UK court discount rate -
In this blog, Matthew Pearlman discusses the impact for insurers, following the reduction of the personal injury discount rate.
The Ministry of Justice (MoJ) has published its consultation on how the Personal Injury Discount Rate should be set in future. This follows the surprise decision at the end of February to reduce the rate from 2.5% pa to -0.75% pa with the consequent huge effect on insurers’ and reinsurers’ reserves.
Much of the consultation repeats issues raised in the original consultations in 2012 and 2013, but an interesting new development is the potential push for greater use of PPO settlements. Changes may even include ‘compulsory’ PPOs which would be a major shake up to the industry.
The issues raised in the consultation may be a useful barometer for insurers of which way things might move next.
The aim of the consultation is to collect evidence and views on:
- how claimants actually invest their awards (and how they are advised on investment)
- what, if anything, should be done to make the compensation system fairer
- the use of PPOs, and whether and how their use should be encouraged
The questions asked in the consultation (36 in total) relate to:
- how should the rate be set?
- who should set the rate?
- how often should the rate be set?
- should greater use be made of PPOs?
1. How should the rate be set?
The rate is currently set purely by reference to index-linked gilt yields, because of an assumption that claimants are very risk averse and will invest cautiously.
Insurers’ criticisms of the current approach include:
- systematic over-compensation of claimants because they are not generally that risk averse
- over-compensation of less “vulnerable” claimants in particular, who may have a different risk appetite
The MoJ are seeking views on:
- how claimants invest their awards and whether the new method should move away from being very risk averse. Does the fact many claimants pass up on “low risk” PPOs suggest that they may not be as risk averse as the current discount rate approach assumes?
- potentially more than one discount rate depending on, for example, the type of claim (cost of care or loss of earnings) or life expectancy. This would be more complicated than the current approach but has the potential to achieve a fairer system
- methodologies for setting the discount rate eg with regard to the length of any averaging period, rounding of rates etc
2. Who should set the discount rate?
At the moment, the rate is set by the Lord Chancellor, who must consult the Treasury and the Government Actuary. Alternative options being considered include:
- a panel of experts setting the rate
- a panel setting the rate but subject to the agreement of another person (could be a Minister or not)
- the Lord Chancellor setting the rate but after consulting the panel
3. How often should the rate be set?
Feedback is requested on the frequency, timing and potential triggers for reviewing the rate.
Possible options considered include:
- specific minimum review periods, eg 1, 3, 5 or even 10 years
- linking reviews to movements in yield indices of whichever investments are chosen as a benchmark of the rate
- adjusting the rate automatically by a formula
- transitional provisions to determine which claims would fall under the current rate/revised rate
4. Should greater use be made of PPOs?
The MoJ are asking whether increased use of PPOs may help mitigate some of the problems of a changing discount rate.
They are requesting evidence as to how the expected use of PPOs may change following the recent change in the discount rate. They are also considering ways of increasing the use of PPOs, including whether:
- courts should always be required to award a PPO?
- courts should normally award a PPO where available?
- the power to award a PPO should remain with the courts?
The consultation response deadline of 11 May is short, given the Easter break. As yet, no timescale has been proposed for the MoJ to report back.
This is an important moment for insurers and reinsurers to make their voice heard, as the consultation outcomes may shape the personal injury risk landscape for many years to come.
Is the Lord Chancellor adding insult to injury claims? See our latest update on the Ogden rate change. Click here