History of Insurance

Although modern insurance transactions are somewhat different from those used by the river boatmen, the result is the same. The similarities are

• premiums are placed in a fund;
• payment from the fund is made for losses; and
• risks are shared equally.

The characteristics of an insurance transaction are

• pooling of resources;
• accumulation of funds;
• distribution of funds to those who have losses;
• transfer of risk from one person to the group; and
• spread of risk among all members of the group.

When people facing a common risk pool their resources, they create an accumulation of funds from which individual losses can be paid. Such an arrangement transfers risk from the individual to the group because the group shares the cost of the risk among all of its members. All insurance, no matter what type or sold by which company, is a form of this kind of arrangement.

Insurance protects us all against unforeseen events that could cause financial hardship. The protection insurance provides allows us to:

• purchase cars;
• purchase homes and businesses; and
• safeguard our families' financial futures.

Overall, insurance is what helps us have peace of mind in an uncertain world.
After completing this chapter, you will be able to

• trace the history of insurance from its origin in China to current times;
• define insurance;
• list and recognize the benefits of insurance; and
• distinguish between the costs and benefits of insurance to society.

Origins in China

As important as insurance is to modern society, it is not a new idea. The insurance industry enjoys a long and sometimes colorful history dating back many centuries. The earliest form of insurance occurred when wealthy Chinese merchants along the Yangtze River decided that it was too risky to place all their merchandise on a single vessel and sail it down the river. To reduce their risks, they split the shipment into smaller portions and placed them on several boats. They knew that it was unlikely all the vessels would sink or suffer damage and that if one did sink, the majority of the cargo would reach its destination safely. Although this arrangement was not formally called insurance, it was the forerunner of the modern insurance company, which also recognizes the importance of spreading risk.

Lloyd's of London

The more formalized insurance arrangements we are familiar with today actually began at a coffeehouse owned by Edward Lloyd near London. In the late 1600s, wealthy merchants gathered at the coffeehouse to discuss their latest ventures, which often involved overseas shipments, increasingly to the new world. Concerned that they could be devastated financially if an entire shipment was lost, merchants began to make arrangements with each other to share their risks of loss.

When a shipment was scheduled to depart, the owner posted a notice with a complete description of the cargo and vessel at the coffeehouse. Other merchants looked at the description and signed their names beneath with a percentage of the cargo they were willing to pay for if the vessel were lost. When 100 percent of the cargo was insured in this manner, the vessel sailed.

These early merchants became known as underwriters. If the voyage was successful, each underwriter received a bonus, or premium. If, however, the vessel did not reach its destination, the underwriters made good the loss to the shipper. This, of course, was the beginning of Lloyd's of London, an institution that has continued to operate in much the same way for more than 400 years and after which many of our United States insurance customs and practices are patterned. Lloyd's remains a major participant in the worldwide insurance industry. Lloyd's of London is not an insurance company that sells policies. It is a group of private insurers that underwrite risks they feel are good business proposals submitted to them from customer groups.

Fire Insurance Origins

The U.S. insurance industry owes a great deal of its current structure to Benjamin Franklin, who is less known for instituting U.S. insurance practices than for inventing things. In the late 1700s, as cities grew, citizens were highly concerned about fire damage to homes and other buildings. Franklin convinced worried citizens to contribute to a fund that would pay for a fire brigade to extinguish fires. Each contributor received afire mark plaque to be placed on the front of his or her house.

In the event of a fire, brigades came by looking for the fire mark. When they saw one, they stopped and put out the fire. If, however, a home didn't have one or it named another brigade, they kept going. Although this may not appear to be insurance by today's standards, this kind of arrangement involves many fundamental concepts still used in the modern insurance industry.

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