IAIS weighs up good and bad of blockchain
Distributed ledger technologies (DLT) such as blockchain have potential to lower costs and boost efficiency at insurers yet also pose new risks, industry regulators warn.
DLT’s immutable record-keeping, atomic settlements and automation of processes and insurance “can be potentially applied to all activities of the insurance value chain,” the International Association of Insurance Supervisors (IAIS) says.
DLT cuts the cost of processing and storing information for insurers, which may translate into consumers having access to products and services at a lower price. DLT could increase speed and efficiency, and create secure records of transparent, immutable and auditable data and activity.
Other benefits are reducing duplication of processes; improving data quality, collection and analytics; enabling development of new products and services; improving interaction with third-parties; promoting decentralised peer-to-peer insurance business models; and implementing parametric insurance products.
However, IAIS also says adoption of DLT may “trigger new risks to insurers, supervisors and consumers”.
Operational risks include fraud, technological and cyber risks, as well as money laundering and terrorist financing risk, and legal and reputational exposure – all “potential downsides to adoption of DLT in insurance”.
DLT is susceptible to IT risks, and this may increase costs to the insurance industry, in terms of improving the resilience to cyber threats. Security risks may arise due to shared network.
“Data may fall in the wrong hands resulting in litigations and reputational loss for the market,” IAIS says. “Change and governance of smart contracts could also be seen as an issue, including governance of the chain and ownership of data.
“It is unclear who and how to oversee the correct and legitimate functioning of the complex structures of blockchain and smart contracts. The lack of a central authority could lead to potential systemic risks.”
An erroneous transaction, activated automatically, could settle numerous contracts simultaneously and lead to sudden market movements.
“As the blockchain could hold large amounts of data, insurers may also run the risk that sensitive data is used indirectly in areas that are not permissible by law,” it says.
While DLT has the potential to strengthen resilience and reliability, as it reduces risks from a single-point-of-failure, the distributed nature of DLT solutions, with the use of multiple ledgers and nodes, create additional points of entry for potential malicious acts.
The use of smart contracts, while enhancing operational efficiency, could also invite hacking and heighten cyber risks for insurers, IAIS said.
“There are the legal, regulatory and reputational risks that could be elevated in the use of DLT solutions and smart contracts,” IAIS says. “The potential benefits of deploying DLT solutions need to be weighed carefully against the risks.”
