Saturday, March 15, 2014

Workers Comp Insurance Deregulation: A Bridge Too Far?

In most states, Workers Compensation insurance has been deregulated to a very great extent, in the sense that the historic requirements about standardized rates, policy forms, endorsements, and rating plans have been removed from the once-strict oversight of insurance regulators.

Nowadays, many state insurance regulators don't really appear to have a good handle on what's going on out in the insurance marketplace. And so Workers Compensation insurance has moved from being the most tightly regulated line of insurance to being...little regulated, in many important aspects. This has coincided with an historic reduction in staffing and budgets of many state insurance departments of insurance.

Once upon a time, Workers Compensation insurance companies couldn't even compete much over price or policy form, as this was considered bad public policy. It was feared that price competition would undermine the financial stability of insurers, to the ultimate detriment of injured workers. But back in the 1980's, the trend began towards "open rating" in Workers Compensation insurance, which was believed to encourage price competition, which would benefit employers by harnessing competition to hold down premiums.

And arguably, this did occur to some extent--if your business was relatively low risk, with a good loss history, but decent premium size, insurers would indeed compete for your account on price. And such employers could really enjoy having a whip hand when multiple insurers competed, especially in soft markets.

But the downside of deregulation is that insurance companies in many states can just "file and use" rating plans and endorsements--that is, insurance regulators no longer get a veto of proposed new ways of pricing Workers Compensation insurance. In South Carolina, for example, insurers don't even have to file their new forms with regulators--as long as the insurance company has the policy form or manual available (you know, in the underwriting managers desk drawer or something) they don't have to file anything at all with the department of insurance. So insurance regulators no longer really know what's going on out in the marketplace.

The theory of all this deregulation is that Workers Compensation insurance can be "negotiated" between an insurance company and a sophisticated buyer. The flaw in that theory is that insurance companies almost always have a far superior understanding of the fine details of the working of their rating plans than the buyers do. Especially when the buyers are making their decisions based on proposals from an agent or broker that summarizes the premium calculation details rather than really spelling out in detail all the fine print.

At least in the old days, things were relatively standardized. But now, insurance companies can come up with complicated rating plans that only an actuary could really understand and not even the insurance regulators know what's in the details.

Deregulation has also produced the phenomenon of allowing group self-insurance trusts to flourish in many states--flourish, that is, until enough time has passed for claims costs to grow in the dark, like mushrooms, and overwhelm many of those trusts (many New York employers are learning this lesson right now) leaving businesses not only with suddenly-vanishing coverage but also unexpected liability for their share of the entire trust's losses.

Price competition has also contributed to the demise of some major insurance companies in recent decades, with resulting unpleasant consequences for employers and workers. The largest writer of Workers Compensation insurance in my home state of Illinois, back in the 1980's and 1990's, was Casualty Insurance Company, one of the early beneficiaries of price deregulation. They are no longer in business.

Neither is American Mutual, the insurance company that wrote the very first Workers Compensation insurance policy in the U.S. They vanished after deregulation took hold, also, unable to adjust to the brave new world of price competition, among other difficulties.

Now, I'm not arguing that we should go back to those long ago days of strict price and policy regulation. Employers really have benefited, I think, from price competition. But we've also lost something along the way--the ability of many insurers to really have a reliable understanding of how their insurance premiums would be calculated, for one thing. And the discipline that was imposed on the insurance industry by having some level of regulatory oversight, along with the consumer protections that came from that regulation.

The Workers Compensation insurance industry has been consolidating, with a few very large companies increasingly dominating the marketplace. Sure, there are still a lot of smaller niche players, but those niche ecosystems have been growing smaller.

Employers need to be able to rely on their Workers Compensation insurers to play fair in computing premiums and handling claims. Deregulation has, I believe, undermined the ability or employers to so rely on their insurers. Without effective independent oversight, our consulting work on behalf of employers indicates that there is a certain rottenness setting in deep behind the scenes, with some insurers not really playing fair.

Not long ago, the NCCI filed suit against AIG, for a billion dollars, claiming AIG had been systematically cheating the system behind the scenes. In its countersuit, AIG said all the major insurers were doing the same, and then some. The legal documents make for some interesting reading.And provide a lot of food for worry, if even only some of the charges and counter charges are true.

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