Disruption In The Insurance Industry Using Behavioural Economics
Lemonade is the new entrant to the renters and home insurance arena in New York and they have made quite the auspicious start. The peer-to-peer (P2P) model conducted via their particularly slick app – which allows one to buy insurance and make claims within minutes – is certainly innovative and the inclusion of a social good aspect is most welcome.
Yet, to me, the most impressive revelation is how the company has incorporated the use of human behavioural economics into their problem-solving methodology. They have even gone so far as to have famed behavioural economist Dan Ariely on board. Notably, Ariely has been quoted as saying that if we tried to design a system that brings out the worst in human be “Disruption in the insurance industry using behavioural economics” behaviour, it would look disturbingly like the insurance industry.
Herein like the opportunity.
Lemonade has approached the insurance industry from first principles. An ancient critical thinking exercise where one removes all currently held assumptions about an idea, product or industry and breaks it down into its essential parts to see if the original assumptions were correct – an approach that Elon Musk attributes much of his success to.
What they found was almost Gladwellian in its elegance as when you hear Lemonade’s CEO, Daniel Schreiber, describe it, it seems so blatantly obvious one cannot imagine how we ever saw the industry any differently. The company is, at its core, attacking the basic misalignment of incentives between customers and providers in the insurance market. Insurance firms are incentivised to do their best to not pay out claims as, for every dollar that they do not pay out, this reflects positively on their bottom line. In turn, this leads customers to exaggerate claims as they do not feel that they get their money’s worth from the premiums they pay.
In an interview at the Insturtech connect conference, Schreiber was quoted as follows, “25% of Americans say it is okay to embellish claims… and the other 75% were just borough up not to admit that kind of thing in public”. This gets at the core of the problem the industry faces and is what Lemonade aims to correct.
Lemonade has made headlines by using technology to pay out a claim in a record breaking 3 seconds – Yes, that is 3 seconds – directly via the app and naturally, this has drawn most of the attention. But behind the fancy app and great tech, it is their belief in aligning incentives that allow this to be the case. The company charges effectively a 20% management fee on any product it sells and this is all the money it ever keeps.
It pays out claims with almost no questions asked as they are not incentivised to keep your money to prop up their profits. There is no gain for them to deny claims as they will not be keeping the money anyway. To keep the customer in check, one is asked to decide on a charity or special cause and any unclaimed money will be transferred to them at the end of the year. The psychology at play here is that people are far less likely to inflate claims as if they do so, they are effectively taking from their child’s school or whatever special cause they have selected.
Lemonade has decided to redesign the concept of insurance – and they have been able to do so without the constraints of legacy systems that all the established insurance companies have – and to return to what it was originally conceived to be: a social good and not the necessary evil it is currently perceived to be.
What is so refreshing about Lemonade’s approach was this return to behavioral psychology and that they didn’t entirely rely upon the latest but inevitable trend in our society, to be increasingly data-centric. Yuval Harari, the historian lionized for his books, Sapiens and Homo Deus, describes how we have moved from a religion-centric society to a human-centric society and are heading towards a data-centric society and in this data-centric society, we trust data over all else.
This is not to say that Lemonade have thrown all that out the window, of course they will use data as much as is beneficial to them, but, equally, they have recognised that insurance has a profoundly human element to it and understanding this will help remedy much of the structural challenges that lead ordinarily honest and sound people to behave at odds with those ethics when filling out insurance claims.