Digital risk part 2 - the beautiful symmetry of uberrima fides...

This is the second post in a series I am writing about how digital risk is different to anything the insurance industry has previously dealt with.  In this post, I discuss uberrima fides, the legal doctrine that governs all insurance contracts.


I love visiting cathedrals - the older the better.  The adoration and imagination that conceived them, combined with the ingenuity and patience needed to actually build them always take my breath away, the more so, the older and larger the cathedral. 

I always look carefully for one particular element - the keystones.  Whether a simple keystone over an arched window or one decorated with an elaborate boss supporting a vaulted or frescoed ceiling, a keystone is nothing more than a lump of rock on its own.  But without keystones, none of the adoration, imagination, ingenuity or patience can have form.  The stained glass windows would have no space to light, the frescoed ceilings would not be supported and the beautiful symmetry of the finest cathedrals could not demonstrate man’s creativity.  Keystones make the entire edifice possible. 

So it goes, albeit at a different level, with uberrima fides.  Uberrima fides is far more than the motto of Lloyd's.  A Latin phrase, it means "utmost good faith" and it is the legal doctrine which governs all insurance contracts.  This contrasts with the doctrine caveat emptor (let the buyer beware) which governs most other contracts.  A higher duty is exacted from parties to an insurance contract to ensure the disclosure of all material facts so that the contract may accurately reflect the actual risk being undertaken.  Uberrima fides sets the rules for all insurance interactions; disclosure is its keystone.

Uberrima fides requires that both parties to an insurance contract must deal in good faith with each other and make a full declaration of all material facts in the insurance proposal.  The insured must reveal the exact nature and potential of the risks that he transfers to the insurer, while at the same time the insurer must make sure that the potential contract fits the needs of, and benefits, the assured.

The principles underlying this rule were stated by Lord Mansfield in the leading and often quoted case of Carter v Boehm (1766) 97 ER 1162, 1164:

"Insurance is a contract of speculation... The special facts, upon which the contingent chance is to be computed, lie most commonly in the knowledge of the insured only: the under-writer trusts to his representation, and proceeds upon confidence that he does not keep back any circumstances in his knowledge, to mislead the under-writer into a belief that the circumstance does not exist... Good faith forbids either party by concealing what he privately knows, to draw the other into a bargain from his ignorance of that fact, and his believing the contrary.”

At one level, the beautiful symmetry keystones allow in a cathedral is mirrored by the symmetry uberrima fides brings to insurance.  The buyer of insurance discloses information to the seller who, in exchange for a premium, promises to indemnify the buyer if a particular event occurs.  If the event occurs, and the disclosures prove to have been accurate, the promise is fulfilled.  But, if the disclosures have been inaccurate or material non-disclosure has occurred, the seller can limit the indemnification to the extent of the inaccuracies or non-disclosures, up to and including avoidance.  Just as a keystone prevents an arch from collapse, disclosure upholds both the promise and the reality of indemnity.

At a broader level, disclosure shares another characteristic with keystones; it also supports a much bigger edifice.  Without disclosure and the uberrima fides rules that govern it, we wouldn’t have our distribution mechanisms for scale, our slicing and dicing of customers into their different types of risk for homogeneity, our portfolio management for diversification benefits, nor our capital optimisation - of which reinsurance is a key tool - to maximise returns.  None of them would exist without disclosure.  Just as a keystone can support a vaulted ceiling, disclosure is at the very centre of all the different components that are needed to make indemnity work.

Yet another characteristic keystones and uberrima fides share is that, as suggested above, they have both had dramatic effects on their context.  Keystones shaped medieval cathedrals and uberrima fides shaped the insurance industry.  Where they most evidently differ is that keystones no longer have the role they once had, while disclosure is as central to insurance as ever.  The nature of the keystone hasn't changed - it's still that of a lump of rock.  Context however, is another matter; keystones are no longer as central to construction as they were because developments in construction materials, engineering knowledge and how cathedrals are used have fundamentally altered the context in which keystones used to operate.  

The difference with disclosure is that both its nature and context are changing.  I am not sure how much the changes to risk and disclosure will effect insurance but I can't help thinking that with both changing so much at the same time, the effects could be profound.  


The only thing I am reasonable sure about is that uberrima fides will remain the fulcrum governing the balance between buyer and seller but I am not sure the symmetry will remain; probably to mis-quote Archimedes and certainly to mash a metaphor, if the earth (risk) is growing and where Archimedes stood (disclosure) is shifting, the fulcrum probably needs to move too or the stick (insurance) might just break.


In trying to think about that, I aim to try to put together some thoughts on the new nature of disclosure in relation to insurance in the next of this series of posts.