Rethinking Insurance Regulation–1998


The morning’s panel focused on the issue of natural disasters and catastrophic risks and the financing problems posed by such risks. The first speaker, Georgia State University Professor Robert Klein, noted the financial threat posed by catastrophic risks, and described the regulatory interventions that have contributed to the problems facing this market. Klein noted that “in our system today, risk burdens, incentives, and choices are not aligned exactly as they should be,” and that those who make risk decisions should bear the consequences of those decisions. He also recommended lifting restrictions on the pricing of insurance premiums and allowing insurers to underwrite so that mitigation may be rewarded through the premium structure.

Ross Davidson, Vice President of Industry Affairs at USAA outlined the threats facing the industry and the economy from megacatastrophes, and the industry’s capital needs for financing such liabilities. Mr. Davidson outlined a number of policy prescriptions including a proposal for “policyholder safety reserves” — monetary reserves established by insurers that would accumulate on a tax-deductible basis to be used for funding catastrophic losses. These reserves would be used to “prepare insurers for the major catastrophe, to assure policyholders and regulators that when a premium is paid…it will be kept by the insurer, will not be taxed, [and] will not be passed on to shareholders prematurely.”

Professor Dwight Jaffee of the University of California-Berkeley, remarked that there were three key ways for insurers to obtain needed capital: through new financial instruments, through arrangements such as Lloyds of London, and through allowing insurers to set aside reserves for financing catastrophic losses. Jaffee noted that such reserves would have to be “earmarked” to pay for only disaster-related losses, lest the large cash holdings become targets for takeovers of insurance companies.

Morton Lane, CEO of Sedgwick-Lane Financial, addressed some of the new securities that are being developed to help attract capital into the insurance markets to help pay for disasters. In particular, he highlighted several recent securitization deals and described some of the financial products being created. Lane compared the risks of newly created “catastrophe bonds” to those of more traditional corporate securities. He also noted that insurance-linked notes can be important diversifying assets. “Earthquakes in Japan are not related to interest rates that Alan Greenspan controls.” Lane saw great long term benefits from these securities, predicting that these products would become an increasingly important tool for financing disaster risk, and should “lead to a more efficient allocation of capital, [and] a lowering of prices…”


Professors Martin Grace and James Garven addressed insurance marketing on the internet. Grace, an Associate Professor at Georgia State University, posed the question, “Can government regulate electronic commerce in the insurance industry?” He noted that internet commerce raises important questions concerning state jurisdiction and regulation when companies can operate from other states or countries. Grace remarked that state regulators will have to adjust to the new technologies or face having companies simply relocate elsewhere. With less regulatory oversight, companies would have to “invest in a quality image” and “convince the public at large that they’re worth dealing with.”

James Garven of Louisiana State University gave a business perspective on internet technologies. Garven questioned the popular idea that internet marketing will lead to the “wholesale disintermediation of middlemen in the economy and in insurance.” For consumers, he thought it might become “economically attractive” for there to be “different forms of unbundling and repackaging various forms of coverage.” This would allow consumers to customize their coverage options. He also noted that consumers would have greater opportunities to cheaply compare products, and that by making insurance more affordable and available, there will be “more insurance and then greater incentives for loss-prevention being incorporated into the system.”


Professor Mark Hall of Wake Forest University defined genetic discrimination in insurance as a decision to deny coverage, reduce benefits, or increase premiums for someone who has an illness that is genetically determined, but is presymptomatic or asymptomatic. He finds that most state laws against genetic discrimination target health insurance rather than life insurance, because “social fairness” arguments apply much more strongly to health insurance. Hall contends that as long as the choice to purchase insurance remains voluntary in a private market system, restricting access to relevant risk information like genetic information will lead to adverse selection and thus it is not workable.

Tom Miller examined the “backlash” against managed health care and concluded that despite a number of inflammatory anecdotes, managed care plans on average are no better or worse that other alternatives in delivering quality care, and they do reduce health care costs. Miller contended that although short-term stalling tactics by Republican congressional leaders may head off new managed care regulation this year, defenders of decentralized private health care choices are losing ground in framing the managed care issue. His policy recommendations included providing a more level playing field for all health insurance purchasers, holding health plan administrators and sponsors more accountable, and relying on flexible contractual arrangements instead of centrally prescribed bureaucratic standards.


William Feldhaus, also an Associate Professor at Georgia State University, made his presentation on trends toward deregulating commercial lines of insurance. Prof. Feldhaus described efforts in the states and in the National Association of Insurance Commissioners that move toward reforming the regulation of commercial insurance purchases. Measures being looked at include streamlining rate and form regulation, and reforming licensing requirements. One factor driving reform was “the realization that we are liberalizing insurance markets and insurance regulation around the world.” He noted that commercial markets in the U.S. are both highly competitive and show “a relatively low insolvency risk.” Feldhaus concluded that, “…it seems that the prospects are relatively good this year for getting some meaningful start on some of these reforms.”