared with a focus on P2P insurance. Their model was difficult to scale. Today, some of these startups see blockchain as the piece of tech they were lacking and now can use to deliver on a scalable, trustless P2P insurance solution. Meaning underwriting without underwriters. This obviously has huge regulatory implications. Some of these startups’ visions go even further: they are about fully distributed, autonomous and automated risk placement platforms that are able to assess individual risks, pool and package them and then find the right investor and place them, all via smart contracts. Will this happen tomorrow? No. Is it possible that this replaces insurance? For certain simple risks it may. Is it plausible? Well, it depends on the evolution of so many moving parts – from the maturity and adoption of provenance and identity solutions, to data privacy and insurance specific regulation, and to developments in areas like cyber security or machine learning – that it is very difficult to forecast if it will happen or not. But it is certainly an interesting vision that requires awareness and monitoring by the industry.
Adjoint: What are the challenges that will need to be overcome for an insurance company to use smart contracts and distributed ledger technology?
Magda: Currently, one of the main challenges is that there needs to be more standardization within the industry, both for products and for processes. Standardization is key to automation and very important for example to be able to translate these products into coded smart contracts. This also applies to internal processes in the way risks are being underwritten, and the way claims are being processed and to inter-company processes, like in the case of subrogation.
Another immediate challenge is that smart contracts generate unbreakable escrow - which means that the underwriter and the insurer will not be able to stop a smart contract from executing. Today, there is a lot of control on the insurer’s side to actually assess if every condition has been met so that a claim can be paid. This is typically time consuming and it generates friction, purposefully. It has the purpose of assuring that there is no fraud and that it is a valid claim. When you put these processes into a smart contract, a lot of these processes have to be simplified. It is also crucial that the data provided to the smart contracts is valid,correct and cyber-secured, since the information it provides, triggers the actions a smart contract will or will not make.
More substantial challenges relate to reaching a scale and scope at a level that we have not seen yet. This is relates to some of the previous challenges I mentioned, as well as to technical challenges around sustainability and scalability of DLTs, as well as to the ability for multiple DLTs to be interoperable. The good news is that we have the brightest minds on the planet thinking and discussing on how to solve these. The bad news is that it is still early days to say which protocol or DLT design will prevail and become the gold standard. It’s a situation that resembles a lot what we had in the early internet days. Back then we had many different players and very different internet protocols being developed and explored. Defining which DLT design will become the gold standard today, is as difficult as it would have been to bet on TCP/IP vs. other protocols in 1990.
Adjoint: Finally, what are the top recommendations for your insurance industry colleagues as they engage with smart contracts and distributed ledgers? And to technology companies aiming to work in the insurance sector?
For insurance companies, my recommendation is to try to understand the technology first. Not necessarily the technical understanding of it, but instead - what problems it is meant to solve and what it can do differently than other existing tech, like for example shared database technologies. The second part of this is to apply the technology in areas of “non-use”, where it will complement and expand what we do today into new areas, underserved markets. New technologies are more powerful in areas of non-use than in areas of use. When the first tablets and smartphones came out it was a nightmare to try to edit a word document or do an Excel table on them. The touch screen technology for instance was not developed enough for that. What did those devices back then improve? Our mobility and the ability to answer emails and check information on the web while not in front of a PC. In other words, expanded our access to the internet. That’s a great example of an area of non-use. Today, after over 10 years of evolution, I can edit formulae on an Excel template from my iPhone. So, my recommendation is to focus on new areas in which blockchain delivers a solution that didn’t exist before, instead of trying to apply it in areas where we have better technology available.
For startups, my recommendation is hire people from the insurance industry or interact with incumbents in an accelerator so that technology firms can better understand the insurance industry and how they handle risk. I think many of these firms need to become more professional or get more industry expertise. We have come across many startups that have no understanding of how underwriting works and waste a lot of time reinventing the wheel. Fix what’s broken, not what’s not.