In general, investors, consumers, and financial regulators can all agree on one thing—inflation is rarely good for the economy. It leads to rapidly rising costs, devalues currencies, and undermines the value of investments. Yet inflation isn’t always a bad thing. When it comes to life insurance policies, the benefits of inflation can sometimes outweigh the downsides.
Although inflation usually causes consumer goods to become more expensive, it can have the opposite effect on insurance premiums. PHP Agency Reviews takes a look at how inflation affects insurance policies and learn why individuals with life insurance may actually benefit over the next year or two as inflation continues to rise.
Understanding How Inflation Affects Interest Rates
To understand how inflation affects insurance premiums, it’s important to understand how inflation affects interest rates. In short, the relationship between these two economic measures is positively correlated. When inflation rates begin to rise, the Federal Reserve usually adjusts interest rates to real in excess cash reserves stored within the economy.
What does this have to do with insurance premiums, though? Insurance companies usually invest the premiums that they collect into bonds. When interest rates are high, insurance companies can earn a higher return on their investment, and vice versa. Therefore, insurance companies stand to earn more from their investments when inflation rises.
How Inflation Affects Insurance Premiums
Now that we understand how inflation and interest rates are related, let’s take a look at how this affects insurance premiums. In short, when inflation is high, insurance premiums usually go down, and vice versa. When inflation is high, insurance companies can earn a higher return on their investment, which means that they don’t have to charge as much for premiums in order to make a profit.
In other words, high inflation rates lead to lower insurance premiums. Conversely, when inflation is low, insurance companies earn a lower return on their investment, which means that they have to charge more for premiums in order to make a profit. I.e., low inflation rates lead to higher insurance premiums.
So, what does this mean for life insurance policyholders? In the short term, policyholders may see their premiums go down as inflation rates continue to rise. In the long-term, however, policyholders may see their premiums go back up as regulators real in the economy and insurance companies readjust to lower interest rates.
Policyholders may also see their death benefits go up as the cost of living goes up. This is because most life insurance policies have a provision that protects against inflation. This provision is known as the “cost of living rider” or the “COL rider.” It’s put in place to maintain the value of the policy and protect customers against sudden jumps in the price of consumer goods.
The Bottom Line
Inflation is generally viewed as a bad thing. Yet, for life insurance policyholders, the benefits of inflation usually outweigh the downsides. In the short-term, insurance companies usually stand to profit from their investments and policyholders see the benefit as their premiums drop. However, once inflation comes back under control, their premiums may return to normal.