Massive currency risk

In my previous post I discussed some of the risks to various currencies.

Now what happens if your local currency is pegged to the US Dollar as it is in Lebanon? Speaking to Lebanese bankers and insurers there seems to be a devout belief  that the peg is rock solid.  This is surprising given the history of the Lebanese Pound (LBP) over the last 30 years. Decades of civil war and hyperinflation decimate a currency.

West Beirut strolling
Creative Commons License photo credit: austinevan

Now if you offer insurance policies denominated in USD or LBP, accepting premiums and paying benefit in currencies assumed always to be pegged at a fixed  rate you might want to consider what assets you have backing those policies. USD policies backed with assets in LBP (and LBP policies backed with USD assets) are a massive currency risk. The probability of a break in the peg may be small, but the result could be catastrophic.

Unfortunately, it is arguably worse. Even if the USD policies are backed with USD deposits and bonds at Lebanese banks, how will the banks fare if the currency is devalued? How about if the USD does plummet on the back of inflation concerns in the US economy and the LBP is forced to be revalued upwards? Unless the banks are managing this currency risk themselves and are appropriate matched the contagion of currency problems will flow through banks and straight to insurance companies.

Now is not the time to assume that artificial links will remain no matter what happens to the global economy. This is a massive currency risk.

Published by David Kirk

The opinions expressed on this site are those of the author and other commenters and are not necessarily those of his employer or any other organisation. David Kirk runs Milliman’s actuarial consulting practice in Africa. He is an actuary and is the creator of New Business Margin on Revenue. He specialises in risk and capital management, regulatory change and insurance strategy . He also has extensive experience in embedded value reporting, insurance-related IFRS and share option valuation.

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