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a long period, forces investments into short-term, low-risk securities and

prevents development of good anti-inflation strategy.

A principle has been applied to commercial banking with its heavy burden of short-term liabilities that may have application to insurance companies, principally life insurance. The central bank becomes a "lender of last resort" in order to permit commercial banks to meet current liabilities. This is accomplished through rediscounting commercial paper, buying bank-held government securities and similar liquidity-producing operations. A normal level of high-yielding investments can be maintained by the bank through occasional use of the rediscounting/lending facility. In the United States, provisional machinery for accommodating savings banks was arranged during a liquidity crisis in 1966. It would be a short step in principle for the central bank to extend accommodation to insurance companies as well. Investments could be maintained at high-yield levels during periods of adversity if high-grade securities could be "sold" to the central bank and repurchased without penalty or pledged for loans.

Finally, it may also be possible that private commercial banks--rather than the central bank--could provide lending facilities to individual insurers facing a liquidity problem.

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INDEXED INVESTMENTS

Indexed securities are simply securities for which the principal and

the earnings are explicitly compensated for changes in the general price level. Automatic protection against inflation is therefore provided by such securities, and they are an interesting possibility.

Private indexed securities are rare and little experimentation has occurred. The most notable adaptation of an index-linked security was that used in Finland. Finnish life insurers issued index-linked policies beginning in 1948 in which reserves were financed during inflation surges by partially indexed loans. But after 1968 indexed loans were frozen by law although life insurance policy indexing continued. Another example is that used by an insurer in the United Kingdom--the rents payable by the lessee of a hotel owned by the insurer are linked to the room rates.

In a severe inflation, the incentive to save tends to erode with harmful results for the economy. Some governments, therefore, have extended protection to various savings institutions by issuing indexed securities. Also, private institutions have issued indexed securities or financial instruments after the government introduced such securities.

Israel issued indexed securities beginning in 1958 for the benefit of life insurers. Interest-bearing securities of forty years maturity, both principal and interest linked automatically to the cost of living, were issued through the Israel Electric Company, a government-owned corporation.

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Life insurers were obliged to invest most of their reserves (except policy loans) in these securities. In turn, life insurers were able to issue index-linked policies in which premiums, cash values, and maturity values varied with a price index ratio. The Israeli system remains, from the policyholder's standpoint, the most equitable form of inflation-adjusted insurance product.

The government of Brazil issued indexed securities beginning in 1964. Readjustable National Treasury Obligations were bonds of one or two years' maturity in which the principal was adjusted monthly according to a threemonth moving average of the wholesale price index. Other private institutions also issue indexed securities. Insurance policy indexing was accomplished in the mid-1960's. A notable increase took place in the amount and quality of Brazil's saving following the institution of indexing. There is similar indexation of government and private financial instruments in Chile--a country with very high inflation rates. Banks and savings and loan associations readjust their savings accounts according to the costof-living index. Credit unions were recently legally permitted to index

their loans and deposits; and life insurers began to sell fully indexed, individual permanent life insurance in 1970.

Section V

LOSS PREVENTION AND EXPENSE CONTROL

An important area in which insurers can act to mitigate the consequences of inflation is in the loss prevention and control of administrative expenses. In an inflationary period efforts to reduce losses and expenses are particularly relevant. Insurers can take direct, as well as indirect, actions to reduce the frequency and/or severity of losses under their insurance contracts. Reduction of losses and expenses can result in moderating insurance premium increases during inflation. Insurers around the world are involved in various loss prevention programs. Several are particularly promising.

PROBLEM OF AUTOMOBILE REPAIR COSTS

The inflation of automobile repair costs in many countries has been astounding--annual increases have been in the 15-40 percent range. Chart I indicates the increase of repair costs in the United States. Note that all of the changes in the indices for repairs exceeded the changes in the Consumer Price Index and also the automobile insurance premium index.

Appendix VIII also reveals the startling increase of the cost of repairs of front-end collisions of several model cars in the United States from 1970

to 1975. This table also reveals the relative increases in the costs of labor

and parts. Similar increases have occurred in other countries. For example, auto repair costs in Canada rose 27 percent in eighteen months for the period ending July, 1975.

A survey of cooperative insurers, as well as other private insurers,

Source: Bureau of Labor Statistics, U. S. Government, BLS indices for 1963-1974 based on average prices over the entire year. The index for January, 1975 is based on average prices for the month of January, 1975.

Source: State Farm Crash Parts Price Index. The indices for years 1963-1974 are based on prices as of July 1 of each year. The index for January, 1975 is based on prices as of January 1, 1975.