CHAPTER ONE

INTRODUCTION

1.1      BACKGROUND OF THE STUDY

Dorfman (1994) defined insurance as a financial risk management tool/arrangement that transfers the cost of unexpected losses to the insurer from the insured in exchange of premium. The broad objective of insurance is to pool the risk of a large number of insured and hedge against occurrence of losses due to uncertainties of the future. Most insurance companies however, have diversified to offering other financial services like investment, asset management and pension administration which allow for efficient money transfer between borrowers and savers. Brainard (2008) states that insurance has a very crucial role to play in an economy. It is a key to an economy’s development due to its many advantages. The main benefit of insurance is its usefulness in promoting long-term financial stability and security of individuals and businesses. It therefore helps firms recover any financial losses that may be incurred due to occurrence of unexpected perils such as floods, automotive collisions, earthquakes, theft etc. Moreover, insurance is considered to be one of the essential financial services to an economic system. Insurance in Kenya has existed for more than sixty years, and the initial insurance companies were under the ownership of the Europeans in the colonial era. The insurance industry is governed by the Insurance Act (1984). The industry is administered by the Insurance Regulatory Authority (IRA), which was set up in 2008. Its main aim is to create awareness among the public community, promote prudent and good business policies and practices and to increase growth of the insurance industry in Nigeria. All registered insurance companies are allowed to join the association. Other key players regulated by IRA are; insurance agents, insurance brokers, loss adjustors, insurance investigators, motor assessors, insurance surveyors, risk managers and claim settling agents. Mankiw and Barro (2008) defined macroeconomics as the study of the economy as a whole. The study states that the goal of macroeconomic study is to explain the fluctuations to a nation’s economy that affect many firms, households and markets simultaneously. Economists monitor and investigate the state of the entire economy through macroeconomic variables, like unemployment rates, Gross Domestic Product (GDP), investment, consumption, etc. Macroeconomic factors are considered to impact any industry and hence, can be used to measure a society’s overall economic healthiness. Bhatia (2013) states that a number of macroeconomic variables such as inflation, population, GDP, unemployment and Per Capita income have both positive and negative effects on the demand growth of insurance services. The study found out that various aspects of insurance like penetration, uptake and density are significantly affected by the macroeconomic environment. Key factors affecting the growth of insurance density, growth of total insurance premium, uptake and insurance penetration include Per Capita GDP, GDP, population, unemployment and inflation. 3 Investopedia (2016) defines financial performance as the level of performance in which the financial objectives are being or have been met either in terms of profits and losses during a specified time period. It is the process of determining how well a firm can utilize fully its assets so as to make income for the business. It is not only used to compare similar companies in the same sector or the economy as a whole but is also used to measure a firm's overall financial well-being over a specified time period. The study will therefore seek to establish the relationship between macroeconomic variables and financial performance of the insurance industry in Nigeria.

1.2 STATEMENT OF PROBLEM

Cristina et al. (2015) state that like any other industries, the insurance industry is affected by various macroeconomic variables such as unemployment, interest rate, inflation, Gross Domestic Product (GDP), fluctuations in exchange rates and money supply. Macroeconomic factors affect the pricing and in effect premiums received. Firms and individuals need to be informed about the available insurance options to enable them come up with strategic policies and actions to deal with any adverse macroeconomic effects. The study also states that there are other factors that are not firm-specific and not necessarily macroeconomic that also affects the industry. Such factors include the political environment, social factors like cultural practices and climatic changes. IRA, Kenya insurance industry outlook (2013) states that the industry has room for growth since it is operating at an average capacity indicating that there is the need for it to be reenergized to a higher level of operation. The Kenya insurance industry’s contribution to the gross domestic product in 2015 stood at 1.6% a decline from 2% in 2014. There is therefore need to establish policies and measures that will cause improved performance of the insurance industry, given the low contribution it has to the economy’s GDP, low penetration and low uptake. Some of the challenges affecting the industry include inappropriate staff skills in some areas, premium rate undercutting, selling of insurance on credit, delays in premium collection, settlement of claims in terms of volume and costs of settlement, customer retention and fraud and quality of intermediary services. Price wars and charging of unsustainable premiums by insurance industry players has resulted from competition for market share. Some studies that have been done previously, have been on the effect of interest rates on performance of insurance industry, others have focused on banks with no much findings on the insurance industry, such include banking industry Kipngetich (2011) and the real estate industry Bioreri (2015) who suggested in his research the need to replicate the study of macroeconomic variables in other sectors of the economy.

1.3AIMS OF THE STUDY

The major purpose of this study is to examine macroeconomic indicators and financial performance. Other general objectives of the study are:

1.  To examine the how the interest rate affects insurance firms.

2.  To examine how macroeconomic variable affects the performance of insurance firms.

3.  To examine how exchange rate influences financial performance of insurance firms.

4.  To examine the effect of macroeconomics variables on financial performance in insurance firms.

5.  To examine the relationship between macroeconomic variables and financial performance of insurance companies in Nigeria.

6.  To suggest ways in which manufacturing firms can perform without the effect of macroeconomic variables.

1.2      RESEARCH QUESTIONS

1    How does the interest rate affect insurance firms in Nigeria?

2    How does a macroeconomic variable affect the financial performance of insurance firm?

3    How does exchange rate influence performance of insurance firms in Nigeria?

4    What are the effects of macroeconomics variables on financial performance in insurance firms?

5    What is the relationship between macroeconomic variables and financial performance of insurance companies in Nigeria?

6    What are the ways in which insurance firms can perform without the effect of macroeconomic variables?

1.5 RESEARCH HYPOTHESES

Hypothesis 1

H0: There is no effect of macroeconomics variables on financial performance in insurance firms.

H1: There is a significant effect of macroeconomics variables on financial performance in insurance firms.

Hypothesis 2

H0: There is no relationship between macroeconomic variables and financial performance of insurance companies in Nigeria.

H1: There is a significant relationship between macroeconomic variables and financial performance of insurance companies in Nigeria

1.6 SIGNIFICANCE OF THE STUDY

The study will assist insurance companies and the government as a whole come up with strategies to mitigate and reduce the negative effects of the macro economic variables that affect financial performance of the insurance industry. It will also add value to the current theoretical discussions by testing the macroeconomic variables stated with the financial performance of insurance industry. The study will also benefit scholars who would wish to undertake further studies and increase the body of knowledge on the topic of research.

1.7SCOPE OF THE STUDY 

The study is based on macroeconomic indicators and financial performance: evidence from insurance sector.

1.8 LIMITATION OF STUDY

Financial constraint- Insufficient fund tends to impede the efficiency of the researcher in sourcing for the relevant materials, literature or information and in the process of data collection (internet, questionnaire and interview).

Time constraint- The researcher will simultaneously engage in this study with other academic work. This consequently will cut down on the time devoted for the research work.

1.8 DEFINITION OF TERMS

Macroeconomics:  Macroeconomics is the branch of economics that studies the behaviour and performance of an economy as a whole. It focuses on the aggregate changes in the economy such as unemployment, growth rate, gross domestic product and inflation.

Performance:  The accomplishment of a given task measured against preset known standards of accuracy, completeness, cost, and speed. In a contract, performance is deemed to be the fulfilment of an obligation, in a manner that releases the performer from all liabilities under the contract.