Blockchain Captive Insurance

When Do You Need Blockchain Captive Insurance?

Imagine you are driving your new car down the road and you come to a stop at a red light. You glance down to turn up the radio when you’re suddenly thrown into your locked seatbelt and grunt from the pain. In your rearview mirror you see someone behind you looking scared. They just rear ended you and they don’t know what to do. After getting out of the car and inspecting the damage you determine that you will likely need to take the car into the shop.

You check your bank account for the one bit of good news in your day: the funds for the repairs have already been deposited into your bank account via automatic transaction. An automatic, decentralized insurance contract (a “Smart Contract”) was executed without even having to file a claim. This scenario is not only possible, but being actively pursued by insurance companies implementing blockchain technology into their practice.

A new report from Tractica, a market intelligence firm, predicts that the market for blockchain applications will reach nearly $20 billion by 2025. There has been much ado about blockchain over the past several years and its applications are breathtaking. The nascent technology, which got its start with Bitcoin, is enjoying a period of extreme growth and possibility. While blockchain has applications in the financial, energy, and banking industries, this article will provide some insight as to how the technology will disrupt the insurance sector.

What is Blockchain Captive Insurance?

Blockchain is a term referring to a new collection of concepts and technologies forming the basis of a digital monetary ecosystem. Units of currency are used to store and transmit value among participants in the network. These units of currency are called something different depending on which platform you use. If you’re using Bitcoin, then the units are called bitcoins. If you’re using Ethereum, then the units are called ether. There are a number of blockchains out there (dogecoin, darkcoin, etc.) but the basic premise is the same. The blockchain users communicate with each other using the blockchain protocol via the Internet. The blockchain protocol stack is available as open source software and can be run on a variety of devices, including computers and smartphones.

How Does Blockchain Captive Insurance Work?

Users of the blockchain can transfer the units over the network to do anything that can be done with conventional currencies, such as purchasing a drink or extending credit. The units can be bought, sold, and traded on specialized exchanges online.  These currencies are perfect for the Internet as they are secure, unregulated, and borderless.

There are no physical coins or monetary units in a blockchain. The “coins” are implied in transactions that transfer value from Party 1 to Party 2. Users own keys that allow the user to prove ownership of a transaction in the blockchain network. This key unlocks the value to spend the value embedded in the blockchain network.

Blockchain networks are distributed, peer-to-peer (“P2P”) systems without a central server. The units (bitcoin, ether, etc.) are created through a process called mining. Mining is essentially a computer solving a complex mathematical problem engineered to take a certain amount of time. Every 10 minutes, or so, a computer solves a problem and is rewarded with monetary units. This is basically how a blockchain prints money. Instead of relying upon a central bank to issue a currency, computers spread across the globe compete in a decentralized math contest to see who can solve problems the fastest. The problems are designed to take a certain amount of time to solve, which creates a natural rate of monetary growth.

The Future of Blockchain Captive Insurance

Bitcoin has a unique feature where it halves the reward every 4 years and will limit the total number of bitcoins to 21 million by the year 2140. This creates a deflationary effect precluding inflation via “printing” new money. Whether this feature is good or bad is hotly debated by economists. Regardless, this feature shows that these currencies do not operate the same as normal money. They are completely digital and subject to their own rules and regulations.

While the technicalities of how blockchain works are complex, the effect is monumental. Digital currencies are extremely difficult to counterfeit. The fundamental value of blockchain is that in order to mine a new coin, the solution to the math problem has to be verified by a number of different miners who agree with the solution. A few minutes later, another block will be mined by another miner and is added on top of the previous block. The block containing the first transaction is counted as one confirmation of the transaction with each block mined on top as an additional confirmation. Through the decentralized process of mining the blockchain, each transaction ends up with a number of separate confirmations which continually add security to the initial transaction.

Benefits of Blockchain Captive Insurance

Another way of thinking about this is that the blockchain is a pyramid. Block become more secure down the chain since all the other blocks above them need to be cracked before the bottom most block can be changed. Therefore, the blocks further back in time are the most secure. This naturally creates difficulties with hacking, counterfeiting, and otherwise cheating the system.

In addition, there is no need for human interaction. Computers can mine for new coins in a blockchain without human interaction. This feature gives rise to a new possibility for insurance companies: smart contracts.

As explained in the example above, smart contracts are essentially programmed money. Upon the occurrence of an event, money is distributed in accordance with the terms of an agreement. The current problem with transferring funds is the potential for fraud. However, blockchain technology is nearly free from counterfeit transactions and other forms of fraud. As a result, contracts can now be programmed to spring into effect upon the occurrence of an event(s).

Captive insurance companies can utilize smart contracts in order to get ahead of the marketplace. One potential use is to implement smart contracts within the greater Internet of things. Everyday household items such as refrigerators, cars, and cell phones are connected to the Internet. These items can send and receive information from a centralized source. It is very conceivable to have a smart insurance agreement pay a user automatically if the refrigerator, car, or cell phone registers a crack, break, or other defect rendering it useless. This saves time in claims management and reduces insurance fraud.

These applications for blockchain technology only scratch the surface of the growing industry. It remains to be determined which blockchain will provide the best value for the insurance industry. Captive insurance companies may consider creating their own blockchain when implementing these solutions into their practice. Regardless, knowledge is power. Simply knowing that this technology exists will empower you to see opportunities  your competitors would miss.