Navigating the choppy waters of risk

In the 1600s, when Oliver Cromwell was Lord Protector of England, it was the Dutch, and not the British, who were masters of the financial universe. Fifty years later the City of London had overtaken Amsterdam and the ‘Hollanders’. The merchants of Lloyd’s coffee-house had been underwriting marine insurance for Britain’s international trade since the 1680s, but soon even the richly-laden Spanish treasure fleets were insured in London. The world came to the City for insurance.

London is still the epicentre of much of the world’s marine insurance business, in an era when more goods than ever reach us by sea. Many of the practices in the ‘London Market’ haven’t changed very much. Computers have been introduced to crunch the bigger numbers, but most of the basic procedures of the business are pretty much the same as they were when they were established in the 1700s. Brokers still queue up to see underwriters at Lloyd’s, bearing armloads of papers for inspection, for example.

Total insurance premium spending in the ‘London Market’ was £31.9bn in 2009, and the U.K.’s total international insurance business was worth £60bn, according to TheCityUK. This business success is directly descended from the achievements of underwriters in the seventeenth and eighteenth centuries. Much of the rest of the City’s business has a similar historic footing, but this 300-year-old concentration of expertise and profit is under pressure. With income in the financial services sector more precarious than ever, and policymakers beating the drum of regulation, can lessons be learned from the three-century success story of marine insurance? Why did London get into pole position in the race to insure the world’s shipping? How did it stay there? What role did government play? And did this achievement have benefits for the nation? Answers to these questions could help policymakers to decide how much they ought to intervene in City operations, and to what ends.

Trade in the age of sail was a dangerous and uncertain business. London’s success in diminishing the financial risks was a product of many factors. The anti-free trade Navigation Acts and the Anglo-Dutch trade wars (which, unlike modern trade wars, involved a lot of shooting) helped England to overtake the Low Countries in the arena of commerce. The proximity along the Thames of docks, merchants, parliaments, courts, and kings gave Londoners a huge advantage over more geographically fragmented countries. Marine insurance in London was more flexible than anywhere else – which was essential in a period where a sudden sea swell or a rambunctious pirate could eliminate a merchant’s entire fortune in a single act of destruction. By pooling risk through insurance, such violent losses were made tolerable. As the Elizabethan Insurance Act of 1603 stated, ‘loss lighteth rather easily upon many, than heavily upon few’. The Act was not the first that focused on marine insurance, nor would it be the last. Some helped the business to prosper, but some restricted its development.

Britain was involved in major military actions for 87 of the 125 years between 1689 and 1814, mostly against the French. For almost all of this time, even as English privateers followed the King’s instructions to capture enemy ships on the high seas, and French, Spanish, and American seamen did the same, it was common for underwriters in London to insure the enemies’ ships and cargoes.  In the 1740s, the practice became a big public issue. Robert Walpole, Britain’s first Prime Minister, argued against it in Parliament, while John Barnard, a city MP and merchant-insurer, explained the benefits, which he claimed outweighed the short-term patriotic disadvantage. The essayist Doctor Johnson recorded the debate for posterity, so we know that tempers ran high and opinions were diametrically opposed. Insuring the French was banned in 1747, but the law expired as the War of the Austrian Succession ended, before London’s underwriters lost their large French market. So in this episode, the intervention into City business was neutral: it did little to help the war effort, but also had little impact on the insurers.

Throughout the development of marine insurance, policymakers tried to balance commercial, public and long-term interests in their own legislation. They understood that insiders knew best about the commercial advantages of various business practices, but quite naturally lawmakers did not always choose to back the interests of the merchant-insurers. Often they legislated in the best interests of the wider public, or to answer popular complaint. Great debates raged in Parliament and the press over whether those populist ‘best interests’ aligned with the best interests of the nation, or if the longer-term concerns of business were more important. Sometimes the people believed that a British lead in any field of endeavour – such as in financial services – was worth supporting, but often they did not, especially when a wider public interest was perceived to be at stake. Over the period of the development of London’s insurance market, the decisions made by legislators either helped the underwriters, or were not sufficiently harmful to damage them permanently, and London remains the international leader today.

As policymakers consider their responses to the current turmoil in international financial markets, the story of the London insurance market can be one guide. Decisions made today may have effects which are immediate, but also very long-term. Markets in London have proved extremely resilient over centuries, but their primacy is not guaranteed – competition is fierce. Benefits of intervention realised today may be more important and more valuable than benefits which could be enjoyed over a more distant time horizon, or indeed may be seen simply as more desirable. On the other hand, the benefit to the nation, over decades and even centuries, of buttressing (or perhaps simply leaving alone) the financial services sector may have positive impacts that outweigh potential immediate gains. The City’s history probably cannot, on its own, point to the perfect answer, but it certainly can raise important questions from a different perspective, and illustrate some of the possible outcomes.