[House Hearing, 107 Congress]
[From the U.S. Government Printing Office]

                        PRIVATE SECTOR SOLUTIONS


                               BEFORE THE

                            SUBCOMMITTEE ON
                    CAPITAL MARKETS, INSURANCE, AND 

                                 OF THE

                              COMMITTEE ON
                           FINANCIAL SERVICES

                     U.S. HOUSE OF REPRESENTATIVES

                      ONE HUNDRED SEVENTH CONGRESS

                             FIRST SESSION


                            OCTOBER 24, 2001

       Printed for the use of the Committee on Financial Services

                           Serial No. 107-48

                        U.S. GOVERNMENT PRINTING OFFICE
                                WASHINGTON : 2002
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                    MICHAEL G. OXLEY, Ohio, Chairman

JAMES A. LEACH, Iowa                 JOHN J. LaFALCE, New York
MARGE ROUKEMA, New Jersey, Vice      BARNEY FRANK, Massachusetts
    Chair                            PAUL E. KANJORSKI, Pennsylvania
DOUG BEREUTER, Nebraska              MAXINE WATERS, California
RICHARD H. BAKER, Louisiana          CAROLYN B. MALONEY, New York
SPENCER BACHUS, Alabama              LUIS V. GUTIERREZ, Illinois
MICHAEL N. CASTLE, Delaware          NYDIA M. VELAZQUEZ, New York
PETER T. KING, New York              MELVIN L. WATT, North Carolina
EDWARD R. ROYCE, California          GARY L. ACKERMAN, New York
FRANK D. LUCAS, Oklahoma             KEN BENTSEN, Texas
ROBERT W. NEY, Ohio                  JAMES H. MALONEY, Connecticut
BOB BARR, Georgia                    DARLENE HOOLEY, Oregon
SUE W. KELLY, New York               JULIA CARSON, Indiana
RON PAUL, Texas                      BRAD SHERMAN, California
PAUL E. GILLMOR, Ohio                MAX SANDLIN, Texas
CHRISTOPHER COX, California          GREGORY W. MEEKS, New York
DAVE WELDON, Florida                 BARBARA LEE, California
JIM RYUN, Kansas                     FRANK MASCARA, Pennsylvania
BOB RILEY, Alabama                   JAY INSLEE, Washington
DONALD A. MANZULLO, Illinois         DENNIS MOORE, Kansas
WALTER B. JONES, North Carolina      CHARLES A. GONZALEZ, Texas
DOUG OSE, California                 STEPHANIE TUBBS JONES, Ohio
JUDY BIGGERT, Illinois               MICHAEL E. CAPUANO, Massachusetts
MARK GREEN, Wisconsin                HAROLD E. FORD, Jr., Tennessee
PATRICK J. TOOMEY, Pennsylvania      RUBEN HINOJOSA, Texas
CHRISTOPHER SHAYS, Connecticut       KEN LUCAS, Kentucky
JOHN B. SHADEGG, Arizona             RONNIE SHOWS, Mississippi
VITO FOSELLA, New York               JOSEPH CROWLEY, New York
GARY G. MILLER, California           WILLIAM LACY CLAY, Missiouri
ERIC CANTOR, Virginia                STEVE ISRAEL, New York
FELIX J. GRUCCI, Jr., New York       MIKE ROSS, Arizona
MELISSA A. HART, Pennsylvania         

             Terry Haines, Chief Counsel and Staff Director

            Subcommittee on Capital Markets, Insurance, and 
                    Government Sponsored Enterprises

                 RICHARD H. BAKER, Louisiana, Chairman

ROBERT W. NEY, Ohio, Vice Chairman   PAUL E. KANJORSKI, Pennsylvania
CHRISTOPHER COX, California          NYDIA M. VELAZQUEZ, New York
PAUL E. GILLMOR, Ohio                KEN BENTSEN, Texas
RON PAUL, Texas                      MAX SANDLIN, Texas
SPENCER BACHUS, Alabama              JAMES H. MALONEY, Connecticut
MICHAEL N. CASTLE, Delaware          DARLENE HOOLEY, Oregon
EDWARD R. ROYCE, California          FRANK MASCARA, Pennsylvania
FRANK D. LUCAS, Oklahoma             STEPHANIE TUBBS JONES, Ohio
BOB BARR, Georgia                    MICHAEL E. CAPUANO, Massachusetts
WALTER B. JONES, North Carolina      BRAD SHERMAN, California
JOHN B. SHADEGG, Arizona             JAY INSLEE, Washington
DAVE WELDON, Florida                 DENNIS MOORE, Kansas
JIM RYUN, Kansas                     CHARLES A. GONZALEZ, Texas
BOB RILEY, Alabama                   HAROLD E. FORD, Jr., Tennessee
VITO FOSSELLA, New York              RUBEN HINOJOSA, Texas
JUDY BIGGERT, Illinois               KEN LUCAS, Kentucky
GARY G. MILLER, California           RONNIE SHOWS, Mississippi
DOUG OSE, California                 JOSEPH CROWLEY, New York
PATRICK J. TOOMEY, Pennsylvania      STEVE ISRAEL, New York
MIKE FERGUSON, New Jersey            MIKE ROSS, Arizona
MELISSA A. HART, Pennsylvania

                            C O N T E N T S

Hearing held on:
    October 24, 2001.............................................     1
    October 24, 2001.............................................    70

                      Wednesday, October 24, 2001

Cummins, J. David, Harry J. Loman Professor of Insurance and Risk 

  Management, The Wharton School, University of Pennsylvania.....    48
Harrington, Scott E., Professor of Insurance and Finance, Moore 
  School of Business, University of South Carolina...............    46
Hillman, Richard J., Director, Financial Markets and Community 
  Investment, U.S. General Accounting Office.....................    58
Hubbard, R. Glenn, Chairman, Council of Economic Advisers........    25
Iordanou, Constantinos, Senior Executive Vice President of Group 
  Operations and Business Development, Zurich Financial Services 
  Group..........................................................    44
Keating, David L., Senior Counselor, National Taxpayers Union....    49
Mathis, David B., Chairman and CEO, Kemper Insurance Companies...    42
Nordlinger, Marjorie S., Senior Attorney, Office of the General 
  Counsel, U.S. Nuclear Regulatory Commission....................    56
O'Neill, Hon. Paul H., Secretary, U.S. Department of the 
  Treasury, accompanied by Sheila Bair, Assistant Secretary for 
  Financial Institutions.........................................     5
Sinnott, John T., Chairman and CEO, Marsh, Incorporated..........    52
Williams, Roy A., Director of Aviation, Louis Armstrong New 
  International Airport..........................................    54


Prepared statements:
    Kanjorski, Hon. Paul E.......................................    71
    Cummins, J. David............................................   107
    Harrington, Scott E..........................................   102
    Hillman, Richard J...........................................   137
    Hubbard, R. Glenn............................................    80
    Iordanou, Constantinos.......................................    95
    Keating, David L.............................................   113
    Mathis, David B..............................................    87
    Nordlinger, Marjorie S.......................................   130
    O'Neill, Hon. Paul H.........................................    73
    Sinnott, John T..............................................   123
    Williams, Roy A..............................................   126
              Additional Material Submitted for the Record


Harrington, Scott E.:
    Written response to a request from Hon. Richard Baker........   106
American Academy of Actuaries, prepared statement................   179
American Council for Capital Formation, Associated General 
  Contractors of America, American Resort Development 
  Association, Building Owners and Managers Association 
  International, International Council of Shopping Centers, 
  Mortgage Bankers Association of America, National Apartment 
  Association, National Association of Industrial and Office 
  Properties, National Association of Real Estate Investment 
  Trusts, National Association of Realtors, National Multi 
  Housing Council, Pension Real Estate Association, The Real 
  Estate Board of New York, The Real Estate Roundtable, joint 
  prepared statement.............................................   170
American Council of Life Insurers, prepared statement............   159
Independent Insurance Agents of America, prepared statement......   167



                      WEDNESDAY, OCTOBER 24, 2001,

             U.S. House of Representatives,
        Subcommittee on Capital Markets, Insurance 
              and Government Sponsored Enterprises,
                           Committee on Financial Services,
                                                    Washington, DC.
    The subcommittee met, pursuant to call, at 1:35 p.m., in 
room HC-8, The Capitol, Hon. Richard H. Baker, [chairman of the 
subcommittee], presiding.
    Present: Chairman Baker; Representatives Ney, Shays, Cox, 
Bachus, Royce, Lucas of Oklahoma, Shadegg, Weldon, Fossella, 
Biggert, Miller, Ose, Toomey, Hart, Rogers, Kanjorski, Bentsen, 
J. Maloney of Connecticut, Hooley, S. Jones of Ohio, Capuano, 
Sherman, Inslee, Crowley, Israel, and Ross.
    Also Present: Representatives Oxley, Roukema, LaFalce, and 
C. Maloney of New York.
    Chairman Baker. I offer a small apology for the environment 
in which we find ourselves holding this hearing on this most 
important matter. We, of course, appreciate all of the 
courtesies extended by all of those interested in the matter, 
and we certainly will try to facilitate providing information 
from the hearing to all of the parties, for those who can't 
simply get in the room. Ranking Member Kanjorski and I have 
adopted a no-jacket requirement for the proceedings. Feel free 
to comply at your leisure. I suspect as the day wears on, that 
will become a better and better idea.
    Of course the hearing today is an extraordinarily important 
one, and I am very anxious that we as a subcommittee come to 
some recommendation for resolution of a problem of potentially 
significant systemic events to our economy. There is no doubt 
that we must act, and we must act in a timely way. But we 
should also act as best we can in the most professional and 
responsible manner time will permit. It may be very difficult 
to reach a long-term permanent solution if the remaining tenure 
of this session is indeed a matter of days. If, however, we 
have the luxury of time, then I am confident working together 
with regulators, the industry, stakeholders, consumers and 
members, we can reach an accord which will make economic sense 
and sense to the American taxpayer.
    To that end, I merely want to point out one historic event 
that I think is constructive in these times. Going back to the 
days of the Reconstruction Finance Corporation under the 
Roosevelt presidency pursuant to the Great Depression in which 
in the course of the activities of that organization some $50 
billion worth of financial resources were made available to a 
plethora of business organizations. What I found interesting 
about it is the manner in which the Texas businessman 
administered that program at the direction of the President. 
Fifty billion dollars in the 1930s is an extraordinary program, 
and at the end of the day, Jessie Jones, the administrator of 
the program, recouped every cent of taxpayer dollars.
    Now, I know that the discussion of repayment of credit 
extensions is a very contentious matter, but as I said to some 
insurance company executives, they have their shareholders, and 
we have ours. They simply want our shareholders to give up our 
resources with no expectation at the moment of having their 
shareholders repay this courtesy.
    I for one feel that is a very appropriate thing for us to 
explore and to discuss and not simply because of the urgency of 
this matter take action that leaves taxpayers with unlimited, 
incalculable liabilities. However, there is no doubt that the 
events of this year are extraordinary. Very difficult to 
reconcile, and we hope never to occur again, but we simply 
cannot rely on those events not reoccurring, perhaps 
unfortunately even in the near term. So the subcommittee must 
    I would refer Members to the Jessie Jones story of the 
1930s with the recognition that the elements of that resolution 
were the basis for the Lockheed assistance in 1971 and the 
Chrysler Corporation workout in 1979, both of which resulted in 
taxpayers' resources being repaid and in one case the 
Government actually taking an equity position in one of the 
deals and showing a small profit. I think those are very 
helpful for the subcommittee to consider in the course of this 
difficult matter.
    With that, I would like to call on the Ranking Member 
Kanjorski for an opening statement.
    Mr. Kanjorski. Thank you, Mr. Chairman. Mr. Chairman, I 
have prepared a full statement, but not to bore everybody in 
the room, I am going to try and truncate.
    I just want to state my position, and it is very simply 
this. As a result of the occurrence of September 11th, I 
believe we must temporarily reinsure the marketplace to 
safeguard against the cascading financial crisis. In recent 
weeks, several alternatives to solve the problems were merged 
from one plan to establish a Government backstop for 
reinsurance designed to spread the risk across the industry. 
Another approach using quotas would distribute reinsurance 
costs for between industry and Government, and other solutions 
include allowing companies to build taxpayers reserves, 
limiting liabilities from damages as we presently do for 
accidents to nuclear reactors and facilitating the issuance of 
catastrophic bonds.
    From my perspective, any legislation to assist the 
insurance industry and our economy in the short term should 
adhere to four principles. First, to the extent possible, the 
primary insurers must continue to bear the tangible share of 
the risk for future attacks through the use of deductibles, 
premiums or assessments. Equity owners must also carry some 
share of the risk in order to encourage them to implement 
appropriate safeguards.
    Second, we must sunset the program. The reinsurance 
industry is dynamic, and we should not disrupt the development 
of new products.
    Third, in order to protect taxpayers, we should consider 
placing caps on the Government's liability and implementing 
adequate oversight.
    And fourth, everyone from the real estate mogul to the 
average homeowner should participate in the program.
    As I have said in our last hearing, we must move cautiously 
and methodically in addressing this problem in order to prevent 
unintended consequences. Given our forthcoming adjournment, 
however, we must also move swiftly. Instead of convening 
additional hearings on this problem, we should quickly assemble 
a bipartisan, bicameral group to negotiate the solution with 
experts and industry leaders. Time is of the essence, and I 
stand ready to work with you, Mr. Chairman, and all other 
interested parties on these matters in the upcoming days.
    [The prepared statement of Hon. Paul Kanjorski can be found 
on page 71 in the appendix.]
    Chairman Baker. Thank you, Mr. Kanjorski.
    Chairman Oxley.
    Mr. Oxley. Thank you, Mr. Chairman, and I will make the 
full statement part of the record. Without objection.
    Chairman Baker. Absolutely.
    Mr. Oxley. Welcome, Mr. Secretary. This is, as you can tell 
from the other opening statements, a very serious issue we are 
all aware of. We need to address this. This will be, along with 
our money laundering bill we passed last night in the House, 
probably the most important issue we are going to have to face 
and we need to do it in a timely manner, and I salute the 
Chairman of the subcommittee and the Ranking Member for their 
leadership on this issue. We all have to pull in the same 
    I think we will find some differences of opinion on the 
proposal that you will be outlining, along with the industry 
people, but the purpose of this hearing, as I discussed with 
Chairman Baker, is to get all of our cards on the table, all of 
the ideas on the table and then start to whittle away until we 
create something that we can all live with and that will work.
    Clearly this is not just an insurance issue. This is an 
issue that will affect our entire economy. A concern all of us 
have, I think, is that we will get a domino effect on the 
inability of companies to get insurance, the inability of 
lenders to lend to those companies, and it would have enormous 
negative consequences, and I notice you commented on that in 
your statement. So we are all in this together, and we will 
work with you and all your folks on this issue, and I yield 
    Chairman Baker. Thank you.
    Ranking Member LaFalce.
    Mr. LaFalce. Thank you very much, Mr. Chairman. I ask too, 
unanimous consent to put my full statement in the record.
    Chairman Baker. Without objection.
    Mr. LaFalce. Let me give you a couple of thoughts. First of 
all, I have been through so many situations over the years 
where we have been cutoff the credit or at least the credit 
crunch due to severe problems, lenders liability under CERCLA, 
for example, the banks wouldn't lend to the business if there 
was the remotest possibility of environmental difficulty for 
which they could, because of a $5,000 loan be liable for a $5 
million cleanup, and I am most fearful of the economic impact 
to the United States, the damages to the economy, if we have 
the cessation of terrorism insurance.
    Do I think the problem is real? Unfortunately, I do. I do 
think it is real, and therefore I think we have to do 
    Now, what do we do? I wish we had the luxury of careful 
deliberation. We don't. If we had the luxury of careful 
deliberation, I think we should come up with some scheme. It 
might be something similar to the scheme that England has, with 
a Federal charter and a Federal regulatory supervisory role 
commensurate with the Federal risk. I think that is going to be 
difficult to implement. We don't have that much expertise 
within the Federal Government right now to implement that 
immediately, and that is one of the reasons I think that 
representatives from the insurance industry have come up with a 
single State charter, but the State charter could be with an 
administerial role for the State, but still, because of the 
Federal assumption of risk a strong Federal regulatory 
supervisory role. I think that is a possibility. It is not my 
preference, but it is something. But even then, I don't know if 
we have the time to do it or the present expertise in the 
Federal Government to do it.
    The third alternative is some stopgap, and I think that is 
where the Administration is, based upon my conversations with 
both Sheila and Peter Fisher. That is not my preferred option, 
but it may be the only viable option now. If that is true, it 
is either easier to coalesce around one Administration approach 
than it is one approach after 535 individuals have come to 
consensus, so I am willing to do it. But not willy nilly 
either. You know, there has got to be some principles that we 
follow, and at least we have to make sure that we are going to 
provide insurance for all Americans and businesses who need it, 
including a full range of property and casualty coverage. For 
me--and I don't know if the Administration is there yet--I 
think that means business interruption insurance, too.
    I want you to address the issue, because I don't think we 
are adequately covered if we don't have that.
    Second, if the Federal Government is going to put its toe 
into the water, we have got to make sure we have got all the 
desirable regulatory safeguards to protect the American 
taxpayer. We can't, you know, put a toe in without being 
protected. OK?
    We have to require the industry to share the burden of any 
system that is ultimately adopted, and I think perhaps 
requiring even more of a first dollar contribution than 
presently contemplated by the Administration, that is 
negotiable, and have the price structure that provides 
compensation to the Federal Government while offering 
affordable prices to the ultimate consumer and facilitate the 
return of the private reinsurance market as soon as is possible 
if it is ever going to be possible. I look forward to working 
with you and Sheila.
    Chairman Baker. Thank you, Mr. LaFalce.
    I would ask if possible for all of the Members' statements 
be made a part of the record so we could hear from our first 
witness. Without objection, so ordered.
    It is a pleasure to welcome you here, Mr. Secretary. 
Chairman Oxley wanted me to make it very clear, he is not 
responsible for the meeting arrangements. He would have treated 
you with greater deference, I am sure, had we the luxury of 
    Mr. Oxley. Mr. Ney.
    Mr. Ney. Hey, this is the way our country was formed. Get 
with it.
    Chairman Baker. I hope we are as successful. With no 
further delay, Mr. Secretary, we are honored to have you here 
today on this most important matter. Thank you, sir.


    Secretary O'Neill. It is a pleasure to be with you and all 
the subcommittee Members. And Chairman Oxley, if I may pick up 
on a point you made----
    Unidentified Speaker. Can you speak up a little bit for 
those of us that are sitting on the end here? Thank you.
    Secretary O'Neill. Let me say again, thank you very much 
for the speedy and I think very valuable action on money 
laundering. We are determined to do what the President said and 
wage a successful war on terrorist finance, and money 
laundering is a part of that issue and drug running and all the 
other things that we have talked about for a long time. With 
the added authority you have given and with the President's 
Executive Order, we are going to make this happen. We are going 
to shake down these people and their finances and do everything 
we can to take them out of business and we have had great 
cooperation around the world, and thank you all for that.
    Now, to the issue of today, I don't know--did all of you--
whether you had a chance to look at the prepared statement or 
not? And Chairman, how would you like for me to proceed? I have 
a short oral--actually, it is about 10 or 12 minutes--oral 
statement. If you would like me to begin with that, or I can 
simply put it in the record and go to questions, whichever you 
would like.
    Chairman Baker. Proceed as you wish. Maybe outline the 
highlights of the plan, and I think this opportunity for 
Members to engage with you would be terrific.
    Secretary O'Neill. Great. As I said, I appreciate the 
opportunity to comment on terrorism risk insurance. We believe 
that there is a real and present need for Congress to act on 
this issue now. Market mechanisms to provide terrorism risk 
insurance coverage have broken down in the wake of September 
the 11th. Such coverage is now being dropped from property and 
casualty reinsurance contracts as they come up for renewal, for 
policies renewing at year-end. If Congress fails to act, 
reinsurers have signaled their intention to exclude such 
coverage, meaning that primary insurers may have to drop this 
coverage or institute dramatic price increases.
    As a result, after January 1st the vast majority of 
businesses in this country are at risk for either losing their 
terrorism risk insurance coverage or paying steep premiums for 
dramatically curtailed coverage. If businesses cannot obtain 
terrorism risk insurance, they may be unable to obtain 
financing or financing may be available only at much higher 
cost. This would have widespread effect to businesses of all 
types, which may, for instance, be unable to expand their 
facilities or build new facilities.
    Our view is the problem is that insurance companies do not 
take a risk, and it is a misunderstanding of the insurance 
process to believe that insurance companies take risk. What 
they do do is knowingly accept and mutualize risk, which is 
another way of saying they do analysis of the possibility and 
probability of an undesirable event happening and then they 
assemble all the people in the society that they can who have 
the same kind of risk and charge enough premium so that in the 
event there is an occurrence of an adverse risk, they have the 
wherewithal to pay off the cost that they have contracted to 
pay, and at the end of the day what insurance companies do is 
that mutualizing of risk function, and in order to stay in 
business they must always have enough combination of premium 
income and earnings from the premiums that they collect in 
order to discharge all their obligations and make a market rate 
of return on the capital that they have employed.
    So I want to say as affirmatively as I can that the 
Administration is not for ``bailing out'' the insurance 
industry. What we have proposed is not bail out anybody; it 
would instead provide for an ongoing mechanism to insure and to 
provide for the mutualization of risk.
    Because insurance companies do not know upper bound of 
terrorism risk exposure, they will protect themselves by 
charging enormous premiums, dramatically curtailing coverage, 
or as we have already seen with terrorism risk exclusions, 
simply refuse to offer the coverage. Whatever avenue they 
choose, the result is the same: Increased premiums and/or 
increased risk exposure for businesses that will be passed on 
to the consumers in the form of higher product prices, 
transportation costs, energy costs and reduced production. Put 
another way, any of these choices have the potential to cause 
severe economic dislocations in the near term, either through 
higher insurance costs or higher financing costs.
    Since September the 11th, the uncertainty surrounding 
terrorism risk has disrupted the ability of insurance companies 
to estimate price and insure risk. Now, as we worked on this 
subject, we said our objectives are, first, in grappling with 
this problem, first and foremost, we want to dampen the shock 
to the economy of dramatic cost increases for insurance or 
curtailed coverage. We also want to limit Federal intrusion 
into private economic activity as much as possible, while still 
achieving the first objective. And we want to rely on the 
existing State regulatory infrastructure as much as possible.
    After reviewing an array of options--and I truly believe we 
have looked at the limits of the options that are available--we 
developed an approach that we believe best accomplishes these 
objectives. This approach reflects the current evolution of our 
thinking on this issue, and let me say as clearly as I can, we 
want to work with you to achieve the best possible solution. 
When terrorists target symbols of our Nation's political and 
military power, they are attacking the Nation as a whole. This 
argues for spreading the cost across all taxpayers. Yet there 
are also reasons to limit the Federal role. If property owners 
do not face any liability from potential attacks, they may 
underinvest in security measures and backup facilities. In 
addition, the insurance industry has sufficient experience and 
capacity to price some portion of the risk associated with 
terrorism and have the infrastructure necessary to assess and 
process claims. Under the approach we are suggesting, 
individuals, businesses and other entities would continue to 
obtain property and casualty insurance from insurance providers 
as they did before September the 11th. The terms of the 
terrorism risk coverage would be unchanged and would be the 
same as that for other risk.
    Any loss claims resulting from a future terrorist act would 
be submitted by the policyholders to the insurance company. The 
insurance company would process the claims, and then submit an 
invoice to the Government for payment of its share. The 
Treasury would establish a general process by which insurance 
companies submit claims. The Treasury would also institute a 
process for reviewing and auditing claims and for ensuring that 
the private-public loss sharing arrangement is apportioned 
among all insurance companies in a consistent manner.
    State insurance regulators also play an important role in 
monitoring the claims process and ensuring the overall 
integrity of the insurance system. Through the end of next 
year, 2002, the Government would absorb 80 percent of the first 
$20 billion of insured losses resulting from terrorism and 90 
percent of insured losses, about $20 billion. Thus, the private 
sector would pay 20 percent of the first $20 billion in losses 
and 10 percent of losses above that amount.
    Under this approach, the Federal Government is about 
absorbing a portion, but only a portion of the first dollar 
losses, which we believe is important to do in the first year 
of the program. The key problems faced by insurance companies 
right now is pricing for terrorism risk. We favor a first 
dollar loss sharing approach in the first year, because we are 
concerned about premium increases over the next 12 months. We 
see this as the best way to mitigate against premium increases, 
but it may not be the only approach, and, again, we are 
prepared and happy to work with you to shape an acceptable 
    The role of the Federal Government would recede over time, 
with the expectation that the private sector would further 
develop its capacity each year. 2003, we would have the private 
sector be responsible for 100 percent of the first $10 billion 
of insured losses, 50 percent of the insured losses between $10 
and $20 billion, and 10 percent of the insured losses above $20 
billion. The Government would be responsible for the remainder. 
In 2004, the private sector would be responsible for 100 
percent of the first $20 billion of insured losses, 50 percent 
of insured losses between $20 and $40 billion, and 10 percent 
of insured losses above $40 billion, and the Government would 
be responsible for the remainder.
    To preserve flexibility in an extraordinary attack, 
combined public-private liability for losses under the program 
would be capped at $100 billion. It would be left for the 
Congress to determine payments above $100 billion.
    The Federal Government's involvement under our 
recommendation would sunset after 3 years. This approach would 
also provide certain legal procedures to manage and structure 
litigation arising out of mass tort terrorism incidents. This 
includes consolidation of claims into a single forum, a 
prohibition on punitive damages and provisions to ensure that 
the defendants pay only for noneconomic damages for which they 
are responsible. It is important to ensure that any liability 
arising from terrorist attacks results from behavior rather 
than overzealous litigation. These procedures are important in 
mitigating losses arising from future terrorist attacks on our 
Nation and are an absolutely essential component of the program 
that we have put together.
    Now, Mr. Chairman, for the reasons I have set forth, the 
Administration believes that the economy is facing a temporary, 
but critical market problem in the provision of terrorism risk 
insurance. Leaving this problem unresolved threatens our 
economic stability.
    We have limits for Government's direct involvement in all 
those elements of our private insurance system that continue to 
operate well, and we provide the transition period to allow the 
private sector to establish market mechanisms to deal with the 
risk that confronts our Nation.
    In conclusion, I would say one more thing that I suggested 
this morning to the Senate committee. I honestly don't think we 
are going to know whether what we fashion together will work, 
in fact, until it is tested in the market. As well meaning as 
we may be and as brilliant as we may be, only the market will 
tell us whether we fashioned a solution that works. And so I 
suggested this morning to the Senate committee that you all may 
want to consider giving the Executive Branch some power to 
adjust the terms of trade in the frame of reference, because 
the policies that are at risk now are going to get canceled if 
we don't act at the end of December, and usually policy renewal 
takes place 45 days before the end of the contract period. So 
we don't have an awful lot of time to go through an endless 
process that works itself into next year, and so I think this 
is a time to think about some extraordinary ways we can make 
sure that what we do will work in fact, because we can't afford 
not to have a workable solution that takes care of this problem 
for the near term.
    Mr. Chairman, I am happy to answer any questions.
    [The prepared statement of Hon. Paul H. O'Neill can be 
found on page 73 in the appendix.]
    Chairman Baker. Thank you, Mr. Secretary.
    Does somebody have a clock so we can keep our 5-minute rule 
here? OK. Give me a 30-second, you know, hand signal. And as 
best we can, you will advise me whatever the order for 
recognition is.
    With that, Mr. Secretary, let me say I very much appreciate 
the description of the plan as outlined. Certainly I think in 
prior meetings with the Treasury officials that I have some 
concerns about elements of the plan, but I want to start with 
where we agree. I do believe we have to act. I do believe that 
if we cannot expect the occurrence of anything similar not to 
bring about significant economic consequences. And if we do not 
have an event and we approach January 1 and coverage is not 
made available, construction--the economy just stops. So we 
want to act very timely. To that end, I also agree we can't 
know how the market will react to whatever mechanism we do 
expect, and that for consideration only, perhaps the 
advisability of a short-term emergency response is to get us 
through the early months of the year, and I understand the 
industry reluctance to that. They can't price on something that 
is not real. But I would just observe that there is very little 
likelihood that this Congress will reconvene next year and will 
take this matter up as the highest priority and attempt to act 
in a very thorough and responsible manner, that even if that is 
not achievable, then I very much like the idea of discretionary 
authority and responsibility being given to the Administration 
to manage this event.
    So if we don't get it right, there is the ability to act 
without the necessity of Congressional intervention to protect 
our economic viability. At the same time, one of the principal 
things I think that--as you would surmise from my opening 
statement, is some capacity at the appropriate window for 
expected repayment. If we go through the scenario of a $100 
billion event, given the constraints of the programs now 
written, the United States taxpayer would ultimately pay for 
more than two-thirds of the claims paid. I hate to use this, 
because I overuse this so much, and Mr. Kanjorski doesn't like 
me using it so much either, but I will do it anyway. It is 
almost like a GSE chart. If you make money you get to keep it. 
There needs to be some balancing of equities in this, and with 
all due respect to the proposal, my initial first reaction to 
it is it certainly is better than the industry proposal we saw, 
because we do have some participation by the industry.
    But I want to take you up on the statements that you 
repeatedly made that we want to work through this, and a 
mechanism whereby we can visit again, maybe not this week, 
certainly early next, and go through the essential elements 
that I think ought to be in any proposal. Administrative 
concerns, again side-stepping the policy for a moment, if we 
are going to have to direct providers of insurance laying claim 
to the United States Treasury for reimbursement of monies paid 
out as a result of an act of terrorism, the administrative 
process to do that with 2300 insurance companies each paying 
multiple claims, unfortunately for those concerned about 
bureaucracy, you have got to have some questions about how that 
is going to work. Then we are going to audit and make sure 
where the money went. I have suggested that our interface with 
the industry might be at a slightly different level. Wave fast 
and hard, so I can see. If we engage at the commercial 
reinsurance level, and it also speaks not only to minimizing 
the numbers of people with whom you would have to engage, but 
they are the folks really backstopping in the private market 
the risk of the direct provider. They also are the ones who set 
the underwriting stuff. So if you need that extra security, if 
you need an extra person at the door, if there is some other 
extraordinary circumstance which is identified in the market as 
being necessary, let the market dictate those requirements. I 
would be concerned that the more we become responsible, the 
more the pressure would be on the Congress to create more 
regulatory constraints and to begin to set those standards of 
what is acceptable conduct.
    And then lastly, by leveling at the commercial reinsurance 
window, we narrow the scope of review of the eligible 
participants who have access to the funds. I don't want to have 
happen with the insurance industry what I would be so bold to 
say I think may have happened with the airline industry, where 
there were losses going into the September window that were 
rolled into the claims paid pursuant to the September event. We 
need to know who is getting in, that they are solvent, they 
have the capacity to meet the responsibilities as best any 
reasonable person could dictate, and if we do that only with 
the commercial reinsurers, we again are looking at 
corporations, generally international in scope, generally well 
priced by the market, and we have a clear view of what their 
operational condition might be, to limit again the Federal role 
and bureaucratic responsibility in what will be a very 
difficult time.
    I can only imagine the explanation by the agent on the 
street to a claimant about why they hadn't gotten the payment, 
because the Federal Government hadn't acted in a timely manner.
    Am I out? I am out. I am not even 30 seconds. I am out. But 
let me just leave it at this. I appreciate your willingness to 
come here today for this purpose. I appreciate the tone and 
comments that you have made, and I just as an individual in the 
room--and I am sure others will speak for themselves--really do 
want to engage the office to try to come with some resolution.
    Thank you very much.
    Mr. Kanjorski.
    Mr. Kanjorski. Mr. Chairman, thank you very much. I have a 
few questions. Of course, I could name certain principles I 
would like to go through in terms of when we put this policy 
together, but first and foremost, on the Administration's 
proposals, I don't see an incentive for the insurance industry 
to want to resolve the issue until the absolute down day of 
2004. I think if the Government gets involved, and I think we 
should get involved, there has to be an incentive, either 
premiums collected or a penalty derived by the Government to 
encourage the private sector to take up the reinsurance issue. 
If not, it would seem to me all companies would stand to the 
bitter end, and I think one of the examples we have always had 
in flood insurance is there was never an incentive to get out 
and privatize it. It is going to stay with the Government as 
long as I guess the leaves turn to brown.
    There is a couple of questions I have. One, I think we 
should insure actual loss, but not necessarily economic gain 
loss. You know, we have gone through a tremendous appreciation 
of assets over the last 7 or 8 years, and I think it would be 
foolhardy for the taxpayers to bail out investors 100 percent, 
or a mortgage holder 100 percent if there is reactivation going 
on in the system to take advantage of moving up the value of 
the asset to the highest degree or even above 100 percent. We 
have got to have some stopgap in there to protect it.
    Second, I would like to ask you what portion of this 
business are we providing the Federal insurance for that is 
international? How many foreign companies?
    Secretary O'Neill. None.
    Mr. Kanjorski. We would not cover any foreign?
    Secretary O'Neill. Well, if they were a resident of the 
U.S., I think they would have all the right that any one of 
standing has in the U.S., but this is territorial. This is the 
U.S. .
    Mr. Kanjorski. Well, U.S. limited policy, but the----
    Mr. Kanjorski. Right, but we still have primary insurance 
for foreign companies, and this would apply to all companies 
across the board. Is that correct? Is there any way we can give 
a preference to the American insurers?
    Secretary O'Neill. I don't think you want to distinguish 
between sources of the capital where somebody's money is better 
than somebody else's.
    Mr. Kanjorski. So the RAC national insurance----
    Secretary O'Neill. There are people we don't let into the 
country for very good reasons.
    Mr. Kanjorski. I am just being facetious.
    Mr. LaFalce. If they are insurers, they have to be licensed 
    Secretary O'Neill. Yes.
    Mr. Kanjorski. I would rather look at a portion, some 
graduation of liability. I like the fact that the first dollar 
the primary insurer has to stand some risk, but I think there 
should be maybe reverse graduation involved to where we get 
involved and then, finally, probably some sharing of the 
premiums. There has got to be something to the taxpayer that 
takes the risk, simply because I am trying to distinguish in my 
own mind--and I am not sure that I can anymore--of the 
occurrence of September 11th, whether that is a terrorist 
attack or an act of war. Clearly insurers and banks and other 
investors take the risk of actual war. They are not covered for 
that. So we could pretty close--I mean, using the President's 
word, we could make a very strong argument that we are in an 
undeclared war, and, therefore, we are picking up the next 
liability for the taxpayer.
    I am willing to do that because I see the economic 
component, but I think that is justified. But I would just like 
to see that incentive for the private sector to get involved as 
early as possible. Some share--maybe the premium should be 
higher than the private sector so that the private reinsurance 
industry will see an opportunity to rush in and provide that 
insurance as soon as possible as opposed to delaying it. We may 
be interrupting the development of that market by being too 
generous, and thirdly, real losses as opposed to book losses, I 
think that is essential.
    Secretary O'Neill. May I comment?
    Chairman Baker. Please proceed.
    Secretary O'Neill. I think from some of the things I have 
read in the newspapers and some of the comments made, it may be 
useful to talk a little bit about the concept of insurance. I 
have tried to do that a little bit in my paper, but I think 
maybe it is worth emphasizing some points so that we are on the 
same ground together, and if--you know, simply because of the 
comments an insurer makes about repayment. Under our scheme, we 
are not giving--we, the people of the United States, are not 
giving the insurance companies anything. We are not giving them 
anything. Now, when you say repayment----
    Mr. Kanjorski. We are giving them coverage support.
    Secretary O'Neill. No, we are not at all. What we are doing 
is we are saying to the insurance companies that if you go out 
and write terrorism insurance, that after you reach a level of 
20 percent of the $20 billion in the first year, that you don't 
have any remaining liabilities. Now, you know, maybe what we 
haven't made clear enough, and I guess we presume is clear, but 
it is obvious it is not, is that they are not going to write 
insurance for more than the size of their liability and the 
size of the premiums that they aggregate together. So they are 
not going to write us up for $100 billion. We are simply saying 
we would like for the private sector to play a role, and you 
are not going to do--we think they won't do it if they have 
unlimited liability and no reinsurance pool, that there is not 
going to be any insurance available.
    OK. But if you understand how insurance companies work, 
what they do is they go out and find people with similar kinds 
of risk, and they do an assessment of what is the possibility 
of an untoward event, and then they collect enough premiums and 
invest the money so that they make income from the invested 
money, and when there is an untoward event, they pay off. OK? 
And this would work exactly the same way, but the liability, 
that is limited, and the reason we started with a fairly low 
number is because if you think about this now from the point of 
view of an individual insurance company and, you know, let's 
take the World Trade Center now and you be the proprietor of an 
individual insurance company. You would not today go in there 
and take a risk of having to pay off a $3.2 billion claim 
unless you are going to get paid something like $3.2 billion, 
because if it happens, it is a 100 percent event. OK?
    Chairman Baker. If I can, the gentleman's time has long 
since expired, and the Chairman is next. Chairman Oxley.
    Mr. Oxley. Mr. Secretary, let me take you through some of 
the criticisms of your proposal. The first one is that this is 
an obvious industry bailout. You have addressed that to some 
extent, but indeed we are asking insurers to collect 100 
percent of the premiums and then the taxpayers in the first 
year at least would pick up the bulk of that cost at 80 
    Secretary O'Neill. That is not really right. You know, it 
comes across as that portrayal, and I realize now we were not 
clear enough. The insurance company is not going to write $100 
billion worth of face value coverage for $4 billion worth of 
premiums. What this basically says is we are creating a way for 
the insurance industry to create a pool that provides a first 
layer of mutualization of risk with an upper limit of $4 
billion in the first year, and the taxpayers are going to, in 
effect, self-insure the rest. They are not getting paid 
premiums for $100 billion. They are going to get paid premiums 
because of the way the process works that gives them enough 
money to pay off the probable cost of insuring risk. And that 
is all they are going to get. They are not going to get any 
gifts, because as competition works, the interaction between 
the consumers, like where I was before, the head of a company, 
the interaction between companies, they are saying I want the 
lowest possible price, and the insurance company, you are 
saying I want to write the business. It is going to bring this 
price down to a level that provides at the end a $4 billion 
pool to pay off the probability of an untoward event, wiping 
out all of the agreed contractual coverage for the insurance 
companies. It doesn't do more than that.
    Mr. Oxley. And in your proposal it is a 3-year package, 
    Secretary O'Neill. Well, we have said we think as we go 
along that the insurance industry and the reinsurance industry 
will likely figure out how to deal with this issue as they were 
to deal with Hurricane Andrew kinds of issues. They never have 
before. And so we are saying let us look at a 3-year program 
with these kinds of characteristics.
     But again I want to say to you what I said before, until 
we put this in the marketplace we are not going to know whether 
it really works, and that is why we need to be fast on our 
feet, because if this doesn't work, we need to figure out a 
scheme that will actually get the job done by the first of 
    Mr. Oxley. Traditionally insurance has been based on 
obviously risk assessment. Is it fair, for example, let us say 
that the target is the Empire State Building, or obviously the 
World Trade Center for a terrorist attack presents a lot more 
attractive target, if you will, than, say, the Marathon Oil 
Building in Ohio. And indeed, currently the insurance rates 
are, for a lot of reasons, different in different parts of the 
country. Under your provision, and the way you explained it, 
would the market ultimately then seek that?
    Secretary O'Neill. Absolutely. If you think about--and I 
don't want to be quoted as ``O'Neill identified,'' but you all 
think of places that you know about that are obvious symbolic 
targets in the United States. They are going to end up in what 
I would characterize as an assigned risk pool. You all know 
from your automobile insurance, you know, if you are over 25 
and have three children and don't drink and smoke, then you get 
a preferred rate than if you are 15 years old and you wreck 
three cars and you get put in an assigned pool. We are going to 
see the insurance industry go through this probabilistic 
analysis and the premiums for high value symbolic targets are 
going to be a lot higher than they are for a suburban home in 
Maryland. The industry will work out what the appropriate 
premiums are and again they will do it in a competitive 
framework of, you know, State Farm says I will cover your house 
for this, and Hartford says I will give you a little bit less 
and throw in a blender, and that is how this process is going 
to work.
    Because of the scale of what we are facing and the short 
amount of time that we have to deal with this, I think this is 
the only reason why we ought to be at the table, because it is 
right in front of us. There is a high degree of uncertainty, 
and we need to make sure that we don't go over the cliff 
January 1st and there is no insurance protection, because the 
thing that drives us, if you are borrowing money--or even if 
you are getting money from equity supporters and you don't have 
insurance to cover casualty loss to your property, you are not 
going to be able to get intelligent investors to give you 
    Right? Think about it as an individual investor. Would you 
give your money to someone who had the risk of losing 100 
percent of all of their assets, including all of yours and no 
insurance coverage? You wouldn't do it.
    Mr. Kanjorski. Well, they do it all the time in war.
    Secretary O'Neill. Well, you know, I think you made an 
excellent point. If you go back and look at what we have done 
where we have declared wars, basically the American people have 
been the guarantor of casualty--of war-related events, and if 
we had a declared war, I think you could make an argument that 
we ought to move to that position. And I said earlier, one of 
the things that we did in working this subject, because, you 
know, for me--and I think for most of you--this is not an issue 
that lends itself in any way to partisanship. This is how we 
get it right, and so we looked at the question of maybe the 
American people should simply say define terrorism and 
determination of a terrorist act, we are going to use our 
system of collecting revenues and distributing benefits to 
people; that is to say, the general fiscal policy of the United 
States, to pay for acts, for the cost of acts that are 
determined to be terrorist acts and we will just take the 
insurance industry out of it.
    Now, as I have said here, we didn't get there because we 
think the infrastructure of the insurance industry can bring 
real value to dealing with the possible future terrorist events 
that otherwise one would have to consider creating in the 
Federal Government. That we think would be a disaster, to 
create a new Federal freestanding agency that is in the 
insurance business with policy writers and claims adjusters and 
all the rest of that stuff.
    Chairman Baker. Now you are scaring me.
    Secretary O'Neill. We don't want to do that. And so we 
built in this idea that by creating in effect the controlled 
and limited risk and then ratcheting it up over time, that we 
can have the best of all possible worlds and learn as we go 
along. None of us have been here before.
    Chairman Baker. If I can, Mr. LaFalce.
    Mr. LaFalce. Yeah. Thanks very much. I will go quickly. We 
are ready to let you take the lead. When will you get us the 
legislative language by? I think there is a disposition to 
adjourn Congress by Thanksgiving, maybe by Veterans' Day. Some 
people will say Halloween.
    Ms. Bair. There is no Administration bill.
    Mr. LaFalce. Are you preparing it?
    Ms. Bair. We are prepared to work with the staff.
    Mr. LaFalce. Well, if you want to take the lead, you have 
to take the lead. That means you have to come up with the 
language quickly.
    Second, what is the necessary effective date? It is one 
thing to pass it in November, but when must it be effective by?
    Secretary O'Neill. The sooner the better. As I said to you, 
most of the notices for renewal come out on the 15th of 
November, policies that expire on the 31st. So, you know, we 
need it quick.
    Mr. LaFalce. OK. Next, if you were to insure, Mr. 
Secretary, would you advise them to give business interruption 
insurance or not? I think the answer is yes, you would.
    Secretary O'Neill. The reason I am hesitating, I used to 
run a $30 billion company. I did make a decision in some cases 
to provide business interruption insurance, but out of my 26 
businesses, I made different judgments about different parts of 
my business, depending what the customer relationships were and 
contractual relationships.
    Mr. LaFalce. My point is for an awful lot of businesses it 
is not their physical infrastructure. It is their business 
itself that is damaged. You know, they have no revenues coming 
in. They can't pay their bank back. They are going to go belly 
up with bankruptcy, and they need insurance against that.
    Secretary O'Neill. We have not included it. It is a 
debatable issue, and we ought to talk.
    Mr. LaFalce. You are not advancing it, but right now you 
are not saying you are opposed to it?
    Secretary O'Neill. No.
    Mr. LaFalce. All right. I think we have to act on it 
quickly. I am a little afraid that the insurance industry might 
be taking advantage of us, other people taking advantage of us. 
You have to be wary of that, too, the same way this economic 
stimulus bill, think the people are taking advantage of us. I 
think you would agree with me.
    Secretary O'Neill. On the latter I agree with you; on the 
former I don't.
    Mr. LaFalce. Well, good. In other words, you agree with me 
on the economic stimulus. It is an open question on insurance, 
or you don't. Fine.
    Secretary O'Neill. I think as long as we have competition.
    Mr. LaFalce. Then I understand you correctly, you agree 
with me on the economic stimulus bill that we are being taken 
advantage of.
    Mr. Kanjorski. You are going to be quoted on the floor.
    Secretary O'Neill. I don't want to get in trouble.
    Mr. LaFalce. You did say we were being taken advantage of.
    Secretary O'Neill. I didn't say by who.
    Mr. LaFalce. This money----
    Chairman Baker. Is the gentleman out of time?
    Mr. LaFalce. I have been interrupted. I want my time. We 
passed the money laundering bill today in the House. OK, fine. 
It is up to you to implement it strongly, aggressively. It is a 
great law. It can be meaningless unless you implement it 
    Secretary O'Neill. Not to worry.
    Mr. LaFalce. OK, good. Now, I am a little concerned about 
your theological opposition to the concept of a Federal 
charter. You know, my God, we talk about the global economy and 
the need for harmonization of our banking laws, our bankruptcy 
laws, our money laundering laws, and so forth. But with respect 
to the insurance industry, which was one of the largest 
industries in the world, my God, we can't have the United 
States have a law on that. We have got to defer it to the 
States. This is the 21st century, Mr. Secretary, and let us not 
be afraid to step our toe into the 21st century with respect to 
insurance laws. Now, I am not saying we ought to do it with 
respect to terrorism insurance, because we only have a few 
weeks, and I don't know that we could get there, but don't be 
afraid to put your toe in. It is necessary.
    Chairman Baker. Thank you, Mr. LaFalce. By my list, I have 
Mr. Royce next. Is he here, Mr. Royce?
    Mr. Bachus.
    Mr. Bachus. Thank you. Secretary O'Neill, I commend you for 
coming forward. I am as serious as you about what you are 
proposing. The first is that to me this is not a backstop. We 
have got the most recent proposal. Why is there not a layer of 
industry exposure any time there is a claim?
    Unidentified Speaker. Could you both speak a little louder, 
    Secretary O'Neill. The reserves that are currently held by 
insurance companies are held because it is their best 
assessment, backed up by the securities laws about how much 
money they need to put away in order to be worthy, creditworthy 
by the judgment of the State insurance commissioner, that when 
they have events they can pay off their customers. And so the 
    Mr. Bachus. Adequate reserves.
    Secretary O'Neill. I am saying they don't have extra 
reserves. They have reserves to take care of the business they 
have already written.
    Mr. Bachus. You are saying they don't have adequate 
    Secretary O'Neill. No.
    Mr. Bachus. So, that is why you came--no. I am just--that 
is why----
    Secretary O'Neill. Well, you know, it begins with a very 
basic understanding of how business works.
    Mr. Bachus. Yeah. I know how insurance works.
    Secretary O'Neill. And how insurance companies work. They 
go out and they sell policies--.
    Mr. Bachus. Now, you are lecturing us about----
    Secretary O'Neill. I don't mean to be lecturing.
    Mr. Bachus. You have looked at a backstop proposal and you 
have rejected that. You think first dollar coverage is 
necessary, right?
    Secretary O'Neill. I think if we said to the insurance 
companies, for example, right now that we want you to write 
terrorist risk insurance and you all are responsible for the 
first $50 billion.
    Mr. Bachus. The second question is this, there is no 
catastrophic loss of over $100 million, which is what I think 
is the worst-case scenario, which I would think that you would 
address that. I think that is what the reinsurance people are 
concerned most about. There is absolutely nothing above $100 
billion. Did you all consider that?
    Secretary O'Neill. Well, what we basically said is when you 
get to $100 billion, we the people of the United States will 
own it all.
    Mr. Bachus. You think so?
    Secretary O'Neill. Absolutely. Who else is going to put up 
the money? I don't know. There is no other mechanism in the 
world except the good faith and credit of the people of the 
United States that is going to be good for anything over $100 
    Mr. Bachus. All right, let me think. Third, I don't think 
the insurance companies can prepare for phase-out of the 
Treasury program, because there is no tax incentive. There is 
no reserves against terrorist risk or other means. Why don't we 
start planning for the future? This 3-year plan basically acts 
as if the world is going to last another 3 years. What we ought 
to be doing is planning for the future and addressing this 
problem long term.
    Secretary O'Neill. A couple of points. I don't think we 
know enough to craft a plan that anybody can say this is the 
right thing and this is what we ought to do. You know, I 
haven't found anybody anywhere who thinks they completely 
understand how we can fashion a perfect solution to this 
problem and work.
    Mr. Bachus. Let me ask you this. As I see it, it fails to 
spread the risk of terrorist loss throughout the commercial 
insurance industries, does not provide the market stability 
necessary to encourage companies to cover terrorist risk. There 
is no requirement that they cover risk to participate. They 
could cherry pick. How do you respond?
    Secretary O'Neill. You know, let me revert to being a 
businessman. If I were where I was a year ago and I were faced 
with this situation--and fortunately I was with a company that 
was so good--but for most businesses they have got to pay a lot 
of attention to their bankers and to their equity holders and 
what their equity holders and bank holders will say to them--if 
there isn't something done like this by January 1st, we are 
taking our money away from you. And so what is going to happen 
is businesses are going to be driven to the insurance company 
to get terrorism coverage, and the price that is going to be 
charged is going to be related to the risk that an insurance 
company sees----
    Mr. Bachus. I understand all that. You know, the final 
thing, and let me just make this comment. You are not covering 
life insurance or health insurance?
    Secretary O'Neill. No.
    Mr. Bachus. This is basically commercial policyholders.
    Secretary O'Neill. Yes.
    Mr. Bachus. So when you say that you are underwriting the 
taxpayers, in effect you don't really mean the taxpayers; you 
mean those that are commercial?
    Secretary O'Neill. We are not underwriting them at all. 
They are going to be out there----
    Mr. Bachus. You said we were----
    Secretary O'Neill. They are either going to have to self-
insure, be forced into the hands of the insurance companies who 
will write the risk insurance.
    Mr. Bachus. But, if those people were backing up, not 
exactly the taxpayers, but the policyholders as opposed to 
    Secretary O'Neill. We are working a way to try to reduce 
the economic shock that is related to either no coverage or 
very, very high premiums as many companies wouldn't be able to 
afford, and some would therefore not have access to financial 
markets because nobody would give them any money.
    Chairman Baker. The gentleman's time has expired.
    Mr. Bachus. I am just concerned about people's life 
insurance policies.
    Chairman Baker. Mr. Inslee, are you here?
    Mr. Inslee. Thank you, Mr. Secretary, for coming. I am 
going to take issue with what I think I heard you say, that 
this is not a benefit to the industry as a whole. I think I 
heard you say that or something to that effect.
    Secretary O'Neill. That is exactly right.
    Mr. Inslee. And I have got to take issue with that, because 
it seems to me that if we do this, we are telling the industry 
that you can go out to prospective customers and tell them that 
if you buy my policy, you will also have in effect access to, 
you know, $90 billion plus of Federal money if things go south, 
and vis-a-vis other uses of that customer's money to protect 
themselves against risk, either by risk reduction work or other 
investments or the like. This, quote, distorts the market by 
helping the insurance industry vis-a-vis other expenditures 
that that investor could make.
    Now, tell me where I am missing something in that analysis. 
This does benefit the city, because it makes their product more 
attractive vis-a-vis, say, risk loss investments.
    Secretary O'Neill. Well, think about the problem as a 
disaggregated problem. We here in Washington tend to talk about 
the insurance industry like it is one big monolithic thing. 
This is all going to be done one transaction at a time. So if 
you have a corner grocery store, you know, you are not thinking 
about, oh, the Government is going to provide $16 billion worth 
of additional coverage. Your issue with your insurance agent is 
how much the premium is to insure you against complete 
catastrophic loss in a terrorist incident. And when he tells 
you that the premium is more than the value of your business, 
you are going to say, I am going to get on the phone and start 
calling through the insurance list in the yellow pages and you 
are going to get people in there swarming around, nickling, 
diming, trying to figure out how they can reduce your premium 
so they can write your business. That is the way competition 
works. That is the way insurance works, and so, you know, all 
this lofty stuff about $20 billion and $80 billion, it is just 
an aggregation of millions of individual transactions.
    So, you know, nobody is going to get done a favor here. 
Competition, given some time, is going to grind these rates 
down to an assessment of the probabilistic cost of a terrorist 
    Mr. Inslee. Yeah, I agree with you as this is not going to 
benefit one insurance carrier vis-a-vis another insurance 
carrier. I accept your point in this regard, but it does 
benefit the whole industry, vis-a-vis other investment or other 
expenses by the insured. For instance, if I got a thousand 
dollars, whether I buy a bomb screening detection device to 
keep bombs out of my business or whether I put it in insurance 
premium, this lowers the price of the premium vis-a-vis that 
other investment.
    Secretary O'Neill. But the insurance company will help you 
make that decision.
    Mr. Inslee. I understand, but the investor, the customer 
makes that decision, and this is a clear benefit to the 
industry, because it makes their investment more valuable in 
    Secretary O'Neill. No. If there is a thousand dollar value 
associated with a detection device, the insurance company will 
either charge you the thousand dollars you didn't invest or you 
will put the money into the detection device.
    Mr. Inslee. Well, I see we are at loggerheads on that 
issue. Let me try another one.
    If you did accept the proposition, if you did, that this 
was of some benefit to the insurance industry and that the 
taxpayer ought to have some upside potential in this 
investment, how would you structure it? If you did want to do 
something like that, to, in effect, whether it is an equity or 
it is some benefit to the general fund, how would you structure 
the other experiences?
    Secretary O'Neill. Well, I know this is very difficult and 
I don't mean to sound like lecturing, but let me tell you with 
25 years worth of experience running big companies and knowing 
a lot about this stuff, the way competition works, you know, 
you can find aberrations, but the insurance industry over time 
has to earn the cost of capital, and the competition is tough 
enough that it is very difficult to earn the cost of capital. 
There are a lot of companies out there, including in the 
insurance industry, are not even close to earning the cost of 
capital. So if you want the general taxpayer to get something 
out of what you think is a benefit, then you are going to have 
to give the insurance industry enough room so that they can 
make additional net profit so they can pay you--you, the 
Congress--something, because competition is going to grind them 
down to the necessary rate of return on the capital that they 
employ. They are not going to make economic rent out of this 
proposal. Competition doesn't create economic rent.
    Mr. Inslee. My time has expired. I remain unconvinced, but 
I appreciate the brilliance.
    Chairman Baker. Mrs. Biggert.
    Mrs. Biggert. Mr. Secretary, as the market is sorting 
itself out, there are certain areas that are thought of as high 
risk. One of those would be, let us say, public schools or 
maybe municipalities or amusement parks. Does your proposal 
cover those?
    Secretary O'Neill. We are assuming as to the current 
practice, it would continue. The Federal Government, basically 
we are a self-insurer. We do not insure anything. We by habit, 
if not by explicit decision, have decided to use the future 
cash flow from our taxes to pay for these kind of events.
    Local government has made different kinds of decisions. 
Some of them buy insurance. Some of them actually budget for a 
rainy day fund. We just basically assume that public bodies 
will continue to do whatever they are doing. We have not made a 
special provision or assumption about a change in policy 
    Mrs. Biggert. I think a lot of those local governments are 
self-insured now. Whether they can afford that risk, if you 
take those high risks out of those, will we still have 
    Secretary O'Neill. I think so. I think we can find lots of 
examples like the World Trade Towers where catastrophic loss 
would be multi-billion dollars. Again, I don't want to tell you 
any names, but I see the threat list every day. A lot of those 
places are on the threat list.
    Mrs. Biggert. If they are not self-insured, we are right 
back where we started.
    Secretary O'Neill. I am not talking about public, I am 
talking about private buildings like the World Trade Towers. 
There are a substantial number of places in this country that 
have multi-billion dollar replacement costs. I think Mr. 
Kanjorski made the point about historical value. We should have 
no conversations like that, because the difference between 
historical and replacement value in some places is significant, 
and I don't think you would like to be stuck with just the 
historical value protection.
    Mrs. Biggert. So, if there is high risk and no coverage, is 
there a provision to require it, or is it just commercial 
    Secretary O'Neill. We are working on the private sector 
side. I had a role in Pittsburgh in Allegheny County when I was 
there, and given what has happened, I probably would be 
advising the mayor that we have to take a look at whether we 
can buy some terrorism coverage for bridges.
    Mrs. Biggert. Utilities?
    Secretary O'Neill. Public property. People must be 
rethinking those things on the State and local level, but we 
have not designed a new kind of Federal intervention or 
    Mrs. Biggert. Do you think that would be a possibility?
    Secretary O'Neill. I am not sure that we need to do that. I 
think the market will sort those pieces out without our 
    Mrs. Biggert. Thank you.
    Chairman Baker. Mr. Capuano.
    Mr. Capuano. Mr. Chairman, thank you.
    Mr. Secretary, this is a thoughtful approach toward a 
difficult issue. I love the fact that you said no one really 
knows how to deal with this. I appreciate that.
    For the record, I would also like to get your answer 
relative to if this does not work, I assume you would have no 
objection to revisiting this next year or 2 or 3 years from 
    Secretary O'Neill. As I said earlier, you all may want to 
consider writing a very unusual provision in whatever you may 
do, and give the Executive Branch the ability to modify terms 
and conditions on a very short turnaround basis, because if 
what you all write gets done, it will be the 10th or 15th of 
November. If it does not work, we need to make the changes 
right away.
    Mr. Capuano. I am glad to hear that. One of my concerns is 
as you submit this, and I know it would be very difficult, but 
I would like to see some pricing estimates. The reason I ask 
this is because my concern is that terrorism is clearly a 
societal problem. Insurance is, in theory, in the greatest 
philosophical theory, all of us chipping in a few dollars so 
that nobody in particular takes a hit. In the private market 
system, that gets a little muddled. That is fine.
    In this particular case when the Government gets out 
entirely in a couple of years, and let us assume that we do not 
change it between now and then, my concern is if there is a 
market impact of the cost of that insurance, that market impact 
will negatively impact downtown areas in general. That is a 
general statement.
    The reason I say that is because, let us be serious, the 
best terrorist targets are downtown. In Boston, it would be the 
Hancock Tower, the Prudential Tower. That is not a secret. We 
all know that. It is unlikely that terrorists are going to 
target a one-story office complex along Route 128 in 
    What kind of impact on the market of leasing, because most 
of our buildings in Boston are owned by real estate investment 
trusts? They are not owned by the Alcoas of the world. They are 
owned by real estate investment trusts that own the buildings. 
They are the ones that have to buy the insurance, not the 
companies in the building. The companies in the building will 
be paying it through lease agreements. You pay a premium for 
being downtown, and you make a decision, and so forth, and so 
forth, how much more of an impact is that going to have.
    That is very important, because it doubles the cost of 
downtown space. You are clearly having an impact on a different 
market that is unintentional. Again, I don't know enough about 
pricing insurance to know whether or not this is real or not, 
but I would like to see something on it.
    Secretary O'Neill. I think your question is an excellent 
one. It is useful to return to the principles of insurance. 
Over time the way premiums are determined is on the basis of 
experience. If you are an insurance company and you are 
covering 10 million automobiles and they have crashes at a 
certain rate, that determines what the premiums are in order to 
stay afloat and pay the claims and earn your cost of capital.
    What we all ought to pray for is we never have another 
experience, and that means there will be no economic cost. 
There will be premiums for awhile, but the longer we can go 
without another experience, the lower the premiums can be 
because there is no cost. God forbid we have experience so we 
can begin to create premiums on the basis of terrible events 
happening on a regular basis.
    So I think again, we do not know. There are so many things 
associated with these events that are just new thoughts that we 
never had to think about before. This is a broader question 
even than the question of insurance. If we are going to have to 
continue to, for example, have a separate facility to open mail 
because of the anthrax scare, it creates all cost and no value 
to our society.
    Those kind of deadweights on our society are like the 
deadweight of having to have insurance coverage that hopefully 
we never really need to use. We do not know the answer to your 
    Mr. Capuano. I respect that. I think it needs to be thought 
about, not the least of which are the indirect items such as 
downtown parking facilities.
    We just had a thousand pounds of fertilizer stolen in 
Massachusetts. We do not know what is going to happen to it, if 
it is going to be used by somebody that wants to do something 
horrendous, they are going to go to a downtown parking 
structure under a building. That means all the parking 
structures are gone, and that increases rents.
    I am a little concerned about the free market having a 
completely terrible negative impact on the cost of rental 
property, particularly in downtown markets where people can 
least afford to have people move out of.
    Chairman Baker. The gentleman's time has expired.
    Mr. Shays.
    Mr. Shays. Mr. Secretary, I would have thought, unless I am 
not reading your proposal right, that you would want premiums 
to go up so you start to build a reserve, and that cost could 
be passed on, but you want a reasonable increase, something 
that is not outrageous. I was thinking that the cost of 
premiums would go up, and you would buildup a special reserve, 
and that over time this reserve would become so large that the 
liability disappears; that is, if there are no further 
terrorist activities. My reading is that you really do not 
buildup long-term reserves.
    Secretary O'Neill. I don't believe it is desirable for the 
Federal Government to create an insurance system. I think we 
have a way in our country of spreading the cost of things that 
impact society, and it is through a combination of our tax 
system and our spending system, and it ends up with a 
distribution effect on the general population.
    I think for the part of the terrorism cost that we are 
going to accept, unless somebody has a better idea, the 
interaction of all those things that we do is perfectly fine 
with me, and we have a basis for spreading the cost for that 
part that we are going to put on the American people, for the 
insurance companies. What they will do, they will set premiums 
that they believe will give them the wherewithal to service 
terrorist events and earn a 12 or 15 percent return on their 
    Mr. Shays. Are you saying they will build the reserve?
    Secretary O'Neill. They have reserves now against business 
that they have already written. If they add new business, they 
will add new reserves. Their premiums will include enough 
earnings to building up a reserve so if an untoward event 
happens, they have the money to pay it off.
    Mr. Shays. My understanding is that you do the back end and 
not the front end. The Government says catastrophic, you are 
the first payer. Yet you are not doing it that way.
    Secretary O'Neill. I tell you why. It is a very important 
question of how much the traffic can bear under uncertain 
conditions and a lack of experience.
    Think about this as an individual business person. You can 
afford to pay a certain level of insurance costs. Let us say 
you have been paying a certain level of insurance cost, and now 
this event comes along and your insurance company says in order 
to give you terrorist coverage which you need in order to get 
financing from your bank, I am going to raise your premiums on 
$1 million a year to $10 million a year. As a business person, 
if you are go to stay in business, you do not have a whole lot 
of choice.
    The way we have crafted our proposal is in a way that we 
think will permit the premiums to be written on each of those 
business people and not put them out of business.
    Mr. Shays. Do you believe premiums are going to go up 
    Secretary O'Neill. Premiums will go up.
    Mr. Shays. Even if we back them? Significantly?
    Secretary O'Neill. Yes. Premiums are going to go up, 
although it depends what you mean by ``significant.'' if you 
want to make the insurance company just paper processors and 
guarantee them a 25 or 30 percent rate of return on their 
capital, they would be happy to take that.
    This is an attempt to get the administrative structure and 
the value part of the insurance in front of us before the loss.
    Mr. Shays. Thank you.
    Chairman Baker. Mr. Crowley.
    Mr. Bentsen.
    Mr. Bentsen. Thank you, Mr. Chairman.
    Mr. Secretary, first of all, I concur with the Chairman. I 
think we would be better off, and I appreciate what you have 
done and what you have looked at. I don't completely agree with 
your proposal. None of us know what the perfect proposal is. I 
think we would be better off having a little shorter sunset, 
and I would also be a little reticent of extending too much 
flexibility to the Executive Branch, with all due respect, 
because at the end of the day, whether our name is on the bond 
or not, the Congress underwrites, if not fiduciary 
responsibility, the political responsibility for the taxpayer's 
    I hope you all would take that into consideration, whether 
we try and do something that just gets us over the hump, and I 
realize that Congress is not always good about meeting its own 
deadlines, but we are going to have to focus on this.
    Second of all, I am curious of how you determine your 
shared loss schedule? How did you decide the ratios that you 
set in 2002, 2003, and 2004?
    Third, I am not convinced that you have made the case that 
from a cost-benefit standpoint to the taxpayers, that having a 
shared loss program with the first dollar coverage on the part 
of the taxpayers is all that much better on a dollar-per-dollar 
basis, or even on a market basis quite frankly, than a pooled 
model similar to deposit insurance.
    I am curious whether or not the fear there, and it is not 
necessarily a cost-benefit analysis issue, it is a concern of 
the creation of another bureaucracy, and I am not sure that we 
can look at the deposit insurance and say that is such a bad 
    Finally, I would think the way your proposal is structured, 
and it might be true with pooled structure, is how we score it 
for budget purposes. I would think that under your proposal we 
might have to score it dollar for dollar and at some point we 
are going to have to keep an accounting of the money spent and 
back into what our long-term solution is.
    Secretary O'Neill. The last issue is that it would be 
scored like the money that is now spent for disaster 
    The pooling idea has some complications in terms of, if you 
are going to have a pool, yes, it suggests you are going to 
write policies. If you are going to write policies, somebody in 
the Federal Government is going to decide what the premium 
schedule is. And then we are going to charge premiums to people 
and money will come in, and what will we do with it. If we do 
with it what we do with almost all of the other money, we 
invest it in Government bonds where we do not really do 
anything. We have this paper game.
    Mr. Bentsen. And I grant you that, in your testimony you 
bring that up. But even in the shared loss, we are going to 
have to go through some underwriting analysis.
    Secretary O'Neill. We are going to write checks.
    Mr. Bentsen. My question, Mr. Secretary, from the 
taxpayers' standpoint, have you all determined where the 
taxpayer is really better off?
    Secretary O'Neill. I think the taxpayer is better off not 
having the fiction of a pool and all of the appearance of being 
in the insurance business when we really do not want to be in 
the insurance business.
    If you think about setting up a pool, the implication of 
that is basically that we are going to withdraw capital from 
society on no particular basis and we are going to hold it 
aside. That is an added cost to society, that we take capital 
and in effect neutralize it.
    Mr. Bentsen. In fairness, Mr. Secretary, if we incur a 
liability, we are taking capital from society.
    Secretary O'Neill. But we take it when we need it and not 
in anticipation.
    Mr. Bentsen. If your staff can look at those issues. I 
agree that we could not do a pooled issue right away. I don't 
know that we can do any of this right away other than get us 
over the December hump. If you can get back to me on the 
question of how you determine your shared loss schedule, what 
the analysis was, I would appreciate that.
    Chairman Baker. Thank you, Mr. Bentsen.
    Mr. Ney.
    Mr. Ney. Mr. Chairman, I want to focus on the issue on a 
broader, generic basis concerning McCarren-Ferguson and our 
current system and how we regulate insurance. Do you have any 
idea how the proposal would affect how we regulate insurance 
with respect to McCarren-Ferguson.
    Secretary O'Neill. Perhaps Ms. Bair could address that.
    Ms. Bair. We would want to rely on the current regulatory 
structure. I think there are a couple of scenarios and issues.
    Mr. Ney. My second question, the plan hopefully addresses 
the underlying problem of the pricing and various taxes. In 
other words, if we had an attack 6 years from now, would we be 
right back to where we started? Is there any consideration 
about what the tax incentive side of this does for businesses?
    Secretary O'Neill. Is your question how you would entertain 
the needs of tax incentives, and who would they go to?
    Mr. Ney. Without changing our tax laws on the insurance 
side reserves for terrorism, has that been discussed?
    Secretary O'Neill. Yes, we have discussed it. It has a 
certain amount of appeal, because it sounds like we are 
inducing insurance companies to do the right thing. We are 
lowering the cost of capital for insurance companies. I don't 
know why we would want to do that.
    Mr. Ney. Assuming we want to phaseout the Government 
backstop, if that is an issue?
    Secretary O'Neill. We are assuming as there is more 
experience, the insurance companies will figure out a way to 
neutralize the risk of terrorist attacks in the way that they 
have done for hurricanes and tornadoes. There have been 
accusations that there is somehow an interest in bailing out 
the insurance companies or helping the insurance companies. A 
tax incentive would lower the cost of capital for insurance 
companies, which would be a prima facia case for a bailout for 
the insurance industry.
    Mr. Ney. I just wondered when we talk about incentives, to 
eventually phaseout the Government's portion.
    Secretary O'Neill. We are saying that we will back out, and 
the industry will fill the hole.
    Mr. Ney. I just wonder in 6 years, where are we at? I am 
not saying that I would have an idea to have a proposal that 
tax incentives are the way to go, I am just saying that the 
Government is going to be removing the backstop. Are there 
other incentives?
    Secretary O'Neill. I don't believe so.
    Mr. Ney. Thank you.
    Chairman Baker. I am advised that the Secretary has a need 
to depart. If I could make this request of Ms. Bair in your 
absence to continue. We are most appreciative of your generous 
time. We do thank you, Mr. Secretary.
    If I might suggest to the Members, we appreciate Ms. Bair's 
willingness to stay. We would ask that Mr. Hubbard come 


    Mr. Hubbard. Thank you, Mr. Chairman.
    I know that Secretary O'Neill has said a lot about the 
proposal, so I do not want to go into a great detail, but I 
want to spend a few minutes with your permission, Mr. Chairman, 
to talk a little bit about the economic rationale and why we 
proposed what we did, because I picked up a little of that in 
the discussion, the questions that you were asking the 
    As an economist, the way that I think about the pure 
economic events of September 11, in addition to the terrible 
human tragedy, is that in one shot it gave a very powerful 
supply shock to the economy and a demand shock.
    The supply shock is that it raised the cost of almost 
everything that we do. The first thing that we looked at with 
the Congress is commercial aviation. We are talking about 
insurance costs today, but the transacting cost of doing 
business went up a lot. That ultimately is going to show up in 
lower output and all the bad things we are worried about.
    The second issue that does not concern us today is what is 
the effect on household and business confidence. I think it is 
important at the outset to reiterate something that Paul said, 
this is not about the insurance industry.
    The purpose of your holding these hearings, which I think 
is very helpful, is to think about the property and casualty 
insurance market and the cost of insurance. There is no reason 
to suspect that this industry is not competitive, so that the 
issue here is about costs of insurance and not about the 
    One way of thinking about the consequences of not acting or 
not acting in a timely way is to ask what we might lose. We 
have already been through the aviation issues and insurance. 
Here the problem is much more widespread. There are at least 
three ways of thinking about this. One, think about the new 
projects. I am trying to build a new skyscraper or general 
commercial real estate property. My ability to do that depends 
on the availability of insurance and its cost. Second, and more 
important, is existing assets. My ability to sell a building I 
own, a power plant, any facility, depends on the availability 
and cost of insurance. Those costs are capitalized into the 
value of that asset.
    If one thinks about the size of potential costs here, the 
P&C premia are about 3 percent of domestic income, about $155 
billion a year.
    The Administration was concerned about some principles, and 
I want to go over those. I picked up the flavor of some of the 
questions to the Secretary.
    In my own ordering, since I was not here for his remarks, I 
don't know if it is his ordering. One is intervention should 
encourage, not discourage, the private industry's ability to 
expand capacity. That is what this is all about. That is 
principle number one.
    The second principle is that any intervention should be 
explicitly temporary. We are in the view in the Administration, 
and I gather many of you are from the questions that I heard, 
that the industry is capable of stepping up to the plate for a 
very large share of this and is capable of learning how to 
price. We have seen this in other areas. We will come back to 
that. We need to make sure that we have a receding Government 
    Third, we need to give the private sector incentives to 
limit losses should terrorist events occur, which means less 
than full cost takeover by the Federal Government.
    A fourth that I will come to at the end is that we need to 
reduce one source of uncertainty that we really can deal with, 
which is uncertainty about liabilities that arise from 
litigation surrounding terrorist events.
    Again, I would underscore that none of these principles has 
anything to do with a bailout of the insurance industry. In 
today's Wall Street Journal on the editorial page, an editorial 
that I otherwise liked, I did not like the beginning because 
there was an indication of ``eating cabbage.'' There was an 
indication, coming to the table like we are today, that was 
``eating cabbage'' in the editor of the Wall Street Journal's 
judgment. They talked again about bailing out the insurance 
industry, and that is not what we are talking about.
    We want to work with you on the specifics. This is an 
outline of our ideas. We think that our approach is consistent 
with the principles from the economics of the problem.
    First, we think that it encourages private sector capacity 
building and respects the industry's ability to price, market 
and service products. I am quite suspicious of alternatives 
that involve direct Government setting of premiums. I don't 
think that is something that Government officials, with all due 
respect to my Treasury colleagues, want to be doing.
    Also in that respect I think there are plenty of people who 
say that the insurance industry cannot learn to do this. As 
somebody who in my academic life has worked in insurance a long 
time, I can remember 10 or 15 years ago naysayers saying we 
will never figure out how to really do disaster insurance. We 
will never figure out how to get beyond basic insurance and 
reinsurance, and experience has proven that wrong. I realize 
that this is a different set of risks, but I have every faith 
in the industry as being better able to figure out the way to 
    The second piece of what the Administration wants to do 
that I think is important is addressing the issue of capacity. 
I know that came up in some of the questions that the Secretary 
got. The big issue here is back end capacity. Several Members 
asked that question. I want to come back to that. That is the 
key insurance question that the Government ought to be at the 
table for.
    The third is the fact that the industry is sharing in 
losses, and indeed in our proposal sharing a greater burden 
over time up to a cap, and provides, frankly speaking, a profit 
motive to learn the price. Somebody asked why we had this 
particular model, I believe it was Mr. Bentsen. The exact 
numbers one can quibble with. The idea was to give slivers of 
risk that the private sector would have an incentive to go out 
and learn. If we take 100 percent of that for some short period 
of time, we do not give that incentive. That was our economic 
rationale for doing that.
    A final point I would make with regard to these principles 
is that the potential losses that we are looking at in this 
event, hopefully not in any future events, certainly in this 
event, depend not only on the security environment, which is 
something that we are coming to grips with and has a lot of 
uncertainty, but also in the legal setting.
    The physical costs of Hurricane Andrew at the beginning of 
1992 were pegged at $6 billion. They grew over time to more 
than $20 billion, not because the physical damage was any 
bigger that it was in 1992, but because of the cost in 
    In order for the private market to do what we want it to 
do, which is to take over the lion's share of this, we believe 
and put in the approach that I believe the Secretary outlined 
for you, a set of legal procedure issues that we felt would 
facilitate greater private market participation. Those were 
consolidating claims in a single Federal jurisdiction. That is 
the sign to promote consistency and avoid redundancy, limit 
some punitive damages other than obviously for actual 
perpetrators and abettors, and proportional liability for 
noneconomic harms.
    This is not an attempt to marry tort reform agendas with 
insurance agendas. We want the private market to come in and 
work here. In addition to the uncertainty we are facing about 
terrorism itself, we have to be able to address uncertainty 
issues in the litigation area.
    Let me say a little bit about roads not taken. Why not the 
monopoly pool? There I think a couple of reasons. One, we were 
very worried about monopoly power. To be frank, that just means 
higher premiums for businesses and ultimately consumers. We did 
not think that was wise. It also had the flavor of a very long-
term Government presence, which is not something we wanted to 
suggest to you.
    Somebody asked about charging premiums, why are we not 
charging premiums for taxpayers being on the hook. We decided 
on this sliding scale sharing mechanism as an alternative, 
because we did not want the Government in the business of 
setting arbitrary premiums. We will learn more about pricing 
only as the private sector figures this out, not us in 
    Questions came up about health, life and business 
interruption. Let me take those up. The health issues are 
issues that should be discussed, but not in our view in the 
context of the P&C legislation. Likewise on life.
    Business interruption is, just to be really frank with you 
as to why we did not put this in, is subject to very, in 
econspeak, moral hazard problems. For small businesses, the 
FEMA and the SBA emergency disaster programs do provide some 
stepping in on business insurance. We, of course, obviously are 
willing to work with you on what is in and out. In terms of 
exposure for the taxpayer, as an economist I would offer you 
advice: You do not want to put health, life and business 
interruptions in.
    The other road not taken was full Government socialization. 
There again we felt the industry would not have any incentive 
to learn how to price, and the exit from that we viewed at 
least as being pretty dicey. That is a quick tour. I am sure 
that the Secretary told you all about our wonderful proposal.
    [The prepared statement of R. Glenn Hubbard can be found on 
page 80 in the appendix.]
    Chairman Baker. Thank you.
    We are going to pick up in the line of questioning from the 
Members who indicated an interest in asking questions of the 
Secretary. Next is Mrs. Hooley.
    Mr. Israel.
    Mr. Ross.
    Mr. Maloney of Connecticut.
    Mr. Maloney. I have a couple of questions. The first one 
goes to the issue of experience and the idea that companies are 
going to learn how to price this risk. It strikes me that 3 
years is a very short time to anticipate that to happen. I 
think it is a short time from a couple of different 
perspectives. The good news is what the Secretary was alluding 
to, perhaps there will not be another event; and if there is 
not, there is no experience from which to price.
    Second, it is a very short timeframe from the perspective 
of the world we live in. I think it is clear from what I 
understand of the origins of these attacks, these are the 
results of historical processes which have been at work for 20-
50 years. Bin Laden says 80. My first question is why 3 years? 
Isn't that far too short, even accepting the model, you say the 
road taken, even accepting the model for what you advocate, 
isn't 3 years much, much too short?
    Mr. Hubbard. This is a double-edged sword. What we wanted 
was a quickly receding Government presence. So we compromised 
with the 3-year number. We felt there was enough time for the 
industry to begin getting experience on pricing. Part of that 
would come from--since the industry is shouldering slivers of 
risk, they will try to lay off that risk on the capital 
markets, and modeling efforts will be used to fill in price, 
and the natural disaster area will come to bear as well.
    So is 3 years a magic number? No. But that was our 
thinking. We wanted something longer than a very short run, but 
not so long as to intimate a long-term Government presence.
    Mr. Maloney. So there is no economic analysis behind the 3 
years? It is a judgment call? It is sort of a best guess, is 
what we are being told?
    Mr. Hubbard. I can give you a fancy answer or a plain 
answer. The plain answer is this is new terrain. What we can 
learn by indirect example from the natural disaster area is 
relatively rapid learning, modeling capabilities to set up a 
securitization. We are in new terrain. I cannot tell you that 
period is exact here, but we were comfortable enough after 
talking with people in the industry and people expert in the 
disaster area that was a reasonable place to start. If you said 
4 years, we would not scream.
    Mr. Maloney. Let me ask a similar question in regard to the 
cutoff point of the $100 billion. First of all, if I understand 
the proposal correctly, at the $100 billion there is no 
mechanism for payment, there is simply at that point the 
Treasury will sort of seek the advice of the Congress, and 
maybe the Congress will do something and maybe it will not. 
Maybe it will invest in some public improvements or maybe it 
will not. In terms of the market and the ability of the market 
to look at it, the $100 billion is the end of the line of any 
kind of insurance that can be then priced?
    Mr. Hubbard. I don't think so. I think on the back end, 
$100 billion was just a sign that we need to go back to the 
Congress. The obvious political answer is for a disaster that 
large, we probably are looking at Federal Government 
intervention. One model we might consider is a Price-Anderson 
type model.
    Our view was $100 billion is a sufficiently big event.
    Mr. Maloney. The follow-on discussion is that that is what 
the insurance industry is concerned about? At some level the 
insurance industry, as I understand it, is not as concerned 
about a $5 billion event or a $10 billion event? There is a 
sense if that were the level of events, if that were the size 
and scope of the events, there might not be a need for any bill 
at all, and that their real concern is when you begin to get to 
the upper end? That is where the real concern is? The point is 
if you are asking the market to price something, you have built 
a cliff, and I am a lawyer and not an economist, but you have 
built a cliff in this bill that you have some coverage up to 
$100 billion, and then there is nothing?
    Mr. Hubbard. No, not that it is nothing.
    Mr. Maloney. What is it? As I read the bill, it basically 
says at $100 billion, go talk to the Congress?
    Mr. Hubbard. Our intent was to try to come up with 
alternative solutions. As you folks and the Treasury folks work 
on this, you may specify what that is. I think that from an 
economic perspective, you want the industry bearing some role, 
even if it is tiny. Our intent was not to walk away, you are 
exactly right.
    Chairman Baker. Mr. Weldon.
    Dr. Weldon. I understand your criticisms of creating a pool 
which would put the Government in the business of pricing. It 
would take a lot of capital and just kind of lock it up. I am 
not sure that is the exact way to describe it, but the way you 
have laid this proposal out, at the end of 1 year, and the 
Secretary just testified if there is any first dollar exposure 
the insurance companies are not going to write it, but if you 
asked for first dollar exposure in the second year, do you 
really think in 1 year the insurance companies, and unless we 
have more experience, how are they going to be able to write 
premiums to effectively value that level of exposure in just 12 
    Mr. Hubbard. I don't know what the Secretary said, I was 
not here. But if you look at year 1 and year 2 in the proposal, 
our thinking was not just that insurance companies could not do 
anything in year 1. They can. It is a question of cost.
    For example, if we did nothing, we do not believe that 
every project in America would go negative. I don't think that 
will happen at all. Part of our concern was trying to stabilize 
that supply shock so that there is a small cost to the business 
sector in the first year. Then the deductible starts in the 
second year.
    If you decided to have a deductible in year 1, it does not 
mean that none of this works. It simply means a higher cost and 
makes it harder for us.
    Dr. Weldon. I want to follow up on something that Mr. Ney 
asked about in trying to address this through the Tax Code.
    One of the ways I think we can possibly do that if you had 
an officially declared disaster, the way that the insurance 
companies pay the tax system and collect on the premiums, they 
settle on the claims and what is left is taxed. If you had a 
provision in the law that allowed for, once a terrorist act was 
declared, that the costs of those claims would then be taken 
off the corporate tax responsibility, would that not be an 
easier way to encourage the industry to step up to the plate 
and start pricing?
    Mr. Hubbard. I don't think so. I agree with the Secretary's 
remarks that you do not want to start complicating the Tax 
Code. If there is a desire to revisit the taxation of 
insurance, that should be a general question that gets taken up 
by Congress. We felt that it was more transparent to do it the 
way we did. We think that the incentive for the industry to go 
out and build capacity is because of the risk that it is now 
having to bear.
    Chairman Baker. Mrs. Maloney.
    Mrs. Maloney. I want to thank as a New Yorker the 
Administration working swiftly on this.
    Given your statement that we are in new terrain and the 
comments of many of my colleagues, why not a shorter period? 
Why not say for a year or just getting over the November crisis 
and then coming back and studying it more. Many of my 
colleagues are saying that we acted too swiftly on the airline 
proposals, that we should have thought it through a little 
better. Why not a shorter frame like a year or even shorter, 
just getting through November and giving us more time to look 
at it?
    Second, the bill appears to be written in a way that would 
give a big incentive to interpret occurrences as terrorist 
occurences. Politics is everywhere. Earlier the Secretary was 
saying the Administration should have more leeway. There would 
be tremendous pressure if there is a crisis in one State to 
declare something a terrorist act because it would reflect a 
great deal of money. So how are we going to define it in a way 
that it does not become something that can be so flexible and 
that really has more taxpayer exposure?
    Third, why 80 percent of the first $20 billion? Why not 50 
percent? 50 percent for the taxpayers and 50 percent for the 
private industry? How did we get to the 80 percent?
    Lastly, could you share with us some of your thoughts on 
what happened in England? Apparently they have had this pool 
insurance policy. Has it been a big liability on taxpayers? Has 
it worked? What has the experience in Britain been on insuring 
for terrorism?
    Mr. Hubbard. First, I am a fellow New Yorker.
    Mrs. Maloney. Great. So you are feeling our pain.
    Mr. Hubbard. I am feeling your pain.
    First, on the question of why not just a year, I think our 
feeling was in order to give some certainty to the process in 
commercial lending and the construction of new projects, 
particularly of concern in Manhattan, that we believe some 
period longer than a year was necessary. We suggested three. 
This is not a religious position that it be three, but I think 
our position was that it be longer than a year.
    On your issue of interpretation of occurrences of 
terrorism, it is important to have a rigorous definition of a 
terrorist act.
    Second, a cabinet board or Presidentially directed board, 
probably consisting of the Attorney General, the Treasury 
Secretary, perhaps some others at the President's discretion, 
to make these----
    Mrs. Maloney. As a Member of the legislative body that has 
to produce the money, that would put us in a very difficult 
position, because the President can be put under political 
pressure to determine that this is a terrorist activity, and 
then we have to raise taxes to pay for it.
    Mr. Hubbard. That is why you want a tight definition of a 
terrorist act.
    Mrs. Maloney. I would want to have it shared with the 
legislative, not just be an Executive Branch decision.
    Mr. Hubbard. That is something to be worked out in the 
process. It is not obvious that the same political economy 
problem does not arise in Congress.
    The third question was the 80/20 versus 50/50. This is not 
about industry, it is about cost. We picked a position which 
would have cushioned the cost for business insurance purchases 
in year 1. You could certainly do it 50/50. That would be a 
smaller cushion. That is why we made the decision.
    The U.K. pool Re model is a different policy choice. It was 
a decision actually to have the Government more involved on a 
long-term basis.
    Mrs. Maloney. But has it worked? What has been the 
experience? Has it cost more for consumers? Has it been a 
successful experience?
    Mr. Hubbard. The British made a conscious decision to be 
long term.
    Ms. Bair. The capitalization at the end of 2000 was 1.3 
billion pounds. It was set up to deal with car bombs. We are 
envisioning significantly greater events.
    They do financial insolvency regulation. They have a 
monopoly pricing structure, so they have to have financial 
integrity regulation. It is quite an apparatus.
    Chairman Baker. I am sorry, Sheila Bair was never properly 
introduced. Sheila Bair is the Assistant Secretary for 
Financial Institutions.
    Mr. Rogers.
    Mr. Miller.
    Mr. Lucas.
    Mr. Toomey.
    Ms. Hart.
    Ms. Hart. I just have a couple of questions. Is there 
anything that you see in here that would encourage private 
insurers to get back into the market, and I am not saying 
skyscrapers, say nuclear power plants?
    Mr. Hubbard. This proposal is related only for terrorism 
risk insurance, unless you wanted to rethink generally. The 
simple answer is nuclear power plants are covered under a 
separate provision of Government intervention.
    The insurance companies see now an opportunity to deal with 
business, and the fact that the Government is on the back end 
of it, the hope is that they will.
    Ms. Hart. I didn't get a clear enough answer to Mrs. 
Maloney's question about the 80/20.
    Mr. Hubbard. The issue is what is the cost that is going to 
be borne in premiums. Our judgment is in the short run we 
wanted to err on the side of being cautious about premium 
increases for business. That is the 80/20. You could well 
decide to do 50/50 and stick within the same model. Indeed, you 
move toward that in later years in our proposal. If you do 
that, it would be higher cost increases in the short run. That 
is the tradeoff.
    Ms. Hart. Is it based on input from the industry?
    Mr. Hubbard. We talked with industry and mainly with 
commercial real estate holders and with large companies about 
the share of insurance premia in income. You could do 50/50. It 
would be a larger cost increase.
    Ms. Hart. My question is when you made the determination 
how much the Government would cover, was it based largely on 
what would make it affordable to the consumer as well as 
obviously what private insurers would cover?
    Mr. Hubbard. There were two parts. One, if you think about 
the outyears, the back end was primarily to focus on 
catastrophic issues; and in the short run, we deliberately 
erred on cost increases. That was our first and foremost issue.
    Chairman Baker. Mrs. Jones.
    Mrs. Jones of Ohio. Thank you, Mr. Chairman.
    Mr. Hubbard, you keep saying it is not about the industry, 
it is about what?
    Mr. Hubbard. It is about people who buy insurance.
    Mrs. Jones. But people who buy insurance create the 
    Mr. Hubbard. What I mean about it not being about the 
industry, there is a use, even in the Wall Street Journal 
editorial pages, which normally I praise, of saying this is a 
bailout of the industry. That is simply not true. This is a 
competitive marketplace. What you decide to do is being 
reflected in premiums that policyholders pay.
    Mrs. Jones. But the basis of us doing this is saying that 
the people who use the industry will not be able to afford the 
    Mr. Hubbard. It is about the customers of this industry. 
Insurance companies are just a pass through, as the Secretary 
explained. They are just a financial intermediary. This is 
about risk sharing in the economy and the cost of that risk 
    Mrs. Jones. But there is some benefit of being a part of 
the industry and having an insurance company? That is why 
people invest in insurance companies because they are a good 
    Mr. Hubbard. Absolutely.
    Mrs. Jones. I am trying to make the point that it is about 
the industry, otherwise we would not be sitting at the table 
having this discussion about insurance.
    My next question goes to you are saying this intervention 
should encourage private industry to increase capacity. 
Elaborate on that for me.
    Mr. Hubbard. In other words, by creating an incentive to 
price this; and after all the insurance companies are bearing 
part of this risk and you have to figure out how to price it, 
they will have to add capacity for those new lines of business. 
And they should, prudent business practice, try to lay off some 
of that risk, both through reinsurance and later to securitize 
    Mrs. Jones. How do we ensure that the buyers of this 
insurance, that they will not be priced out of the market when 
their dollars are undergirding this industry by doing what we 
    Mr. Hubbard. Competition. If the taxpayers are on the hook 
for a fraction of this, that should float through to premiums. 
If Sheila's insurance company tries to charge too much, I will 
come in and undercut her. That process keeps insurance prices 
    Mr. Kanjorski. If the gentlewoman would yield.
    Mrs. Jones. Go ahead.
    Mr. Kanjorski. That all depends on the size of the policy. 
For a homeowner, there is not going to be competition. If Mrs. 
Jones' insurance company triples her insurance policy, All-
State is not going to try to take that policy. That only 
happens in large industry?
    Mr. Hubbard. The process of competition works in mysterious 
ways, and if you think about something known as long distance 
telecommunications and aggressive competition on almost a 
customer-by-customer basis, where there are profit 
opportunities, people will come.
    Mrs. Jones. I have got two more questions, so I am going to 
ask you to keep your answers short for me. Compare what you are 
talking about right now with floodplain insurance. Remember 
when we couldn't cover--people weren't covered for floods and 
we began to talk about a 100-year flood, and so forth, and so 
forth, and so forth, tell me--compare that, if you could.
    Mr. Hubbard. Well, the disaster insurance doesn't have the 
same kind of sharing mechanism that we are talking about. It is 
a subject for another day, would actually be the reform of 
natural disaster insurance generally.
    Mrs. Jones. Well, forget that question. Tell me--compare 
what you are talking about--apply the concept you are talking 
about to what we did for the airline industry and no caps on 
victims, on the victims of September 11th.
    Mr. Hubbard. You mean the whole airline package?
    Mrs. Jones. Yes.
    Mr. Hubbard. Basically I think what we are doing for 
aviation--and I say aviation, not airline industry, for the 
same reason I did before--was you were trying to----
    Mrs. Jones. A semantical. Right?
    Mr. Hubbard. Not under competition, it is about customers 
and travelers. The reason for a Government intervention in 
aviation, we can always argue about the----
    Mrs. Jones. Short.
    Mr. Hubbard. ----Is to help travelers, and today we think 
about another industry where business costs are very, very 
high. Well, part of your response earlier was something about 
private market participation and putting caps on people's 
ability to collect claims and so forth and so on. What are you 
factoring in for the people, the victims in this instance, if 
you are putting caps on their claims in the insurance industry? 
And I may not be able to get an answer. Maybe you can give me 
an answer later on. Am I out of time, or can I get the answer 
to my question?
    Chairman Baker. The time has expired, but if the gentleman 
wants to respond.
    Mr. Hubbard. This proposal, or this hopefully soon-to-be 
proposal, doesn't envision separate victims' funds. That is a 
separate thing. Is your question about the litigation involving 
victims or----
    Mrs. Jones. No. In one of your answers, you said the reason 
we created this proposal was we took into consideration private 
market participation. We put in caps on people's abilities to 
make--and you listed six or seven other things that I wasn't--
    Mr. Hubbard. Yes. Punitive damages was important. To avoid 
certain litigation costs, you would want to cap non-economic 
damages and punitive damages.
    Mrs. Jones. But we didn't do that in the airline industry.
    Ms. Bair. You eliminated----
    Mrs. Jones. But there were no caps.
    Ms. Bair. We are talking about a $100 billion aggregate cap 
on payments that the Treasury Department and industry combined 
would make before we would have--there is the moral obligation, 
but before we would have to go to Congress. This is an 
aggregate cap on liability under this program. It is not a cap 
on tort liability. We believe to manage the litigation process 
in the event of a major event, there need to be some reforms 
along the lines of what was in the airline bill, which mainly 
were claims consolidation and elimination of punitive damages. 
So, two separate issues. And we were talking about aggregate 
capping on this.
    Mrs. Jones. I didn't understand that to be what you were 
    Mr. Hubbard. Yes. The $100 billion is an aggregate cap.
    Mrs. Jones. Thank you, Mr. Chairman.
    Chairman Baker. Mr. Ose.
    Mr. Ose. Ms. Bair, my question comes to you. I served for a 
number of years in Florida. The large property casualty 
issues--also borrow money to build things, and I understand the 
dilemma we are in. The thing we all struggled with before was 
providing certainty for the actuarial models. Does Treasury 
have a definition of a terrorist act that you would suggest we 
    Ms. Bair. We have been giving it a lot of thought and, yes, 
we are ready to sit down as soon as you would like and share 
our thoughts on that.
    Mr. Ose. I think that would be very helpful to us. The 
other question I have is whether the proposal that we have 
talked about today, is this the President's proposal or is this 
the Treasury Department's proposal? Is this just an option to 
consider? What is it we are looking at here?
    Mr. Hubbard. This is from the President. This is not 
something the Treasury--that is why we are--this is a White 
House-adopted, signed off on--this is the Administration's 
    Mr. Ose. I do want to compliment you. The biggest problem 
we always had was, first, the certainty; then the pricing; and 
then the processing of claims. And to the extent that this 
proposal would insulate the Federal Government from getting 
involved in the processing of claims, a remarkable step for 
clarity and for the purpose to bring something to the 
conclusion that goes beyond the understanding of people in this 
    I do want to encourage you to get us a definition of what 
the Terrorist Act is. That is the starting point, it would seem 
to me. What is the Terrorist Act?
    Thank you, Mr. Chairman.
    Chairman Baker. Thank you, Mr. Ose. I have no further 
Democrat Members, I think, to be recognized. I would continue 
on our side. Mr. Fossella? Mr. Shays?
    I just want to conclude by saying how much I appreciate 
your willingness to participate today.
    Mr. Bachus. We are going to continue to call him for 
questioning, yes?
    Chairman Baker. Well, we have another panel.
    Mr. Bachus. I haven't had an opportunity to question him.
    Chairman Baker. Oh, OK. Well, I went down the list and I 
didn't let the senior Members ask questions of this panel. One 
of the concerns that I had in reading an earlier version--and I 
don't know where the definition is now, not having read it of 
late. With regard to Mr. Ose's concerns and the definitive 
circumstance under which an act of terrorism would occur and 
then looking at the definition, the reading of it at the time 
was that it was very broad, and I hate the word ``nebulous,'' 
but it wasn't necessarily very specific; and you could do 
careful reading of the provision, and I can see where there 
would be the question of $40, $50, $60 billion at stake, where 
there might be some legal perspective that would want to take 
that matter to court for some final determination. I rather 
suggested that since the nature of these events are 
extraordinary and unique and unfortunately will remain, I 
think, in that category no matter what our preparations; that 
the elements of each event are so unique that that should be a 
determination by somebody, not a statutory definition, for the 
principal reason of minimizing the potential for litigation.
    Where we delegate--and the concern I think I heard 
expressed earlier today, if it were not the President, if it 
were a board, or we find some team on which this terrible 
decision would have to be placed. As opposed to a statutory 
definition, because I have not yet seen--and there may be an 
artful crafting yet to be done that would eliminate all 
probabilities--but my observation is that these events are each 
unique in themselves, and you are not ever going to have a 
definition of what has already occurred that would make 
absolute clarity possible.
    Mr. Hubbard. That is an excellent point. In the whole 
process of trying to write out a definition, multiple sets of 
bracketed language, we are struggling with it ourselves. I 
think the idea of the board is a good one and one that we are 
pursuing. I think we do want to have some designated board that 
would make this decision. How much guidance you give that board 
through the definitions is something that would be worked out.
    Chairman Baker. Certainly. Well, if the President or a 
President's representatives are required to make a declaration 
of the natural disaster for purposes of FEMA relief, it 
certainly seems like it should be appropriate in this regard.
    Second, with regard to minimizing the bureaucracies, if the 
proposal still stands where the 2,300 insurance principles will 
make the claims for reinsurance reimbursement from the Federal 
Government--and the Secretary's characterization is we just 
write checks--even if that were the case, to process several 
thousand claims with 2,300 providers, merely looking at the 
forms is going to require I think an ample number of people 
that we don't now employ to do that work.
    Second, to then audit, as he expressed, the efficacy of the 
claim and the fact that the person receiving it sustained the 
damages for which the claim was made is an enormous task. I can 
well imagine the Federal bureaucracy required to establish that 
role. Hence, my suggestion that the interface might more 
appropriately be the commercial reinsurance industry as opposed 
to the Federal Government's relationship directly to the 
insurance private delivery system; because the reinsurance 
market is where the underwriting criteria are established, 
where the security guards could be required, the doors be 
replaced, whatever it is that the markets determine are the 
most advisable to deter additional acts of terrorism, let the 
market work, and in that event we are not paying money out 
until after an actual claim has been paid.
    We could then address some of the Members' concerns who 
have spoken earlier about first dollar coverage or haircuts on 
both end of the pipe, early and late, and at that juncture then 
consider the repayment process. And at the end of the day, 
under the current proposal, the Administration will share in 
the cost of those events, and we are going to do that by using 
taxpayer dollars.
    Now, whether that is a subsidy or a bailout, that is not 
appropriate. What I am hoping is that we can come to an 
understanding we are using taxpayer money for a public purpose, 
but that the taxpayer should not bear the brunt of this for 
this reason: If we do the liquidity in the market so the 
economy remains stable and we do it for the economic system, 
but when they return to profitable and economic conditions are 
stable, I would hate to think there would be a year in which we 
would write a check for several million dollars for an industry 
that at year end reports several million dollars profit. We 
would not be looked on as very capable stewards of the 
taxpayers' resources, for this is to facilitate our economic 
system, not to enable the system to gain the books and make a 
profit. And I have great concerns about that, the way the 
structure of the current proposal is put together.
    Mr. Hubbard. Well, because the proposal is so short term, 
the Federal Government receives, and then if it has a presence 
at all, if the Congress wishes, it would be on the back end. 
And so I don't think you would be in that position. The 
question you raise would be more for the very short term.
    Chairman Baker. Well, I would never suggest this, but if I 
were in the insurance industry and had great PR people, then I 
would begin today after the passage of the act, begin building 
a public necessity for permit--engage in a rather significant 
communications program to say that unless the Congress 
continues this at even better levels, you are not going to get 
your coverage. We are going to have to face that one day or 
another, and I would rather not put into place a system which I 
think creates unlimited liability without an ability to recoup, 
in some manner or mechanism, even to the extent of just giving 
it to the Secretary of the Treasury and say when you think it 
is right, go get a check. And if it is not right and if it will 
cause economic turmoil, don't do it. But not give authority to 
write checks rather without limit, not fully understanding who 
the check is going to. And look at the interface with 
commercial reinsurers to minimize that bureaucratic structure. 
Now I am out of time.
    Mr. Kanjorski. They talked about the need for a fair 
impartial equity board, and by definition, that would rule out 
the Supreme Court.
    Mr. Hubbard. No comment.
    Mr. Kanjorski. No. I am a little bit disturbed in terms 
of--we seem to be talking about the events of September 11th in 
New York, and not talking about the recent anthrax problem. And 
if you look at it, I know I have one constituent in my district 
who runs a huge mail order house. They officially are out of 
business as a result of the threat through the mail and the 
potential closing down of the post office. And if that were to 
happen, we would have to make sure that we are not insuring all 
businesses across the country because they can't get their 
transactions. So we have to be fairly restrictive as to how we 
write this policy.
    I know my friend from New York, Mr. LaFalce, mentioned 
business cessation, but there is no way that we could recover 
that kind of losses. A catastrophic event, even of a minimal 
nature, would rule that out.
    I am disturbed that we are not thinking about other type 
events. This is not just something that is going to be 
concentrated in one area, but very easily could end up being a 
nuclear stockpile, a waste facility that probably in one event 
out of 104 nuclear plants, are likely to cause hundreds of 
billions of dollars of damage. I think that should be included, 
because, you know, we can't go to the limitations of policies 
on nuclear plants--I think is $7 billion--and then we have 102* 
an $300 billion dollars and a million people killed or radiated 
and we have no coverage.
    But one of the things that really disturbed me about our 
failure to think this through to a large extent--and I don't 
want to push on you and then the Administration--is that the 
airline bill, the compensation act I think is atrocious. It is 
indefensible, because it wasn't thought out, it wasn't properly 
presented. We had 15 minutes, I believe, to read the bill 
beforehand. I almost had a heart attack as a former tort lawyer 
as to the potential liability. As I told Sheila, someday in the 
not too distant future, the Treasury is going to be writing out 
$1- and $2- and $3-billion checks to single estates in the 
United States Treasury. I don't think that was ever the intent 
of Congress, and yet the Administration hasn't come forward 
with a terrorist victims' compensation act. We have already had 
four or five deaths, and these people were in the service of 
this Government. They were the direct result of terrorist 
activity, and because they don't have contingent liability to 
have to go to banks, they are not going to get airline 
protection unless we do something about it.
    And we have got a great time to do it right now. With this 
bill--I agree we are not bailing out the insurance company, but 
we sure as hell are encouraging business and providing a 
reduced cost of business. If we are going to do that, we ought 
to make sure that we compensate some of these people that are 
directly or indirectly affected in their life and person from 
the tragedies that are occurring and will occur in the future. 
I think it is absolutely incumbent upon the Administration to 
face that.
    I also encourage the Administration to revisit the 
compensation act. I just believe we have to have limitations on 
this thing. To pay a bond trader that died in that building $3 
billion when we are not compensating the people that died in 
Oklahoma City as a result of the terrorist act, that we won't 
be compensating these postal people that are dying all over the 
country, that is ludicrous and unacceptable, and we have to get 
out of a mind-set of just thinking about money for bricks and 
mortar. There are more people that could be hurt, and will be 
hurt, in terrorist activities in this country that deserve the 
total feeling of the taxpayers in the entire country to provide 
some compensation, not to make them wealthy, but to make them 
as near whole so that they can exist with their loss as 
possible. So I think we really have to study that. And in 
reality, we will be saving the taxpayers money when we do go 
back and find out how we can put a cap on this exposure.
    Mr. Ose. Will the gentleman yield?
    Mr. Kanjorski. Yes.
    Mr. Ose. When Paul talks about this, one of the questions 
that comes to my mind is with what happened on September 11th, 
one, two, or three terrorist acts, and I think that is right in 
the middle of your questioning, and we don't know what the 
answer to that is, and if it is 1, you know, the limitations on 
the policy are X; but if it is 2, it is twice a big as pi; or 
if it is 3, it is 3 times as big.
    Chairman Baker. 3.6 at risk if it is one event. 7.2 if it 
is two events.
    Mr. Kanjorski. Right now we are really trying to insure 
bricks and mortar and not people. After all, if the General 
Motors plant gets wiped out, it may be a $10-, $20-billion 
disaster. I would hate like hell to see a check for $20 billion 
going to General Motors when there are 2,000 families that lost 
their breath--and if we can send people in harm's way over to 
Afghanistan and only have a liability of $250,000 with them, we 
have to provide the soldiers on the homefront with some 
liability. And we shouldn't have unlimited liability or 
compensation for people that have to die in New York.
    And I feel very sorry for them, but we are not to make them 
totally whole. That was never the intention, should never be 
the intention of the United States Government, because it is 
just incredibly--that liability, $30 to $70 billion, that is an 
awful lot of money. It should be used in other anticipatory 
events. And I guess with that I will----
    Chairman Baker. Your time has expired.
    We are going to have to step out for a vote on the floor. I 
believe Mr. Bachus indicated to ask his question. On the 
conclusions of Mr. Bachus' questions, he will have to come up 
to the floor for the next vote. The bad news is for the next 
panel, I am told, that the votes that are now pending will keep 
us 20 minutes. And then we will reconvene for our final group. 
It has been suggested that we just delay the third panel and 
conclude that tomorrow, but I haven't had a chance to talk to 
Mr. Kanjorski about it. If you are here, I suspect many of you 
would like to go ahead. With that, I recognize Mr. Bachus in 
the chair, and we will return in a moment.
    Mr. Bachus. [Presiding.] Mr. Hubbard--and I think some of 
these questions have just been asked--there has been a 
significant blurring of the line between acts of terrorism 
and--between acts of terrorism and acts of war, and I don't 
know that anything in this will clear it up. Will a future 
attack by Usama bin Laden's network be covered by the 
Administration's proposal?
    Mr. Hubbard. Well, formally what we have been looking at is 
the war being mutually declared, more a formal declaration of 
war as opposed to a terrorist act. I agree with you, including 
the President's own rhetoric, maybe the impression of a blurred 
line between war and terrorism is certainly an open question.
    Mr. Bachus. Another attack by this network or another 
terrorist network. And if we don't clarify what this 
Government--I mean, if it doesn't cover acts of war, then----
    Mr. Hubbard. At least under the current definitions, 
another bin Laden attack and the present lack of a declared war 
would qualify as a terrorist act.
    Mr. Bachus. How about by the Taliban?
    Ms. Bair. No, we have decided that our current thinking is 
to have a bright line with a U.S.-declared war and----
    Mr. Bachus. The other thing, and I am not sure I disagree, 
but public policy questions have got to be what this Congress 
is going to do about health and life insurance coverage. If it 
is written to exclude terrorist acts, it is going to affect an 
awful lot of people, particularly when we are stepping in and 
procuring commercial law, not health law.
    Mr. Hubbard. We felt that at the moment, we wanted to focus 
narrowly on P&C laws, one of which is workmans' compensation, 
so there is some health related. What isn't is other health 
insurance. My impression of the HIA folks is that at least at 
the moment, to not exercise--they are----
    Mr. Bachus. That is something that we probably ought to at 
some point take up.
    Ms. Bair. There doesn't appear to be an obstruction of the 
market for life and health right now.
    Mr. Bachus. You are talking about the short term, and you 
want to get into the short term and do something, and the long 
term that the market ought to take care of. Let us assume 
that--should there be tax incentives for the private sector to 
build reserves against terrorist groups? That is not in here.
    Mr. Hubbard. No. That's right. We felt that we should just 
go more directly with the sharing scheme in the short run. I 
don't think it is a wise idea to distort the Tax Code. I think 
we can more explicitly----
    Mr. Bachus. Well, you know, what you do is a 3-year deal, 
but at the same time, when people finance property, they 
finance 10 years, 20 years, and 30 years.
    Mr. Hubbard. That is true, but nobody guarantees you 
insurance over 10, 20 or 30--all insurance has features or rate 
change features. I think the idea was to give the industry 
    Mr. Bachus. If they are going to finance property and--will 
a 3-year plan actually cause them to bill that--to finance that 
property, when, you know, they are going to be financing it 
over 10 years or 15 years or 20 years? And what I am thinking, 
you know, have a 1-year plan, but come with some Government 
backstop is a better proposal than what you have here, and then 
you are not getting the Government as involved in the second 
and third--creating some backstop.
    Mr. Hubbard. Well, our hope is that 3 years would be enough 
time that the industry would have developed better pricing 
methodologies going forward. If you do just the year, our 
concern was that you are having an almost freezing in place for 
a year while people wonder what the Congress will do.
    Mr. Bachus. Another terrorist attack, another terrorist 
attack, this 3 years is going to turn into 6 years and it is 
going to continue to be pushed back. I am just saying that--
backstop as part of a long-term solution.
    Mr. Hubbard. You should defensively do a backstop for a 
long-term solution. The question is the short term.
    Mr. Bachus. Should an insurance company's eligibility for 
the program be conditioned on providing terrorist risk 
insurance in all its P&C policies? You are not doing that in 
    Mr. Hubbard. Well, it is an open question, actually, 
whether this is mandatory or not.
    Mr. Bachus. You mean legislation? We are not sure about 
looking at the legislation?
    Mr. Hubbard. No. I think it is an open question in this 
process whether you want to make it mandatory or not. One 
school of thought would be that----
    Mr. Bachus. Require P&C insurance to provide----
    Mr. Hubbard. Well, that would be a step that you could 
    Mr. Bachus. Is the Administration open to that?
    Mr. Hubbard. We are looking at all these options.
    Mr. Bachus. You haven't rejected that option.
    Mr. Hubbard. No.
    Mr. Bachus. Particularly if the Government is going to be 
involved in a matter of public policy, if we are going to get 
involved in it, we want to make insurance affordable and 
available. And if we don't, and if we allow P&C companies to 
only select certain risk and--more high risk--to me it doesn't 
get--utilities, things of that nature.
    Mr. Hubbard. I agree. The tension was the Federal versus 
State aspects of the insurance industry in the U.S., but I 
agree with you in principle that that is a concern.
    Mr. Bachus. And I am just saying if the Government is going 
to get involved, the Government ought to say, you know, you 
offer it and you make it available.
    Ms. Bair. I would just say I think we thoroughly discussed 
that, and you might want to pose that question to them. I think 
there are a couple of questions. One is do you want to require 
that all P&C insurers provide the coverage, or do you just want 
to say it has to be a standard part of the P&C policy?
    Mr. Bachus. Well, you could. So your eligibility to 
participate in this program----
    Ms. Bair. Well, you still have an adverse----
    Mr. Bachus. You don't have to provide that coverage, but if 
you don't provide that coverage, you don't participate in this 
program, because the program's design is to make that coverage 
available. And why allow someone who has no intention of 
providing that coverage to participate in the program; or has 
existing coverage, perhaps for the next year that is already 
written, but, you know, they have no intention of rewriting it?
    Ms. Bair. I think the 20/80 approach in the first year 
reduces the incentive for insurers to cherry-pick.
    Mr. Bachus. Well, a better incentive would be just a 
requirement that they participate in the program. And I would 
rather do that than constitutionally tell them they have to 
provide it. I think if they participate in the program, they 
have to.
    Ms. Bair. Yes.
    Mr. Bachus. You know, the British plan, their 
contribution--well, let me just say this. What about an ex-post 
subsidy? You know, for our cause, would you consider that?
    Mr. Hubbard. Priced how?
    Mr. Bachus. I don't know. Just give maybe the Secretary 
some discretionary authority to charge assessments based on 
some of the--to recoup any losses associated with administering 
the program.
    Mr. Hubbard. But then you are not encouraging the private 
industries' ability to price. I think our----
    Mr. Bachus. No, I agree.
    Mr. Hubbard. Our prejudice is the private industry could--
    Mr. Bachus. Yes. Thank you both for your testimony. I would 
now like to bring our third panel up.
    We have a distinguished panel, and I always feel sorry for 
the third panel of any day, but particularly today, I know some 
of you came from out of town, in these wonderful quarters we 
are having for this hearing. But all that aside, we truly 
appreciate your being here, and I am subbing for Chairman Baker 
until he returns. But we wanted to give you folks an 
opportunity to testify and for the panel to ask questions.
    Let me begin just to introduce the panel: Mr. David Mathis, 
Chairman and CEO of the Kemper Insurance Companies; Mr. 
Constantinos Iordanou--I always mess up this--Iordanou, Senior 
Executive Vice President of Group Operations and Business 
Development for the Zurich Financial Services Group; Scott 
Harrington, Professor of Insurance and Finance, Moore School of 
Business, University of South Carolina; Mr. J. David Cummins, 
Harry J. Loman Professor of Insurance and Risk Management at 
the Wharton School at the University of Pennsylvania; Mr. David 
Keating of the National Taxpayers Union; Mr. John T. Sinnott, 
Chairman and CEO of Marsh, Inc; Mr. Roy A. Williams, Director 
of Aviation from the Lewis Armstrong New Orleans International 
Airport; Mr. Richard J. Hillman, the Director of Financial 
Markets and Community Investment, U.S. General Accounting 
Office; and Ms. Marjorie S. Nordlinger, Senior Attorney, Office 
of the General Counsel, Nuclear Regulatory Commission.
    Thank you all for your patience under these very difficult 
    We will begin with the gentleman from Chicago, Mr. Mathis.

                      INSURANCE COMPANIES

    Mr. Mathis. Thank you. Thank you all for allowing us to 
attend. Having listened to some of the presentations today and 
having seen some of the other presentations earlier, I am going 
to cut short some of the comments that I would make in order to 
allow more time for questions and answers at the end. I do want 
to point out that Kemper is a large property and casualty 
insurance company, based in Chicago, with offices throughout 
the United States and in many foreign countries. Our largest 
line of business is workers' compensation coverage, but we also 
are a prominent writer of commercial coverages for a variety of 
businesses, from Main Street operations to mid-sized firms and 
to Fortune 500 companies.
    I would point out also that as a structure, we are a mutual 
insurance company owned by our policyholders as opposed to 
being owned by the stockholders.
    Skipping forward, I would mention that Kemper, like other 
property and casualty insurers, has been steadfastly committed 
to meeting our promises to policyholders as a result of the 
September 11 event. Our pretax losses are estimated at $360 
million gross and $60 to $80 million net of reinsurance. I 
mentioned the two figures, because as we go forward I think it 
is interesting to keep in mind that absent reinsurance in this 
type of event, we would be looking at a $440 million loss as 
opposed to an $80 million loss. So the function of reinsurance 
has been important and continues to be important for the 
industry. While that is a significant sum, we will continue to 
meet our obligations to policyholders with no difficulties, and 
that includes the payment from our reinsurers as we go forward. 
For the industry as a whole, we are looking at losses from $30- 
to $60-billion, although the final number will not be known for 
some time.
    Although no natural disaster or, for that matter, man-made 
catastrophe even comes close, for the sake of reference, I 
would note that Hurricane Andrew, which devastated south 
Florida, caused approximately $19 billion in insured losses, 
perhaps half compared to the September 11th losses. Put another 
way, the September 11 losses will exceed the entire property 
and casualty insurance net income for the past 3 years, 1999, 
2000 and 2001. In just one day, industry profits for 3 years 
were wiped out, depleting investment income.
    Recognizing that the American people and our economy will 
recover and move onward, we also are looking ahead. And 
although the property and casualty insurance industry can deal 
with the incredible loss of September 11th, we are very 
concerned about what will happen if additional large-scale 
terrorist acts in the future occur. It is critical that you as 
public policymakers share our recognition that terrorism 
currently presents four challenges to the insurance marketplace 
which we cannot meet. It is crucial that everyone recognize 
that we are dealing with a peril that is at this stage not 
quantifiable and therefore not insurable within the finite 
resources of the insurance industry. Quite simply, the 
financial capacity of the industry is limited, and 
unfortunately, the potential harm that terrorists may inflict 
is unpredictable in frequency and unlimited in severity. Given 
this mismatch, insurers and reinsurers cannot assess, measure 
or spread the risk of terrorism. As a result, terrorism has 
become uninsurable in the private market. This insurance market 
crisis, and, by its extension, pending economic crisis is why 
we are all here today.
    As you probably are aware, more than two-thirds of the 
annual reinsurance agreements--and we have all talked about 
that--by which primary insurance companies purchase their own 
insurance to adequately spread risk are renewed as of January 
1, and reinsurers have already notified primary carriers that 
the reinsurance contracts coming up for renewal will provide no 
coverage for terrorism. And although the primary insurance 
sector in the industry is adversely affected by such decisions, 
we recognize that this may well be the reinsurers' only way to 
protect against insolvency themselves.
    Primary carriers, however, do not have the same flexibility 
as reinsurers with respect to their own products, because we 
are subject to tighter regulatory oversight. Any terrorism 
exclusion we might choose to introduce must be approved by 
individual State regulators. If approved, our customers could 
find them bearing 100 percent of the risk associated with 
terrorism, and certainly the repercussions of this are clear. 
However, if exclusions are not approved, primary insurers would 
be left to shoulder 100 percent of future terrorist losses, 
which we cannot do.
    Allow me to give you an example of and to illustrate the 
higher retention of risk imposed on the industry. One of the 
Members of the subcommittee mentioned that we were not involved 
in dealing with lives here. We specialize in workers' 
compensation sector business, which significantly deals with 
lives. And let us say that an insurer provides workers' 
compensation coverage for a manufacturing facility with 6,000 
employees. The plant in my example would not be located near an 
earthquake fault or any other place where a natural disaster 
caused a workforce loss of life. If, God forbid, that plant 
would be targeted by an extreme terrorist act which takes the 
lives of all the employees, the workers' compensation claim, 
depending on the State where the plant is located, could run 
between $2.5 billion to $3 billion and could fall on that 
individual insurer without reinsurance.
    Chairman Baker. I hate to interrupt you, but for the sake 
of the proceeding, on the panel I would ask that everybody try 
to prepare your remarks, revise them to, like, a 5-minute 
limit. We will incorporate the full statement into the record, 
and to give you a minute to collect your thoughts, if you could 
begin to summarize for us, because we will have other Members 
coming back, and it is going to be a lengthy evening for us if 
everybody wants to ask everybody questions.
    Mr. Mathis. I will do it without notes. Let me just say 
that a basic part of our discussion has been associated with 
trying to find a means where the industry would spread risk and 
could get a backup to replace the reinsurance mechanism. In our 
instance, I think the major issue that should be kept in mind 
really relates to four points. One is that the larger the 
amount of risk that the industry is forced to retain, without 
an adequate ability to spread that risk, will create a 
dislocation by individual companies. And that was the reason 
that the industry put forward a proposal to spread the risk and 
provide a Federal Government backstop.
    Second, the industry needs to be in a position where it can 
pass rate increases on, in terms of any kind of charges for 
whatever net retention or, for that matter, whatever charge the 
Government may impose for its backup in terms of reinsurance. 
So any Federal legislation should provide some State regulatory 
preemption to allow that rate regulation to go through.
    Third, the industry would need to be consistent in its 
wording for terrorism, not only with the Federal Government, 
but also with each insurance policy, and as a pass-through to 
the reinsurance industry as well. If you have a different 
definition of terrorism, which is excluded in the reinsurance 
industry, the industry would have no recourse but to underwrite 
against the biggest potential loss or net losses to the 
    And finally, the industry would need to have some measure 
of giving credit for any kind of reinsurance. So, bottom line, 
the industry needs to find a way to spread risk. We do not 
think that all of the proposals that are presented allow us to 
do that.
    [The prepared statement of David B. Mathis can be found on 
page 87 in the appendix.]
    Chairman Baker. Thank you very much.
    Please excuse me, is it Iordanou?
    Mr. Iordanou. Yes. It is a Greek name.

                    FINANCIAL SERVICES GROUP

    Mr. Iordanou. Chairman Baker, Chairman Oxley, it is a 
pleasure to be here. Zurich is a multinational insurer of 
significant size. We operate in 60 countries with $20 billion 
in equity capital. We have significant operations in the U.S.
    The event of September 11th will cost consumers anywhere 
between $700 and $900 million in losses. This is net of 
reinsurance. If we would have counted our direct loss absent of 
any reinsurance protection, that would have been significantly 
higher, probably approaching $2 billion. Clearly, these are 
substantial amounts, but, however, Zurich in its strength with 
its global capital base can absorb these losses without any 
long-term financial implications for us, assuming there is no 
subsequent event of a size and assuming that we continue to 
have the ability to protect our balance sheet reinsurance 
    I will tell you today that we have notifications from all 
of our reinsurers that as of January 1, coverage for terrorist 
acts will be excluded from our reinsurance. So what does that 
mean? Unfortunately, for us it means that at a time when our 
customers need this coverage the most, not all the customers, 
but our largest and our smaller customers are being told by us 
that they cannot renew their insurance coverage absent some way 
of excluding terrorist risk. The larger ones have been told so 
because they represent very high-dollar risks to a single 
location and the smaller ones are being told so because the 
potential of risk in a particular territory creates the same 
    This is a new economic reality, which is sad, but very 
real, and we need to deal with it. We now have such drastic 
    Chairman Baker. We are sorry. We are just trying to figure 
out strategy on the votes we have, just so we can dispel this. 
We are going to wait and run up to the--so we will go 5 
    Mr. Iordanou. Without the drastic steps that Zurich is 
taking to protect its balance sheet, but at the expense of our 
customers, we can't continue to assume these kinds of risks.
    The private sector, in my view, is the way to respond to 
the situation and could potentially fill the void with some 
normal risk management tools. However, the cost to the Zurich 
for such tools will be prohibitive, and they will fail to 
provide sufficient capacity to address the multiexposures that 
the U.S. economy faces today.
    Any Government solution should measure and should focus on 
bringing sufficient stability back to the insurance market so 
that companies like Zurich will feel comfortable including 
coverage for terrorist exposures to its risk portfolio.
    I would remind the subcommittee that the essence of 
insurance is to efficiently apply capital to risk, so the 
standard way in which we determine whatever that goal has been 
met will be to whatever the degree and concentration of capital 
exposed to future terrorist acts is manageable. Too much 
exposure will force insurance to continue excluding terrorists 
from their coverages. However, we also appreciate that too much 
taxpayer exposure results are unacceptable. The solution, in 
our view, will need to balance the market's need for maximum 
stability with the Government's need for minimum exposure to 
these types of risk and involvement in the free marketplace.
    I, for one, am confident that such a balance exists and 
would urge all participants to move this debate to focus on the 
common themes embedded in the options offered to date instead 
of the shared shortcomings we see in those options.
    For example, the industry's original proposal utilized a 
pooling concept utilized a pooling structure, an approach that 
has longstanding use within the industry and has served other 
nations well in their quest to address the economic realities 
of terrorist risks. We understand while the concerns have been 
expressed, and that the debate has moved beyond this proposal, 
but the underlying concept of facilitating the spreading of 
this new type of risk is an important one that should not be 
abandoned. Ultimately the success or failure of this effort 
will be judged in the marketplace on a risk-by-risk basis, not 
by some broad industry aggregate, so there might be some 
component that serves as a proxy, even in the medium term, to 
the traditional reinsurance mechanism.
    The White House has quoted a different approach that 
utilizes a pro rata risk sharing concept. It is a short-term 
stop-gap measure that increases the private sector retention in 
the second or third year, probably to the levels that are 
beyond the industry's capability to handle. Plus, there are a 
number of operational questions that would need to be answered 
before judging the effectiveness of this approach. However, the 
proposal effectively spreads both the risk and aggregate 
exposures that the industry is facing and signals a very 
important recognition on the part of the Administration that 
the Government does have a role to play in managing what are 
fundamentally political risks in our view.
    Both proposals, then, reflect the underlying concept of 
shared private and public sector responsibility, and with 
modifications--some major, some minor--could serve as the basis 
of a meaningful resolution to this problem.
    In closing, I would suggest that anyone who views a 
thorough backstop as a bailout may be underestimating the 
discipline of the private marketplace. The actions Zurich and 
other insurers have taken to minimize their exposure to 
terrorism are firmly in line with economic reality. Our capital 
is finite, but the risk is infinite. Thus, if there is any 
``bailing'' out occurring, it is the natural tendency and 
expected flight of capital away from terrorism risk. This 
should not be surprising, since it is how markets operate in 
general, and it reflects an immediate manifestation of how the 
capital markets are responding to the ``new normalcy'' of post-
September 11th American life.
    Thank you for allowing me the time to present to you 
Zurich's perspective, and I would be happy to answer questions.
    [The prepared statement of Constantinos Iordanou can be 
found on page 95 in the appendix.]
    Chairman Baker. Thank you very much.
    What time do we have remaining? If we would, Mr. 
Harrington, we will recognize you, Professor of Insurance and 
Finance, University of South Carolina. Welcome.


    Mr. Harrington. Chairman Baker, Mr. Oxley. I spent my 
career studying insurance, and I really appreciate the 
opportunity to be here to have this opportunity to testify.
    We don't know how bad things are going to get this winter 
when these contracts are ultimately--we don't just know yet. 
Some Federal intervention may be very desirable to prevent a 
potential crisis. But we need to consider very carefully--
insurance involves the fundamental tension between risk sharing 
and incentives--you have heard a little bit about this today. 
We widely appreciate the incentives of risk sharing. The moral 
hazard effects are likely less appreciated. It tends to dull 
incentives to manage risk. At this time, private markets do a 
tolerably good job of dealing with moral hazard.
    Government insurance programs or Government-backed 
insurance mechanisms--they are also not likely to provide good 
incentives for efficient claims management. They are not going 
to provide the right incentives for risk management in the 
private sector.
    Subsidized Federal reinsurance or direct Federal 
reimbursement of a large proportion of terrorist losses could 
make citizens more vulnerable to harm. And, again, it could 
make citizens more vulnerable to harm. If insurance against 
terrorist acts is made available at heavily-subsidized rates, 
some--perhaps many--businesses could take far fewer precautions 
to protect life and property. If you help too much, there is a 
good chance that more property will be destroyed and more 
people will, in fact, die.
    The Administration's proposal has some advantages. It might 
keep the Federal Government out of pricing insurance; but then, 
it might not, because if you start thinking about mandating the 
offer of such coverage, I think you are going to pretty quickly 
have to think about limiting price. It could be awkward.
    I think the Administration's proposal would provide some 
limited subsidy to the insurance industry. It would provide 
some significant subsidies to large commercial property owners. 
I think the major problem is the first dollar coverage at an 80 
percent basis. Professor Hubbard said that they wanted to err 
on the side of caution. They erred on the side of too much 
precautionary risk spreading. That proposal would seriously 
undermine the integrity of risk assessment, claims adjustment, 
and management. And the proposal does relatively little to 
encourage capacity. In fact, I think it does very little to 
encourage capacity.
    I encourage you to consider two things. One is some form of 
tax incentives for insurance companies to build the massive 
amounts of capital it takes to write this stuff. We are not 
talking about distorting the Tax Code. The Tax Code distorts 
these markets immensely. It is a punitive tax on the private 
sector. If we are going to try and help these markets 
accumulate capital, then we need to remove some of that 
punitive taxation.
    I think you could encourage supply substantially with some 
form of temporary system of ex-post assessments. Let me just 
step through that very quickly. You might have a system where, 
with $5- or $10-billion in terrorist losses in a year, God 
forbid, that insurance companies, all property casualty 
insurance companies, will be assessed to finance a material 
proportion of the losses above that threshold. The insurance 
companies could limit their risk. We could allow them to borrow 
from the Treasury if the assessments in any given year exceeded 
some amount like 2 percent of the premiums. They could pay back 
the amount that they borrowed with future assessments under 
that type of proposal, if necessary, at a higher threshold. The 
Government could then become a direct sharer in the risk 
    In conclusion, I think the tax incentive approach and the 
possibility of ex-post assessment of the insurance industry 
would help mitigate the threat of a crisis and mitigate these 
inherent problems without substantial undermining of private 
sector risk assessment, claims settlement, and risk management, 
and I really think that the result could be less loss of 
property and less loss of life. Thank you.
    [The prepared statement of Scott Harrington can be found on 
page 102 in the appendix.]
    Chairman Baker. Thank you very much.
    I think we are going to call our next witness and proceed 
before we depart for the vote. So Mr. David Cummins, Professor 
of Insurance and Risk Management at the Wharton School.

                        OF PENNSYLVANIA

    Mr. Cummins. I would like to thank the Chairman and 
subcommittee Members for allowing me to be here today. I have 
outlined some principles that I think any Federal program 
should satisfy, and to say at the outset that they are more 
consistent with the Administration plan than they are with the 
private insurance industry plan. I am basically very much 
opposed to the private industry plan. I think the 
Administration plan has a number of features to recommend it, 
but there are a number of features or problems that would have 
to be fixed before it would be enacted and be really an 
effective program.
    I think, first of all, the program should have the clearly 
stated objectives of helping the policyholders, insurers, and 
the economy to weather the current crisis by encouraging 
private insurers to return to the market as soon as possible.
    Second, the Federal program should avoid the creation of 
any new institutions or new bureaucracies, such as the homeland 
security insurance company proposed by the industry.
    Third, the Federal contracts have to be sold at a positive 
price. Providing free coverage would set off all the wrong 
incentives in terms of claims settlement and charging premiums 
in the direct market. So you have to come up with a price. I 
would recommend hiring an actuarial firm to apply the 
principles of actuarial science to come up with the best 
possible price under the uncertainties that we know are present 
in the program.
    Fourth--and this is a commendable part of the 
Administration's proposal--that any Federal coverage should 
have a cost sharing provision, where the Government should 
never cover 100 percent of any layers. So it should at least be 
20 percent covered by the industry, or maybe even more than 
that, except possibly at the very highest layers.
    Fifth, Federal coverage should start after a reasonably 
large deductible. There should be no first dollar coverage, 
even during the first year. The industry could easily bear $5- 
to $10-billion. That is not the layer that they are really 
concerned about, and it sets the wrong incentives to provide 
Federal first dollar coverage.
    Sixth, the Federal obligation should be capped. There is no 
magic number, but $100 billion is probably reasonable; perhaps 
something somewhat less than that would also be a possibility. 
And this basically gives the Congress the option to come back 
in at the $100 billion layer and either agree to continue or 
extend the program or decide to do something else. You don't 
want to put an unlimited program in place.
    Seven, the program should be limited to property coverage--
    Chairman Baker. Just stop for a moment. We will put Mr. 
Bachus in the chair. We will be right back.
    Mr. Cummins. The coverage should be limited to property 
coverage and other coverage to terrorism where the loss amounts 
are relatively easy to identify. For example, the program 
should not provide coverage for difficult-to-verify claims such 
as business interruption insurance. This is to prevent abuse of 
the Federal program and to provide incentives for policyholders 
to get back in business as quickly as possible following a 
loss. There may be the need for other policy remedies, 
especially for small businesses facing business interruption 
crises, but it shouldn't be a part of the insurance program.
    Consideration should be given to incorporating ``finite 
reinsurance'' provisions in any Federal plan. Essentially 
finite reinsurance transfers less risk to the reinsurer than 
traditional indemnity reinsurance that is basically intended to 
smooth out the insurers' losses over time. The reinsurer 
essentially advances money to the insurance company when losses 
are high, with the obligation of the insurer to repay most of 
the money when losses are relatively low. This might be 
especially appropriate in a Federal plan at the lower layers of 
    And then finally, the Government should explore ways in 
which it could encourage the development of private markets for 
catastrophic risk without providing Federal backing, such as 
lowering regulatory barriers to securitize the insurance risk, 
and perhaps acting as a facilitator of securitization by 
providing data that could be used by private firms in 
developing better loss indices to enable the provision of 
securitized financial instruments which are much more efficient 
than insurance in insuring this type of risk.
    So I guess just a couple comments on the Administration 
proposal. Several things I see wrong with it. First is 
providing first dollar coverage during the initial year is not 
a good idea. The industry should bear the first $10 billion of 
    Second, without going into each year and each layer, case 
by case, the proposal is generally too generous, and it is 
split between the Government share and the industry share.
    Third, the finite reinsurance option should be seriously 
considered for lower layers of coverage, with the indemnity 
reinsurance going to the higher layers.
    And then, fourth, the program should exclude certain types 
of difficult-to-verify claims, such as business interruption 
    And then also it is important to charge a premium for the 
coverage. Thank you.
    [The prepared statement of J. David Cummins can be found on 
page 107 in the appendix.]
    Mr. Bachus. [Presiding.] And their proposal does exclude 
businesses. Right?
    Mr. Cummins. It excludes punitive damages.
    Mr. Bachus. My understanding is the last draft took out 
that. Well, I think it is going to, if it hasn't, as a result 
of the testimony today.
    Mr. Keating.

                        TAXPAYERS UNION

    Mr. Keating. Mr. Chairman, thank you for the invitation to 
speak before the subcommittee today. We represent 335,000 
members, and we are strongly opposed to the insurance industry 
proposal and the Administration proposal, at least as it has 
been offered. I would like to associate our views with what I 
have heard both from Professor Harrington and Professor 
Cummins. All of the concerns that they have raised, all the 
points that they both made I think were excellent, and the 
subcommittee should keep them foremost in your mind as you go 
to draft any legislation.
    We wholeheartedly agree that both these proposals stand the 
risk not only pf putting taxpayers in danger of unnecessary 
losses of human life and property, and I didn't hear much--and 
much to my disappointment--from the Treasury Secretary or Mr. 
Hubbard about that, and I think that most people agree human 
life is the key thing that we should be watching here. And we 
need to have incentives for the people in the industry to watch 
their clients to see that they are putting forth the proper 
security measures, escape mechanisms and such, and if we just 
give away Federal reinsurance, we are not going to see that 
kind of activity taking place and clearly we need to have that 
kind of activity. People need to reassess how they are running 
their businesses.
    It is essential that we limit the Government's total 
liabilities in any action or legislation, that you make firm 
limits or policy, clearly define terrorism, and limit the 
Government's exposure to certain types of losses. We are very 
concerned about business interruption coverage. Otherwise we 
could see the Government paying companies not to go back to 
work for years.
    We see the same problems with unemployment insurance. I 
mean, people don't have the same incentive to go get a new job 
if the Government is underwriting their business revenues even 
though you are not in business. Things are very vague and can 
be stretched out. We can't go there.
    We also have to make sure insurers pay enough of the claims 
out of their own pocket. Otherwise they are going to make their 
long-term clients happy with Federal Government taxpayer 
dollars. Easiest thing in the world to make someone happy with 
someone else's money.
    Now, I also want to express my surprise and shock about the 
Treasury Secretary, of all people, and the Chairman of the 
Council of Economic Advisers, their understanding of tax laws 
regarding insurance. To me it is astonishing that they think 
that somehow allowing reserving on a tax-free basis for the 
expected losses from catastrophes is somehow a distortion of 
the tax laws. They have got it exactly backward. The tax laws 
are what are distorting sound insurance principles here. If we 
knew with precision what the future would bring, we could set 
aside the money now, the exact correct amount, so that when the 
disaster happens, the money would be there. If you guide it by 
years, you know it is the cost of doing business; yet the way 
the tax laws are written, that cost of doing business is 
counted as a profit and taxed. It is crazy.
    So I think they have got it exactly backward, and Members 
that had asked about that, perhaps you are using the wrong 
language. Maybe they heard the question wrong. It is not so 
much we need a tax incentive. Should we stop the tax penalty 
for sound reserving catastrophes? That is the way I would ask 
the question and perhaps you would get a different answer next 
    Rather than discuss point by point what we have in front of 
us from the industry to the station, I would like to outline 
some principles for legislation. One.
    One is, I think this is obvious, any Federal capacity 
should offer the maximum amount of economic benefit, not only 
to the Nation, but injured parties, at the lowest cost to the 
    Two, legislation must not erode incentives for wise 
underwriting and insurance company management of risk, proper 
security escape contingency plans I spoke of earlier. We cannot 
have a blank Federal reinsurance check and reduce incentives 
for increased security.
    Three, if Federal reinsurance capacity is offered, then 
there should be payment for the use of capital and the 
assumption of risk, for many of the reasons I spoke of earlier.
    Four, Federal coverage should certainly not insure against 
all industry terrorism losses. Coverage in the first dollar of 
losses is unnecessary and unwise, because it would erode 
incentives and increase security.
    Fifth, Federal insurance capacity should be temporary to 
maximize the use of market mechanism, first for reentry of 
prior reinsurance at higher levels at the earliest possible 
    Six, legislation must contain strong incentives to pay only 
valid claims. We believe the Federal Government's copayment 
claims should never exceed 80 percent. As spoken of earlier, it 
is too easy to make other people happy with someone else's 
money, in this case the Federal Government's.
    Seven, and this is a point I haven't heard yet today, maybe 
it is so obvious that no one has spoken of it, but I am not 
sure so I will say it. The Federal Government's exposure should 
be capped primarily to preserve America's national security 
options. Let us face it, we are in a war. We don't want to have 
a Federal Government entitlement program to underwrite every 
dollar of every damage that might happen. We are not facing the 
bombing of London like they did during World War II, but if 
something terrible should happen here, we can't have a Federal 
entitlement program to cover every dollar of loss for war or 
terrorist attacks.
    So I am not even sure where the definition is, but the 
primary purpose of the Government is to defend our Nation. So 
we cannot have an unlimited liability, and that is one positive 
trait in this Administration proposal. We will have to balance 
off what we can do for our Nation's people, their property 
losses, the lives that are lost, but we also have to balance 
the key reason for Government, to defend the country. So that 
is the real reason why it needs to be capped.
    Another principle that the Administration has talked about 
and we agree with, we need some sort of panel to quickly pay 
and settle claims to incur losses in a fair and inexpensive 
way. We don't want to spend taxpayer money paying the trial 
lawyer a lot of money, stretching out litigation years and 
years. If the private markets were to get back and cover this 
kind of loss, they need to know what the loss is. We can't 
stretch it out over the 5 or 10 years, figure out what the 
eventual losses are, and we don't need to waste money paying a 
lot of lawyers to do this.
    So those I think are the key principles. I think by--
listening to those principles and applying them to the 
proposals before you I think will help steer the subcommittee 
and the Congress in the proper direction, and we are willing to 
work with you, Mr. Chairman, other people in the industry, 
other interested parties to help work out a solution here. 
Thank you very much for the invitation.
    [The prepared statement of David L. Keating can be found on 
page 113 in the appendix.]
    Chairman Baker. Thank you.
    Mr. John Sinnott. You are Chairman and CEO of Marsh, 


    Mr. Sinnott. Thank you, Mr. Chairman, for allowing me to be 
here. I should probably explain what Marsh, Inc., is, because 
we represent, perhaps a slightly different constituency than 
others. We are the world's largest risk adviser and insurance 
broker. We have about 35,000 employees around the world, and we 
are located in about a hundred countries. Our clients comprise 
all segments of the commercial world. Private clients also. And 
we also act as advisors and reinsurance brokers to insurance 
companies. So I think that we have a pretty good view of what 
is happening today in this marketplace and what we expect will 
happen for our clients if something doesn't happen here very 
    I should also point out that I represent not just Marsh, 
Inc., but I also represent the member firms of the Council of 
Insurance Agents and Brokers which is the national trade 
association. So I am speaking for both constituents. I will cut 
through some of the comments that I had planned to make. There 
are two problems here. One is the size of this event, which is 
more than twice the size of the next largest catastrophic 
event. If you add the other five largest events that took place 
in the last 10 years, you have only about aggregated what the 
estimated loss coming out of this particular event is.
    The second problem is the uncertainty of the current 
environment. That is what is different since September 11th and 
why we are talking about this issue now. The nature of this 
risk has radically changed because of certainly a perception of 
what we have heard from Washington which is the probability 
that there will be another event. So trying to compare the way 
we approach this pre-September 11th and today you will never 
come up with the right answer.
    What is the result of these two problems? Since September 
11th, we have undertaken many renewals on behalf of our 
clients, and most reinsurance is still in place, although we 
are seeing terrorist exclusions on the policies more so than 
not. And the other thing that I can say, as we look forward to 
January 1st, our reinsurance unit cannot identify a reinsurance 
company that is not going to exclude terrorism come January 1. 
So the issue of this is not an issue of supporting the 
industry, but the fact that American business will not have 
protection for a catastrophic potential loss come January 1st.
    I would disagree with the comments about business 
interruption. Business interruption is a normal sort of risk 
that business clients transfer to others. It will comprise a 
significant part of the September 11th event. And why one would 
exclude, when the commercial market is going to be picking up 
and adjusting these claims, and they have had to adjust these 
claims, if it is straight fire they will have to adjust it, if 
it is a fire caused by terrorism, they would have the same 
adjustment issue. The markets will not provide coverage for a 
terrorist event for business interruption if it is not covered 
for property damage in the first place. Markets almost never 
cover business interruption in isolation to property damage.
    So I was not aware that there was a disconnect here on 
business interruption. But that just puts it back. There will 
be no coverage for this come January 1 with businesses if that 
is the case. Seems to me as far as the timing, it is fairly 
straightforward. If the current environment doesn't change, 
this risk is going to be 100 percent uninsurable in the 
commercial market.
    What the Government is trying to do obviously is change 
that environment and cure this problem so we get back to some 
normalcy the way we were before September 11th. I am not saying 
it is going to be exactly the same, but at some point that has 
got to be our hope. I don't know whether that is in 2 years, 3 
years or 6 years. I think it is something that one has to look 
at. And as soon as normalcy starts to come back, you will see 
the commercial market come back to this arena. That is why the 
Administration's plan does allow for that. And I think that 
will happen as long as we find some way to cure the 
    I will just finish with one other comment. In 1993, we had 
the first terrorist attack on the World Trade Center. We had 
offices in that building at that time. Fortunately, we had no 
loss of life. That is most important. Second, the amount of the 
insurance claim that we had resulting from that loss was less 
than $5 million. So as a result of that particular incident, 
you didn't hear anything about the commercial insurance market 
saying it needed help that you are hearing now.
    On September 11th, my firm lost almost 300 people in the 
World Trade Center. Obviously, that is the biggest loss that we 
have ever sustained. And it is something that my colleagues 
carry around in the halls and will for a long time. But 
secondarily, we will also have an insurance claim to present 
not of a few million, but in the hundreds of millions of 
dollars. And we just have an office occupancy.
    Mr. Bachus. Hundreds of millions?
    Mr. Sinnott. Hundreds of millions of dollars. That is the 
difference. That is what has happened. I don't see any way for 
us to get terrorism coverage--and we are starting on our 
renewals right now with our clients--if some mechanism isn't 
coming up for sharing the risk, even on a temporary basis 
between the Government and the private industry, we have got a 
train wreck coming January 1 in the property area.
    Somebody mentioned the aspect of life insurance. I don't 
believe that withdrawal of coverage in the life insurance field 
is an issue, although I would defer maybe to Constantinos and 
Dave who are in that business.
    [The prepared statement of John T. Sinnott can be found on 
page 123 in the appendix.]
    Chairman Baker. We are told it is not now. Or if you look 
at it from that perspective, the life industry pays 5,000 
claims a day. So even this incident will not be significant for 
them. Because you take the U.S. population, 275 million people, 
if you say the average----
    Mr. Iordanou. 7,000. And most of them that have that 
understanding, so that industry covers it. It is not an unusual 
and extraordinary event for them. Yes, it is dramatic based on 
the way it happened, but not a big event for the life insurance 
    Chairman Baker. Thank you, sir.
    Mr. Bachus. Just to clarify, again, we don't have the text 
of any legislation. It is in appropriations.
    Chairman Baker. All we have is a recommendation.
    Mr. Bachus. The approach says that business interruption is 
not a big deal.
    Chairman Baker. I would like to recognize Mr. Roy Williams, 
director of aviation, Louis Armstrong New Orleans International 
Airport, with which I am greatly familiar. Welcome.


    Mr. Williams. Thank you, Mr. Chairman. Mr. Bachus, Members 
of the subcommittee. And I am sure you are only familiar with 
it because you fly over it after you have left out of Baton 
Rouge Airport. But I am very happy to be here today, although I 
do feel I am a bit like a fish out of water with this panel 
that you have assembled here with you. Perhaps the airport 
experience that we are experiencing today gives some credence 
to the discussion of what may happen to other industries in the 
coming months.
    Let me begin with a little background. Armstrong 
International has 16 passenger carriers and five air cargo 
carriers, and we just celebrated serving more than 10 million 
passengers in one 12-month period, an all-time record for the 
airport. That ranks us as 39th in the United States. There is 
nothing particularly unique in the airport in terms of 
insurance risks. It doesn't have any reservation centers, it is 
not a hub for a passenger cargo carrier. So I think we are sort 
of a normal example of an airport.
    Prior to the events of September 11th, airports usually had 
substantial levels of war and terrorism risk included as part 
of their general airport liability coverage. In our case, $300 
million and sometimes up to $1 billion at large hub airports. 
To date, since September 11th, only 2 insurers have come back 
into the market with a product that is very expensive and has a 
very limited and inadequate liability cap of $50 million. At 
least one of the available policies contains massive exclusions 
such as not covering screening, baggage and security functions. 
In addition, these policies include a 7-day cancellation 
    So turning specifically to Armstrong International, for the 
12 months which ended September 30th, 2001, our policies 
covered essentially all risks, including war and terrorism, up 
to $300 million. Our annual premium was $321,000.
    We had already begun a search for a new policy before 
September 11th, and in fact, after September 20th we did have 
an offer of a policy. But the new policy excluded war and 
terrorism completely. It excluded certain officer and director 
coverage, and was at a price of $520,000 per year for the same 
$300 million coverage.
    A short while later, we received an offer of $50 million in 
terrorism coverage for a $450,000 premium. Thankfully, we 
received a second offer for the same level of coverage, $50 
million for a premium of just over $300,000. And we have bound 
those coverages. So right now we are now at about $900,000 in 
insurance costs for much less coverage than we had before at 
    Now, just this week, we received an additional option to 
consider, and that is an offer of an additional $100 million in 
war and terrorism coverage which would increase our total 
protection to $150 million, half of what we had before. The 
premium on that additional coverage is $573,000 a year. So put 
simply, if we accept that coverage, we would have half of our 
prior war and terrorism coverage, essentially all of our other 
coverage as we had before for a total annual premium of nearly 
5 times what the airport paid last year. About $1.4 million 
versus $321,000.
    And the important point in this is who pays for this? In 
terms of our agreement with the airlines, we pass costs such as 
this directly to the air carriers in their rents and landing 
fees. That $1.1 million insurance premium increase that we are 
facing represents a 3 percent increase in the total air carrier 
costs to operate at Armstrong. This would raise our landing fee 
by about 15 cents per thousand pounds. Put another way, it is 
22 cents per passenger. Again, this is simply not the same 
coverage we had before.
    We really don't recommend that we sustain these risks of 
insuring ourselves against the risk of terrorism by simply 
assessing exorbitant costs. We instead recommend the 
subcommittee consider solutions to spread these risks as 
broadly as possible, taking into account the fact that the 
risks associated with an act of terrorism far exceed the 
economic capacity of any individual airport to sustain or pay.
    For example, one solution might be to extend the current 
Federal War Risk Insurance Program exclusively to airports. The 
program now does cover airlines and covers their vendors and 
    Looking forward, New Orleans is doing well. We are down 
only 14 percent from our regular scheduled flights. We appear 
to be operating at close to 75 percent of our normal traffic. 
We think these numbers will continue to improve. But we cannot 
fulfill our obligation to Louisiana unless national air volumes 
return to normal. We believe that what will get those 
passengers flying again is to restore confidence in the 
security of our planes and our airports and provide stability 
in the marketplace. The insecurity regarding the availability 
of insurance and the calculation of risks associated with 
actions of terror creates a background of instability, has 
wreaked havoc with the traveling public and the insurance 
industry. Restoring the insurance at reasonable rates should 
underpin any legislative effort to restore this confidence.
    [The prepared statement of Roy A. Williams can be found on 
page 126 in the appendix.]
    Chairman Baker. Thank you, Mr. Williams.
    Next, Ms. Marjorie Nordlinger, Senior Attorney, Office of 
General Counsel, Nuclear Regulatory Commission. Welcome.


    Ms. Nordlinger. I am pleased to be here today to provide 
information about the unique nontraditional Price-Anderson 
system referred to so many times today. It has evolved from 
Congress's initial 1957 enactment of the Price-Anderson Act. I 
will focus on the development of the functions of the 
indemnification of public liability compensation. The 
testimony, of course, relates to the nuclear power reactors 
regulated by the Nuclear Regulatory Commission. I am not 
speaking on behalf of DOE's parallel functions.
    The Act addressed an unusual insurance situation which was 
blocking Congress's aim for the development of the peaceful 
uses of atomic energy. That situation was one where it was 
impossible to rule out the potential for an accident. There was 
little or no experience of the kind Secretary O'Neill 
described. And the possible costs of damages were uncertain. 
And thus neither industry nor private insurers could absorb the 
risk. Congress had two paramount goals in resolving this 
predicament. One was to make available adequate funds to 
satisfy public liability claims in a catastrophic nuclear 
accident, and the other was to permit private sector use of 
nuclear energy by removing the threat of potentially enormous 
liability in the event of such an accident.
    The solution combined indemnification with the limit on 
liability. The solution applied to all reactors as a further 
condition of licensing. And the licensing process itself 
provided substantial assurance that each reactor would be 
designed, built and operated to satisfy high safety standards. 
Originally, Price-Anderson prescribed that each power reactor 
licensee had to procure available financial protection, which 
as a practical matter, meant the purchase of $60 million of 
commercial insurance, the maximum then available. I might add 
here that the commercial insurance was itself pooled coverage 
and that was the only way they could get some companies to 
stand behind the commitment for funding.
    That first layer was then followed by indemnification by 
the United States itself to cover up to $500 million in 
liability over the amount covered by commercial insurance. And 
the United States never, on the commercial side, exceeded a 
$500 million indemnification role.
    Aggregate liability for any single accident is, by statute, 
limited to the sum of the commercial insurance available and 
the Government indemnity. As you all perhaps know, the 
Government has never had to pay any indemnity for a nuclear 
accident on the commercial side, nuclear power plan. The 
aggregate liability included the liability of any one who was 
found liable for any reactor accident with the exception of an 
accident resulting from an act of war.
    This broad coverage is known as omnibus coverage. The 
omnibus nature of the coverage was designed to serve many 
purposes. It was to ensure the availability of funds to 
compensate for personal injury or damage to property of members 
of the public, no matter who caused the accident. It was there 
to permit suppliers and professionals to participate in the 
industry without fear of liability far out of proportion to any 
profit they might expect to gain, and it was to make possible 
efficiencies in the process of presenting, settling and 
satisfying claims.
    Mechanisms to accomplish these goals were incorporated in 
insurance contracts and in required agreements of 
indemnification between the licensee and the United States. The 
end result benefited the public by channeling all legal claims 
to the reactor licensee or operator.
    While the Price-Anderson Act provided that liability was 
limited, the reports of both Houses on passage noted that if 
actual damages were to exceed the available funds in commercial 
insurance coverage and Government indemnity, ``the way was left 
open for Federal contributions after further congressional 
consideration.'' This concept present at the outset was later 
expressly included in the Price-Anderson Act amendment, and is 
often referred to as a ``third layer of protection.''
    Congress amends the Price-Anderson Act from time to time, 
always mindful of the delicate balance of obligations between 
operators at nuclear facilities and the United States 
Government as indemnitor and as representative of the people.
    The most significant amendments to date were those that 
effectively remove the United States from its obligation to 
indemnify commercial power reactors and place the burden on the 
nuclear power industry. This was accomplished without any 
substantial alteration of the other elements that characterized 
the Price-Anderson theme, most particularly, without affecting 
omnibus coverage and liability limited to the availability of 
funding. And it was enacted with increased protection for the 
    The first step in this direction occurred in 1975 when 
Congress mandated that each commercial power reactor contribute 
$5 million to a retrospective payment premium pool. This 
retrospective premium was due if, and only if, there were to be 
damages for a nuclear accident that exceeded the maximum 
commercial insurance available. The limit of liability was then 
$560 million. Government indemnification was phased out in 1982 
when the potential pool and available insurance reached that 
    In 1988, Congress increased the potential obligation of 
each and every reactor in the event of a single accident at any 
reactor to $63 million. The liability insurance available to 
comprise the first layer is now $200 million. When that 
insurance is exhausted, each U.S. reactor licensee must pay 
into the pool up to $83.9 million as adjusted for inflation, if 
needed, to cover damages in excess of the sum covered by the 
commercial insurance. The $83.9 million is payable in annual 
installments not to exceed $10 million.
    Today, the first layer of commercial insurance and the 
second layer from the reactor pool together would make 
available over $9 billion to cover any person or property harm 
to the public caused by an accident. An early amendment 
expanded the waivers so that in serious accidents, denominated 
extraordinary nuclear occurrences by the NRC, the defendants 
must also waive other defenses. The waivers in sum provide a 
result in the nature of strict liability where the harmed 
public need prove only that the accident caused their injury, 
proof of fault is eliminated.
    The statute excludes coverage of property damage at the 
reactor site, and there are also provisions covering, among 
other things, settlements, establishment of a single Federal 
forum, case management, distribution of funds, criteria for 
allowing legal costs, and the preparation of reports to 
Congress in the event there is an expectation liabilities will 
exceed the available sums.
    Thank you, Mr. Chairman. I welcome your comments and 
    [The prepared statement of Marjorie S. Nordlinger can be 
found on page 130 in the appendix.]
    Chairman Baker. Thank you.
    Our final panelist this afternoon, Mr. Richard Hillman, 
Director of Financial Markets and Community Investment with 
GAO. Welcome, sir.


    Mr. Hillman. In the interest of time, I will be very brief. 
At your request, our testimony today outlined features of 
selected insurance programs covering terrorists and other 
catastrophic events ranking from programs completely controlled 
and managed by the Federal Government or other governments to 
programs with little or no explicit Government involvement. 
Sandwiched in between was a wide range of programs that the 
public and private sector shared risks together and in varying 
and different ways.
    The second point of my testimony provided information on 
alternative mechanisms for funding insureds also including both 
pre-and post-funding mechanisms and the use of industry pools 
to share risk.
    Finally, our last point provided some of our own thoughts 
about how the Congress ought to be approaching next steps. Most 
importantly we are hopeful that what we are seeing before us is 
a temporary market failure. And in that vein, we are hopeful 
that the program that would be designed would not displace the 
private market. Rather, it should create an environment in 
which the private market can displace the Government program.
    In summary, we have provided a great deal of information on 
Federal and international programs to your staffs. And we stand 
ready to provide any additional information on these programs 
should you so desire.
    [The prepared statement of Richard J. Hillman can be found 
on page 137 in the appendix.]
    Chairman Baker. Thank you very much. We appreciate your 
attendance and your brevity.
    Let me suggest, Mr. Chairman, that since it is just the 
three of us and likely to be the only three of us that rather 
than just proceed with 5 minutes apiece, that we take advantage 
of a group discussion which would be a little more beneficial, 
I think and just dispense with the normal 5-minute rule and 
just jump in when you like.
    We know that we have to do something. We are not sure what 
that something is. But providing liquidity to the markets at 
some point with some limit--because like the shareholders of 
insurance companies who don't and will not tolerate unlimited 
exposure, neither will our shareholders. So the meeting, I 
think, needs to be around perhaps a two-step approach, 
something immediate and short term that would buy us time to do 
the long-term resolution that might be more appropriate. Is 
that something--just that protocol from an industry 
perspective, say we are going to do X and then come back next 
spring and address the remaining issues, let's assume the 
short-term program is a 12- or 15-month short-term solution, is 
that enough comfort for the reinsurance markets to function, 
given that we are going to come back with a longer term 
resolution when we have the appropriate time to construct it? 
Is that acceptable?
    Mr. Mathis. Can I take the first crack at that? I think 
that several issues are associated with that. One, the 
reinsurance market isn't going to function. It is my hope and 
belief that they may function if there is a viable limit out 
there in the market. But there isn't any associated with that.
    Mr. Oxley. That wouldn't be right away.
    Mr. Mathis. No, it would be a matter of time associated 
with that. Second, that was the reason why there was an 
industry mechanism associated with a pool to try to spread the 
risk in that area, which could work in the retention area. The 
problem associated with big net retentions against the 
industry, and I understand that, in Government, is that it 
doesn't deal with the individual risk exposure. So therefore, 
individual companies still have to underwrite against the 
collective loss that they feel that they might have on an 
individual risk exposure. And I would predict that, even though 
a top level measurement on the top part of the Government would 
certainly bring some measure of comfort and stability back into 
the marketplace, it wouldn't solve it all unless there was some 
solution to that mechanism.
    And third, if the Government comes up with something that 
is associated with a short term timeframe stopgap that isn't 
consistent over a period of time, you have to recognize that we 
write policies that have a 1-year policy limit. So if you have 
that, you have a net retention that is going to move next year 
to a much higher number, then you have to write the business 
understanding that that is what your net retention is.
    Chairman Baker. But that is a problem with even the 3-year 
program. Because there are projects that are going to take 
    Mr. Mathis. The industry or the current Administration 
proposal talks about a plan that is 80/20 to begin with and 
moves to 50/50 in the second year then to higher retention. I 
think that that is a problem for the industry to not have 
something that is consistent all the way across to look at and 
try to quantify and measure because, you know, one month after 
January 1st, you are writing into the next year.
    Mr. Sinnott. I think if you did it on a risk attachment 
basis, which is the normal way of doing things, since it will 
be the commercial insurance policy there that will adjust the 
claim, the Government will have to agree that the cause was 
terrorism, but if it is on a risk-attaching basis, it is during 
that policy year, it follows that policy. And if that 
acceptance happens to extend out over a period of years, it 
still goes back to that period. That is the way the insurance 
mechanism works. As long as it follows that, I don't see a 
    Mr. Iordanou. If there was no sunset provision. But you are 
postponing the issue, because at the end of the day you have to 
revisit it.
    Chairman Baker. We are understanding what we are doing is 
not final. We need more time to examine, study and understand. 
What I fear is we act precipitously in the next 3 weeks not 
fully understanding what we are doing, and find out that we 
have represented to the industry a 3- or 4- or 5-year program 
that is fatally flawed. That, to me, is a great disservice as 
opposed to a short term, publicly acknowledged, this is to get 
us by January 1, guys, and by March or April of next year, we 
will have an ample opportunity to thoroughly vet it. I wanted 
to know if there was a visceral no to that. But it may be with 
certain conditions.
    Mr. Iordanou. Let me jump in on a couple of our issues.
    Mr. Oxley. Let me back up. What is the biggest down 
argument against what Chairman Baker was talking about? What is 
the worst-case scenario if we were to do that? Is it that there 
is no longer the political will to fix the problem entirely?
    Mr. Sinnott. Really, the issue comes down to what is the 
sharing between the private industry and this mechanism. As 
long as that is basically agreed.
    Chairman Baker. For purposes of discussion, let's just take 
the President's first year of his plan and just say year one, 
here is the deal.
    Mr. Sinnott. If the industry and the insurers can live with 
that, and if the brokers and others, Dave, can go out now that 
it is only a 20 percent issue rather than 100 percent 
withdrawal from the market, I think there is an opportunity to 
start the market moving along to maybe provide some protection 
for that 20 percent.
    Mr. Oxley. The subcommittee will have some evidence by then 
as to what is happening in the marketplace?
    Mr. Sinnott. I think getting through January 1 is a big 
    Mr. Iordanou. You are talking----
    Mr. Oxley. The policy being renewed for another year?
    Mr. Sinnott. Yes.
    Mr. Iordanou. Or maybe more. On the risk attachment basis, 
if any of you own a 3-year policy for a project a construction 
project, that it will take 26 months or 27 months, if the risk 
attachment is there, then the coverage will follow throughout 
that period.
    Mr. Sinnott. It is the only logical way to do it. The 20 
percent that the private industry has, that is the way the 
commercial market will look at the claim. It is on a risk 
attaching basis, even if it is a construction project that runs 
out. There is nothing unique about that. That is the way the 
mechanism works.
    Mr. Iordanou. There is another issue here that I think is 
grossly misunderstood about how the mechanisms in the industry 
work. Even I was surprised to hear the comments by my 
colleagues from academia that were opposed to the first dollar 
sharing of risk. I will agree that $5- or $10- or $15 billion 
in the aggregate is a size of risk that the industry can handle 
collectively. But the way contracts are issued, unless you 
create within that mechanism an invented sharing, it is not 
going to work in the marketplace; because at the end of the 
day, who does provide the insurance for the factory that has 
the 10,000 employees or assembly plant that might be the next 
    Now, even though the industry loss might be $5 billion, not 
significant, it is only covered by one insurer, and that 
insurer is out of business. Because if it was Kemper or if it 
was Zurich in North America, with $4 billion committed to North 
America, we would be out of business. And that is the part that 
is being misunderstood in the debate today. That we have not 
only an issue with aggregation of small risk, but we have an 
issue in the way the mechanism works today in the private 
market by instructing the insurance component that allows 
spreading of risk to operate efficiently.
    And focusing on $5-, $10-, $15-billion in the aggregate, it 
is significant, but not catastrophic, but it could be 
catastrophic to a single insurer.
    Chairman Baker. What has bothered me in the interface 
between the Government and the industry in the proposal is the 
direct providers of the policy to the insured property as 
opposed to the commercial reinsurance industry. Everybody that 
I have heard express concern about exposure goes to dense 
projects where you have high value, high numbers of people in 
small areas, not necessarily to cattle operations in Wyoming. 
And in order to not create more of a hazard, we need for 
insureds to take appropriate self-protecting actions.
    Since the commercial reinsurance guys set the underwriting 
standards, doesn't it make some business sense for us to enter 
into our agreement for the backstop with the commercial 
reinsurers, and then have them set the new security measures or 
standards in a private market context, but ensure that they do 
provide coverage for terrorism?
    Mr. Bachus. I think actually what has been also discussed 
is the State-chartered reinsurance. They would then--in turn 
the Government would come in and----
    Mr. Mathis. The pool.
    Mr. Iordanou. Independent of how you do it, Chairman Baker, 
there is no opposition if it is insurance or reinsurance. The 
principle is the ability to share risk. But that is how you 
allow the free mechanism, you know, the freedom to go out and 
write these very large limit policies for the airport or for 
the water supply company or for the train station or for the 
stadium. Because at the end of the day, they know that if an 
event happens, you know that risk will be spread.
    Chairman Baker. The insurance company has to lay it off to 
the reinsurer. The reinsurer is going to lay it off to the 
Federal Government. All I am saying is from an operations 
standpoint, when your customer makes the claim and you have to 
fill out the form the Federal Government prescribes and send it 
to the Secretary of the Treasury for him to issue a check, I 
suspect for 2,300 companies and thousands of claims, you are 
going to have a long wait.
    I would rather, as much as it is practicable, have you 
engage, turn it around as a business matter and ask a 
reinsurance company for their appropriate contribution and have 
the reinsurers dealing with the Department of the Treasury. It 
seems to me to be a more efficient mechanism.
    Mr. Sinnott. I hope no one is envisioning that we had a 
frequency problem. It is a severity issue. If you had a 
frequency problem, you are 100 percent right. But we are 
talking severity, which means very few; hopefully no events, 
but at the worst severity of events. They will be severe in 
nature. And that can be managed this way. That is the other 
reason why we advise our clients to take deductibles. Don't do 
first dollar. But in this case, with the few events--or 
hopefully none--but the few events that could occur, it is not 
really first dollar. The industry is going to be in there, 
because if you get an event, it is likely to be a major event. 
So the whole idea of first dollar doesn't ring with me on this. 
I don't view this as really first dollar, because we are 
talking catastrophic risk.
    Mr. Bachus. What about a special State-chartered 
reinsurance company?
    Mr. Cummings. I am really against setting up that. I think 
the market works more efficiently in terms of reinsurance 
contracts. I think that's what we see in commercial markets. It 
is fairly like financial.
    Mr. Bachus. You wouldn't have to. They could see----
    Mr. Mathis. The industry proposal. Not that it could pick 
and choose individual risk.
    Mr. Bachus. It is an option you can cede risk to. The 
reinsurance company, the Government would then participate.
    Mr. Harrington. Then you have the Government in pricing. 
You should avoid the Government in pricing. If you go down that 
    Mr. Bachus. Don't you do that on other----
    Mr. Mathis. Supporting a funding of the first $10 billion 
of losses that has built up over a period of time.
    Mr. Bachus. You actually said that you thought there ought 
to be a first dollar.
    Mr. Iordanou. You oppose that.
    Mr. Harrington. I have assumed that given what I know about 
the sophistication of reinsurers, if there was a $5- or $10-
billion attachment point, there are a lot of smart people in 
this business that would start thinking about how they could 
design property treaties so they could price it in recognition 
that there was a relatively low probability that there will be 
an amount greater than that amount. Maybe I have grossly 
overestimated sophistication in the reinsurance markets. But 
the latest contracts are set up, it has got to attach an 80/20 
basis in the first dollar.
    Mr. Iordanou. There is no way to spread the risk on a 
catastrophic event. The concept of an industry aggregate of $5 
or $10 billion and then something that attaches on the next 
system, it creates an environment that singular insurers will 
be exposing up to 100 percent of their capital to an acceptable 
risk. For that reason, you are defeating the purpose of trying 
to create liquidity.
    Mr. Harrington. I thought you could deal--you and your 
reinsurance friends could get together and negotiate this.
    Mr. Iordanou. It needs to be part of this proposal. If that 
happens and there is some encouragement either with tax, which 
I think is a great idea, the reason we are exploring more 
coverage to foreign markets today in the United States is 
because we have a bias against the mechanism of setting the 
reserves for events that we know that will happen once every 10 
years, once every 25 years, once every 50 years. Today it is 
tax efficient for me as a buyer to send my dollars for 
reinsurance to Bermuda and get a deduction as a business 
expense, it is a cost of doing business, versus putting it in a 
tax-free pool.
    Chairman Baker. Let's go right to that point. We had the 
discussion earlier. If you were to create a tax-free pool for 
terrorism reserves only--and that is a reserve which does not 
exist--therefore I would argue has no budget implications, but 
that is a thin argument, what would that do for you in your 
perspective in enabling you to insure against terrorist risk?
    Mr. Iordanou. Over time--not immediately, over time as that 
builds up, it will create more and more capacity in an ability 
for companies----
    Chairman Baker. Are you talking 2 or 3 years?
    Mr. Iordanou. It depends on the size of how much would 
allow it to--because you got to have some--there is not going 
to be an open-ended ability to set terrorist reserves, you 
know, for risk. There has got to be some parameters; otherwise 
you will eliminate paying any taxes, continue putting up 
reserves and earmarking them.
    Chairman Baker. But from an industry perspective, that is a 
major element in the long-term private market resolution of 
this problem.
    Mr. Iordanou. I agree.
    Chairman Baker. Doesn't help us January 1.
    Mr. Keating. If we don't think about the long term, we are 
not going to get there. We will wind up having more of this.
    Mr. Sinnott. I think that is right. As I say, we do not 
have much time to figure out what we are going to do for 
January 1.
    Chairman Baker. Let's jump on that, if I may. If we take 
the President's first year proposal, what additions or 
modifications would this group suggest to make it a workable 
plan for, say, 15 months?
    Mr. Keating. Could I say something? I really don't think it 
makes sense that the Treasury do first dollar, because the 
assumption here is that anything that happens is going to be a 
catastrophic event. Just because they were so clever the first 
time around doesn't mean every event is going to be a huge 
event. I don't see the need for the Treasury to step in on 
everything that might be considered a terrorist act. So first 
dollar coverage to me makes absolutely no sense.
    Mr. Oxley. There ought to be a deductible.
    Mr. Sinnott. You are complicating it, because now you are 
trying to aggregate the industry together. You are getting into 
a very complex mechanism. If you keep it simple, it is a co-
insurance, policy by policy by policy. Now, that is, you could 
view that as interim. But otherwise, you figure out an event 
occurs and you have many insurance companies; how do you 
allocate it? Who gets the benefit? It becomes more complicated.
    Mr. Iordanou. Worse than that, you get two insurance 
companies, both of them out of business.
    Mr. Sinnott. So you have to keep it simple starting out, 
although these points, looking at taxes, are clearly good; you 
know, the near-term/long-term things that can be done. The 
other thing that as I said before, I mean I don't know why the 
mechanism would not include business interruption. It will 
create another disconnect between the 0 percent that the 
commercial market is offering and the 80 percent, if that is 
the number that the Federal program provides. Because these are 
programs that are together. Most businesses buy property damage 
and business interruption.
    Mr. Iordanou. Let me give you the statistics. The business 
interruption component of loss arising out of covered perils is 
50 percent of the loss. So for every dollar of indemnity we 
give to a customer, 50 cents goes to rebuild the factory and 50 
cents goes to reimburse them for business interruption.
    Mr. Keating. But not everybody buys business interruption.
    Mr. Iordanou. There is no commercial enterprise that I know 
that has no business interruption coverage.
    Mr. Sinnott. Wait a second. Let me tell you. We have 
experience on this. We do the Fortune 500. I can tell you that 
there is only a handful, relatively speaking, of the very 
largest companies that don't buy business interruption. . You 
are talking about Fortune 500.
    Mr. Harrington. There are lots of things that are on 
business interruption.
    Mr. Iordanou. The business interruption provided by the 
insurance industry is business interruption arising out of 
covered perils, so you have to have an incident.
    Mr. Sinnott. Of your actual lost loss.
    Mr. Oxley. Mr. Hillman has been studying this at GAO. What 
is your cut on these different proposals?
    Mr. Hillman. I find some of the remarks that these 
gentlemen are making to be very useful. One of the points that 
I think may be worth considering is rather than coming up with 
a $5 billion, a $10 billion, a $15 billion retention for the 
industry as a whole, because that provides a lot of 
complicating factors, one thing you may wish to consider is 
establishing a per-claim limit. And perhaps I will have Mr. 
Cluff provide that.
    Mr. Cluff. Either per claim or per insurer.
    Chairman Baker. For the record, give your name.
    Mr. Cluff. Lawrence Cluff with the U.S. General Accounting 
Office. But either way, you avoid the problem of trying to 
aggregate to some $5 billion, $10 billion, you avoid the 
pricing problem, and you also avoid the Treasury having to 
write a check for every little thing that happens. If you have 
a retention on a per-claim or a per-insurer basis, that solves 
a lot of those problems.
    Chairman Baker. Any reaction?
    Mr. Mathis. Well the 80/20 is a retention per claim.
    Mr. Sinnott. That does eliminate the problem that I was 
saying. It is specific.
    Mr. Keating. That is fine with me; but going on each claim, 
each first dollar doesn't make any sense.
    Mr. Cluff. I concur.
    Mr. Iordanou. There is no first dollar coverage to begin 
with in the business. First dollar coverage is for your 
homeowners. When you get into the commercial business, a lot of 
our clients will retain maybe $100,000, $500,000, $1 million, 
some of them $5 to $10 million over the first dollar coverage. 
They buy beyond that. So in those parameters, I think 
everything is workable. I don't think it is a bad idea. I think 
it needs to be on the table. As a company we will not be 
opposed to it.
    Mr. Sinnott. It just gets back to what the retention 
tolerance is of the industry. Fine. They take the first X 
amount, then they know that they are also going to have 80 
percent. It is a matter of figuring out what the retention 
tolerance of the private industry is, and the willingness of 
the Government; and hopefully those two things on a temporary 
basis will match, so that we get beyond this particular real 
problem that we have and have more time.
    And the brokers can help in this. There are already small 
bits of capacity that are being developed. The problem is it is 
just too big a gap that we are looking at, and we are looking 
at 100 percent withdrawal. If this was just 10 percent, it 
would be different, like when some markets decided to get out 
of the business when we went through this 16 years ago. We were 
able to deal with it without asking the Government to step in, 
and we were able to get policyholder investment, and we got it 
done, and the market returned to normal.
    I think the same thing can happen here, though there is one 
difference. We didn't have an environmental issue 15 years ago 
that had to be changed, that we had to find a solution for. In 
our case, I can tell you that our midtown office, which is 
where our headquarters is, security is on the top of our list 
of priorities. I think the comments about this being a free 
ride for businesses is innacurate.
    Mr. Bachus. What about the comment, I thought you said, 
that would increase the risk when the Government steps in?
    Mr. Iordanou. We totally disagree.
    Mr. Sinnott. The insurance was there before. We are talking 
about the withdrawal of insurance. Let's continue to provide 
insurance which is a social instrument, continuing to provide 
it on a temporary basis, get the Government in there, get it 
out as quickly as possible and do it on a basis that allows 
competition, the particular competition that we like to see on 
behalf of our clients, which is each of the markets doing its 
own thing.
    Chairman Baker. Let me jump in.
    Mr. Harrington. Temporary, that is fine. But over the long 
term, it will be a good idea to have some relocation of certain 
businesses, to spread the risk out to reduce the risk of a big 
event in a particular place. In the long term, if we intervene 
we are going to discourage those type of responses.
    Mr. Sinnott. We are looking at it ourselves because we have 
5,500 people in New York City in one big building. I mean, 
forget about whether or not we have insurance. We are looking 
at lives here, whether or not there is business disruption. 
Regardless of the insurance response, we had business 
disruption. If we have our risks better spread, we will have 
less business disruption and we lessen the risk to our 
colleagues. So all of those things are ongoing right now.
    Chairman Baker. Our position is not to----
    Mr. Bachus. Can we get into some of the finer points?
    Chairman Baker. Let me jump one more thing before you do 
that. As to the element of why there is the pushback on the 
structure either to the industry or the Administration proposal 
from some unidentified Members of Congress, you are going 
through this self-assessment of how do we protect our people, 
how do we ensure our business exists? But the resolution of 
that is to ask people with the checkbook or the money, without 
the people who are going to write that check knowing anything, 
with the industry, the solvency of the companies to whom we are 
extending the credit, the limit of our exposure if, God forbid, 
this thing does turn out to be frequent and large. What we are 
tying to say, we understand the importance of acting timely and 
responsibly, but we have to take risk aversion steps ourselves.
    So that is what we are looking for here. If we can do that 
with something temporary and come back and not have industry 
claiming that Congress has not met its obligations because it 
has not met final resolution, and do that next year, we can 
have more of these and really get down to the fine points that 
Mr. Bachus and others would choose to pursue.
    Only to that end in looking at the Administration proposal, 
pro and con, all the ideas possible are about how we tweak the 
first-year methodology to potentially be a short-term remedy to 
give us the long-term critical analysis. None of you gentlemen 
would invest large sums of money without relying on a great 
deal of examination by the best staff you could find to give 
you all the pros and cons. That is where at least I am speaking 
for myself. I don't feel I am competent to make this decision 
this afternoon. I may not be competent to make it next year, 
according to some people. But I think I want to give myself the 
best shot. So that is where I am.
    Mr. Bachus. Adverse risk selection. I ask this question: 
Should an insurance company eligibility for the program be 
conditioned on providing terrorist risk insurance in all its P 
and C policies?
    Mr. Mathis. To a large degree, it already is.
    Mr. Sinnott. The large commercial markets file and use, 
where you don't have to get State agreement.
    Mr. Bachus. But what I am saying, again, should one of the 
policies of this Congress be that we would require them to 
offer it?
    Mr. Mathis. Well, I have two questions which are associated 
with that. Are you going to agree that there is a rate 
preemption and that people can charge whatever rates they 
choose in the marketplace? The other is that you clearly 
wouldn't expect that every company would want to underwrite 
every risk.
    Mr. Iordanou. In order to eliminate the moral hazard, it 
has to put the pressure on the management of that company to 
deal with the kind of risk that would be criticized today in 
this area that maybe the industry is not paying much attention 
    And the second point is that, in our view, risk management 
for terrorism risk, the only authority who can do the best risk 
management is the U.S. military and the CIA and the FBI and the 
Federal Government. At the end of the day--that is why we have 
this event today. In 1993, in 1993 we knew we had a terrorist 
attack. In 1993 we knew it was the same set of buildings. In 
1998 the industry suffered about a little over $1 billion in 
claims. And we were down in Washington looking, because actual 
mechanisms of the industry dealt with it.
    Today, just for the record on the perspective that we are 
talking about, the property casualty business has a revenue of 
$155 billion. When you look at the equity capital of the 
industry supporting the $155 billion, it is anywhere from $80 
to $100 billion. In one event, almost 50 percent of that 
capital has appeared. So now you face executives that say they 
are providing that liquidity in the marketplace. They say if 
they have two such events in the next year, you will have no 
property casualty business. The entire business will vanish.
    Chairman Baker. That is only the case if we have a 
significant untoward event in the near term. If we are able to 
get a few years' grace, the industry can survive. And perhaps 
with tax incentives for reserves, whatever the necessary steps, 
we can get there. The short-term question is--I think the 
principal question we have got to resolve today, in the next 
few days, what do we do about January 1? What does it look like 
and what are the elements for the taxpayer to make marketplace 
    Mr. Bachus. Let me ask another. Should the Secretary be 
given discretion to preempt State regulation?
    Mr. Mathis. In certain areas. Not total.
    Mr. Bachus. It will have to happen.
    Mr. Sinnott. As he says, it will happen in certain cases 
once you get beyond a certain point where rates are not 
tariffed. You know, rates are freely negotiated, policy 
conditions are negotiated. There is not much issue there as far 
as scope of coverage.
    Mr. Mathis. Let us take workers' compensation.
    Mr. Sinnott. Well, that is statutory.
    Mr. Mathis. And it is State regulated in every State, and 
there is no ability to deal with----
    Mr. Sinnott. I was thinking workers' comp. Or what is a 
terrorist about? If we go to 50 States, we will be in 
litigation for the next 50 years.
    Chairman Baker. Some of the things I have read, we are 
going to be in litigation for the next 50 years.
    Mr. Bachus. That is something to give thought to.
    Mr. Mathis. I want to talk totally about a large--we write 
a lot of middle-America business. That is in urban areas.
    Mr. Bachus. OK. Now, this thing includes private passenger 
automobile coverage. We are talking about 7,000 people die 
every day. We insure every automobile every day. Should the 
Government program insure private passenger--isn't there going 
to be a lot of claims?
    Mr. Iordanou. Let me give you a scenario and you draw your 
own conclusion. Most personalized carriers write personal 
automobile and also write homeowners policies.
    Mr. Bachus. Homeowners?
    Mr. Iordanou. Well, if I am in your home and I drink 
contaminated water, I can have a claim against you, in essence, 
against your homeowner's, and I can paint a scenario that maybe 
a water company, their wells get contaminated, and now you have 
a significant number of homes that have contaminated water 
through an agent. And we have significant number of----
    Mr. Bachus. I am just concerned about the volume. If we 
cover private passenger automobile coverage, the Government 
proposed it, that is a big volume of claims.
    Mr. Iordanou. I can envision private passenger automobile 
to have a large number of claims.
    Mr. Bachus. It is in here. Right? What you don't want, you 
don't want a process in the automobile claim where there is 
    Mr. Sinnott. Right.
    Mr. Mathis. I would say to you, we are in the commercial 
line. But I don't want to speak for----
    Mr. Bachus. It is in here right now.
    Chairman Baker. And I thought we had generally agreement 
that--because my comments earlier, I was reflecting on 
commercial reinsurance principally as an interface and 
commercial lines only being subject to----
    Mr. Bachus. Well, right now it is commercial property and 
commercial liability and commercial automobile, workers' 
compensation, private passenger automobile, homeowners. It does 
include business interruption, and that is my next question. 
You know, you are saying that that is----
    Mr. Sinnott. Sure it is.
    Mr. Bachus. It is possible to design a two-tier--what I did 
here is it is more subjective in figuring out----
    Mr. Sinnott. Yeah. It is a difficult business interruption 
    Mr. Bachus. We just have a different--you know, where we 
insure 90 percent, you know, and----
    Mr. Sinnott. We could, but----
    Mr. Bachus. Could we do 80, 75 percent----
    Mr. Sinnott. But the adjustment issue is not as 
straightforward, I grant you, but the World Trade Center claims 
are going to be adjusted eventually. There are going to be some 
disputes as respects property damage and also business 
interruption. There will be a sum total. So the fact that it is 
more difficult to adjust.
    Mr. Bachus. You mean to compute what the loss----
    Mr. Sinnott. Yeah. To calculate what the loss is. I don't 
see why that would make different treatment from the sharing.
    Mr. Bachus. It is----
    Mr. Iordanou. No. It is----
    Mr. Bachus. Certainly you are talking about a proposal by 
the Administration to take care of 50 percent of the profit.
    Mr. Sinnott. I wasn't aware of that. Was that a recent 
    Chairman Baker. There are several memoranda characterizing 
the Administration's proposal. So we don't really have a----
    Mr. Sinnott. I heard the Secretary, and that was the first 
I had heard about it.
    Mr. Bachus. It is in here right now, and what I am saying, 
it certainly won't take care of the problems of increased 
premiums, which I agree is not an insurance problem. It is an 
economic problem. If we are going to have a recovery----
    Mr. Iordanou. You----
    Mr. Bachus. We are already in a recessionary situation.
    Mr. Sinnott.  I can almost guarantee that the primary 
insurance carriers will not cover terrorism on their own for 
business interruption.
    Mr. Bachus. It may be what is done, is that it is an 80/20. 
Either way.
    Mr. Iordanou. So there have got to be those mechanisms. But 
I can tell you the liquidity of the market, working capital and 
capital for fixed assets will disappear. Why will a bank lend 
to a restaurant owner if he can't pay the mortgage back because 
of a business interruption versus a fire?
    Chairman Baker. Sure.
    Mr. Bachus. These are little things. You know, you get a 
package and----
    Mr. Keating. We have got to be very careful to have the 
things to protect----
    Chairman Baker. Well, let me suggest this as a starting 
point for us, because we have got to do something pretty 
quickly. Among the respective interests represented here, send 
us a couple pages apiece on the essential elements you think 
make short-term sense. Let us not try to fix the world long 
term. Let us try and get us past January 1, with the 
understanding that if we can reach an agreement, it would be 
our obligation to come back to stakeholders next year and do it 
the right way, but if you really--in my casual observation, 
where our potential risk is, there aren't many remaining 
elements that offer all the downside that occurred September 
11th, and the likelihood of something of that magnitude 
occurring in the near term, no one knows.
    But it would be very difficult, I think, given all the 
extraordinary measures that have been engaged in, and we 
certainly can expect, I think, more events, but, you know, 
hopefully no loss of lives and very little dollar. If we have 
that luxury and we can do this in a less difficult environment. 
February, March, I think we can craft a package, hearing 
everyone's perspective that makes some long-term economic 
sense, without only debating unnecessarily tax dollars beyond 
foreseeable vision. And to that end, unless you have got 
something further, Spencer, I just----
    Mr. Bachus. Well, we have had mail interruptions here. Does 
that--if you had a company that had mail interruptions because 
of an anthrax scare at a local post office, can they make a 
claim under business----
    Mr. Sinnott. There has got to be----
    Mr. Bachus. Or the business has to be shut?
    Mr. Sinnott. It has got to be damaged from a peril.
    Mr. Bachus. Mail interruption does----
    Mr. Sinnott. Sure.
    Mr. Iordanou. It was the same issue with the Y2K, that 
there was no business interruption, you know, and there was 
mitigation around that.
    Mr. Sinnott. Remember that we will have, I mentioned, our 
insured losses. We will have uninsured losses that will be very 
significant. So insurance----
    Mr. Iordanou. Professionals that you have----
    Mr. Sinnott. Insurance only covers generally a relatively 
small part of what the total loss is.
    Mr. Bachus. And Mr. Williams, there has been a proposal 
from this airline security to the airports, and you all write 
some of that. Be aware that in that bill, the proposal, the 
standby coverage, extended----
    Mr. Williams. Yes.
    Mr. Bachus. We don't know. I am just telling you. They can 
start fighting and you can start fighting about that.
    Chairman Baker. Let me express my appreciation to all of 
you for your long-standing tolerance today. It was a difficult 
day and we made it and it was helpful to us in getting a better 
understanding. Thank you very much.
    [Whereupon, at 5:55 p.m., the hearing was adjourned.]

                            A P P E N D I X

                            October 24, 2001