By: Robert W Vivian is Professor of Finance & Insurance, School of Economic and Business Sciences, University of the Witwatersrand
The executives of Momentum insurance appeared recently to have been coerced under popular pressure into making payment of a void policy, thereby upending over 250 years of sound global application of the common law.
Momentum initially declined to admit the claim because the insured did not correctly answer the clearly posed question of “whether or not at the present time or ever before, he had suffered from raised blood sugar levels” and also provided incorrect answers to several other medical questions. On five occasions before filling in the form, the claimant had had tests that indicated raised sugar levels, the last being just two weeks before he applied for the insurance. The matter was referred to independent re-insurers and twice to the Long Term Assurance Ombudsman led by an independent judge, all of whom confirmed Momentum’s initial decision.
However, the claimant was not satisfied and made an impassioned plea to the court of public opinion.
It is clear that the insurer’s executives, the government spokesman represented by National Treasury, and the new “market conduct” regulator neither understood nor appreciated the very serious nature of what had occurred, nor grasped its ramifications:
The duty to disclose all material facts when applying for insurance is neither new nor unknown. It is not even controversial. It is a fundamental requirement of the general law of contract that was crystallised by England’s famous Chief Justice Lord Mansfield well over 250 years ago.
Insurance is a contract of good faith. An individual who approaches an insurer with an application to insure a particular risk knows a great deal about the particulars of that risk, whilst the insurer knows little. The insurer has to rely on what is disclosed by the individual. If the information disclosed is incorrect, incomplete or misleading, there is no consensus ad idem (meeting of minds) between the parties and thus no contract ever comes into being. In the words of Lord Mansfield, “The underwriters are deceived and the policy is void ab initio.”
This duty to disclose has since been confirmed and applied by courts across the globe. It is too fundamental a principle of the law of contract ever to be in doubt.
Not only were material facts not disclosed, the insured apparently knowingly represented that the fact did not even exist, thus inducing the underwriter to enter into a contract it would not otherwise have entered into. There was clearly no consensus ad idem and the contract was therefore void ab initio.
The public and regulator’s entirely misconceived reaction was partly because the concealed facts were not related to the cause of death. Momentum did not repudiate the claim because a term of the policy was breached. It did so because it was void from the start.
This is not an example of underwriting at the claim stage either. Relying on the information provided, Momentum was induced to accept a risk. At the underwriting stage, Momentum had to accept that the information provided was true and correct. When dealing with the claim, it sought to verify that information, a global standard and profoundly necessary insurance procedure.
And yet, notwithstanding the crystal clear legal position, Momentum bowed to social pressure, the unintended ramifications of which are presently entirely unfathomable. Bowing to public pressure is a particular problem since several institutions exist to resolve such contractual disputes. These have been undermined and replaced with what looks alarmingly like mob rule.
Apart from its own internal processes, Momentum consulted an independent reinsurer and expert Ombudsman. There are further institutions available; an Ombudsman appeal system and courts of law. All of these function as the law itself within the Rule of Law. Making payments outside of any legal obligations replaces the rule of law with an arbitrary public outcry system. All these institutions have now been undermined, replaced and superseded by social media, populism and mob rule. Gustave Le Bon, the father of crowd psychology and its dangers pointed out, “The masses have never thirsted after truth. Whoever can supply them with illusions is easily their master; whoever attempts to destroy their illusions is always their victim.”
Insurance creates the problem of “moral hazard”. Full disclosure is one of the mechanisms designed to deal with this problem. Where this cannot be controlled, insurance cannot exist. Nobel Laureates have demonstrated that it is only in those limited circumstances were moral hazard is managed, that insurance exists. The courts, over the centuries, applying the common law of contract, bequeathed to society a workable system that manages moral hazard. Undermine this system and the insurance market with its indispensable social and economic benefits will cease to exist.
At best, if what Momentum did becomes the norm, consumers, including the preponderance of honest ones, will pay appreciably more for their insurance. Furthermore, they will find its acquisition distinctly more difficult and inconvenient.