Commercial insurance industry reserves remain solid and largely continue to produce favorable development, despite high inflation, industry sources say.

Persistent long-term inflation, however, could change insurers’ calculus as they keep a watchful eye on the effects of rising costs.

Examining current inflation levels allows insurers and reinsurers “to create a context to evaluate inflation level changes in the recent past and project scenarios of future changes by class of business,” said Bill Miller, chief actuarial officer for Aspen Insurance Holdings Ltd., based in Bermuda.

“One needs to think about the components of core inflation that most impact a given line of business. For example, for commercial auto, factoring in the spike in cost of auto repair and rentals is critical,” Mr. Miller said.

The consumer price index and the producer price index are general economic indicators, “but insurers look at specific cost factors,” such as medical inflation and drug costs, said James Auden, Chicago-based managing director of insurance at Fitch Ratings Inc.

Social inflation, Mr. Miller said, is much more difficult to measure, “but some recent, significant elevation from historical levels of settlements is a concerning pattern.” He added that “the recent pattern of fear of litigation by some insureds has led not only to large settlements but also relatively quick settlements compared to our history. So, we also have to be aware of possible settlement pattern changes.”

Mr. Auden pointed to large verdicts and a greater number of claims being litigated as components of social inflation, something which he said has been a problem “for some time” predating recent spikes in general inflation.

Aspen has created an inflation working group, including claims and actuarial staff, to help evaluate how effectively case reserves and specific incurred but not reported incidents (IBNR) are incorporating current inflation levels and how much additional inflation is embedded in them.

“We are working closely with underwriting to understand changes in limits and attachments profiles and with claims to stay close to their response to inflation and their view of the tort environment's changing impact by line of business,” Mr. Miller said.

While there was some concern that lines such as commercial auto and professional liability could be under reserved, strength in other areas such as workers compensation offset these potential weaknesses, leaving general industry reserves in “relatively good shape,” at the end of 2021, Fitch’s Mr. Auden said.

The pricing momentum in commercial lines over the past several quarters has allowed some insurers and reinsurers to take a “more conservative bent” in establishing reserves, he added.

John Iten, a director in New York with S&P Global Ratings, said 2021’s favorable reserve development increased to $14.5 billion, after running at $7 billion to $8 billion for several years, and there are “no signs of reserve deficiency.”

Of the 22 statutory commercial insurance lines on which insurers report, only seven had adverse reserve development in 2021, including commercial auto, which has been “problematic” for years, Mr. Iten said. General liability lines also saw adverse development in 2021.

It has been difficult for insurers to catch up with loss trends in auto lines, he said.

The market has responded with rate increases in lines like commercial auto, Mr. Auden said.

Longer-tail lines could be more vulnerable should inflation persist beyond actuarial assumptions, Mr. Iten said.

“It’s all about how far off expectations they are. If it (inflation) is within expectations, they’ve already reserved for it.” Should these variables fluctuate, “the actuaries have to go back and change their assumptions,” he said.

Many companies build a loss inflation of 5% to 6% into their actuarial assumptions, Mr. Iten said.

In a recent report, “U.S. Property/Casualty Insurance Loss Reserve Risk,” Fitch noted that “Extended high inflation over a prolonged period adds potential for significant pricing errors and future reserve deficiencies.”