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Lawyer's Comparison: Classic and Parametric Insurance

New Ways of Managing Risks

Lawyers are often faced with clients' questions about obtaining compensation in the case of damage events in their everyday practice. In risk management and ensuring financial security, insurance plays a crucial role in safeguarding individuals and businesses against unforeseen circumstances. While traditional insurance policies have long been the basic solution for risk management, innovative alternatives like parametric insurance are emerging in the era of digital transformation. In this article, we focus on the issues lawyers encounter regarding the advantages and potential drawbacks of parametric insurance compared to the traditional approach and explore the connection between parametric insurance and smart contracts.

Traditional Insurance: A Brief Overview

Traditional insurance, as we know it, operates on a simple principle: policyholders pay premiums to insurance companies, which promise to provide coverage for specific events defined in the policy. This coverage often includes assessing the actual loss suffered by the insured party and providing appropriate compensation. The flexibility of traditional insurance allows for tailoring coverage to various aspects of an individual's life, property, and health.

Parametric Insurance

Parametric insurance is a revolutionary approach that aims to simplify the claims process and enable faster payouts in the case of predefined triggers. Unlike traditional insurance, where claims are assessed based on actual loss, parametric insurance relies on objective, predefined parameters such as seismic activity, rainfall levels, or wind speed. When these parameters exceed a certain threshold, the insured party becomes eligible for a payout, regardless of the actual financial loss. Lawyers need to emphasize that the loss can be either smaller or larger.

One of the most prominent advantages of parametric insurance is the speed of claims resolution. Payouts are triggered when predefined values are reached, meaning that the required payout is tied to the occurrence of a specific event or the attainment of a specific value. For example, if you had flood insurance and set a certain water level as the threshold, the payout would be triggered when that value is reached or exceeded. This rapid response is crucial, especially in areas prone to natural disasters. Furthermore, parametric insurance can be customized to specific needs. For instance, a vineyard owner can select parameters related to frost that can damage crops.

The Role of Smart Contracts

Recently, our blog featured an article titled "Lawyer: Briefly about the Technology of Smart Contracts" which introduced the features of smart contracts. Parametric insurance often employs smart contracts—self-executing agreements where the terms of the agreement are directly encoded in code. These contracts automatically execute the payment process when predefined parameters are met (e.g., water quantity, earthquake magnitude, etc.). This automation enhances transparency, reduces costs, and ensures that policyholders receive their payouts more quickly.

The conclusion from a Lawyer's Perspective

Parametric Insurance is a step forward in digital business parametric insurance, with its objective triggers and integration with smart contracts, represents an advanced solution that can surpass the familiar limitations of traditional insurance. The advantage is particularly evident in terms of fast payouts triggered by specific predefined parameters. In this way, parametric insurance effectively complements traditional insurance.

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