- FEDERAL INVOLVEMENT IN THE REGULATION OF THE INSURANCE INDUSTRY

[Senate Hearing 108-983]
[From the U.S. Government Publishing Office]

S. Hrg. 108-983

FEDERAL INVOLVEMENT IN THE
REGULATION OF THE INSURANCE INDUSTRY

=======================================================================

HEARING

before the

COMMITTEE ON COMMERCE,
SCIENCE, AND TRANSPORTATION
UNITED STATES SENATE

ONE HUNDRED EIGHTH CONGRESS

FIRST SESSION

__________

OCTOBER 22, 2003

__________

Printed for the use of the Committee on Commerce, Science, and
Transportation

______

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SENATE COMMITTEE ON COMMERCE, SCIENCE, AND TRANSPORTATION

ONE HUNDRED EIGHTH CONGRESS

FIRST SESSION

JOHN McCAIN, Arizona, Chairman
TED STEVENS, Alaska ERNEST F. HOLLINGS, South
CONRAD BURNS, Montana Carolina, Ranking
TRENT LOTT, Mississippi DANIEL K. INOUYE, Hawaii
KAY BAILEY HUTCHISON, Texas JOHN D. ROCKEFELLER IV, West
OLYMPIA J. SNOWE, Maine Virginia
SAM BROWNBACK, Kansas JOHN F. KERRY, Massachusetts
GORDON H. SMITH, Oregon JOHN B. BREAUX, Louisiana
PETER G. FITZGERALD, Illinois BYRON L. DORGAN, North Dakota
JOHN ENSIGN, Nevada RON WYDEN, Oregon
GEORGE ALLEN, Virginia BARBARA BOXER, California
JOHN E. SUNUNU, New Hampshire BILL NELSON, Florida
MARIA CANTWELL, Washington
FRANK R. LAUTENBERG, New Jersey
Jeanne Bumpus, Republican Staff Director and General Counsel
Robert W. Chamberlin, Republican Chief Counsel
Kevin D. Kayes, Democratic Staff Director and Chief Counsel
Gregg Elias, Democratic General Counsel

C O N T E N T S

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Page
Hearing held on October 22, 2003................................. 1
Statement of Senator Hollings.................................... 2
Prepared statement........................................... 3
Statement of Senator Lautenberg.................................. 7
Statement of Senator McCain...................................... 1
Statement of Senator Sununu...................................... 56

Witnesses

Ahart, Thomas, President, Ahart, Frinzi & Smith Insurance Agency,
on behalf of and past President, Independent Insurance Agents &
Brokers of America............................................. 37
Prepared statement........................................... 39
Berrington, Craig A., Senior Vice President and General Counsel,
American Insurance Association (AIA)........................... 46
Prepared statement........................................... 49
Csiszar, Ernst, Vice President, National Association of Insurance
Commissioners.................................................. 8
Prepared statement........................................... 11
Heller, Douglas, Foundation for Taxpayer and Consumer Rights..... 56
Prepared statement........................................... 59
Hunter, J. Robert, Director of Insurance, Consumer Federation of
America........................................................ 22
Prepared statement........................................... 25
Rahn, Stephen E., Vice President, Associate General Counsel and
Director, State Relations, Lincoln National Life Insurance
Company, on behalf of the American Council of Life Insurers.... 81
Prepared statement of American Council of Life Insurers given
by Stephen E. Rahn, Vice President, Associate General
Counsel and Director, State Relations, Lincoln National
Life Insurance Company..................................... 82

Appendix

Atchinson, Brian K., Executive Director, Insurance Marketplace
Standards Association, prepared statement...................... 119
Independent Insurance Agents & Brokers of Arizona (IIABA),
prepared statement............................................. 128
National Association of Mutual Insurance Companies (NAMIC),
prepared statement............................................. 121
Response to written questions submitted by Hon. Olympia J. Snowe
to:
Thomas Ahart................................................. 142
Craig A. Barrington.......................................... 136
Douglas Heller............................................... 139
J. Robert Hunter............................................. 139

FEDERAL INVOLVEMENT IN THE REGULATION OF THE INSURANCE INDUSTRY

----------

WEDNESDAY, OCTOBER 22, 2003

U.S. Senate,
Committee on Commerce, Science, and Transportation,
Washington, DC.
The Committee met, pursuant to notice, at 9:30 a.m. in room
SR-253, Russell Senate Office Building, Hon. John McCain,
Chairman of the Committee, presiding.

OPENING STATEMENT OF HON. JOHN McCAIN,
U.S. SENATOR FROM ARIZONA

The Chairman. Good morning. The purpose of today's hearing
is to explore the effectiveness of the current state-based
system of insurance regulation. In addition to examining the
existing system of regulation, we will hear testimony about
options for improving the current regulatory system, including
initiatives to enhance state-level regulation and proposals to
more actively involve the Federal Government in the regulation
of the insurance business.
While the hearing topic may be straightforward, the
question of how insurance should be regulated is complex and
has long been debated. Over the decades, government officials,
consumer groups, and industry participants have questioned
whether the states should be the primary regulators of the
insurance industry. Indeed, since the passage in 1945 of the
McCarran-Ferguson Actflong- which granted the states the
exclusive power to regulate the business of insurance, the
Federal Government has taken an increasingly active role in the
regulation of the insurance industry.
Still, two major segments of the insurance industry remain
almost exclusively within the jurisdiction of the states,
namely property and casualty insurance and life insurance.
Today's hearing will focus on the regulation of those two lines
of insurance. As we continue to consider and debate the merits
of whether the states or the Federal Government or some
combination of the two should regulate the insurance industry,
I would remind everyone that insurance is a unique business
structured to protect both individuals and businesses from the
risk of financial loss. Because insurance is a business, we
need to make sure that the insurance companies are not overly
burdened by unnecessary regulations.
Just as importantly, because insurance is so crucial to the
day-to-day lives of Americans, we must also ensure that the
interests of insurance consumers are protected, regardless of
whether the states or the Federal Government regulate
insurance.
In sum, our overarching purpose should be to strike a
balance to ensure that consumers are well-protected and that
insurance companies are not saddled with unnecessary regulation
which can hinder their viability and jeopardize the very
consumers we're seeking to protect.
I thank the witnesses for appearing before the Committee
today, and I look forward to hearing their testimony. I'd like
to turn to Senator Hollings, the Ranking Member of the
Committee, who has had a longstanding and ongoing abiding
interest in this issue.

STATEMENT OF HON. ERNEST F. HOLLINGS,
U.S. SENATOR FROM SOUTH CAROLINA

Senator Hollings. Thank you very much, Mr. Chairman, for
your leadership and willingness to call this hearing, because
my position comes over years and years of long experience.
Over 40 years ago as a Governor, I found in our insurance
department that the bonds filed in order to qualify to do
business in the great State of South Carolina were all just
thrown down on the closet floor. The coupons have never been
clipped, and literally 65 million was unaccounted for until we
found it in the closet. We cleaned up the insurance department,
and we have now, seated at the table, Mr. Ernest Csiszar, who
is considered one of the outstanding state commissioners. So my
complaint is not the state of South Carolina at the moment, but
just generally speaking with respect to the states.
Beginning at the beginning, under Article I, Section 8,
insurance is interstate commerce. There isn't any question
about it, except those, of course, that are conducting business
solely within the state. Otherwise, it's interstate commerce,
found so by the U.S. Supreme Court, and accepted by McCarran-
Ferguson, which, in the general sense, has not worked. Why
hasn't it worked? Time and time again, seated up there over the
past several years, they've come to us for product liability
risk retention, they've come to us for flood and crop
insurance, they've come to us for guarantee system with
insurers, and, more recently, of course, for terrorism risk
insurance. And every time they come, particularly with our
experience in this Committee on product liability, the claim
was that they couldn't even have a Little League baseball game
because of the liability insurance of product liability, and
everybody was going out of business, and they had to cancel the
American Legion Series and everything else of that kind. We
found out, rather, their losses were not on account of enormous
product liability suits, but, on the contrary, their bad real
estate investments. That was categorically, everybody agrees
with that, and you don't hear any more about product liability
before this Committee. They have moved on with that particular
political move to so-called tort reform, malpractice, and now
the asbestos case and class actions.
What happens is that you find out from the GAO report that
they really leave a lot to be desired in the Administration,
generally speaking, not necessarily, like I say, in my own
state, but they've got all kind of practices. When the market
is up, they run out and sell, sell, sell. They don't care about
the premium, because they want the money to invest in the
market, because they make way more money on the market than
they do on the premium. And then all of a sudden the market
goes down, and then they say, ``Ooh, malpractice, class
actions, tort reform,'' and come running here. And, bottom
line, I can't find out what is the truth, because I don't
regulate it. Can you imagine having to come in on these
emergency bases time and time and time again, where the
Committee cannot find out what the truth is because we're not
incident to their particular records and everything else,
because we don't have Federal authority?
Well, we've got a good example, and a good example is out
in California, where back in 1988 they passed Proposition 103
and all the companies that went back--turned back the premium--
my particular bill doesn't call for any cancellation or
reduction in the premiums, but they in Proposition 103 put it
back some 20 percent. And they go in now and they have hearings
and everything else before the rate increases. The insurance
industry is thriving and growing and prospering in the state of
California. And it is our hope that we can get in the
interstate commerce, stop all of this gaming the system and
then running to Washington saying, ``Well, we want to
deregulate, deregulate, deregulate,'' until they get into
trouble with their tontine kind of practices, like Prudential
did down in Florida. They sell a policy, gaming it on the stock
market system and everything else of that kind. And then coming
up to us, and then we can't find out what the truth is and
everything else, and then desperately we give them money.
Let's get on and quit playing games and get into a Federal
system, not any either/or where you game it again and where I
can fix this particular insurance commissioner in state X--they
can smile because they know exactly what I'm talking about.
I've been in the game 50 years. And we used to get a necktie in
the legislature in South Carolina, and then we'd all vote for
the Commissioner.
[Laughter.]
Senator Hollings. Thank you, Mr. Chairman.
[The prepared statement of Senator Hollings follows:]

Prepared Statement of Hon. Ernest F. Hollings,
U.S. Senator from South Carolina

For 150 years, insurance has been regulated by the states, and
generally speaking, the industry has provided products that have
enabled businesses and people to accept risks they otherwise would not.
But there are trends developing that strike me as necessary to revisit
the way the industry is regulated.
First, the insurance industry itself comes to Congress asking for
bailouts and backstops with increasing regularity. Then, the industry
turns around and asks for further deregulation, and even the ability to
pick their regulator, when there are significant problems in the market
that calls for more vigorous oversight. Of course, the insurance
industry wants the regulator they get to pick to have a light hand so
they can compete with banks in a climate that emphasizes short-term
profits over long-term stability.
The GAO just weeks ago released a report analyzing the of market
conduct regulation by the States. Market conduct regulation oversees
how insurers treat consumers. The report said: ``States generally have
the systems and tools in place to regulate financial solvency. But
market regulation is hindered by limited resources, a lack of emphasis
on important regulatory tools, and the framework of the system itself,
which requires individual states to oversee companies that operate in
many states or nationwide. As a result, market regulation is currently
based on overlapping and often inconsistent state policies and
activities. While it provides some oversight, it may also place an
undue burden on some insurance companies and, at times, may fail to
adequately protect consumers.''
Due to the limits of this fragmented, state-by-state regulation, no
one stopped the poor investments made by insurance companies during the
late 1990s that have helped drive up premium increases during the past
three years.
The average policyholder may not know that insurance companies do
not just profit on the difference between premiums collected and claims
paid. Large portions of insurance company income is derived from
investing premiums into stocks and bonds until they need the money for
a large payout. An insurance company will often make more profit from
investing the premiums of homeowner policies than on the margin between
homeowner premiums and claims. By 2001, large insurance companies had
more than half of their portfolios invested in corporate stocks and
bonds.
This leaves insurance companies vulnerable to the stock and bond
markets as never before. According to the Foundation for Taxpayer and
Consumer Rights, just 10 companies lost $274 million on investments in
Enron, WorldCom, Adelphia, Global Crossing and Tyco. State Farm Mutual
Auto increased its level of corporate investment by 32 percent since
1994, but lost $60 million on WorldCom and $13 million Enron. Allstate
lost $23 million in the first half of 2002 as the company shed its Tyco
shares. USAA had 57 percent of its portfolio in the stock market, and
lost $63 million in international energy and telecom investments.
It is no coincidence that we have seen insurance premiums rise as
the stock and bond markets have lost value during the past couple
years. When a customer receives a larger bill for homeowners insurance,
it is not because the rate of homeowners claims has dramatically
increased; it is because the insurance company is looking to recover
the lost revenue from poor investment decisions. These companies reap
the gains when investment returns are good, but then stick
policyholders with the bill when investments go bad.
Some insurance executives and representatives of tort ``reform''
interest groups have even admitted to this trend. Victor Schwarz,
General Counsel of the American Tort Reform Association, was quoted in
the April 20, 2003, Honolulu Star-Bulletin as saying, ``Insurance was
cheaper in the 1990s because insurance companies knew that they could
take a doctor's premium and invest it, and $50,000 would be worth
$200,000 five years later when the claim came in. An insurance company
today can't do that.''
And Donald Zuk, CEO of Scpie Holdings, Inc., a leading malpractice
insurer in California, told The Wall Street Journal in 2002 that recent
premium rate increases by insurance companies were ``self-inflicted''
due to poor business management practices--not a spike in malpractice
claims.
We need real Federal regulation, not ``federal option charter''
regulation, to correct these problems in the insurance industry. I have
introduced S. 1373, the Insurance Consumer Protection Act of 2003 to do
just that.
This bill will establish the Federal Insurance Commission, an
independent commission established within the Department of Commerce.
It will be comprised of five commissioners serving seven year terms,
regulating property and casualty lines as well as life insurance.
Workers compensation and state residual workers compensation pools will
be excluded.
Under S. 1373, the McCarran-Ferguson antitrust exemption will be
repealed. The Federal Insurance Commission will be the only regulator
for interstate insurers. Insurers that only do business in the state in
which they are domiciled (intrastate insurers) will be regulated by the
states.
The Commission will be responsible for:

Licensing and Standards for the Insurance Industry

Regulation of Rates and Policies

Annual Examinations and Solvency Review

Investigation of Market Conduct

Establishment of Accounting Standards

The Commission will be able to investigate the organization,
business, conduct, practices and management of any person, partnership,
or corporation in the insurance industry. The Commission will also
create a central depository for insurance data for the purpose of
studying the insurance industry.
In addition, under S. 1373 an independent office will be created
within the Commission to receive complaints and reports about improper
insurance industry practices from the public, and to represent
consumers before the Commission. Consumers will have a right to
challenge rate applications before the Commission.
The Commission will have the ability to issue cease and desist
orders for practices that would place policyholders at risk, and to
levy civil fines for violations of Commission regulations. Actions that
require enforcement actions outside the scope of the Commission's
mandate will be referred to the proper agency. Criminal prosecutions
will be handed to the Department of Justice.
Finally, a national guaranty corporation will be created to provide
payment of life, property and casualty, and health claims when the
insurer is unable to pay. The corporation will also be responsible for
liquidating insolvent insurers.
Real Federal regulation as outlined in S. 1373 would protect
consumers by giving them a voice in the setting of premium rates.
Experiences with California's Proposition 103 legislation, which shares
many of the same concepts as my bill, prove that involving the consumer
in rate-setting will reduce insurance rates for consumers. Proposition
103 has saved California consumers billions of dollars via the prior
approval regulatory structure it created. In the past two months alone,
$62 million has been saved by doctors and homeowners due to rate
challenges brought by consumers. This is a model that has worked in one
of our largest and most populated states, and it should be a guidepost
on how insurance regulation can provide consumer protection and
stability.
Good actors in the insurance industry also would benefit from
Federal regulation. Now, national insurance companies must navigate 50
different state laws regarding insurance, and must also navigate 50
different insurance commissions. Having one set of rules to govern the
entire industry would create great efficiencies and competitive
opportunities for these companies. By standardizing market conduct
regulation standards, states could rely on examination results of other
states, thus reducing the number of duplicative, expensive examinations
companies now undergo.
There is no doubt real Federal regulation of insurance--not
``federal option charter,'' which would allow each company to choose
their regulator--would benefit the industry, the consumer, and the
stability of our overall economy.
I consider the bill a starting point to spark discussions about how
we can transform our fragmented oversight of the insurance industry
into a streamlined, comprehensive review process that will better
protect consumers and the free marketplace.

Attachment

The Chairman. As I mentioned in my opening statement,
Senator Hollings has a longstanding and abiding interest in
this issue.
[Laughter.]
The Chairman. Senator Lautenberg?

STATEMENT OF HON. FRANK R. LAUTENBERG,
U.S. SENATOR FROM NEW JERSEY

Senator Lautenberg. Thanks, Mr. Chairman, and we hope that
we can keep Senator Hollings' standings on the issues after
his--after he decides to become a golf pro or whatever else he
intends.
[Laughter.]
Senator Lautenberg. But we're sure going to miss Senator
Hollings, and we look with interest at his proposal here,
although we're not quite prepared to say yes to that today.
And traditionally, insurance regulation has been left to
the states, and I can tell you that the cost of insurance,
especially auto insurance, is a huge issue for my constituents
in New Jersey and others in the Northeast. The citizens of New
Jersey, New York, and Massachusetts pay the highest premiums in
the Nation for private passenger auto insurance. In 2001, the
average premium nationwide was $718, but in New Jersey the
average was $1,028, a substantial difference. According to a
survey published by the National Association of Insurance
Commissioners, New York drivers came in second, paying $1,015,
and Washington, D.C., the drivers came in third, paying over a
thousand dollars; they're $1,012. Massachusetts, it was the
fourth, and they pay $936 for their automobile insurance,
compared to, again, New Jersey, at $1,028. Seven of the top
states, top ten states, with the highest auto insurance rates
are located in the Northeast. Clearly, this is a problem. The
question is whether the Federal Government ought to get
involved. In New Jersey, our Governor has made auto insurance
reform a priority. He's tackled the issue head on, signed the
New Jersey Automobile Insurance Competition and Choice Act into
law this past summer.
Now, the new law doesn't automatically cut premiums.
Instead, it's intended to bring more insurers to the state by
scaling back the regulations that some blame for forcing
companies out of New Jersey. Competition presumably will drive
premiums down. The new law tackles consumer issues, such as
fraud, and allows drivers with good records to pay less than
motorists with lots of tickets. But the bulk of the measure
targets insurers.
The new law phases out the requirements that companies
write policies for all drivers. It also streamlines the process
for rate increases and scales back the rules requiring insurers
to return excess funds to policyholders if the company averages
more than 6 percent profit over 3 years.
As a direct result of auto insurance reform in New Jersey,
the tide of insurers leaving the state seems to be turning.
While more than 25 carriers have left New Jersey over the last
decade, a major carrier, Mercury General Insurance, has become
the first new insurer to enter this New Jersey market in 7
years. State Farm Insurance, which had previously announced
that it intended to stop serving New Jersey consumers, has
announced now that it plans to stay for four more years and has
cut its rates by 4.1 percent, and that puts $70, on average,
back into the pockets of the policyholders.
The bottom line is that New Jersey appears to be headed in
the right direction in dealing with its auto insurance woes.
And I look forward to hearing from our friends, the witnesses,
about what role, if any, the Federal Government should play in
regulating property, casualty, and life insurers who write $700
billion in net premiums each year.
So, Mr. Chairman, once again, I thank you. The subject's an
important one. I think this is kind of a first that this has
been looked at.
The Chairman. Thank you, Senator Lautenberg.
The first from our panel of witnesses this morning is Mr.
Ernst Csiszar, who's the Director of South Carolina's
Department of Insurance, and Vice Chairman of the Executive
Committee of the National Association of Insurance
Commissioners; Mr. Tom Ahart, former President of Independent
Insurance Agencies and Brokers of America; Mr. Craig
Berrington, the Senior Vice President and General Counsel of
American Insurance Association; Mr. Stephen E. Rahn, Vice
President, Associate General Counsel, and Director of State
Relations, Lincoln National Life Insurance Company; Mr. J.
Robert Hunter, Director of Insurance in the Consumer Federation
of America; and Mr. Douglas Heller, Senior Consumer Advocate,
the Foundation for Taxpayer and Consumer Rights.
Welcome, Mr. Csiszar, we'll begin with you.

STATEMENT OF ERNST CSISZAR, VICE PRESIDENT, NATIONAL
ASSOCIATION OF INSURANCE COMMISSIONERS

Mr. Csiszar. Thank you, Mr. Chairman, Senators, Senator
Hollings, Senator Lautenberg, Senator Nelson.
The Chairman. You'll have to pull that microphone a little
closer, if you don't mind.
Mr. Csiszar. I'm delighted to be here, and let me begin by
stating to Senator Hollings, that I think my Governor would
embrace me with open arms if I could find $65 million for his
budget in a closet somewhere in South Carolina, because we're--
right now, we're hurting under budget shortfalls.
But let me begin by----
Senator Hollings. He won't find it sleeping together.
[Laughter.]
Senator Hollings. The Governor says in order to economize
and balance the budget, that he wants state officials that go
around on various missions to start sleeping----
Mr. Csiszar. That's correct.
Senator Hollings.--together.
[Laughter.]
Mr. Csiszar. The ``buddy system,'' we call it.
[Laughter.]
Senator Hollings. You've got the wrong job.
[Laughter.]
The Chairman. You're the wrong type, Senator.
Mr. Csiszar. Notice I have one of my associates back here
with me, and she's female.
The Chairman. I don't know how much further we ought to
push these----
[Laughter.]
Mr. Csiszar. Let's stick to insurance regulations.
The Chairman.--budget-cutting measures.
Mr. Csiszar. Let me begin by essentially recounting the
fundamental purpose of insurance regulation. This purpose--this
has been its purpose for the last 125 years. It has been a
state-based system, but albeit all along the purpose has been
consumer protection.
And the primary ways in which we pursue that objective at
the state level is through two different means. One, because
insurance is the type of product where your money comes first
and the benefits, if any, sometimes come much later, so one way
in which we regulate the industry is by way of solvency. We do
financial analyses and reporting and disclosure and
transparency. There is a separate accounting system, in fact, a
more conservative accounting system than U.S. GAAP. It's known
as statutory accounting. And we monitor the solvency of
companies, largely to make sure that when the time comes for
that benefit to be paid, that the companies are still around.
The second way in which we regulate insurance companies is
through a market conduct process, and this is primarily driven
by abusive practices, for instances, practices like redlining,
for instance, other types of--for instance, the Prudential
practice that you mentioned, Senator Hollings, a few years ago.
We regulate that process through market conduct, market conduct
exams, and a variety of laws on the books of states that deal
with trade practices, unfair trade practices, discriminatory
trade practices, and so on.
Under that umbrella of solvency regulation and market
conduct regulation, the entities that we regulate are in the
thousands, tens of thousands. They include the primary
carriers, both on the life side, as well as the property and
casualty side. These are the companies that sell directly to
you, to the public. Certainly there is also a component of
health insurance in there, but as I understand it today we're
confining ourselves to property and casualty and life.
So there are thousands of companies on the primary side,
there are not in the thousands, but in the dozens, of
reinsurers that come under the umbrella of regulation, largely
through what we call a credit-for-reinsurance system, so it's
an indirect kind of regulation, by and large driven by the fact
that you have sophisticated customer transactions. This like
the wholesale market versus the retail market, in a way.
And, last, of course, we regulate the distribution system,
be that through independent agents, be that through captive
agents, be that through agents who are on staff of insurance
companies. So we regulate the distribution system through a
licensing process. And, of course, the companies themselves
have to go through a licensing process.
The way it's worked in the past, particularly as you look
at them, let me start with the solvency issue.
By and large, the process takes place by way of financial
exams, but also through rate regulation and form regulation and
certain lines of business. And it varies sometimes from state
to state, albeit--but certain lines of business have to go
through rate reapprovals, certain lines of business go through
product reapprovals, on the property and casualty side.
To differentiate that from the life side, on the life side
there has never been rate regulation at the state level. There
has always been--the regulatory process has always been
confined to product regulation, to form regulation, if you
will.
So there is some differentiation there between the
approaches, but, by and large, the system, when you look at it
historically, when you look at it from the standpoint of
solvency regulation, for instance, of--yes, there have been
hiccups here and there--we had some hiccups back in the 1980s,
when Chairman Dingle, you might recall, had a lot to say about
what was happening in the industry--but, by and large, the
state system has worked.
And now, of course, we're faced with the fact that there
are a number of drivers in the market that, in essence, dictate
that regulators go back and take a new look at how we regulate.
And when I say ``the drivers,'' I mean, things like
convergence, for instance. Certainly, what Gramm-Leach-Bliley,
the legislation that was passed several years ago, has made
clear is that there is, in fact, a convergence of products in
the financial sector--banking, securities, insurance--and that
in many ways what we're speaking of is really one financial
sector, no longer this artificial division between banking,
securities, and insurance. With that convergence, of course,
new competitors, in fact, the insurance industry finds itself
with new competitors, with a need for new products, with a new
need for innovation, with a new need for pricing flexibilities,
for instance, so this is one of the drivers. Technology is
another one, communications and information technology, for
instance. And then, of course, we hear the overused word of
globalization, but it is a reality, because if there ever was a
global industry, it's the reinsurance industry. Most of our
reinsurers, with one or two exceptions, are now entirely
offshore. All the large ones are offshore--German companies,
French companies, Bermuda companies, and so on. So there is a
globalization factor that needs to be considered.
And as a result of that, at the NAIC level, and also at the
state level, we've, for instance, in South Carolina, undertaken
many a reform, in essence, to provide a more market-driven kind
of system. And to answer Senator Lautenberg, in that respect,
South Carolina, for instance, we've gone through a file-and-use
system with rate bans, and under that system, we have managed,
in essence, to attract over 200 new companies into the state,
and we have done away with what used to be a state reinsurance
facility that had 43 percent of the market and incurred between
$180 million and $200 million a year in deficits, by and large
because rate suppression was taking place within that mechanism
of the state reinsurance facility.
So both at the state level, as well as at the NAIC level,
we've undertaken a reform effort. In the aftermath,
particularly in the aftermath, as I said, of Gramm-Leach-
Bliley. At the NAIC, these reforms have included an entire
review, which is in--work in progress, of our market conduct
function to make it more coordinated. We understand that's a
considerable cost to the industry, and we do want to make the
process more efficient. It is disjointed at this point. It
needs more coordination. Speed-to-market initiatives, licensing
under the NARAB provisions, for instance, of Gramm-Leach-
Bliley, we've made much more efficient, so that there's
reciprocity. Streamlining mergers and acquisitions. And, of
course, throughout this process we work very closely with
NCOIL, the Conference of Insurance Legislators, as well as with
NCSL, the state legislature.
Our fear of a Federal, some type of Federal intervention in
the process very simply is that we end up with two systems, and
that may well be good for companies, insofar as choice is
concerned, but we think it's bad for consumers. We really think
that consumers that face a choice of two different levels of
consumer protections, that isn't the ideal world for consumers.
So we're very much in favor of maintaining and reforming the
state-based system, fully realizing that change in many ways,
indeed, is necessary.
Second, we don't think that the Federal Government really
has done all that great a job----
The Chairman. Mr. Csiszar, you're going to have to
abbreviate, please.
Ms. Csiszar. I will make it short, thank you--that the
Federal Government has done all that great a job in other
respects, and we really think that state regulation has proven
itself over the years. And I'll leave it at that to questions,
Mr. Chairman.
[The prepared statement of Mr. Csiszar follows:]

Prepared Statement of Ernst Csiszar, Vice President, National
Association of Insurance Commissioners

Introduction
Good morning, my name is Ernst Csiszar. I am the Director of
Insurance for the State of South Carolina, and this year I am serving
as Vice President of the National Association of Insurance
Commissioners (NAIC). I am pleased to be here on behalf of the NAIC and
its members to provide the Committee on Commerce, Science and
Transportation with an overview and update of our efforts to modernize
state insurance supervision to meet the true demands of the 21st
Century.
Today, I would like to make three basic points--

First, effective consumer protection that focuses on local
needs is the hallmark of state insurance regulation because we
understand local and regional markets and the needs of
consumers in those markets.

Second, with the NAIC's adoption in September 2003 of ``A
Reinforced Commitment: Insurance Regulatory Action Plan'',
state regulators are on time and on target to accomplish
changes needed to modernize the system of insurance regulation
in the United States. Our goal is to achieve a more uniform
state regulatory system because it makes sense for both
consumers and insurers. However, in areas where different
standards among states are required because they address
regional needs, we are harmonizing state regulatory procedures
to ease compliance by insurers and agents doing business in
those markets.

Third, we believe any Federal legislation dealing with
insurance regulation carries the risk of creating an
unnecessary bureaucracy and the risk of undermining state
consumer protections due to unintended or unnecessary
preemption of state laws and regulations.

Why Are Insurance Companies and Agents Regulated?
As the Senate Commerce Committee evaluates state insurance
regulation, members of the NAIC hope you will start by asking the
fundamental question: ``Why are insurance companies and agents
regulated in the United States?'' Government regulation of insurance
companies and agents began in the states well over a century ago for
one overriding reason--to protect consumers. Our most important
consumer protection is to assure that insurers remain solvent so they
can meet their obligations to pay claims, as recently evidenced in the
aftermath of September 11th and Hurricane Isabel. Beyond that, states
supervise insurance sales and marketing practices, as well as policy
terms and conditions, to ensure that consumers are treated fairly when
they purchase insurance products and file claims.
It is fair to ask how the system of regulation can be made most
compatible with the demands of commercial competition without
sacrificing the needs of consumers. As the Director of the South
Carolina Department of Insurance, I believe that competition, within
the proper regulatory framework, can be used as an effective component
of insurance regulation. Consumers benefit directly from competitive
insurance markets.

Protecting Consumers is the First Priority of State Insurance
Regulation
Protecting insurance consumers in a world of hybrid institutions
and products must start with a basic understanding that insurance is a
different business than banking and securities. Insurance is a
commercial product based upon subjective business decisions. As
regulators of insurance, state governments are responsible for making
sure the expectations of American consumers are met regarding financial
safety and fair treatment by insurance providers. The states maintain a
system of financial guaranty funds that cover personal losses of
consumers in the event of an insurer insolvency. The entire state
insurance system is authorized, funded, and operated at no cost to the
Federal government.

States Have a Strong Record of Successful Consumer Protection
There have been charges from some industry groups that the state
regulatory system is inefficient and burdensome, and that a single
Federal regulator would be better. As government officials responsible
for operating the state system, we understand that any government
regulation, including insurance regulation, may be considered
inconvenient and occasionally frustrating to those persons who wish to
do business on their own terms.
However, the NAIC and its members do not believe the consumers we
serve each day think we are inefficient or burdensome. During 2001, we
handled approximately 3.6 million consumer inquiries and complaints
regarding the content of their policies and their treatment by
insurance companies and agents. Many of those calls led to a successful
resolution of the problem at little or no cost to the consumer. This
does not include the numerous industry complaints that were
successfully resolved by regulators.
The September 11, 2001 terrorist attacks on America were a horrible
and tragic event that exposed serious weaknesses in certain government
operations in this country. Yet the state insurance regulatory system
was proven to be sound, even when hit with a sudden $40 billion
catastrophe that ultimately will be the most expensive in history. If
our existing system operates smoothly under the most horrific and
unexpected conditions, we question why anyone would want to supplant
it.
State regulators know from years of firsthand experience that when
consumers need help with insurance sales or claims problems, they
naturally look to their state agency to get assistance. We are
accessible through a local call or visit, and every state has trained
staff and programs to assist consumers promptly.
State Regulatory Modernization: On Time and On Target
While recognizing the inherent strength of the state system when it
comes to protecting consumers, we also agree that there is a need to
improve the efficiency of the system. In March 2000, the Nation's
insurance commissioners committed to modernizing the state system by
endorsing an action plan entitled ``Statement of Intent--The Future of
Insurance Regulation.'' Working in their individual states and
collectively through the NAIC, we have made tremendous progress in
achieving an efficient, market-oriented regulatory system for the
business of insurance as shown below--

Producer Licensing and Reciprocity

Adopted the Producer Licensing Model Act (PLMA) that 49
states have enacted.

By year-end 2002, 36 states had implemented State Licensing
Reciprocity, thus exceeding the Federal mandate. To date, 39
states now implement SLR.

Via the NAIC's affiliate, the National Insurance Producer
Registry (NIPR), we've created the Producer Database, which
holds information relating to over 3 million insurance agents
and brokers. 50 states, D.C. and Puerto Rico now use the
Producer Database to share information; 1,200 insurers also
utilize it.

15 states now use the NIPR Gateway, a system that links
state regulators electronically with insurance companies to
facilitate the exchange of producer information. Allows for the
exchange of non-resident license applications, appointment
renewals and termination information.

Have created a streamlined company licensing system via
uniform laws and electronic processing, called the Uniform
Certificate of Authority Application (UCAA). 51 jurisdictions
now accept the UCAA licensing application.

Speed to Market

Created the System for Electronic Rate and Form Filing
(SERFF) in 2001.

As of August 31, 2003, more than 48,000 filings were
submitted via SERFF to the states, an 88 percent increase over
all filings in 2002. The target for 2003 is 75,000 filings.

Total number of insurance companies licensed to use SERFF
now exceeds 885, including major players such as Prudential,
Liberty Mutual, Manulife, The Hartford and Zurich America.

To date, 50 states accept property/casualty filings via
SERFF, 48 states accept life insurance filings via SERFF, and
41 states accept health insurance filings via SERFF.

Goal of all states accepting rate and form filings via
SERFF, for all lines of insurance and all filing types, by
December 31, 2003.

Average turnaround time for filings made via SERFF is only
17 days.

Market Conduct and Consumer Protection

Drafted the Uniform Examination Outline

42 states currently certify compliance with two or more of
the following exam areas: scheduling, pre-exam planning,
procedures, and reports.

Created the Consumer Information Source (CIS) link on the
NAIC website, allowing consumers to file complaints
electronically, research complaint history of insurance
companies and to search and download information on selected
insurance companies.

We have now taken the next step of developing specific program
targets and establishing a common schedule for implementing them. At
the NAIC's Fall National Meeting in September 2003, we adopted ``A
Reinforced Commitment: Insurance Regulatory Action Plan'' (See
Attachment A). This landmark document--the result of lengthy
discussions and difficult negotiations--puts the states on a track to
reach all key modernization goals at scheduled dates ranging from
December 31, 2003 to December 31, 2008.
Let me point out that these specific regulatory program targets
were developed with extensive input from industry and consumer
representatives who are active in the NAIC's open committee process. To
our knowledge, every legitimate complaint regarding inefficiency and
redundancy in the state system has been effectively addressed by our
new regulatory action plan that will phase-in the necessary
improvements over the next five years. Even if an alternative Federal
regulatory system were set up tomorrow, there is no way it could
achieve these improvements on a schedule that comes close to the
aggressive timetable which state regulators have adopted voluntarily.

Specific Action Goals in the NAIC Plan
Although a complete description of our detailed program is
contained in Attachment A, the following is a summary of NAIC's
declared principles and goals reflecting our commitment to continue
modernizing insurance regulation:

I. Consumer Protection

``An open process . . . access to information and
consumers' views . . . our primary goal is to protect
insurance consumers, which we must do proactively and
aggressively, and provide improved access to a
competitive and responsive insurance market.''

II. Market Regulation

``Market analysis to assess the quality of every
insurer's conduct in the marketplace, uniformity, and
interstate collaboration . . . the goal of the market
regulatory enhancements is to create a common set of
standards for a uniform market regulatory oversight
program that will include all states.''

III. Speed-to-Market for Insurance Products

``Interstate collaboration and filing operational
efficiency reforms . . . state insurance commissioners
will continue to improve the timeliness and quality of
the reviews given to insurers' filings of insurance
products and their corresponding advertising and rating
systems.''

IV. Producer Licensing

``Uniformity of forms and process . . . the NAIC's
broad, long-term goal is the implementation of a
uniform, electronic licensing system for individuals
and business entities that sell, solicit or negotiate
insurance.''

V. Insurance Company Licensing

``Standardized filing and baseline review procedures .
. . the NAIC will continue to work to make the
insurance company licensing process for expanding
licensure as uniform as appropriate to support a
competitive insurance market.''

VI. Solvency Regulation

``Deference to lead states . . . state insurance
regulators have recognized a need to more fully
coordinate their regulatory efforts to share
information proactively, maximize technological tools,
and realize efficiencies in the conduct of solvency
monitoring.''

VII. Change In Insurance Company Control

``Streamline the process for approval of mergers and
other changes of control.''

NAIC members understand that these goals present difficult
challenges; however, with the active participation of governors and
state legislators, as well as industry and consumer advocates, we are
confident that NAIC member states will achieve these goals in the near
term.

Achieving State Uniformity for Life Insurance Products
Life insurance product approval by regulators is an area that
deserves special comment. Where appropriate, the NAIC and the states
are working to achieve full regulatory uniformity to benefit both
consumers and insurance providers. Marketing life insurance is an area
where we agree with industry that uniformity is needed to enable life
insurers to market products nationally. In fact, aside from producer
licensing, this is one of the few areas that has generated a true
national consensus for reform among all segments of industry,
consumers, and regulators.
To accomplish uniform supervision of life insurance products within
the state system, the NAIC--in consultation with state legislators--
developed an interstate compact model that we are working to get
adopted by the states. The goal of the compact is to establish a single
point of filing where life insurers would file their products for
approval and thereafter, assuming the product satisfies appropriate
product standards created jointly by the compacting states, be able to
sell those products in multiple states without the need for making
separate filings in each state.
The key points that make a compact attractive are: (1) the states
will continue to regulate product approvals for annuities and life
insurance products through the compact (as opposed to Federal
preemption); (2) each state in the compact helps govern the activities
of the compact; (3) we do not anticipate that states will lose revenues
generated through product filings; and (4) states will be able to
withdraw from the compact through legislative action.

Market Regulation--More Difficult to Harmonize than Financial
Regulation
Another regulatory area that deserves special comment is market
regulation. The GAO issued a report on this subject in September 2003
entitled ``Insurance Regulation: Common Standards and Improved
Coordination Needed to Strengthen Market Regulation'' (GAO-03-433).
While the NAIC cooperated with GAO and agrees with much of the GAO's
analysis, we believe a deeper understanding of how market regulation
works is necessary to appreciate the difficulties any regulatory agency
faces in attempting to harmonize market conduct processes.
On the financial regulation side, the NAIC and the states have
developed an effective accreditation system that is built on the
concept of domiciliary deference (i.e., the state where the insurer is
domiciled takes the lead role). This makes eminent sense because
financial records do not change state to state; if one state has
reviewed financial records and determined a company to be in good
standing, it would truly be redundant for another state to review those
same records. The market side is not as straightforward. The market
behaviors of insurers can be quite different from one state to another,
both because the laws may be different and because insurer compliance
with the laws may vary by state. In short, market regulation is
definitely not an area where ``one size fits all'' across the country.
Efforts to improve market regulation must start by recognizing that
it is multi-faceted, and that the best way to make market regulation
both more effective and more efficient is to focus on bringing more
coordination to the various facets of regulation. The NAIC has
identified seven major market regulatory components that are common to
all state insurance departments:

Consumer complaint handling

Producer licensing

Rate and form review

Market analysis

Market conduct examinations

Investigations

Enforcement

In addition, state insurance departments typically include various
other ancillary activities, such as consumer education and outreach,
oversight of residual markets, and antifraud programs.
A formal market analysis program is being integrated into the
market surveillance programs as a part of our modernization efforts.
Effective use of market analysis techniques, such as enhanced data
sharing and interpretation, can also help achieve coordinated state
regulatory action with substantially less redundancy and cost. While
market conduct examinations may require more collaboration and
consistency, they will continue to be necessary components of market
surveillance.
The NAIC has been looking carefully at the extent to which one
state can rely on the findings of another state when it comes to making
regulatory decisions about examinations, investigations, and
enforcement actions. We are looking at collaborative models for relying
on the domestic state (or some combination of states) for baseline
monitoring of companies, and we have several specific collaborative
projects underway. But, ultimately, we cannot escape the fact that
regulatory violations can affect consumers in different states quite
differently. Because regulators are government officials who must
enforce the laws of their state, they cannot delegate that
responsibility to someone who may not understand or appreciate the
nature of a particular violation and its impact on local consumers. Any
modernized market surveillance program developed must contain
sufficient flexibility to permit states to enforce their laws and
protect their citizens.
We believe much progress can be made to achieve the goals of
efficiency sought by industry representatives in our market
surveillance processes. However, we do not overlook the fact that
insurance must be regulated to protect local consumers. Regulatory
efficiency for its own sake should not undermine the credibility and
effectiveness of the state regulators charged with enforcing consumer
protection laws.

Federal Legislation Must Not Undermine State Modernization Efforts
The NAIC and its members believe Congress must be very careful in
considering potential Federal legislation to achieve modernization of
insurance regulation in the United States. Even well-intended and
seemingly benign Federal legislation can have a substantial adverse
impact on state laws and regulations that protect insurance consumers.
For example, when Congress passed the Gramm-Leach-Bliley Act (GLBA) in
1999, it acknowledged once again that states should regulate the
business of insurance in the United States, as set forth originally in
the McCarran-Ferguson Act. There was a careful statutory balancing of
regulatory responsibilities among Federal banking and securities
agencies and state insurance departments, with the result that Federal
agencies would not be involved in making regulatory determinations
about insurance matters. Even though Congress tried very hard in GLBA
to craft language that would not preempt state laws unnecessarily,
there have already been disagreements and inconsistent interpretations
about the extent to which federally-chartered banks may conduct
insurance-related activities without complying with state laws.
We fully expect that creating a Federal charter for insurers, along
with its Federal regulatory structure, will cause far greater problems
for states and insurance regulation in general than those resulting
from the GLBA provisions dealing with banks. For instance, federally-
chartered insurers would certainly insist that state laws involving
solvency and market conduct cannot ``prevent or significantly
interfere'' with their federally-granted powers to conduct insurance
business anywhere in the United States. The result will be years of
market and regulatory confusion that will benefit the legal community
rather than insurance providers and consumers.

The Impact of Federal Chartering on State Regulation Will Not Be
Optional
A Federal charter and its regulatory system would result in two
separate insurance systems operating in each state. The first would be
the current system of supervision by state insurance departments under
state law that will continue responding directly to state voters and
taxpayers.
The second system would be a new Federal regulator with zero
experience in the local state laws that control the content of
insurance policies, claims procedures, contracts, and legal rights of
citizens in tort litigation. This new Federal regulator would
undoubtedly have the power to preempt state laws that disagree with the
laws governing policyholders and claimants of federally-chartered
insurers. At the very least, this situation will lead to confusion. At
worst, it will lead to two levels of consumer protection based upon
whether an insurer is chartered by Federal or state government.
Granting a government charter for an insurer means taking full
responsibility for the consequences, including the costs of
insolvencies and the complaints of consumers. The states have fully
accepted these responsibilities by covering all facets of insurance
licensing, solvency monitoring, market conduct, and handling of
insolvent insurers. The NAIC does not believe Congress will have the
luxury of granting insurer business licenses without also being drawn
into the full range of responsibilities that go hand-in-hand with a
government charter to underwrite and sell insurance.
Despite our different sizes, geography, and market needs, states
work together through the NAIC as legal equals under the present
system. We find solutions as a peer group through give-and-take and
mutual respect, knowing that no single state can force its own way over
the objections of other states. Keeping in mind that the original
purpose of regulation is to protect consumers, we believe such
participatory democracy and state decision-making based upon the
realities of local markets is a major strength of our system for
regulating insurers and agents.
A Federal insurance regulator would not be just another member of
NAIC, it would instead be a super-agency with power to intervene and
overrule every state and territory under United States jurisdiction.
The local needs and wants of citizens protected under state laws would
be subjugated to the national agenda of insurers and Federal
regulators.

Conclusion
The system of state insurance regulation in the United States has
worked well for 125 years. State regulators understand that protecting
America's insurance consumers is our first responsibility. We also
understand that commercial insurance markets have changed, and that
modernization of state insurance standards and procedures is needed to
ease regulatory compliance for insurers and agents.
We ask Congress and insurance industry participants to work with us
to implement the specific improvements set forth in NAIC's A Reinforced
Commitment: Insurance Regulatory Modernization Action Plan through the
state legislative system. That is the only practical way to achieve
necessary changes quickly in a manner that preserves state consumer
protections expected by the public. The NAIC and its members will
continue to work with Congress and within state government to improve
the national efficiency of state insurance regulation while preserving
its longstanding dedication to protecting American consumers.

Attachment A

President Commissioner Mike Pickens (Arkansas)

Vice President Director Ernst Csiszar (South Carolina)

Secretary-Treasurer Administrator Joel Ario (Oregon)

Immediate Past President Commissioner Terri Vaughan (Iowa)

A Reinforced Commitment:
Insurance Regulatory Modernization Action Plan

In March 2000, the National Association of Insurance Commissioners
put forth our Statement of Intent--The Future of Insurance Regulation.
Working in our individual states and collectively through the NAIC, we
have made tremendous progress. We are proud of what has been
accomplished, but believe more dramatic advances in unifying state
regulatory processes are needed to further improve insurance
marketplace efficiencies and to protect the needs of insurance
consumers in the 21st Century.
The National Association of Insurance Commissioners is renewing our
commitment to modernizing the state-based system of insurance
regulation. As committed in our original Statement of Intent, our
primary goal is to protect insurance consumers, which we must do
proactively and aggressively. We also recognize that consumers and the
marketplace are best served by efficient, market-oriented regulation of
the business of insurance.
The insurance industry must operate on a financially sound basis in
order to manage risk and to provide financial protection to families
and businesses. Our Nation's economy depends on the insurance
industry's ability to effectively manage risk. A solid regulatory
framework provides for efficient, safe, fair and stable insurance
markets.
Like other sectors of the financial services marketplace, the
insurance industry and its products are changing in response to the
wants and needs of consumers. Increasingly the insurance industry is
viewed in a global context. Advances in technology facilitate the
opportunity to offer new insurance products thus providing consumers
with greater choice and enabling them to become better informed as to
those choices.
States have met the challenge of regulating a national and
international business on a fifty state basis using a number of
innovative mechanisms. The NAIC Financial Regulation and Accreditation
Standards Program has served the insurance industry and consumers well
for the past fourteen years. The program has ensured coherent financial
solvency oversight and has proven to be a highly effective approach
within the state-based system. As licensing states substantially defer
to the insurer's home state for nearly all aspects of financial and
solvency regulation, the state solvency system promotes intelligent and
efficient use of finite regulatory resources. By focusing on those
insurers that pose solvency risks, this system has strengthened
protection of policyholders and benefited both the insurance industry
and policyholders by minimizing regulatory costs. While NAIC members
continue to seek greater effectiveness and improvements to the
financial standards of the program, it can serve as a template for
market based regulatory reforms.
Using this state-based solvency system as a model, the members of
the NAIC will design and implement similar uniform standards for
producer licensing, market conduct oversight, and rate and form
regulation. In addition, the NAIC will expand the existing financial
regulation framework to institute true uniformity and reciprocity in
company licensing requirements, and further enhance financial condition
examinations, and changes of an insurer's control during mergers and
acquisitions.

PRINCIPLES AND GOALS
The following is a declaration of NAIC principles and goals
reflecting our commitment to continuing to modernize insurance
regulation:

I. Consumer Protection

II. Market Regulation

III. Speed-to-Market for Insurance Products

IV. Producer Licensing

V. Insurance Company Licensing

VI. Solvency Regulation

VII. Change In Insurance Company Control

``Streamline the process for approval of mergers and
other changes of control.''

NAIC members understand that these goals present difficult
challenges; however, with the active participation of state governors
and state legislators, industry and consumer advocates, and state
insurance department regulators, we are confident NAIC member states
will achieve these goals in the near term.
* * *

ACTION PLAN

I. Consumer Protection
An open process . . . access to information and consumers'
views . . . our primary goal is to protect insurance consumers,
which we must do proactively and aggressively, and provide
improved access to a competitive and responsive insurance
market.

The NAIC members will keep consumer protection as their highest
priority by:

(1) Providing NAIC access to consumer representatives and having an
active organized strategy for obtaining the highly valued input
of consumer representatives in the proceedings of all NAIC
committees, task forces, and working groups;

(2) Developing disclosure and consumer education materials,
including written and visual consumer alerts, to help ensure
consumers are adequately informed about the insurance market
place, are able to distinguish between authorized an
unauthorized insurance products marketed to them, and are
knowledgeable about state laws governing those products;

(3) Providing an enhanced Consumer Information Source (CIS) as a
vehicle to ensure consumers are provided access to the critical
information they need to make informed insurance decisions;

(4) Reviewing and assessing the adequacy of consumer remedies,
including state arbitration laws and regulations, so that the
appropriate forums are available for adjudication of disputes
regarding interpretation of insurance policies or denials of
claims; and

(5) Developing and reviewing consumer protection model laws and
regulations to address consumer protection concerns.

II. Market Regulation
Market analysis to assess the quality of every insurer's
conduct in the marketplace, uniformity, and interstate
collaboration . . . the goal of the market regulatory
enhancements is to create a common set of standards for a
uniform market regulatory oversight program that will include
all states.

The NAIC has established market analysis, market conduct, and
interstate collaboration as the three pillars on which the states'
enhanced market regulatory system will rest. The NAIC recognizes that
the marketplace is generally the best regulator of insurance-related
activity. However, there are instances where the market place does not
properly respond to actions that are contrary to the best interests of
its participants. A strong and reasonable market regulation program
will discover these situations, thereby allowing regulators to respond
and act appropriately to change company behavior.

Market Analysis
While all states conduct market analysis in some form, it is
imperative that each state have a formal and rigorous market analysis
program that provides consistent and routine reports on general market
problems and companies that may be operating outside general industry
norms. To meet this goal:

(1) Each state will produce a standardized market regulatory profile
for each ``nationally significant'' domestic company. The
creation of these profiles will depend upon the collection of
data by each state and each state's full participation in the
NAIC's market information systems and new NAIC market analysis
standards; and

(2) Each state will adopt uniform market analysis standards and
procedures and integrate market analysis with other key market
regulatory functions.

Market Conduct
States will also implement uniform market conduct examination
procedures that leverage the use of automated examination techniques
and uniform data calls; and

(1) States will implement uniform training and certification
standards for all market regulatory personnel, especially
market analysts and market conduct examiners; and

(2) The NAIC's Market Analysis Working Group will provide the
expertise and guidance to ensure the viability of uniform
market regulatory oversight while preserving local control over
matters that directly affect consumers within each state.

Interstate Collaboration
The implementation of uniform standards and enhanced training and
qualifications for market regulatory staff will create a regulatory
system in which states have the confidence to rely on each other's
regulatory efforts. This reliance will create a market regulatory
system of greater domestic deference, thus allowing individual states
to concentrate their market regulatory efforts on issues that are
unique to their individual market place conditions.

(1) Each state will monitor its ``nationally significant'' domestic
companies on an on-going basis, including market analysis and
appropriate follow up to address any identified problems;

(2) Market conduct examinations of ``nationally significant''
companies performed by a non-domestic state will be eliminated
unless there is a specific reason that requires a targeted
market conduct examination; and

(3) The Market Analysis Working Group will assist states to identify
market activities that have a national impact and provide
guidance to ensure that appropriate regulatory action is being
taken against insurance companies and producers and that
general market issues are being adequately addressed. This peer
review process will become a fundamental and essential part of
the NAIC's market regulatory system.

III. ``Speed-to-Market'' for Insurance Products
Interstate collaboration and filing operational efficiency
reforms. . .state insurance commissioners will continue to
improve the timeliness and quality of the reviews given to
insurers' filings of insurance products and their corresponding
advertising and rating systems.

Insurance regulators have embarked on an ambitious `Speed-to-Market
Initiative' which covers the following four main areas:

(1) Integration of multi-state regulatory procedures with individual
state regulatory requirements;

(2) Encouraging states to adopt regulatory environments that place
greater reliance on competition for commercial lines insurance
products;

(3) Full availability of a proactively evolving System for
Electronic Rate and Form Filing (known as `SERFF') that
includes integration with operational efficiencies (best
practices) developed for the achievement of speed-to-market
goals; and

(4) Development and implementation of an interstate compact to
develop uniform national product standards and provide a
central point of filing.

Integration of Multi-state Regulatory Procedures
It is the goal that all state insurance departments will be using
the following regulatory tools by December 31, 2008:

(1) Review standards checklists for insurance companies to verify
the filing requirements of a state before making a rate or
policy form filing;

(2) Product requirements locator tool, which is already in use, will
be available to assist insurers to locate the necessary
requirements of the various states to use when developing their
insurance products or programs for one or multiple-state
markets;

(3) Uniform product coding matrices, already developed, will allow
uniform product coding so that insurers across the country can
code their policy filings using a set of universal codes
without regard for where the filing is made; and

(4) Uniform transmittal documents to facilitate the submission of
insurance products for regulatory review. The uniform
transmittal document contains information that is necessary to
track the filing through the review process and other necessary
information. The goal is that all states adopt it for use on
all filings and databases related to filings by December 31,
2003.

Adoption of Regulatory Frameworks that Place Greater Reliance on
Competition
States will continue to ensure that the rates charged for products
are actuarially sound and are not excessive, inadequate or unfairly
discriminatory. To the extent feasible, for most markets, states
recognize that competition can be an effective element of regulation.
While recognizing that state regulation is best for insurance
consumers, it also recognizes that state regulation must evolve as
insurance markets change.

Full availability of a proactively evolving System for Electronic Rate
and Form
Filing (SERFF)
SERFF is a one-stop, single point of electronic filing system for
insurance products. It is the goal of state insurance departments to be
able to receive product filings through SERFF for all major lines and
product types by December 2003. We will integrate all operational
efficiencies and tools with the SERFF application in a manner
consistent with our Speed-to-Market Initiatives and the recommendations
of the NAIC's automation committee.

Implementation of an Interstate Compact
Many products sold by life insurers have evolved to become
investment-like products. Consequently, insurers increasingly face
direct competition from products offered by depository institutions and
securities firms. Because these competitors are able to sell their
products nationally, often without any prior regulatory review, they
are able to bring new products to market more quickly and without the
expense of meeting different state requirements. Since policyholders
may hold life insurance policies for many years, the increasing
mobility in society means that states have many consumers who have
purchased policies in other states. This reality raises questions about
the logic of having different regulatory standards among the states.
The Interstate Insurance Product Regulation Compact will establish
a mechanism for developing uniform national product standards for life
insurance, annuities, disability income insurance, and long-term care
insurance products. It will also create a single point to file products
for regulatory review and approval. In the event of approval, an
insurer would then be able to sell its products in multiple states
without separate filings in each state. This will help form the basis
for greater regulatory efficiencies while allowing state insurance
regulators to continue providing a high degree of consumer protection
for the insurance buying public.
State insurance regulators will work with state law and
policymakers with the intent of having the Compact operational in at
least 30 states or states representing 60 percent of the premium volume
for life insurance, annuities, disability income insurance and long-
term care insurance products entered into the Compact by year-end 2008.

IV. Producer Licensing Requirements
Uniformity of forms and process . . . the NAIC's broad, long-
term goal is the implementation of a uniform, electronic
licensing system for individuals and business entities that
sell, solicit or negotiate insurance.

The states have satisfied GLBA's licensing reciprocity mandates and
continue to view licensing reciprocity as an interim step. Our goal is
uniformity.
Building upon the regulatory framework established by the NAIC in
December of 2002, the NAIC's members will continue the implementation
of a uniform, electronic licensing system for individuals and business
entities that sell, solicit or negotiate insurance. While preserving
necessary consumer protections, the members of the NAIC will achieve
this goal by focusing on the following five initiatives:

(1) Development of a single uniform application;

(2) Implementation of a process whereby applicants and producers are
required to satisfy only their home state pre-licensing
education and continuing education (CE) requirements;

(3) Consolidation of all limited lines licenses into either the core
limited lines or the major lines;

(4) Full implementation of an electronic filing/appointment system;
and

(5) Implementation of an electronic fingerprint system. In
accomplishing these goals, the NAIC recognizes the important
and timely role that state and Federal legislatures must play
in enacting necessary legislation.

National Insurance Producer Registry (NIPR)
Through the efforts of NIPR, major steps have been taken to
streamline the process of licensing non-residents and appointing
producers, including the implementation of programs that allow
electronic appointments and terminations. Other NIPR developments
helping to facilitate the producer licensing and appointment process
include:

(1) Use of a National Producer Number, which is designed to
eliminate sole dependence on using social security numbers as a
unique identifier;

(2) Acceptance of electronic appointments and terminations or
registrations from insurers; and

(3) Use of Electronic Funds Transfer for payment of fees. The goal
is to have full state implementation of the services provided
by NIPR by December of 2006.

V. Insurance Company Licensing
Standardized filing and baseline review procedures. . .the NAIC
will continue to work to make the insurance company licensing
process for expanding licensure as uniform as appropriate to
support a competitive insurance market.

Except under certain limited circumstances, insurance companies
must obtain a license from each state in which they plan to conduct
business. In considering licensure, state regulators typically assess
the fitness and competency of owners, boards of directors, and
executive management, in addition to the business plan, capitalization,
lines of business, market conduct, etc. The filing requirements for
licensure vary from state to state, and companies wishing to be
licensed in a number of states have to determine and comply with each
state's requirements. In the past three years, the NAIC has developed,
and all states have agreed to participate in, a Uniform Certificate of
Authority Application process that provides significant standardization
to the filing requirements that non-domestic states use in considering
the licensure of an insurance company.
In its commitment to upgrade and improve the state-based system of
insurance regulation in the area of company licensing, the NAIC will:

(1) Maximize the use of technology and pre-population of data needed
for the review of application filings;

(2) Develop a Company Licensing Model Act to establish standardized
filing requirements for a license application and to establish
uniform licensing standards; and

(3) Develop baseline licensing review procedures that ensure a fair
and consistent approach to admitting insurers to the
marketplace and that provide for appropriate reliance on the
work performed by the domestic state in licensing and
subsequently monitoring an insurer's business activity.

As company licensing is adjunct to a solvency assessment, the
members of the NAIC will consider expanding the Financial Regulation
and Accreditation Standards Program to incorporate the licensing and
review requirements as appropriate. This action will assure appropriate
uniformity in company licensing and facilitate reciprocity among the
states. As much of this work is well underway, the NAIC will implement
the technology and uniform review initiatives, and draft the model act
by December 2004.

VI. Solvency Regulation
Deference to lead states. . .state insurance regulators have
recognized a need to more fully coordinate their regulatory
efforts to share information proactively, maximize
technological tools, and realize efficiencies in the conduct of
solvency monitoring.

Deference to ``Lead States''

Relying on the concept of ``lead state'' and recognizing
insurance companies by group, when appropriate, the NAIC will
implement procedures for the relevant domestic states of
affiliated insurers to plan, conduct and report on each
insurer's financial condition.

Financial Examinations

In regard to financial examinations, many insurers are members
of a group or holding company system that has multiple insurers
and that may have multiple states of domicile. These affiliated
insurers often share common management along with claims,
policy and accounting systems, and participate in the same
reinsurance arrangements. Requirements for coordination of
financial examinations will be set forth in the NAIC Financial
Condition Examiners Handbook. To allow time for the states to
adjust examination schedules and resources, such coordination
will be phased in over the next 5 years, with the goal of full
adherence to the Handbook's guidance for examinations conducted
as of December 2008.

Insolvency Model Act

The NAIC will promote uniformity by reviewing the Insolvency
Model Act, maximizing use of technology, and developing
procedures for state coordination of imminent insolvencies and
guaranty fund coverage. The Financial Regulation Standards and
Accreditation Committee will consider the requirements no later
than January 1, 2008.

VII. Changes of Insurance Company's Control

Streamline the process for approval of mergers and other
changes of control.

Coordination Using ``Lead States''

Regulatory consideration of the acquisition of control or
merger of a domestic insurer is an important process for
guarding the solvency of insurers and protecting current and
future policyholders. At the same time, NAIC members realize
that these transactions are time sensitive and the process can
be daunting when approvals must be obtained in multiple states.
As a result, states will enhance their coordination and
communication on acquisitions or mergers of insurers domiciled
in multiple states by designing a system through which these
multi-state reviews are coordinated by one or more ``lead''
states.

Form A Database

Insurers are required to file for approval on documents
referred to as Form A filings when mergers or acquisitions are
being considered. The NAIC has created a database to track
these filings so that this information is available to all
state regulators. Usage will be monitored to ensure that all
states use the application to improve coordination of Form A
reviews and to alert state regulators to problem filings. The
Form A Review Guide and Form A Review Checklist, which contain
procedures to be utilized when reviewing a Form A Filing, will
be enhanced and incorporated into the existing NAIC Financial
Analysis Handbook as a supplement. NAIC members will work on
amending the Accreditation Program to include the Form A
requirements to further promote stronger solvency standards and
state coordination, as well as an efficient process for our
insurers. The Form A requirements will be targeted for
incorporation into the Accreditation Program no later than
January 1, 2007.

Integrate Policy Form Approval and Producer Licensing into the Merger
and Acquisition Process
The NAIC members will develop procedures for the seamless transfer
of policy form approvals and producer appointments to take place
contemporaneously with the approval of mergers or acquisitions where
appropriate. We will begin developing and testing these procedures
through pilot programs in 2003 and fully incorporate them system wide
by 2006.
* * *

The Chairman. Thank you very much.
I think we'll move to Mr. Hunter.

STATEMENT OF J. ROBERT HUNTER, DIRECTOR OF INSURANCE, CONSUMER
FEDERATION OF AMERICA

Mr. Hunter. Thank you, Mr. Chairman. Is this on?
The Chairman. Yes, sir.
Mr. Hunter. Insurance regulation is at a crossroads, so
this is a very appropriate hearing, and it's good to see former
insurance commissioner, who stepped down to become a Senator,
Bill Nelson, up there with you all.
[Laughter.]
Mr. Hunter. Elements of the insurance industry want to be
regulated by the Federal Government, or at least have the
option, and other strong elements of the industry don't want
Federal regulation at all. But while they disagree on whether
there should be a Federal role, they do not disagree about
using the threat of a Federal role to leverage the states to
press them to hold off or reduce consumer protections, using
threats like this. A Liberty Mutual executive told the NAIC
that they were losing insurance companies every day to
political support for the Federal option, and that their huge
effort to deregulate and speed product approval was too little
and too late. He called for an immediate step up of
deregulation and measurable victories to stem the tide toward a
Federal role. I could give you hundreds of examples of that
kind of language from insurance executives.
They have a powerful ally in Chairman Oxley, who's held a
series of ten hearings at least in which he constantly
pressurizes the states with statements such as, ``Congress is
going to come up with their own solution if they don't move.
State legislators and insurance commissioners must enact
deregulation reform.''
Even some insurance commissioners have piled on. Just last
week, Mr. Csiszar spoke to industry executives saying, ``You
have to force us at the NAIC, hold a club over our heads, knock
us over the head, use every tool in your bag.''
But, meanwhile, the NAIC is failing, and the states, in
many ways. The NAIC has failed to do anything about unsuitable
sales of insurance in any line of insurance. They've failed to
do anything as an organization on the use of credit scoring, an
issue that is just rife, and people are just very upset. They
haven't fixed the market-conduct mess the GAO has recently
commented upon.
Meanwhile, they're rolling back consumer protections.
They've passed a deregulation for small businesses at the NAIC,
and states have adopted that, many states, and other states
have been rolling back even personal auto insurance and
homeowner protections for consumers.
There are good reasons that insurance is subject to
regulation. We've heard some already. The most obvious one, the
consumer pays today, gets the product, maybe, years later.
There's a solvency threat, there's dishonesty, there are lots
of reasons why you have to regulate.
Product regulation is very important for consumers. An
insurance contract is a very complex legal document, and
consumers cannot be expected to pick out good and bad ones.
They need someone to check and make sure that they meet state
laws and are reasonable.
Price regulation is a very complex issue. Insurance is not
a product like a can of peas. Once a consumer is sure that
policies being compared are the same, which is a problem of a
serious magnitude, the level of service offered by insurers
must be determined, then there's the solvency of the insurance
company, finally there's the price. Some insurers have many
tiers. I just heard yesterday that there's one insurance
company that's filed in Florida for 125 tiers of rates for
similar insureds. Only when a consumer actually applies will
underwriting be done, and maybe the price offered is quite
different than they were quoted when they actually get the
policy. And, indeed, underwriting may even result with the
consumer being turned away after all that. So when you shop for
a can of peas, you see the unit price, all the options are
before you on the shelf. When you get to the checkout counter,
nobody asks where you live and turns you away. You can taste
the quality as soon as you get home. You don't care if the pea
company goes broke, you don't care much about their service. In
short, insurance and peas are different, and that's why you
need regulation.
The insurance industry promotes a myth that regulation and
competition are incompatible. Regulation and competition seek
the same goal, the lowest possible price consistent with a
reasonable return for the seller. I assume Mr. Heller will talk
about California. California relies on both regulation and
competition. They maximize both, and the results have been
tremendous. And auto insurance in California was the third
leading state in price, highest price, when competition was
replaced by Prop 103, and now they're 24th and their rates are
below average in the country. It's been amazing success.
The prime issue with consumers is not who regulates
insurance. Consumers could care less. It's whether insurance
regulation is efficient and effective. Attached to my statement
is a list of principles by which consumers will measure any
proposal for regulatory reform.
As to the Federal bills, the only bill before Congress
considering any of our principles is S. 1373 by Senator
Hollings, and we appreciate it very much, Senator. We support
the bill's prior approval mechanism, annual market conduct
exams, the creation of Office of Consumer Protection, and the
enhanced competition and enhanced consumer information, and the
repeal of the antitrust exemption.
CFA and the entire consumer community stands ready to fight
optional Federal charters with all the strength we can muster.
We cannot abide a race to the bottom, which this idea is
premised upon, having two systems where the industry gets to
choose who regulates will drive regulation down to the bottom.
CFA would like to see a simple repeal of the McCarron-
Ferguson antitrust exemption to see if insurers really are
willing to compete under the same rules as American businesses.
I'd urge the Committee to continue your study of insurance
regulation. The proper focus of Congress is not to encourage
mindless deregulation by the states--and I'm glad to hear your
statements; you don't--but to encourage greater competition and
economic efficiencies while strengthening, not lowering,
consumer protection standards.
Thank you, Mr. Chairman.
[The prepared statement of Mr. Hunter follows:]

Prepared Statement of J. Robert Hunter \1\, Director of Insurance,
Consumer Federation of America
---------------------------------------------------------------------------
\1\ Mr. Hunter served as Federal Insurance Administrator under
Presidents Ford and Carter and as Texas Insurance Commissioner.
---------------------------------------------------------------------------
State of Insurance Regulation
Insurance regulation is at a crossroads. Most states are rolling
back insurance consumer protections and weakening their oversight of
the industry, while pressure from some insurers is growing for
increased Federal regulation. Some powerful elements of the insurance
industry want to be allowed to choose either Federal or state oversight
(e.g., ACLI, AIA, banks selling insurance). Under such an ``optional
Federal charter'' plan, if the Federal government actually effectively
regulated, these companies would be allowed to retreat to state
regulation. Other elements of the industry favor no Federal role at
all, except bailouts such as the Terrorism Risk Insurance Act (e.g.,
NAII, AAI, NAMIC).
While insurance companies disagree on the need for Federal
regulation, they are unanimous in their desire to use the possibility
of Federal oversight as leverage to press the states to reduce extant
consumer protections or hold off needed new protections. Insurers know
that state regulators will want to move fast to reduce the regulatory
burden (that is, the consumer protections they require) in order to
hold onto some extra insurers in the regulatory turf wars that are
coming. There is even talk of interstate compacts to limit regulation
to one state or to otherwise ``harmonize'' regulation, although the
states with higher standards--the sopranos, tenors and altos--will be
asked to ``harmonize'' by learning to sing bass.
Few ask consumers what they think. I am therefore most grateful to
you, Chairman McCain, Ranking Member Hollings and members of the
Committee, for this opportunity to explain how insurance regulation can
be improved to help consumers.

Background
Insurance is regulated by the states under a remarkable delegation
of authority in the McCarran-Ferguson Act. There is no insurance
oversight by the Federal government, nor are there standards for
effective regulation, but there is an exemption from the antitrust law,
which very few other American industries outside of major league
baseball enjoy. Thus, for example, insurers routinely use rating
organizations to jointly project inflation costs into the future.
Insurers have, on occasion, sought Federal regulation when the
states increased regulatory control and the Federal government
regulatory attitude was more lazes-faire. Thus, in the 1800s, the
industry argued in favor of a Federal role before the Supreme Court in
Paul v. Virginia, but the court ruled that the states controlled
because insurance was intrastate commerce.
Later, in 1943 in the SEUA case, the Court reversed itself,
declaring that insurance was interstate commerce and that Federal
antitrust and other laws applied to insurance. By this time, Franklin
Roosevelt was in office and the Federal government was a tougher
regulator than were the states. The industry sought, and obtained, the
McCarran Act.
Notice that the insurance industry is very pragmatic in their
selection of a preferred regulator--they always favor the least
regulation. It is not surprising that, today, the industry would again
seek a Federal role at a time they perceive little regulatory interest
at the Federal level. But, rather that going for full Federal control,
they have learned that there are ebbs and flows in regulatory oversight
at the Federal and state levels, so they seek the ability to switch
back and forth at will.
Consumer organizations strongly oppose an optional Federal charter,
where the regulated, at its sole discretion, gets to pick its
regulator. This is a prescription for regulatory arbitrage that can
only undermine needed consumer protections.
Further, the insurance industry has used the possibility of an
increased Federal role to pressure states into gutting consumer
protections over the last three or four years. Insurers have repeatedly
warned states that the only way to preserve their control over
insurance regulation is to weaken consumer protections. They have been
assisted in this effort by a series of House hearings, which have not
focused on legislation or the need for improved consumer protection,
but have served as a platform for a few politicians to issue ominous
statements urging the states to further deregulate insurance oversight,
``or else.'' (See statements by industry representatives and Members of
Congress below.)

Can Insurance Be Deregulated?
There are good reasons that insurance has, historically, been
subject to regulation. The most obvious one is that a consumer pays
money today for a promise that may not be deliverable for years. That
promise must be secured from many threats, including insolvency and
dishonesty.
No one seems to dispute the need for oversight of insurer solvency
and bad management behavior. Insolvency regulation has been upgraded,
thanks in large part to the interest in the issue of Warren Magnusen
and John Dingell (which is how insurers first became aware of the value
of Congressional pressure on state regulators.)
As front-end regulatory controls such as price regulation have been
eliminated for personal lines and small businesses by the states
individually and for small businesses by the actions of the National
Association of Insurance Commissioners (NAIC), consumers have been
promised that back-end market conduct oversight would be improved.
These promises have proven to be empty. For example when small business
pricing was deregulated by the NAIC and many states adopted this
approach, nothing was done to correct the hopelessly incompetent market
conduct system that exists in most states. (The GAO has recently
documented the failures of the state market conduct system in great
detail.)
The big question is: can price and product regulation be
eliminated? The insurance companies say ``sure,'' but never discuss the
potential adverse impact on consumers.
Product regulation is very important for consumers. An insurance
contract is a complex legal document. Consumers cannot be asked to pick
out good or avoid bad deals by reading these documents. It won't
happen. If insurers are free to write any contract that they want, some
sharp dealers will come in with illusory policies that look good but
take away the apparent coverage in the fine print. There will develop
competition to write poor products that unwary consumers will buy.
Consumers are in no rush to have bad products appear in the market,
even though insurers insist that ``speed-to-market'' is somehow a
critical issue. It makes no sense to remove front-end control of these
products and wait for market conduct exams or, as is more usual,
lawsuits, to clean up the mess.\2\
---------------------------------------------------------------------------
\2\ There are several reasons why it is dangerous for consumers if
regulators focus exclusively on ``speed to market.''
First, consumers, who have been victimized by such abuses as life
insurance policies that promised rates of return they could not give,
consumer credit insurance policies that pay pennies in claims per
dollar in premium, and race-based pricing are in no hurry for such
policies. Second, in some trials of product deregulation in health
insurance, policies with low prices often were found to have fine print
that eliminated most coverage. Third, standards to ensure fair pricing,
adequate disclosure and a more honest marketplace are urgently needed
and should be a part of any process for faster product approval,
particularly in the era of globalization and Internet sales. Fourth,
CARFRA, a voluntary organization set up by the NAIC to offer ``one-
stop'' approval over several states, is dangerous for consumers. CARFRA
lacks direct accountability to the relevant public: consumers in
affected states. There is no assurance that their standards for product
approval will benefit consumers. For example, if a panel made up of
Montana members approves a rate or policy for use in California, then
it will be difficult for California consumers to object. CARFRA must be
an independent, legally authorized entity with democratic processes,
such as on-the-record voting, notice and comment rulemaking, conflict-
of-interest standards, prohibitions on ex-parte communications, etc.
CARFRA cannot rely on the industry it regulates to provide its funding.
Moreover, the same issues consumers find dangerous in CARFRA exist in
the interstate compact concept.
---------------------------------------------------------------------------
However, consumer groups do want efficient regulation. I, and
others from the consumer community, worked very hard at the NAIC to
eliminate inefficient regulatory practices and delays, even helping put
together a 30-day total product approval package. Our concern is not
with fat cutting, it is with removing regulatory muscle when consumers
are vulnerable.
Price regulation is a complex issue. It does not suffice to say
that ``competition is good and regulation is bad'' as insurers often
do.
First of all, insurance is not a normal product like a can of peas
or even an auto. One cannot ``kick the tires'' of the complex legal
document that is the insurance policy until a claim arises, perhaps
years after the purchase.
Second, the level of service offered by insurers is usually unknown
at the time a policy is purchased. Some states have complaint ratio
data that help consumers make purchase decisions, and the NAIC has made
a national database available that should help, but service is not an
easy factor to assess.
Then there is the solidity of the insurance company. You can get
information from A.M. Best and other rating agencies, but this is also
complex information to obtain and decipher.
Finally, there is the price of the policy itself. Some insurers
have many tiers of prices (we have seen mare than 25 for some
companies) for similar looking insureds. Online assistance may help
consumers understand some of these distinctions but only when they
actually apply is full underwriting conducted. At that point, the
consumer might be quoted a much different rate than he or she expected.
Frequently, consumers receive a higher rate, even after accepting a
quote from an agent.
And, after all that, underwriting may result in the consumer being
turned away.
When you shop for a can of peas, you see the unit price, all the
options are before you on the same shelf, when you get to the checkout
counter no one asks where you live and then denies you the right to
make a purchase, you can taste the quality as soon as you get home, and
you don't care if the pea company goes broke or gives much service. In
short, peas are simply not insurance.
Price regulation considerations vary by line of insurance. Large
commercial insureds have insurance experts, called ``risk managers,''
on staff. They need less help from government. Individuals and small
businesses may need help. They are not well informed consumers and
often go into the insurance purchase decision with an odd combination
of fear and boredom. They frequently go to an insurer or agent and say
the something akin to ``take me, I'm yours,'' a shopping strategy that
does nothing to discipline the market price.\3\
---------------------------------------------------------------------------
\3\ Another problem with insurance is the inertia of consumers.
That is, the reluctance to change carriers for even fairly large price
breaks. Consumers fear that new insurers would be more apt to drop them
after a claim than their old insurer. This inertia is a drag on the
competitive force of consumer decisions.
---------------------------------------------------------------------------
The degree of insurance regulation that is needed varies by line-
of-business, something insurers often don't admit. Consider three life
insurance products as an example of this fact. Term life, cash value
life and credit life. We believe that the regulatory response to these
three products must be different.
Term life insurance is easy for consumers to understand. If you die
in the term, whatever that time frame is, your beneficiaries receive
the face amount of the policy. Consumers understand this very well so
coverage is not an issue. Dead is dead, so service is not much of an
issue compared to, say, auto claims. Solvency may also be somewhat less
of an issue, depending upon the length of the term. The decision
centers on price. Excellent online price services exist (CFA's favorite
is www.term4sale.com).
Because of the simplicity of the decision-making process, term
insurance prices are very competitive and have fallen, year-by-year,
for decades. Price regulation is not needed in this line of life
insurance.
Cash value insurance is a complex product. It is, essentially, a
term policy with a bank account hidden inside the product. The problem
is that the industry has resisted calls for tools to help consumers
more easily understand what is going on inside the policy or to create
suitability requirements for its agents. It is very difficult to know
exactly what part of the first year premium (if any--often, it is none)
goes into the bank account. CFA's actuary, who handles our service for
life insurance, tells me that even he frequently can't tell a good
product without running the policy details through our computerized
service to see how it works. Consumers are confused. Competition is
weak. Prices have not declined in the way term prices have.
For this product, prices should be subject to more control than
exists today unless the industry truly agrees to stop the obfuscation
and promote rules that let the consumer see what each policy is truly
like.
Credit life insurance is a product sold along with a loan, such as
a car loan. The car dealer may offer the coverage that would pay off a
loan if an insured dies, so that this person's family would own the car
outright. The problem is that consumers do not go to car dealers to buy
insurance. They have not even thought about it until the dealer starts
the sales pitch. If the consumer decides to buy the coverage, the
consumer does not then go out and shop for an insurance company. The
dealer has already done that for the consumer.
Guess what the criteria the dealer uses in making the choice of
credit life insurer? The amount of the commission is, of course, the
decisive factor. (Some car dealers make more money selling insurance
than cars.) Prudential Insurance Company once said in a hearing in
Virginia, that they did not sell much credit life insurance because
``we are not competitive, our price is too low.''
This purchase-of-insurance-by-the-commissioned-agent-not-the-
consumer/buyer has a name: ``Reverse Competition.'' In this line of
insurance, competition drives the price up, not down.
Credit life insurance must have price regulation. States have
recognized this by limiting the price that can be charged, with widely
varying maxima. New York and Maine consumers pay one-fifth of the rate
of Louisiana consumers, although Louisianans obviously do not die five
times faster than Mainers. Even though the credit life insurers, car
dealers and other powerful lobbyists have succeeded in keeping the
price outrageously high in most states, at least there are caps in
every state, as there must continue to be.

Is Regulation Incompatible With Competition?
The insurance industry promotes a myth: regulation and competition
are incompatible. This is demonstrably untrue. Regulation and
competition both seek the same goal: the lowest possible price
consistent with a reasonable return for the seller. There is no reason
that these systems cannot coexist and even compliment each other.
The proof that competition and regulation can work together in a
market to benefit consumers and the industry is the manner in which
California regulates auto insurance under Proposition 103. Indeed, that
was the theory of the drafters (including me) of Proposition 103.
Before Prop. 103, Californians had experienced significant price
increases under a system of ``open competition'' of the sort the
insurers seek. (No regulation of price is permitted but rate collusion
by rating bureaus is allowed, while consumers receive very little help
in getting information, etc.) Prop. 103 sought to maximize competition
by eliminating the state antitrust exemption, laws that forbade agents
to compete, laws that prohibited buying groups from forming, and so on.
It also imposed the best system of prior approval (of insurance rates
and forms) in the nation, with very clear rules on how rates would be
judged.
As our in-depth study of regulation by the states revealed,\4\
California's regulatory transformation--to rely on both maximum
regulation and competition--has produced remarkable results for auto
insurance consumers and for the insurance companies doing business
there. The study reported that insurers realized very nice profits,
above the national average, while consumers saw the average price for
auto insurance drop from $747.97 in 1989, the year Proposition 103 was
implemented, to $717.98 in 1998. Meanwhile, the average premium rose
nationally from $551.95 in 1989 to $704.32 in 1998. California's rank
dropped from the third costliest state to the 20th.
---------------------------------------------------------------------------
\4\ ``Why Not the Best? The Most Effective Auto Insurance
Regulation in the Nation,'' June 6, 2000; www.consumerfed.org.).
---------------------------------------------------------------------------
I can update this information through 2001.\5\ As of 2001, the
average annual premium in California was $688.89 (Rank 23) vs. $717.70
for the Nation. So, from the time California went from reliance simply
on competition as insurers envisioned it to full competition and
regulation, the average auto rate fell by 7.9 percent while the
national average rose by 30.0 percent. A powerhouse result!
---------------------------------------------------------------------------
\5\ State Average Expenditures & Premiums for Personal Automobile
Insurance in 2001, NAIC, July 2003.
---------------------------------------------------------------------------
State Regulatory/Legislative Failures
Compare the outstanding improvement in consumer protection in
California with the collapse of regulatory resolve at the national,
NAIC level. Here is a small sample of NAIC failures and consumer
protection rollbacks:
Failures To Act

1. Failed to do anything about abuses in the small face life market.
Instead, they adopted an incomprehensible disclosure on
premiums exceeding benefits, but did nothing on overcharges,
multiple policies, or unfair sales practices.

2. Failure to do anything meaningful about unsuitable sales in any
line of insurance. Suitability requirements still do not exist
for life insurance sales even in the wake of the remarkable
market conduct scandals of the late 1980s and early 1990s. A
senior annuities protection model was finally adopted (after
years of debate) that is so limited as to do nothing to protect
consumers.

3. Failure to call for collection and public disclosure of market
performance data after years of requests for regulators to
enhance market data, as they weakened consumer protections. How
do you test if a market is workably competitive without data on
shares by zip code and other tests?

4. Failure to do anything as an organization on the use of credit
scoring for insurance purposes. In the absence of NAIC action,
industry misinformation about credit scoring has dominated
state legislative debates. NAIC's failure to analyze the issue
and perform any studies on consumer impact, especially on lower
income consumers and minorities, has been a remarkable
dereliction of duty.

5. Failure to address problems with risk selection. There has not
even been a discussion of insurers explosive use of
underwriting and rating factors targeted at socio-economic
characteristics: credit scoring, check writing, prior bodily
injury limits, prior insurer, prior non-standard insurer, not-
at-fault claims, not to mention use of genetic information,
where Congress has had to recently act to fill the regulatory
void.

6. Failure to do anything on single premium credit insurance abuses.

7. Nothing has been done on redlining or insurance availability or
affordability. The vast majority of states no longer even look
at these issues, 30 years after the Federal government issued
studies documenting the abusive practices of insurers in this
regard. Yet, ongoing lawsuits continue to reveal that redlining
practices harm the most vulnerable consumers.

Rollbacks of Consumer Protections

1. The NAIC pushed through small business property/casualty
deregulation, without doing anything to reflect consumer
concerns (indeed, even refusing to tell us why they rejected
our specific proposals) or to upgrade ``back-end'' market
conduct quality, despite promises to do so.

2. As a result many states adopted the approach and have rolled back
their regulatory protections for small businesses. Nebraska and
New Hampshire joined the list of states that have deregulated
just this year.

3. States are rolling back consumer protections in auto insurance as
well. Just this year, New Jersey, Texas, Louisiana, and New
Hampshire did so.

4. The NAIC just terminated free access for consumers to the annual
statements of insurance companies at a time when the need for
enhanced disclosure is needed if price regulation is to be
reduced.

NCOIL: At the Insurance Industry's Beck and Call
As bad as the NAIC and some state regulators have been, the
National Conference of Insurance Legislators is worse. NCOIL is
directed by a significant number of legislators who work for the
insurance industry.\6\ On several issues that are currently being
debated in Congress and the states, NCOIL has offered recommendations
that would negatively affect many insurance consumers, recommendations
that often mirror insurance industry proposals.
---------------------------------------------------------------------------
\6\ ``Many State Legislators Involved with National Insurance
Organization Have Close Ties to Insurance Industry,'' CFA, 07/09/03 (at
www.consumerfed.org).
---------------------------------------------------------------------------
For example, on May 6, 2003 Illinois State Senator and insurance
agent Terry Parke offered Congressional testimony on NCOIL's proposals
to improve oversight of ``market conduct'' abuses by insurance
companies. Parke's written testimony did not comment on the state
regulatory failures that led to well-known market conduct abuses that
cost consumers millions of dollars, such as the infamous life insurance
market conduct abuses by the Nation's largest insurers such as
Prudential and Met Life. Instead, Parke offered recommendations that
would allow insurance companies to ``self certify'' that they are
complying with market conduct requirements and would largely restrict
oversight of insurance companies to the state where the company is
headquartered.
In the wake of the Enron and WorldCom scandals, we are astonished
that NCOIL would propose allowing insurance companies to essentially
regulate themselves. Even worse, NCOIL proposes to put the state that
is most subject to political pressure--the state where an insurance
company is based--in charge of market conduct regulation for that
company.
NCOIL has also offered model legislation on the use of credit
scoring for insurance purposes, which has been adopted by several
states. The legislation would allow insurers to continue to use credit
scores to grant insurance policies and establish rates, even though
serious concerns have been raised about the logic of using credit
history to predict consumer accident propensity (why would getting laid
off in a recession make a person a bad driver?), the inaccuracy of
these scores, and the disproportionate impact that this practice has on
low income and minority consumers. NCOIL's model bill would only ban
the use of credit scoring if it is the sole factor used in the
underwriting or pricing of insurance, which means that the bill offers
no protection, as credit scoring is never the sole factor used for
these purposes.
The NCOIL credit-scoring bill was developed at the behest of the
industry, which realized that real reform might emerge as consumers
across the Nation expressed outrage over higher prices due to
consideration of irrelevant credit histories. The NCOIL vote on this
was telling. Members from five states (MI, NY, VT, ND and LA) accounted
for 60 percent of the vote. Members from North Dakota represented 8
percent of the vote (its population is 0.2 percent of the national
population). At least seven of the 25 members on the NCOIL committee
that proposed this legislation are employed by the insurance industry.
The vote does not appear to be representative of much other than
insurer wishes.
While not every proposal NCOIL offers is anti-consumer, many are.
Other examples of recent anti-consumer moves by NCOIL include:

After years of effort, consumer groups persuaded the NAIC to
adopt a credit personal property insurance model bill with a 60
percent loss ratio standard, which is necessary because credit
insurance is added to a sale of some other products with huge,
often hidden commissions being paid to the seller. Because the
seller selects the insurer, not the customer, credit insurance
suffers from ``reverse competition,'' driving prices up. Thus a
loss ratio limit is vital to control cost. A short time after
NAIC acted to control the loss ratio, the industry went to
NCOIL, which had never worked on the issue, and got them to
issue a resolution opposing the loss ratio standard. If NCOIL
prevails, consumers who purchase this form of credit insurance
will pay millions of unnecessary dollars.

Consumers requested that NCOIL adopt a consumer
participation program, like that sponsored by NAIC, in which a
few consumer representatives can come to the meetings to
present consumer positions. NCOIL would cover participants'
expenses, with consumer groups supplying the time of their
advocates. Not only did NCOIL reject this mechanism for
allowing consumer input, they also voted down the more modest
measure of waiving registration fees for consumers, effectively
shutting out all consumer input from their meetings.

NCOIL adopted a property/casualty insurance regulatory model
bill that is intended to cut consumer protections by reducing
regulatory authority. The model goes so far as to say that the
model should not be adopted if a state has gone even further in
removing consumer protections than the bill proposes, i.e., the
model is only recommended for use when it lowers protection but
is not recommended for use if it raises protections. The model
does not require the insurer to even file rate increases with
an insurance commissioner until 30 days after it begins to
charge consumers more. The commissioner, under the model, could
not disapprove even an excessive rate if the market was
``competitive'' under a set of standards that would make a
finding of non-competitiveness nearly impossible.

NCOIL's Insurance Compliance Self Evaluation Privilege Model
Act would give insurers a privilege of secrecy for anything
they claim as ``self-audit'', effectively allowing the industry
to shield itself from responsibility for its market conduct
actions.

What has Caused the States to Move So Suddenly to Cut Consumer
Protections Adopted Over a Period of Decades?
In a word, ``pressure,'' from insurers and from a couple of Members
of Congress.

Industry Statements
What follows are examples of industry attempts to use the Federal
government interest in insurance to pressure the NAIC into action:

1. The clearest attempt to inappropriately pressure the NAIC
occurred at their spring 2001 meeting in Nashville. There,
speaking on behalf of the entire industry, Paul Mattera of
Liberty Mutual Insurance Company told the NAIC that they were
losing insurance companies every day to political support for
the Federal option and that their huge effort of 2000 to
deregulate and speed product approval was too little, too late.
He called for an immediate step-up of deregulation and
measurable ``victories'' of deregulation to stem the tide. In a
July 9, 2001 Wall Street Journal article by Chris Oster,
Mattera admitted his intent was to get a ``headline or two to
get people refocused.'' His remarks were so offensive that I
went up to several top commissioners immediately afterwards and
said that Materra's speech was the most embarrassing thing I
had witnessed in 40 years of attending NAIC meetings. I was
particularly embarrassed since no commissioner challenged
Mattera and many had almost begged him to grant them more time
to deliver whatever the industry wanted.

2. Jane Bryant Quinn, in her speech to the NAIC on October 3, 2000,
said: ``Now the industry is pressing state regulators to be
even more hands-off with the threat that otherwise they'll go
to the feds.'' So other observers of the NAIC see this pressure
as potentially damaging to consumers.

3. Larry Forrester, President of the National Association of Mutual
Insurance Companies (NAMIC), wrote an article in the National
Underwriter of June 4, 2000. In it he said, ``. . . how long
will Congress and our own industry watch and wait while our
competitors \7\ continue to operate in a more uniform and less
burdensome regulatory environment? Momentum for Federal
regulation appears to be building in Washington and state
officials should be as aware of it as any of the rest of us who
have lobbyists in the Nation's capital . . . NAIC's ideas for
speed to market, complete with deadlines for action, are
especially important. Congress and the industry will be
watching closely . . . The long knives for state regulation are
already out . . .''
---------------------------------------------------------------------------
\7\ Of course, Mr. Forrester knows that this is a life insurer
problem, which is not the case for his members, who are property/
casualty insurance companies.

4. In a press release entitled ``Alliance Advocates Simplification
of Personal Lines Regulation at NCOIL Meeting; Sees it as Key
to Fighting Federal Control'' dated March 2, 2001, John Lobert,
Senior VP of the Alliance of American Insurers, said, ``Absent
prompt and rapid progress (in deregulation) . . . others in the
financial services industry--including insurers--will
aggressively pursue Federal regulation of our business . . .''

Congressional Statements
The leading Member of Congress involved in putting pressure on the
states to further deregulate is House Financial Services Committee
Chairman Michael Oxley. Below are some recent statements Chairman Oxley
has made on the matter.
``Make no mistake about it, true reform is necessary. It is my hope
that our State legislators and insurance commissioners can enact such
reform. If not, Congress will return to this issue with our own
solution.'' (Emphasis added) Opening statement at 6/2/01 Hearing,
``Insurance Product Approval: The Need for Modernization.''
``. . . why are Massachusetts and New Jersey afraid to adopt the
models used successfully in Illinois and now South Carolina . . .''
Opening statement at 8/1/01 Hearing, ``Over Regulation of Automobile
Insurance: A Lack of Consumer Choice.''
``. . . price fixing and heavy anti-consumer regulations . . . have
led to a balkanized system that can be inefficient, denies consumers
choice, and is destroying the industry's competitive ability to raise
capital. Today . . . we turn from assessing the current inefficiencies
to a review of the various proposals for reform. Consensus will be
difficult, but America deserves our every effort . . .'' Opening
statement at 6/4/02 Hearing, ``Insurance Regulation and Competition for
the 21st Century'' (Day 1).
``. . . our American insurance marketplace is entering into a
crisis . . . Some states fix prices below the levels to attract
adequate capital . . . And each state imposes its own regulatory
regime, creating long delays for consumers, and making it impossible
for insurers to provide products uniformly nationwide . . . It is my
primary hope that our State legislators and insurance commissioners can
enact meaningful reform. The States have had some success . . . I would
note however that this success is far from complete and has only
occurred in the face of Congressional legislative pressure, pressure
that will continue to grow if the pace of reform does not improve.
(Emphasis added) Opening statement at 6/11/02 Hearing, ``Insurance
Regulation and Competition for the 21st Century'' (Day 2).
``As many of you know, my interest in reform is not new. Several
years ago I asked the NAIC to focus on this glaring problem and they
responded in March, 2000 with a Statement of Intent . . . Since that
time, the NAIC has experienced some successes and some failures. In the
face of Congressional legislative pressure, the NAIC has made progress
in agent licensing reform . . . Unfortunately, the NAIC has met with
less success in efforts to modernize the product approval process . . .
Unfortunately, it is becoming increasingly apparent that the NAIC may
be facing an insurmountable task . . . this Committee will not sit idly
by. I am committed to working on this issue for the long haul, looking
at all the different facets of the industry. We will keep building . .
. we will not let up . . .'' Opening statement at 6/18/02 Hearing,
``Insurance Regulation and Competition for the 21st Century'' (Day 3).
``. . . a problem that has reached crisis proportions in some
States: the increasing difficulty consumers face in finding available
insurance for their homes and cars . . . (a) crisis being caused in
part by the archaic system of insurance price controls imposed by some
states . . . wrong-headed regulation . . .'' Opening statement at 4/10/
03 Hearing, ``The Effectiveness of State Regulation: Why Some Consumers
Can't Get Insurance.''
``I believe that we're reaching agreement on the fundamental nature
of the problem and are nearing agreement on a framework to fix it . . .
We will be discussing a number of short-term legislative proposals to
fix the state system later this year, and hope that the states can act
quickly . . . before Congress needs to step in and provide additional
impetus. (Emphasis added) Opening statement at 5/6/03 Hearing
``Increasing the Effectiveness of State Consumer Protections.''
Consumers Don't Care Who Regulates--It's The Quality Stupid!
The prime issue with consumers is not who regulates insurance; it
is whether insurance regulation is effective and efficient.
As a former state regulator, I have always supported state
regulation of insurance, but now that I see the ease in which states
panic and are willing to trade consumer protections to protect their
turf, I am reevaluating my life-long support. CFA intends, over the
next few months, to meet with consumer, business, labor and other
interests to determine whether CFA should end its support of state
regulation.
We have already determined one thing: optional Federal charter
legislation is harmful to consumers. The writers of these bills have
readily admitted to me, to their credit, that their intent is to set up
a ``race to the bottom'' where, in a search for regulatory market
share, regulators will compete with each other to attract insurers by
lowering consumer protections. Consumers can not allow this race to get
started anymore than insurers would agree to a system where consumers
could vote to decide which regulator would oversee the insurance
industry (creating a race in the other direction).
When the NAIC began its process to head off Federal oversight,
consumer groups came together to write a white paper to list the
consumer protections we sought. That paper, ``Consumer Principles and
Standards for Insurance Regulation,'' is attached to this statement. It
presents the principles by which consumers will measure any proposal
for insurance regulatory reform, be it state or federally based.

Federal Options
At the moment, Federal regulatory options include the Hollings
Bill, the optional Federal charter idea espoused by part of the
insurance industry, a simple bill that would repeal the antitrust
exemption combined with oversight of the delegation of insurance
regulation to the states and, perhaps, minimum standards for regulatory
effectiveness and efficiency.

Hollings Bill
Only one bill before Congress considers the consumer perspective in
its design, adopting many of the proposals made in our white paper.
That is S. 1373 by Senator Hollings.
The bill would adopt a unitary Federal regulatory system under
which all interstate insurers would be regulated. Intrastate insurers
would continue to be regulated by the states.
The bill's regulatory structure requires Federal prior approval of
prices to protect consumers, including some of the process language
(such as hearing requirements when prices change significantly) so
effectively used in Prop. 103. It requires annual Market Conduct exams.
It creates an office of consumer protection. It enhances competition by
removing the antitrust protection insurers hide behind in ratemaking.
It improves consumer information and creates a system of consumer
feedback.
S. 1373 is a good bill and should be the baseline for any debate on
the subject before this committee.

Optional Federal Charter
The bills that have been proposed would create a Federal regulator
that would have little, if any, authority to regulate price or product,
regardless of how non-competitive the market for a particular line of
insurance might be. These bills represent the wish list of insurer
interests, and include minimal, if any, regulation, coupled with little
improvement in consumer information or protection systems.
As stated above, the bills put forth by the industry are an amazing
attempt to play off the Federal government against the states. For
consumers, these bills are poison and cannot be fixed. If these
elements of the industry truly want to obtain ``speed to market'' and
other advantages through a Federal regulator, let them propose a
Federal approach that does not allow insurers to run back to the states
when regulation gets tougher. We can all debate the merits of that
approach.
CFA and the entire consumer community stand ready to fight optional
charters with all the strength we can muster.
Amend the McCarran Act to Provide Federal Oversight and, Perhaps,
Minimum Standards for Efficient and Effective Regulation
Insurers want competition to set rates, they say. How about a
simple repeal of the antitrust exemption in the McCarran Act to test
their desire to compete under the same rules as normal American
businesses do? We will then see just how much they want competition.
Another amendment to the McCarran Act we would suggest is to do
what should have been done at the beginning of the delegation of
authority to the states--have the FTC and other Federal agencies
perform scheduled oversight of the states' regulatory performance and
propose minimum standards for effective and efficient consumer
protection. The Hollings bill or the provisions of Prop. 103 might be
the basis for such minimum standards.

Conclusion
Insurers talk a good competition game, but they do not walk it.
Rarely will those calling for deregulation seek to give up the
antitrust exemption or increase the provision of consumer information
or do the other things needed to make competition effective. Insurers
seek to set up systems designed to make dual regulators fight with each
other for market share by weakening consumer protections; never
proposing strong regulatory floors to avoid such a result. Most
insurers do not seem to want effective and efficient regulation. Rather
they appear to want no regulation.
Insurers seek to continue to use Congress to pressure the states
into giving up necessary consumer protections out of fear of loss of
regulatory turf. To date, the pressure on the states from the Hill has
come primarily from a few Members of Congress not in this body. I
strongly urge you to resist engaging in such activity because it is a
detriment the needs of your constituents.
I urge the Committee to continue your study of insurance
regulation. The proper focus of Congress is not to encourage mindless
deregulation by the states, but to encourage greater competition and
economic efficiencies while strengthening, not lowering consumer
protection standards.
Thank you for the opportunity to appear here today. I will be happy
to answer your questions at the appropriate time.
Consumer Principles and Standards for Insurance Regulation
1. Consumers should have access to timely and meaningful information
of the costs, terms, risks and benefits of insurance policies.

Meaningful disclosure prior to sale tailored for particular
policies and written at the education level of average consumer
sufficient to educate and enable consumers to assess particular
policy and its value should be required for all insurance;
should be standardized by line to facilitate comparison
shopping; should include comparative prices, terms, conditions,
limitations, exclusions, loss ratio expected, commissions/fees
and information on seller (service and solvency); should
address non-English speaking or ESL populations.

Insurance departments should identify, based on inquiries
and market conduct exams, populations that may need directed
education efforts, e.g., seniors, low-income, low education.

Disclosure should be made appropriate for medium in which
product is sold, e.g., in person, by telephone, on-line.

Loss ratios should be disclosed in such a way that consumers
can compare them for similar policies in the market, e.g., a
scale based on insurer filings developed by insurance
regulators or independent third party.

Non-term life insurance policies, e.g., those that build
cash values, should include rate of return disclosure. This
would provide consumers with a tool, analogous to the APR
required in loan contracts, with which they could compare
competing cash value policies. It would also help them in
deciding whether to buy cash value policies.

Free look period with meaningful state guidelines to assess
appropriateness of policy and value based on standards the
state creates from data for similar policies.

Comparative data on insurers' complaint records, length of
time to settle claims by size of claim, solvency information,
and coverage ratings (e.g., policies should be ranked based on
actuarial value so a consumer knows if comparing apples to
apples) should be available to the public.

Significant changes at renewal must be clearly presented as
warnings to consumers, e.g., changes in deductibles for wind
loss.

Information on claims policy and filing process should be
readily available to all consumers and included in policy
information.

Sellers should determine and consumers should be informed of
whether insurance coverage replaces or supplements already
existing coverage to protect against over-insuring, e.g., life
and credit.

Consumer Bill of Rights, tailored for each line, should
accompany every policy.

Consumer feedback to the insurance department should be
sought after every transaction (e.g., after policy sale,
renewal, termination, claim denial). Insurer should give
consumer notice of feedback procedure at end of transaction,
e.g., form on-line or toll-free telephone number.

2. Insurance policies should be designed to promote competition,
facilitate comparison-shopping and provide meaningful and
needed protection against loss.

Disclosure requirements above apply here as well and should
be included in design of policy and in the policy form approval
process.

Policies must be transparent and standardized so that true
price competition can prevail. Components of the insurance
policy must be clear to the consumer, e.g., the actual current
and future cost, including commissions and penalties.

Suitability or appropriateness rules should be in place and
strictly enforced, particularly for investment/cash value
policies. Companies must have clear standards for determining
suitability and compliance mechanism. For example, sellers of
variable life insurers are required to find that the sales that
their representatives make are suitable for the buyers. Such a
requirement should apply to all life insurance policies,
particularly when replacement of a policy is at issue.

``Junk'' policies, including those that do not meet a
minimum loss ratio, should be identified and prohibited. Low-
value policies should be clearly identified and subject to a
set of strictly enforced standards that ensure minimum value
for consumers.

Where policies are subject to reverse competition, special
protections are needed against tie-ins, overpricing, e.g.,
action to limit credit insurance rates.

3. All consumers should have access to adequate coverage and not be
subject to unfair discrimination.

AWhere coverage is mandated by the state or required as part
of another transaction/purchase by the private market, e.g.,
mortgage, regulatory intervention is appropriate to assure
reasonable affordability and guarantee availability.

Market reforms in the area of health insurance should
include guaranteed issue and community rating and where needed,
subsidies to assure health care is affordable for all.

Information sufficient to allow public determination of
unfair discrimination must be available. Zip code data, rating
classifications and underwriting guidelines, for example,
should be reported to regulatory authority for review and made
public.

Regulatory entities should conduct ongoing, aggressive
market conduct reviews to assess whether unfair discrimination
is present and to punish and remedy it if found, e.g.,
redlining reviews (analysis of market shares by census tracts
or zip codes, analysis of questionable rating criteria such as
credit rating), reviews of pricing methods, reviews of all
forms of underwriting instructions, including oral instructions
to producers.

Insurance companies should be required to invest in
communities and market and sell policies to prevent or remedy
availability problems in communities.

Clear anti-discrimination standards must be enforced so that
underwriting and pricing are not unfairly discriminatory.
Prohibited criteria should include race, national origin,
gender, marital status, sexual preference, income, language,
religion, credit history, domestic violence, and, as feasible,
age and disabilities. Underwriting and rating classes should be
demonstrably related to risk and backed by a public, credible
statistical analysis that proves the risk-related result.

4. All consumers should reap the benefits of technological changes in
the marketplace that decrease prices and promote efficiency and
convenience.

Rules should be in place to protect against redlining and
other forms of unfair discrimination via certain technologies,
e.g., if companies only offer better rates, etc. online.

Regulators should take steps to certify that online sellers
of insurance are genuine, licensed entities and tailor consumer
protection, UTPA, etc. to the technology to ensure consumers
are protected to the same degree regardless of how and where
they purchase policies.

Regulators should develop rules/principles for e-commerce
(or use those developed for other financial firms if
appropriate and applicable)

In order to keep pace with changes and determine whether any
specific regulatory action is needed, regulators should assess
whether and to what extent technological changes are decreasing
costs and what, if any, harm or benefits accrue to consumers.

A regulatory entity, on its own or through delegation to
independent third party, should become the portal through which
consumers go to find acceptable sites on the web. The standards
for linking to acceptable insurer sites via the entity and the
records of the insurers should be public; the sites should be
verified/reviewed frequently and the data from the reviews also
made public.

5. Consumers should have control over whether their personal
information is shared with affiliates or third parties.

Personal financial information should not be disclosed for
other than the purpose for which it is given unless the
consumer provides prior written or other form of verifiable
consent.

Consumers should have access to the information held by the
insurance company to make sure it is timely, accurate and
complete. They should be periodically notified how they can
obtain such information and how to correct errors.

Consumers should not be denied policies or services because
they refuse to share information (unless information needed to
complete transaction).

Consumers should have meaningful and timely notice of the
company's privacy policy and their rights and how the company
plans to use, collect and or disclose information about the
consumer.

Insurance companies should have clear set of standards for
maintaining security of information and have methods to ensure
compliance.

Health information is particularly sensitive and, in
addition to a strong opt-in, requires particularly tight
control and use only by persons who need to see the information
for the purpose for which the consumer has agreed to sharing of
the data.

Protections should not be denied to beneficiaries and
claimants because a policy is purchased by a commercial entity
rather than by an individual (e.g., a worker should get privacy
protection under workers' compensation).

6. Consumers should have access to a meaningful redress mechanism when
they suffer losses from fraud, deceptive practices or other
violations; wrongdoers should be held accountable directly to
consumers.

Aggrieved consumers must have the ability to hold insurers
directly accountable for losses suffered due to their actions.
UTPAs should provide private cause of action.

Alternative Dispute Resolution clauses should be permitted
and enforceable in consumer insurance contracts only if the ADR
process is: 1) contractually mandated with non-binding results,
2) at the option of the insured/beneficiary with binding
results, or 3) at the option of the insured/beneficiary with
non-binding results.

Bad faith causes of action must be available to consumers.

When regulators engage in settlements on behalf of
consumers, there should be an external, consumer advisory
committee or other mechanism to assess fairness of settlement
and any redress mechanism developed should be independent, fair
and neutral decision-maker.

Private attorney general provisions should be included in
insurance laws.

There should be an independent agency that has as its
mission to investigate and enforce deceptive and fraudulent
practices by insurers, e.g., the reauthorization of FTC.

7. Consumers should enjoy a regulatory structure that is accountable
to the public, promotes competition, remedies market failures
and abusive practices, preserves the financial soundness of the
industry and protects policyholders' funds, and is responsive
to the needs of consumers.

Insurance regulators must have clear mission statement that
includes as a primary goal the protection of consumers:

The mission statement must declare basic fundamentals by
line of insurance (such as whether the state relies on rate
regulation or competition for pricing). Whichever approach is
used, the statement must explain how it is accomplished. For
instance, if competition is used, the state must post the
review of competition (e.g., market shares, concentration by
zone, etc.) to show that the market for the line is workably
competitive, apply anti-trust laws, allow groups to form for
the sole purpose of buying insurance, allow rebates so agents
will compete, assure that price information is available from
an independent source, etc. If regulation is used, the process
must be described, including access to proposed rates and other
proposals for the public, intervention opportunities, etc.

Consumer bills of rights should be crafted for each line of
insurance and consumers should have easily accessible
information about their rights.

Insurance departments should support strong patient bill of
rights.

Focus on online monitoring and certification to protect
against fraudulent companies.

A department or division within regulatory body should be
established for education and outreach to consumers, including
providing:

Interactive websites to collect from and disseminate
information to consumers, including information about
complaints, complaint ratios and consumer rights with regard to
policies and claims.

Access to information sources should be user friendly.

Counseling services to assist consumers, e.g., with health
insurance purchases, claims, etc. where needed should be
established.

Consumers should have access to a national, publicly
available database on complaints against companies/sellers,
i.e., the NAIC database.

To promote efficiency, centralized electronic filing and use
of centralized filing data for information on rates for
organizations making rate information available to consumers,
e.g., help develop the information brokering business.

Regulatory system should be subject to sunshine laws that
require all regulatory actions to take place in public unless
clearly warranted and specified criteria apply. Any insurer
claim of trade secret status of data supplied to regulatory
entity must be subject to judicial review with burden of proof
on insurer.

Strong conflict of interest, code of ethics and anti-
revolving door statutes are essential to protect the public.

Election of insurance commissioners must be accompanied by a
prohibition against industry financial support in such
elections.

Adequate and enforceable standards for training and
education of sellers should be in place.

The regulatory role should in no way, directly or
indirectly, be delegated to the industry or its organizations.

The guaranty fund system should be prefunded, national fund
that protects policyholders against loss due to insolvency. It
is recognized that a phase-in program is essential to implement
this recommendation.

Solvency regulation/investment rules should promote a safe
and sound insurance system and protect policyholder funds,
e.g., rapid response to insolvency to protect against loss of
assets/value.

Laws and regulations should be up to date with and
applicable to e-commerce.

Antitrust laws should apply to the industry.

A priority for insurance regulators should be to coordinate
with other financial regulators to ensure consumer protection
laws are in place and adequately enforced regardless of
corporate structure or ownership of insurance entity. Insurance
regulators should err on side of providing consumer protection
even if regulatory jurisdiction is at issue. This should be
stated mission/goal of recent changes brought about by GLB law.

Obtain information/complaints about insurance sellers from
other agencies and include in databases.

A national system of ``Consumer Alerts'' should be
established by the regulators, e.g., companies directed to
inform consumers of significant trends of abuse such as race-
based rates or life insurance churning.

Market conduct exams should have standards that ensure
compliance with consumer protection laws and be responsive to
consumer complaints; exam standards should include agent
licensing, training and sales/replacement activity; companies
should be held responsible for training agents and monitoring
agents with ultimate review/authority with regulator. Market
conduct standards should be part of an accreditation process.

The regulatory structure must ensure accountability to the
public it serves. For example, if consumers in state X have
been harmed by an entity that is regulated by state Y,
consumers would not be able to hold their regulators/
legislators accountable to their needs and interests. To help
ensure accountability, a national consumer advocate office with
the ability to represent consumers before each insurance
department is needed when national approaches to insurance
regulation or ``one-stop'' approval processes are implemented.

Insurance regulator should have standards in place to ensure
mergers and acquisitions by insurance companies of other
insurers or financial firms, or changes in status of insurance
companies (e.g., demutualization, non-profit to for-profit),
meet the needs of consumers and communities.

Penalties for violations must be updated to ensure they
serve as incentives against violating consumer protections and
should be indexed to inflation.

8. Consumers should be adequately represented in the regulatory
process.

Consumers should have representation before regulatory
entities that is independent, external to regulatory structure
and should be empowered to represent consumers before any
administrative or legislative bodies. To the extent that there
is national treatment of companies or ``one-stop'' (OS)
approval, there must be a national consumer advocate's office
created to represent the consumers of all states before the
national treatment state, the OS state or any other approving
entity.

Insurance departments should support public counsel or other
external, independent consumer representation mechanisms before
legislative, regulatory and NAIC bodies.

Regulatory entities should have well-established structure
for ongoing dialogue with and meaningful input from consumers
in the state, e.g., consumer advisory committee. This is
particularly true to ensure needs of certain populations in
state and needs of changing technology are met.

The Chairman. Mr. Ahart?

STATEMENT OF THOMAS AHART, PRESIDENT, AHART,

FRINZI & SMITH INSURANCE AGENCY, ON BEHALF OF

AND PAST PRESIDENT, INDEPENDENT INSURANCE AGENTS & BROKERS OF
AMERICA

Mr. Ahart. Yes, good morning, Chairman McCain and Ranking
Member Hollings and Senate Committee Members.
I'm Tom Ahart, and I'm an insurance agent, own an agency in
Phillipsburg, New Jersey, and I'm a past President of the
Independent Insurance Agents & Brokers of America. I appreciate
the opportunity for us to testify and to be involved in the
process of revamping insurance regulation.
Over the last 10 years, as an insurance agent, we've really
seen a change with technology and with global modernization,
which has changed our industry. Many of our business accounts
that we now write don't just do business in New Jersey, they do
business across the country and internationally, and it's very
important to have products that can meet those needs and be
able to be licensed in different states to handle their needs
as they change.
Since Gramm-Leach-Bliley was passed, there have been a few
insurance companies, both domestic and international, that have
called for Federal regulation of insurance to change from the
current state-based system because they've seen a need to help
certain problems, like speed-to-market issues and licensing
issues, which they felt weren't being addressed by the state
system.
As agents, we recognize those problems. We believe that
there are major problems right now in speed-to-market issues
and in license uniformity. It's very difficult as agents and as
insurance companies that we represent to provide some of the
new products and get them passed. For instance, e-commerce
products that are coming up daily are difficult to get passed
at times in different states when we need them. It's very
difficult, even though with the licensing modernization laws
that have been passed and the work with the NAIC, it's still
difficult in some states to get licensed on a timely basis,
and, therefore, it's tough to provide the protection that we
need for our insurance consumers.
So we recognize those issues, and I think in most of the
testimony you'll hear, you'll hear that there are problems with
speed to market and with licensing issues, and we agree with
that.
However, recognizing those problems, we don't believe that
the answer is Federal regulation. We believe that it's an
unproven system, and we also believe that it's total overkill.
There are many things that the state regulatory system has done
well over the 150 years that it's been in existence. It's
involved with regulation of coverage parameters, it involves
regulation of sales practices, claims practices, claims dispute
situations, and those things have been handled very, very well
at the state level. So to change that because there are certain
issues that aren't working well just doesn't make sense.
So the Independent Insurance Agents & Brokers of America
have been working on a draft with a lot of insurance leaders.
We've met with NAIC and talked with them and gotten their
input, as well as insurance companies and other agents'
organizations, and we've really come up with what we think is a
pragmatic middle-of-the-road approach, in that instead of going
to Federal regulation, we believe we should use legislative
tools, basically Federal legislation, just to handle those
issues that are a problem at the time. For instance, on speed-
to-market issues there could be Federal legislation that's
passed that actually preempts state rights and allows file-and-
use laws. So on forms, we would recommend that file-and-use be
handled so that forms would be filed 30 days prior, and there
would be 30 days to approve those forms. If there's nothing
heard at the end of 30 days, it would be deemed to be approved,
and that would hurt--that would help the speed-to-market issue
in forms.
In rates, we believe that it should be pretty much market
competition, and in those areas of the market that are
competitive, we believe that we should allow it to be a
competitive situation and not be regulated as far as the rates
go. We believe, in those markets that are not competitive, that
the states should still regulate those areas to make sure that
the coverages are still available.
As far as licensing goes, we believe in more uniformity and
reciprocity, and we think that, again, that can be handled on a
Federal legislation basis by, again, preempting state rights so
that uniformity and reciprocity is mandated, and then the
states would be the ones that would regulate it once the law
has been passed.
And, in essence, a company and an insurance agent would be
licensed in their state, and then once they've met those
licencing requirements, they'd be able to get nonresident
licenses by, again, simply meeting their own standards in their
own states and filing once.
So we believe that there is a lot of opportunity to handle
the issues as they come up by using Federal tools; however, it
just doesn't make sense to us in any way to overkill and to go
to situations on Federal regulations which are unproven and
which would actually hurt areas of consumer protection that are
currently being done by state regulation.
In addition, it would create a huge Federal bureaucracy, in
our mind. In those areas where you'd have Federal and state
regulation, it would create a dual bureaucracy, you know, for
agents. We represent many companies, small and large, and we
would end up having to be licensed both at the state level and
the Federal level as companies chose which regulation they
wanted to follow.
So, in conclusion, we believe strongly in continuing state
regulation, but using legislative tools, basically Federal
legislation, to handle just those issues that seem to be a
problem.
Thank you very much.
[The prepared statement of Mr. Ahart follows:]

Prepared Statement of Thomas Ahart, President, Ahart, Frinzi & Smith
Insurance Agency, on behalf of and past President of Independent
Insurance Agents & Brokers of America

Good afternoon Chairman McCain, Ranking Member Hollings, and
members of the Committee. My name is Tom Ahart, and I am pleased to
have the opportunity to give you the views of the Independent Insurance
Agents & Brokers of America (IIABA) on the current state of insurance
regulation and IIABA's views on the role Congress can play to reform
and improve the current system. I am President of the Ahart, Frinzi &
Smith Insurance Agency in Phillipsburg, New Jersey. I am also a past
President of the IIABA.
IIABA is the Nation's oldest and largest national trade association
of independent insurance agents and brokers, and we represent a network
of more than 300,000 agents, brokers and agency employees nationwide.
IIABA members are small, medium and large businesses that offer
customers a choice of policies from a variety of insurance companies.
Independent agents and brokers offer all lines of insurance--property,
casualty, life, health, employee benefit plans and retirement products.

Introduction
At the outset, Chairman McCain, I must note that IIABA applauds the
Committee's interest in this issue as we have many challenges facing
the state-based system of insurance regulation. It is our expectation
that this hearing will be the first step in what promises to be a
comprehensive and ongoing process, and we hope we will have the
opportunity to present our views at each and every stage of your
deliberations on these crucial questions.
In the last few years, the perceived need for reform has increased.
The enactment of financial services modernization legislation and the
emergence of an increasingly more consolidated, more global financial
services industry have sparked new interest in the concept of an
``optional'' Federal insurance charter and, more generally, in Federal
regulation of the business of insurance. Proponents of such proposals
argue that Federal insurance regulation would promote greater
uniformity, reduce costs and cause less frustration than the current
multi-state system.
IIABA believes it is essential that all financial institutions be
subject to efficient regulatory oversight and that they be able to
bring new and more innovative products and services to market quickly
to respond to rapidly evolving consumer demands. It is clear that there
are deficiencies and inefficiencies that exist today, and there is no
doubt that the current state-based regulatory system should be reformed
and modernized. At the same time, however, the current system is
exceedingly proficient at insuring that insurance consumers--both
individuals and businesses--receive the insurance coverage they need
and that any claims they may experience are paid. These aspects of the
state system are working well, and I have little doubt that this
Committee will hear any testimony to the contrary. The optional Federal
regulation proposals, however, would displace these well-running
components of state regulation as well and, in essence, thereby ``throw
the baby out with the bathwater.''
As we have for over 100 years, IIABA supports state regulation of
insurance--for all participants and for all activities in the
marketplace. Yet despite this historic and longstanding support, we are
not confident that the state system will be able to resolve its
problems on its own. In fact, we feel there is a vital role for
Congress to play in helping to reform the state regulatory system, and
such an effort need not replace or duplicate at the Federal level what
is already in place at the state level. We propose that two overarching
principles should guide any such efforts in this regard. First,
Congress should attempt to fix only those components of the state
system that are broken. Second, no actions should be taken that in any
way jeopardize the protection of the insurance consumer, which is the
fundamental objective of insurance regulation.
Under the proposal that IIABA has been developing in conjunction
with a broad-based group of insurers and insurance producers, these
overarching principles would be satisfied through an approach under
which--

(1) Every insurer, agent and broker would be subject to only a
single--albeit a state--regulator for licensing determinations,
solvency regulation, financial audits, corporate transaction
reviews and corporate governance requirements;

(2) The procedures under which states review proposed insurance
policy forms would be limited to 30 days, and the requirements
that apply to rate approvals essentially would be eliminated
for any insurance coverage sold in a ``competitive''
marketplace; and

(3) Although no substantive consumer protection requirements would
be eliminated or displaced, incentives for states to create
compacts to streamline the market conduct examination process
would be provided and limitations would be placed on the
ability of state regulators to conduct ``fishing expedition''-
type examinations.

To explain the rationale under girding this approach, I will first
offer an overview of both the positive and the negative elements of the
current insurance regulatory system. I will then provide a more
complete explanation of IIABA's proposal to address the negative while
retaining the positive elements of the current system.

1. The Current State of Insurance Regulation

As the United States Supreme Court has so aptly put it, ``[p]erhaps
no modern commercial enterprise directly affects so many persons in all
walks of life as does the insurance business. Insurance touches the
home, the family, and the occupation or the business of almost every
person in the United States.'' \1\ ``It is practically a necessity to
business activity and enterprise.'' \2\ Insurance serves a broad public
interest far beyond its role in business affairs and its protection of
a large part of the country's wealth. It is the essential means by
which the ``disaster to an individual is shared by many, the disaster
to a community shared by other communities; great catastrophes are
thereby lessened, and, it may be, repaired.'' \3\ Thus, it is ``the
conception of the lawmaking bodies of the country without exception
that the business of insurance so far affects the public welfare as to
invoke and require governmental regulation.'' \4\ Since the inception
of the business of insurance in the United States, it is the states
that have carried out that essential regulatory task. Today, state
insurance departments employ over 11,000 individuals and address
hundreds of thousands of consumer complaints and inquiries annually,
and they draw on over a century-and-a-half of regulatory experience
they endeavor to protect the insurance consumers of this country.
---------------------------------------------------------------------------
\1\ United States v. South-Eastern Underwriters Ass'n, 322 U.S.
533, 540 (1944).
\2\ German Alliance Ins. Co. v. Lewis, 233 U.S. 389, 415 (1914).
\3\ Id. at 413.
\4\ Id. at 412.
---------------------------------------------------------------------------
These core regulatory tasks of state insurance regulators can
essentially be divided into the following eight categories:

(1) Regulation of the coverage parameters of insurance contracts;

(2) Sales practices regulation;

(3) Claims practices regulation;

(4) Claims dispute mediation/resolution;

(5) Claims payment guarantees--state guaranty funds regulation and
solvency regulation;

(6) Claims payment guarantees--qualification standards and financial
audits;

(7) Insurer licensing, merger review and corporate governance
regulation; and

(8) Insurance agent/broker licensing and qualifications to do
business regulation.

As a general matter and as explained in more detail below, the
regulatory performance of the state system on the first five of the
eight categories--all of which directly involve regulation of the
interaction between the consumer and the insurer--is superlative. It is
only with respect to determining and monitoring insurers, agents, and
brokers' qualifications to do business and financial health that the
state system has developed the inefficiencies that are now the focal
point of the cries for reform.

a. The Positive--Protecting Consumers and Ensuring Claims Are Paid

The goal of all insurance is to protect the purchaser (or their
heirs) from calamity. At its most basic level, this means that the
consumer purchases an insurance contract and, in exchange for the
premium paid for that contract, the consumer receives a promise from
the insurance company that they will be compensated for any losses they
experience that are covered under that contract. From the consumer
perspective, it is imperative that the insurance contract be adequate
for their needs and that the insurer actually pay any claims that are
made under that contract. In both of these respects, the historical
performance of state insurance regulators is impeccable--they ensure
that necessary coverage minimums are included in insurance contracts
and, perhaps even more importantly, they make sure legitimate claims
are paid.
Regulators play two very distinct roles in ensuring that claims are
paid. First, they are responsible for guaranteeing that funds are
available to pay any and all claims that arise. Despite their best
efforts to oversee and audit insurers' financial solvency, insurance
companies--like national banks and savings and loans--sometimes fail.
The state system of insurer guaranty funds--which are like Federal
Deposit Insurance Corporation (FDIC) insurance but for insurance
companies instead of banking institutions--works. It has paid out over
$11 billion to cover claims asserted against insolvent insurers since
they were first created in the mid-1970s, and none of that money has
been at taxpayer expense.
Second, state regulators play a vital role in mediating disputes
that arise on a daily basis between consumers who have submitted claims
and insurers who contend that the claims either are illegitimate or are
not covered by the insurance policy. The respective bargaining
positions between tens of millions of insureds--such as individuals and
small businesses--and their insurers is tremendously skewed. Insurance
consumers therefore regularly rely on the intervention of state
regulators on their behalf when claims disputes arise. Large segments
of every insurance department in the country are dedicated to assisting
with the resolution of such disputes, and all available evidence
suggests that insurance consumers are very satisfied with those local
efforts.

b. The Negative--Product Regulation and Duplicative Oversight

As you will hear from the testimony give today, it becomes evident
that all of the perceived shortcomings of state regulation of insurance
fall into two primary categories--it simply takes too long to get a new
insurance product to market, and there is unnecessary duplicative
regulatory oversight in the licensing and post-licensure auditing
process.
In many ways, the ``speed-to-market'' issue is the most pressing
and the most vexing from both a consumer and an agent/broker
perspective because we all want access to new and innovative products
that respond to identified needs. The reality of today's marketplace is
that banking institutions and securities firms are able to develop and
market new and more innovative products and services quickly, while
insurance companies are hampered by lengthy and complicated filing and
approval requirements in 50 states. As a result, insurance companies--
and, derivatively, agents and brokers selling their products and
services--are at a competitive disadvantage compared to their
counterparts in other financial services industries.
Today, insurance rates and policy forms are subject to some form of
regulatory review in nearly every State, and the manner in which rates
and forms are approved and otherwise regulated can differ dramatically
from state to state and from one insurance line to the next. While most
insurance codes provide that policy rates shall not be inadequate,
excessive or unfairly discriminatory, and that policy forms must comply
with state laws, promote fairness, and be in the public interest, there
are a multitude of ways in which States currently regulate rates and
forms. These systems include prior-approval, flex-rating, file-and-use,
use-and-file, competitive-rating and self-certification. These
requirements are important because they not only affect the products
and prices that can be implemented, but also the timing of product and
rate changes in today's competitive and dynamic marketplace.
The current system, which may involve seeking approval for a new
product or service in up to 55 different jurisdictions, is too often
inefficient, paper intensive, time-consuming, arbitrary and
inconsistent with the advance of technology and regulatory reforms made
in other industries. As you have heard previously, it often takes two
years or more to obtain regulatory approval to bring new insurance
products to market on a national basis. Cumbersome inefficiencies
create opportunity costs, and the regulatory regime in many states is
likely responsible for driving many consumers into alternative markets
mechanisms. As a result, the costs of insurance regulation are
exceeding what is necessary to protect the public, particularly in the
area of commercial insurance. In order to keep insurers competitive
with other financial services entities and maximize consumer choice in
terms of the range of products available to them, changes and
improvements are needed.
Similarly, insurers are required to be licensed in every state in
which they offer insurance products, and the regulators in those states
have an independent right to determine whether an insurer should be
licensed, to audit its financial solvency and market-conduct practices,
to review mergers and acquisitions, and to dictate how the insurer
should be governed. With the exception of market-conduct examinations,
it is difficult to discern how the great cost of this duplicative
regulatory oversight is justified, especially in light of the fact that
the underlying solvency requirements are essentially identical from
state to state. Market conduct examinations present a somewhat more
thorny issue because, although the majority of sales and claims
practices requirements and prohibitions are similar across the country,
there are local variations. It is, of course, difficult for a regulator
to determine compliance with another jurisdiction's requirements. At
the same time, it seems wholly unnecessary for each regulator to
examine every insurer on every aspect of their compliance practices
given that there is such an extensive overlap in requirements.

2. Solutions

Although heroic efforts have been made to date, state regulators
and legislators face the near impossible challenge of addressing and
remedying the identified deficiencies unilaterally. For the most part,
these reforms must be made by statute, and state lawmakers face
practical and political hurdles and collective action challenges in
their pursuit of such improvements on a national basis. Despite the
actions of the States on producer licensing reform over the last two
legislative sessions, real-world realities suggest that it is
extraordinarily difficult, if not impossible, to pass identical bills
through the 50 state legislatures
Although the proposed optional Federal regulation proposals might
correct certain deficiencies, the cost is incredibly high. The new
regulator would serve to add to the overall regulatory infrastructure--
especially for agents and brokers selling on behalf of both state and
federally regulated insurers--and undermine sound aspects of the
current state regulatory regime. The best characteristics of the
current state system from the consumer perspective would be lost if
some insurers were able to escape state regulation completely in favor
of wholesale Federal regulation. Federal models propose to charge a
distant and likely highly politicized Federal regulator with the
implementation and enforcement of a single set of rules that would
apply equally across all States and all insurance markets. Such a
distant Federal regulator may be completely unable to respond to
insurance consumer claims concerns and its mere creation could spark
fears that this will prove to be the case. Nor can a single regulatory
system harmonize the diversity of underlying state reparations laws,
varying consumer needs from one region to another, and differing public
expectations about the proper role of insurance regulation. The
potential responsiveness of a Federal regulator to both industry and
consumer needs in several critical areas could therefore jeopardize the
fundamental purpose of insurance regulation and must be considered
questionable at best.
This year, Sen. Fritz Hollings (D-S.C.) has introduced the
Insurance Consumer Protection Act (S. 1373). This legislation takes a
very dramatic approach by proposing to repeal the McCarran-Ferguson
Act. In addition, S. 1373 would create a ``Federal Insurance
Commission,'' an independent panel within the Department of Commerce.
The commission would be the sole regulator of all interstate insurers
offering property and casualty insurance as well as life insurance. As
with any proposal that would shift regulation from the states to the
Federal Government, IIABA strongly opposes this legislation.
There are several key components to S. 1373 that IIABA strongly
objects to. Under this legislation, a newly formed commission would
have full authority over both rates and policies, while at the same
time allowing consumers to have a right to challenge rate applications
before the Commission. The commission would also be responsible for
licensing and standards for the insurance industry, annual examinations
and solvency reviews, investigation of market conduct, and the
establishment of accounting standards. The bill would also allow the
Commission to investigate the organization, business, conduct,
practices and management of ``any person, partnership or corporation in
the insurance industry.'' It would appear that insurance agents and
brokers would fall under this definition. IIABA believes that by
creating this commission, S.1373, would only take everything that is
wrong with the current state system and shift it to the Federal level,
where there is even less accountability. We are specifically troubled
that this legislation would regulate agents from all states and for all
lines of business who do business across a state line in what will
inevitably be a new massive Washington bureaucracy. While IIABA does
have problems with the current multi-state licensing system, we think
that adding another layer of regulation on top of this is a big
problem.
We believe that the states are better positioned to accommodate
diversity and to respond to change. However, weaknesses exist in state
regulation today. Unnecessary distinctions among the States and
inconsistencies within the States thwart competition, reduce
predictability and add unnecessary expenses to the cost of doing
business. Similarly, outdated rules and practices do not serve the
goals of regulation in today's financial services marketplace.
Nevertheless and as noted previously, there is much that is good about
the current state-based system that would be jettisoned through the
creation of a Federal regulator, including an enforcement
infrastructure upon which consumers throughout the Nation heavily rely
to protect their interests. Federal charters and the establishment of a
full-blown, unprecedented, untested and likely politicized regulatory
structure at the Federal level are not the answer.
What is needed is a third way--a system that builds on, rather than
dismantles, the States' inherent strengths to meet the challenges of a
rapidly changing insurance environment. It must include mechanisms to
promote the establishment of more uniform and consistent regulations
and regulatory procedures, but must be poised to respond faster and
more fully to the reality of electronic distribution and to emerging
industry trends such as globalization and consolidation. It must
modernize areas in which existing requirements or procedures are
outdated, while continuing to impose effective regulatory oversight and
necessary consumer protections. The result, for all stakeholders,
should be a more efficient, modernized and workable system of insurance
regulation.
For the last year, IIABA has been spearheading a cooperative
attempt to develop just such a proposal. We have been working with
other trade associations and directly with an array of national and
regional insurers in an effort to identify precisely what must be fixed
and how that might be done without displacing the components of the
current system that work so well and without creating additional layers
of government bureaucracy. Through this process, four specific areas
for reform and the constraints on the mechanisms for that reform have
been identified, and we have begun assembling a draft proposal for
accomplishing these reforms. In my remaining testimony, I will outline
the four components of this draft proposal.

a. Rate and Form Filing and Review/``Speed to Market'' Reform

As previously discussed, the product regulation requirements in
most States require insurers to file new rates and forms with the
insurance commissioner and obtain formal regulatory approval before
introducing them in the marketplace. Accordingly, an insurer that
wishes to introduce a new product on a national basis may be forced to
seek approval in up to 55 different jurisdictions. The process can be
inefficient, paper intensive, time-consuming, arbitrary and
inconsistent with the advance of technology and the regulatory reforms
made in other industries. These cumbersome inefficiencies create
unnecessary costs and delays, reduce industry responsiveness and drive
many consumers into alternative market mechanisms. The regulatory
regime in many States exceeds, in terms of scope and cost, what is
necessary to protect the public.
In evaluating potential solutions to these problems, it is
essential to recognize that uniformity is very difficult to achieve for
property and casualty lines product regulation. Due to geography and
other factors, some States must take into account issues that other
States need not address. In addition, States may subject rates and
forms to different levels of regulatory scrutiny, and personal lines
and commercial lines products might also be treated differently.
Consumer protection concerns also limit the range of potential
options to some extent. The concern is that the quicker and easier it
is to have a new product or rate approved, the less protection
consumers will receive. The solution thus must strike a balance between
timely and quality reviews and appropriate consumer protections. In
addition, ``race to the bottom'' and ``turf'' concerns have to be taken
into account. Particularly under a scheme that employs a single point
of review, States that use more stringent rate and form processes will
be hesitant to accept the introduction of products or policies approved
under more lenient guidelines. We believe it is possible, however, to
strike an appropriate balance between realizing meaningful speed-to-
market reform and protecting consumer interests.
Based on these objectives and considerations, the IIABA proposal is
designed to do three things: (1) make the system more market-oriented;
(2) make the system faster; and (3) create greater accountability. On
the form approval side of the equation, this would be accomplished by
preempting any state law that requires more than allowing all proposed
forms (both commercial and personal lines) to be used no later than 30
days after they have been filed with the insurance commissioner unless
the rate or form is disapproved within that time period. Under such a
system, an insurer must at most file a proposed form with the insurance
department 30 days in advance of the proposed effective date, and the
form must be used at that time unless affirmatively disapproved by the
regulator. If a department affirmatively approves the filing at any
time within the 30-day period, the insurer may use the form
immediately. Under the proposal, regulators would be entitled to a
single 15-day extension of this disapproval period if an approval
application is incomplete, and more permissive state filing/approval
requirements would not be affected.
Under this approach, the current requirement that filings be done
in every state in which the product will be offered would not be
disrupted and current state form requirements would not be preempted
(except as discussed below). In both the personal and commercial lines
context, any disapproval must be articulated in writing and be based
substantively on a properly promulgated statute, regulation or final
court order. Many regulators have historically disapproved policy forms
based on unpublished and unsubstantiated ``desk drawer rules,'' but
such actions would be impermissible under our approach. As noted
previsously, more permissive form filing and approval requirements
would not be displaced by the Federal rules.
Under our draft proposal, rate approval is treated much differently
than form approval because the competitive market generally is the most
efficient and effective regulator for rates. At the same time, in
markets that are not sufficiently competitive, regulators need to
retain the ability to monitor rates and to intervene to disapprove
rates when necessary. Accordingly, under the draft proposal, any
regulatory review requirement for rates in competitive markets that
requires more than the filing of the rates with the insurance
department would be preempted. States, however, will remain empowered
to approve or disapprove rates in ``non-competitive'' markets if an
affirmative finding has been made determining that the market is ``non-
competitive.'' That determination would be subject to Federal court
scrutiny under the proposal.

b. Producer Licensing

Insurance agents and brokers must be licensed in every state in
which they conduct business, and many producers face considerable
hurdles in complying with inconsistent, duplicative and unnecessary
licensing requirements when they operate on a multi-state basis.
Although state licensing reforms adopted over the last two years offer
great promise, additional improvements and refinements are necessary.
The core proposal that we are developing to address this problem is to
mandate licensing reciprocity in all states and thus achieve meaningful
licensing reform that is national in scope. This could be accomplished
by prohibiting a state in which an agent or broker is seeking to be
licensed on a non-resident basis from imposing any licensure
requirement on that person other than submission of proof of licensure
in their home state and the requisite fee. Under a reciprocal licensing
system that is national in scope, any individual agent or broker would
only be confronted by a single set of licensing requirements.
The largest potential impediment to such a proposal is the concern
by some that it could create incentives for certain States to establish
lenient requirements with the hope that producers might flock there for
resident licenses. Such a ``race to the bottom'' would be detrimental
to the goal of fair, responsible regulation. To address the concern,
the draft proposal would empower the NAIC to establish minimum
standards for licensure. Only agents or brokers licensed as a resident
in states that satisfy these minimum standards would be able to benefit
from the preemption of state licensing authority over non-resident
agents. If an agent or broker resides in a state that does not adopt
the minimum-licensing standards, the proposal would explicitly enable
that producer to apply to a state in which they do business and that
has adopted such minimum standards to be licensed as a resident.
Through this mechanism, Congress also could dictate minimum licensing
standards. Under the draft proposal, for example, the minimum licensing
standards would be required to include the performance of a criminal
background check, utilization of standardized licensing cycles and
application forms and fees in the filing process, imposition of a
standardized trust account requirement for use in any state that
requires maintenance of such accounts, and the mandatory availability
of agency-level licenses.

c. Company Licensing/Transaction Review/Corporate Governance/Insolvency

Standards/Financial Audits

Like insurance agents and brokers, insurers currently must be
licensed by every state in which they do business. They also must
satisfy a variety of corporate organization, solvency and governance
requirements and go through multiple reviews of proposed corporate
transactions (i.e., change in control, mergers and acquisitions) and
financial audits. Insurers need a single set of requirements; requisite
compliance with the rules of multiple states creates delays and adds
unnecessary costs without adding any tangible consumer benefit.
Compliance with multiple audit procedures also is needlessly
inefficient, costly and administratively cumbersome for insurers.
As in the insurance producer context, in developing potential
solutions, the possibility of a race to the bottom and regulatory turf
concerns of state insurance departments must be considered. In
particular, state insurance departments likely will be hesitant to
accept licensing, solvency and auditing determinations made by other
States where the insurer does a significant amount of business in their
States.
Regulation in this area also must contemplate the financial risks
at stake if insurer solvency is not sufficiently regulated and
companies become financially unsound. Concerns about possible strains
on the guaranty system and the need for bailouts (such as in the
savings-and loan-crisis) are never far from the surface when dealing
with this area of regulation.
To remove duplicative and inconsistent requirements and examination
procedures while at the same time maintaining sufficient protection for
policyholders and the public, the proposal for companies tracks the
producer licensing proposal by preempting the ability of all States to
impose any licensing/transaction, review/corporate or governance/
solvency standards or requirements on any non-resident company that is
licensed by a state that is accredited by the NAIC. An insurer would be
able to select as its ``home state'' either its state of domicile or
its state of incorporation. States still would be free to require non-
resident companies to be licensed but only upon proof of home-state
licensure and the submission of a fee. The draft will clarify that any
company that satisfies such Federal ``passport'' requirements can offer
products in a non-resident state even if the state does not try to
license them through the federally approved process (if the state does
license in a federally permissible way, an insurer would have to comply
with the state requirements, however). Hence, although any state could
impose more stringent requirements on its resident companies, the
system would remain uniform from the perspective of each individual
insurer because each insurer would need to comply with only one set of
substantive requirements.
To stem a potential ``race to the bottom,'' a company will be
required to be licensed in an ``accredited'' state in order to use its
license as a passport to do business in other states and have the
preemption outlined above apply to its activities in those non-resident
states. The legislation would empower the NAIC to continue to conduct
the accreditation process, subject to two new requirements.
First, additional accreditation requirements would have to be
incorporated into the NAIC's accreditation requirements, including the
new producer licensing minimum standards and any company minimum
licensing, solvency or other standards that Congress chose to
incorporate.
Second, the NAIC's accreditation criteria and any determination
that a state is (or is not) accredited would be subject to review and
disapproval either by a Federal agency or by a Federal court. Such
oversight would be limited to reviewing NAIC determinations regarding
what standards must be satisfied to become accredited and applications
of those standards to states that have applied for accreditation.
To ensure that no company would be penalized (and thus unable to
qualify for the ``passport'' rights) by virtue of the fact that it is
domiciled in a non-accredited state, the legislation would permit an
insurer to choose an alternative state of ``residence'' for licensing
purposes if its state of domicile and its state of incorporation both
are not accredited. Tentatively, the legislation will allow such an
insurer to be licensed in the accredited state in which it does the
most business based on premium volume. This should increase the
pressure on all states to become accredited.
The legislation also must account for the possibility that the NAIC
will refuse to implement the program and/or that the States will decide
to boycott the process. In either event, the legislation will
incorporate the back-up provisions included in NARAB. Hence, either if
the NAIC refuses to implement the accreditation procedures as required
under the Act or if a majority of States do not become accredited
within a specified number of years, an independent body would be
established either to stand in the shoes of the NAIC in conducting the
accreditation process or--if States refuse to comply--to act as a
licensing clearinghouse so that insurers will qualify for the
licensing/solvency/etc. single set of requirements envisioned under the
overarching approach. The proposal utilizes a combination of the NARAB
back-up provisions and the Risk Retention Act non-resident state
regulatory provisions to create these fall-back sets of provisions. The
tighter they are designed, the less likely it is that the NAIC and/or
the States will refuse to comply with the intended NAIC accreditation
procedures.

d. Market Conduct Examinations

Insurers are subject to examinations from insurance departments in
multiple States. Exam procedures are inefficient and requirements are
duplicative as a result of lack of coordination between States.
Multiple exams are costly and administratively cumbersome for insurers.
There often does not appear to be a sound justification for the
examination and there are no restrictions on most insurance
department's exercise of their market conduct examination power.
At the same time, however, it must be noted that market conduct
directly involves consumer protection issues and, as a result, turf
concerns and political concerns can be prevalent. Moreover, the focus
of market conduct examinations is supposed to be on sales practices
that occur where the customer is located rather than where the company
resides, undermining the practicality of mandating a home-state
regulation approach.
To reduce the administrative costs of compliance by clarifying the
circumstances under which a regulator of a non-resident insurer may
conduct examinations, the frequency with which such examinations may be
conducted, and the review procedures that will apply, the proposal
would require that, in the non-resident state, examinations may be
conducted only to review compliance with properly promulgated statutory
and regulatory requirements, and that no insurer can be deemed to have
``failed'' such an examination unless it is provided with an
explanation in writing that sets forth the statutory and/or regulatory
requirement that allegedly has been violated. The proposal includes a
provision permitting any claim that a regulator is exceeding the scope
of his or her authority to be brought in Federal court.
In an effort to facilitate greater coordination of market conduct
examinations where appropriate, the proposal includes a provision
authorizing and encouraging the use of multi-state compacts to
facilitate market conduct examinations.

Conclusion
Although IIABA supports the preservation of state regulation of the
business of insurance, we believe that reforms to the current system
are necessary and essential. Specifically, IIABA believes the best
alternative for addressing the current deficiencies in the state-based
regulatory system is a pragmatic, middle-ground approach that utilizes
Federal legislative tools to foster a more uniform system and to
streamline the regulatory oversight process at the state level. By
using Federal legislative action to overcome the structural impediments
to reform at the state level, we can improve rather than replace the
current state-based system and in the process promote a more efficient
and effective regulatory framework.
Rather than employ a one-size-fits-all regulatory approach, a
variety of legislative tools could be employed on an issue-by-issue
basis to take into account the realities of today's marketplace and to
achieve the same level of overall reform as the imposition of a Federal
regulator. The specific ideas outlined above are just a few of the many
specific solutions that could be adopted under this type of approach.
Instead of relying on the agenda of a displaced and possibly
politicized Federal regulator, however, insurance regulation would
continue to be grounded on a more solid foundation--the century-and-
one-half worth of skills and experience that the States have as
regulators of the insurance industry. The advantage of this approach is
that it offers the best of all worlds. It will promote the
establishment of more uniform standards and streamlined procedures from
state to state, protect consumers while enhancing marketplace
responsiveness, and emphasize that the primary goals of insurance
regulation can best be met by improving, not abandoning, the state-
based system that has been in place for over 150 years.

The Chairman. Mr. Berrington?

STATEMENT OF CRAIG A. BERRINGTON, SENIOR VICE

PRESIDENT AND GENERAL COUNSEL, AMERICAN INSURANCE ASSOCIATION
(AIA)

Mr. Berrington. Thank you very much, Mr. Chairman.
My name is Craig Berrington. I'm general counsel of the
American Insurance Association. AIA represents insurers doing
business in every state, writing all types of property and
casualty insurance.
Two years ago, the AIA board, which has insurers of various
sizes, small to large, formally decided to support optional
Federal chartering, while at the same time continuing to
support efforts to reform state insurance regulation. Our
members were there at the creation of the state system and have
worked diligently to reform it. They have concluded, however,
that while some states--that in some states, sufficient--I'm
sorry--they have concluded, however, that while useful reforms
have occurred in some states, sufficient nationwide reform
through individual state actions is unlikely under the current
state-centric approach. Therefore, nationwide reform from the
Federal level is critical.
I'd like to take a few minutes this morning to provide the
Committee with some insurance background and to sketch out our
optional Federal chartering and proposal from a property and
casualty insurance perspective.
We generally think about insurance as individual
transactions, and there has been discussion about that this
morning--homeowners, auto, business, workers' compensation,
life--but the broader truth about insurance is that you cannot
have a democratic free-market society without it. Democracy and
free markets are all about taking risks, and insurance is all
about making those risks manageable in our personal and in our
entrepreneurial lives.
Insurance is also a critical early warning system for
society. However, as with other messengers throughout the ages,
insurers often get blamed for the messages that they bring and
the truths that those messages tell. But those truths are the
beginning of coming to grips with a problem and then solving
it.
Like banking and securities, insurance is integral to the
financial services lifeblood of the country, yet its regulated
very differently. This results in a real dichotomy, a business
that is so integral to the national interest is controlled so
overwhelmingly by the most local of regulation.
How insurance should be regulated and by what level of
government is an old argument in the United States. We have new
legislation addressing these issues, but this is not a new
debate. It goes back at least to 1869, as was pointed out
earlier, where the Supreme Court held that insurance was
intrinsically local and Congress could not constitutionally
regulate it. That, of course, was overturned in 1944 and
followed by the McCarran Act in 1945.
So insurers now operate in an environment with 51 different
state regulatory systems, with 51 different regulatory
philosophies, with all the obvious costs, complexities, and
confusion that this causes. In these 51 states, there are
approximately 350 different regulatory price-control schemes
for property and casualty insurance, and over 200 different
regulatory approaches to approving the introduction of new P&C
products. This cannot be efficient.
Playing out within the argument about where insurance
should be regulated is the argument about how it should be
regulated. As the state system developed, it began to rely
upon, as its two primary regulatory tools, the imposition of
government price controls and a presumption against product
innovation. In choosing this course of regulatory behavior,
most states wound up enshrining in their laws and regulations
governmental command-and-control economic theories that have
been discredited at home and around the world over the past 50
years. They adopted a system that distorts regulatory goals by
putting almost all the regulatory eggs in the price and
product-control basket. By doing so, they created a system that
discourages innovation and maximum competitive opportunities,
that denies consumers maximum choice, and that often makes the
pricing of insurance a political act.
I should say that the benefits asserted for Prop 103 are
benefits that I disagree with and we might want to discuss
later.
But what kind of change do we want? In short, we want
insurers to have the option of obtaining a Federal charter. In
the broadest conceptual sense, the bill would allow insurers to
choose between state regulation and the Federal charter with a
single Federal regulator. The bill would focus Federal
regulation on financial integrity, market conduct, and consumer
protection, not on government price controls and an ingrained
hostility to the development of new products. The bill would
normalize the antitrust legal environmental for federally
chartered insurers at the same time as it normalizes their
right to price their products in the marketplace. We are
willing to give up the McCarran antitrust protection with
regard to price if we can be free to price our products in the
market, just like any other business. We think that's a fair
tradeoff.
The bill would allow the states to continue to set the
mandatory standards of their insurance coverage laws, like,
say, automobile insurance and workers' compensation rules. And
federally-chartered insurers would have to follow those
mandates when they did business in the state.
The bill would generally preempt other state insurance laws
for federally chartered insurers, but keep them subject to
state contract and tort law, as well as the state premium tax
regulation, state residual markets, and state guarantee funds.
And, finally, it would let any insurer that thought that
the state system worked better for it to stay in the states. We
know, Mr. Chairman, that not everyone in the insurance industry
favors our optional Federal chartering approach. Although
support for it continues to grow, we know there are a wide
variety of views in the industry. Many insurers, especially,
I'm told, some smaller one, favor continuation of the current
state system, and they should be allowed to continue in it if
they would like to.
We also understand, Mr. Chairman, that in the debate over
change the burden is on us who favor change. But we, the
advocates of change, are not the only ones who have a burden to
meet. Those who advocate the status quo have the burden of
moving beyond rhetoric to reform, and really showing us that
reform can be done at the state level.
We believe that the Federal legislation incorporating our
reform principles is needed to move forward now and to continue
to work on state reform where we can.
I'd be happy to take any questions later in this session.
Thank you very much.
[The prepared statement of Mr. Berrington follows:]

Prepared Statement of Craig A. Berrington, Senior Vice President and
General Counsel, American Insurance Association (AIA)

Thank you, Mr. Chairman. My name is Craig A. Berrington, and I am
Senior Vice President and General Counsel of the American Insurance
Association (``AIA''). I appreciate the opportunity to testify here
today on the important issue of insurance regulatory reform. Attached
to my written statement is an article that appeared in the August 2003
edition of Best's Review, which further details AIA's position in favor
of an optional Federal charter.
AIA is a national trade association representing more than 424
property and casualty insurers that write insurance in every
jurisdiction in the United States, with U.S. premiums exceeding $103
billion in 2001. AIA member companies offer all types of property and
casualty insurance including personal and commercial automobile
insurance, commercial property and liability coverage, workers'
compensation, homeowners' insurance, medical malpractice coverage, and
product liability insurance.
For AIA members, insurance regulatory reform is, and will continue
to be, a key concern. The ability of insurers to bring products to
market in a timely and cost-effective manner free from government price
controls, along with uniform regulatory treatment regardless of where
they are domiciled and where they do business, is critical. Real
reforms are necessary if insurance is to remain a competitive, vibrant
industry.
The state insurance regulatory system for property and casualty
insurance is premised on government price controls and on the
imposition of barriers to bringing new products to market. This system
is replicated 51 times, often in different and inconsistent ways. Even
within each jurisdiction, there are often differing systems for
different lines of business, making the process incredibly cumbersome,
inefficient, and ultimately unresponsive to consumer needs. A limited
survey of state requirements finds approximately 350 dictating how
rates are to be filed and reviewed and approximately 200 relating to
the filing and review of new products. We need a more efficient
regulatory system than this.
Recognizing that the long-term best interests of policyholders,
insurers, and the overall economy are served by an efficient, effective
regulatory system, AIA examined the ``value chain'' associated with the
regulation of insurance companies and products and identified
opportunities--based on both domestic and international regulatory
models--to remove current regulatory impediments to competition, thus
creating greater value for all stakeholders. From that discussion and
analysis of the current regulatory system, several themes emerged.
First, an entrenched state focus on government price and product
controls discourages product innovation and competition, ultimately
denying consumers choice. The current regulatory system concentrates on
the wrong things. While repressing prices may be politically popular,
it is ultimately economically unwise as it masks problems and over a
period of time can lead to a crisis, forcing sizable subsidized
residual markets and market withdrawals that exacerbate the problem.
Any system that requires companies to ``beg the government'' in
order to use their product and to establish a price improperly places
the government in the middle of marketplace decisions. In contrast, a
system that relies on marketplace competition and that makes the
consuming public the central player in the system is well-focused.
Second, there is inconsistency among state statutory and legal
requirements and the administration of state systems. The need to meet
differing regulatory demands in each jurisdiction increases compliance
costs, discourages innovation, and makes it difficult for insurers to
service customers doing business in more than one state.
The current regulatory system is a jumble of individual state
requirements. State insurance codes provide hundreds of different rate
and form regulatory requirements for the various lines of insurance.
Uncodified practices of many state insurance departments, known as
``desk drawer rules,'' impose additional, often needlessly onerous,
procedural requirements. One problem that this causes in the
marketplace is that companies wishing to launch a national product
cannot do so until both the price and product have been separately
approved in every state.
Third, in many states, regulatory rate and form approval delays are
chronic and increasing. Federally-regulated financial services
industries have no similar regulatory obstacles to getting rates and
products to market quickly. The emphasis on such controls in insurance
slows products from entering the market and inhibits product
creativity.
Our industry stands out as one of the most heavily regulated
sectors of the U.S. economy. But, it is not just a question of
regulation. It's the fact of misguided regulation. If the insurance
industry cannot keep pace and cannot provide consumers with real
choices, the economy suffers. Insurance provides much-needed security
for businesses and individuals to innovate, invest and take on risk.
Yet the ability to innovate, invest and take on risk is substantially
impeded because insurers labor under the weight of a ``government-
first, market-second'' regulatory system. This system rewards
inefficient market behavior, subsidizes high risks and masks underlying
problems that lead to rising insurance costs. The bottom line is that
consumers ultimately will pay more for less adequate risk protection
than would be the case under a more dynamic, market-oriented regulatory
system.

Debate and Solutions: Optional Federal Charter Proposal and Other Ideas
There are a variety of views within the industry about the most
appropriate solutions to this regulatory dilemma. Almost all those
involved in the debate recognize that, on the whole, the current state
system is under great stress. There is, in addition, we believe, a
growing consensus--although certainly not unanimity--that the state
system is not just stressed, it is broken. The only question remaining
is how best to solve the problem; there are a variety of ideas.
For AIA and a number of others, the solution is a new regulatory
paradigm that eliminates government obstacles to getting prices and
products to market, and thereby providing consumers with choice.
Members of AIA were there at the creation of the state system. They
have much invested in this system, which they know well. They have been
at the forefront of efforts to reform the system and they approve of
substantive reform efforts of individual state insurance commissioners
and of the National Association of Insurance Commissioners (``NAIC'').
However, recognizing systemic barriers to efficiency and competition,
AIA's Board of Directors decided more than 2 years ago that the kinds
of reforms necessary to keep the industry vital and to maximize
consumer benefits were unlikely to be achieved in a state regulatory
environment. Thus, the AIA Board voted to support the enactment of
optional Federal chartering legislation, which would allow insurers to
obtain a Federal charter, but not to displace the state system for
those who want it.
One of the benefits of our optional Federal charter proposal is
that it accommodates those who believe their business is best served by
local regulation. Other benefits will follow, including consumer
choice, healthy competition and the ability of regulators to focus a
national system on meeting core financial tests and on protecting
consumer interests.
AIA is not alone in advocating an optional Federal charter
solution. After our Board determined to advocate for this system, we
were joined by the American Council of Life Insurers and the American
Bankers Insurance Association. Further, non-AIA member insurers are
looking increasingly at Federal solutions as well.

Support for the Optional Federal Charter Solution
AIA believes that optional Federal chartering will benefit
consumers and boost the competitiveness of the insurance industry. Our
proposal is designed to provide options for consumers, to achieve
systemic efficiency, and to normalize regulation of insurers. While
some aspects of the insurance industry are local in nature, the
business is increasingly national and international in its customer
focus and regulatory needs. The insurance industry is extremely
diverse. A state-based regulatory approach may be appropriate for
companies that operate on a single-state or regional basis, but, for
national and international companies--as well as their customers--the
current fifty-one-jurisdiction regulatory system is costly and
inflexible. Reforms such as optional Federal chartering would allow
companies and customers to choose the regulatory approach that is most
suitable for their size and scope of operations.

Principles for Optional Federal Chartering
Keeping this context in mind, our proposal focuses on financial
integrity, not government rate and form regulation. The proposal
creates a Federal regulatory system in the Department of the Treasury
to grant Federal charters to qualified insurers and reinsurers--and to
their agents--for the purpose of regulating their conduct. The proposal
is designed to regulate federally chartered insurers, not to create or
regulate state reparations laws, like the mandatory requirements of
state automobile or workers' compensation insurance laws. That
authority over state reparations laws would remain within the state
legislatures. The proposal otherwise preempts most state insurance
regulatory laws for those insurers that obtain a Federal charter.
The proposal substantially normalizes the Federal antitrust
environment for federally chartered insurers, and allows any insurer,
reinsurer, or insurance producer that wants to stay in the state
regulatory system to do so without any obligation to the Federal system
whatsoever. In sum, the optional Federal charter proposal fosters
freedom of choice for insurers and their customers.
More specifically, in terms of scope, the proposal would apply to
all lines of property and casualty and life insurance. Insurers and
holding companies would have essentially unrestricted options with
regard to use of the Federal chartering system. For example, a holding
company could decide to have all of its insurance affiliates federally
chartered, just some, or none. For mergers and acquisitions, states
would have a role only if one or more of the insurers were state-
licensed.
The Federal regulatory system would be organized around a new
Treasury Department agency. The commissioner of the new agency would
serve a five-year term, and would be appointed by the President with
the advice and consent of the Senate. The new Federal agency would be
funded by the federally chartered insurers, not by the public. It would
have no rate regulation authority, but would have access to policy
forms, which federally chartered insurers would be required to make
available for inspection. Chartered insurers would also be required to
file an annual list of their standard policy forms with the Federal
agency.
The role of the new Federal office would be to make concrete and to
enforce the statutory standards for obtaining and retaining a Federal
charter through regulation. The office would also have full financial
and market conduct regulatory and examination authority, including the
authority to establish prohibitions on unfair trade and claims
practices. An insurer could lose its Federal charter for any knowing
significant violation, and could also be fined or required to pay
restitution. Except for non-preempted areas such as mandatory state
residual market participation, a state insurance regulator could not
bring a regulatory action against a federally chartered insurer, but
could file a complaint with the Federal agency. The proposal also
includes a rehabilitation and liquidation process, incorporating the
NAIC model, and authorizes insurers to establish self-regulatory
organizations subject to Federal oversight.
In terms of the interplay between Federal and state law, there are
three critical areas--state law preemption, antitrust, and state tort
and contract law--affected by the proposal. First, all state insurance
laws and regulations would be preempted by the proposal unless
specifically preserved. Examples of preempted areas of regulation
include licenses; solvency and financial condition; mergers and
acquisitions; rates and forms; marketing; underwriting; claims; so-
called ``take-all-comers'' laws; and policy non-renewal or cancellation
limitations. Major areas of state regulation that are expressly not
preempted by the proposal include mandatory residual markets; premium
tax laws; state guaranty funds; general corporate governance laws;
mandatory coverage provisions of state reparations laws; workers'
compensation administrative mechanisms; and mandatory statistical or
advisory organizations. Even for areas of state regulation that remain
in effect, states cannot use those to discriminate against federally
chartered insurers or their affiliates. The new Federal agency can
block any state laws that it finds discriminatory. In addition, it can
block any other state law that is inconsistent with the optional
Federal chartering proposal.
Second, with regard to the antitrust interplay, the proposal
substantially normalizes the application of the antitrust laws to
federally chartered insurers as the quid pro quo for a marketplace-
oriented regulatory system. As a result, there is generally no
McCarran-Ferguson Act protection from the Federal antitrust laws,
except for state-mandated activities. In practical terms, this means
that collective ratemaking activities are subject to antitrust
scrutiny, but that specific antitrust protection remains for policy
forms development as the tradeoff for regulatory authority.
Third, with respect to state tort and contract law, federally
chartered insurers are still subject to state court tort and contract
suits, as well as to state ``bad faith'' insurance regulation laws.

NAIC Role and Limitations in Regulatory Modernization
AIA has been actively engaged in advancing the elimination of
government rate and form controls on a state-by-state basis for a
number of years. AIA applauds the spirit of NAIC efforts and we will
continue to work with the NAIC to produce needed regulatory reform in
the states. AIA, as well as some other trades and insurers, fully
supports continued efforts to modernize and improve the state
regulatory system. But, we urge Congress to move forward with the
creation of an optional Federal charter because ultimately it is
impossible for the NAIC to deliver uniformity or complete systemic
reforms at the state level.
Efforts at regulatory uniformity have consistently failed, because
many states have refused to sign on to a united effort and there is no
guarantee that any uniform standards would actually import the correct
standard. What is left, at best, is a dysfunctional uniformity, such
as:

Privacy: In response to the Gramm-Leach-Bliley Act's
(``GLBA'') privacy standards, the NAIC unanimously adopted its
model ``Privacy of Consumer Financial and Health Information
Regulation'' in September 2000. While AIA supported the
adoption of that model, there has been little uniformity even
where states purportedly base privacy laws and regulations on
the model. States have enacted and promulgated privacy laws and
regulations that depart in numerous ways from both GLBA and the
NAIC model. This created a costly patchwork of privacy
obligations. Compounding the problem is a 20-year old NAIC
insurance privacy model that remains the law in sixteen states
and differs in scope and form from the more recent model.

Producer Licensing: A year ago, the NAIC was supposed to
certify that it had met the conditions of GLBA's registered
agent and broker provisions. Despite certification, key states
are still not in compliance. Even those that have been
certified by the NAIC still allow variances--extra requirements
like fingerprint and background checks--before a non-resident
license is granted.

Interstate Compact Attempts: The NAIC has created model
interstate compacts, though only for life insurance and not for
property and casualty insurance. Since then, one state adopted
a version different from the NAIC model, two large states
publicly opposed the model, and three other large states began
working on their own model.

More than three years ago, the NAIC unveiled a ``new''
modernization effort designed to improve state insurance regulation, in
its ``Statement of Intent.'' It declared that state insurance
regulators must modernize insurance regulation to meet the realities of
an increasingly dynamic, and internationally competitive, insurance
marketplace. Even then, such pronouncements were not new--state
insurance commissioners have been talking about uniform efforts since
1871.
Last month, the NAIC issued a renewed commitment to its
``Regulatory Modernization Action Plan.'' This plan abandons previous
efforts for substantive changes in the regulatory framework. For the
most part, the NAIC plan focuses on incremental efficiencies that make
no major systemic changes in today's outmoded regulatory framework. The
plan does not even reinforce the NAIC's own ``Speed to Market''
recommendations that the NAIC adopted in 2000.
Consumers would benefit from a free market, without today's
antiquated product and price controls. But the NAIC's latest plan not
only fails to eliminate this discredited system, it retreats from
previous and stronger recommendations in this area. To stimulate
healthy regulatory competition in insurance, we must turn to a market-
oriented environment. The NAIC has proven that it cannot force states
to let such an environment flourish, so other, more effective avenues
must be pursued.

Conclusion
AIA advocates a market-based approach to insurance regulation that
does not rely on government review of prices or products, but permits
competitive forces to respond to consumer demand. The state of the
current regulatory environment makes comprehensive insurance regulatory
reform imperative.
There have been decades of NAIC reports and commissioner promises
of reform, none of which has ever produced the system-wide reform that
is needed. The failure to enact systemic reform is not for lack of
effort, but is a product of 51 different jurisdictions with 51
different regulatory and political philosophies. Reform must occur at
the Federal level, and we ask that you consider the optional Federal
charter as the appropriate vehicle.
I appreciate the Committee's attention and the opportunity to speak
today on this important issue. Thank you.

Attachment

STATEMENT OF HON. JOHN E. SUNUNU,
U.S. SENATOR FROM NEW HAMPSHIRE

Senator Sununu [presiding]. Thank you, Mr. Berrington.
Mr. Heller?

STATEMENT OF DOUGLAS HELLER, THE FOUNDATION FOR TAXPAYER AND
CONSUMER RIGHTS

Mr. Heller. Thank you, Mr. Chairman and Senators.
I'm Douglas Heller, with The Foundation for Taxpayer and
Consumer Rights.
As Senator Hollings started today and pointed out, that
there is a strong regulatory regime in this Nation that
protects consumers and equally ensures a stable insurance
market. That system is California's Proposition 103, a voter
initiative that was passed in 1988. And, indeed, most of its
provisions are contained in Senator Hollings' admirable
insurance consumer protection bill, and for that we are
appreciative.
In the main, Proposition 103 creates a prior-approval
system of insurance. It requires insurance companies to justify
their rates, it allows the insurance commissioner to approve or
deny or amend and alter insurance rates as they come. It also
provides the right of the public to inspect the books of
insurance companies and to challenge those rates in case the
insurance companies are asking too much or the Commissioner is
looking for too little.
In recent weeks--excuse me, in recent months--our
organization has challenged two such rate increases proposed by
medical malpractice insurance providers in California. And as a
result of our challenges, we have saved doctors $35 million,
protecting them from excessive price hikes. We also saved $26
million for insurance policyholders for the fourth-largest
homeowners company when we blocked a rate increase just last
month using Proposition 103.
Proposition 103 also ended the antitrust exemption for
California carriers that we know exists throughout the rest of
the Nation. And, as Senator Hollings indicated, Proposition 103
did require rates to go back to adjust for historic gouging.
And, as a result, there were $1.2 billion in rebates paid to
California consumers.
It's been a quantitative success. Auto liability rates are
down 22 percent since Proposition 103 passed in California.
They're up 30 percent nationwide.
But also, and this is very important to note, the insurance
industry in California has been more profitable than it has
been in the Nation as a whole. Over the last 10 years, average
profits in auto, homeowners, farm-owners insurance, medical
malpractice insurance, has been higher in California than the
national average.
And, of course, it's been a qualitative success, because
we've had a stable market, without the ups and down swings that
we've seen throughout much of the country.
But despite the success, we hear time and again the
insurance wants to deregulate, or when they talk about Federal
regulation or Federal options, it's just a way to get around
the more stringent approaches around--in certain states, like
California.
But the reason they don't want regulation is not because it
hasn't been a success, but because it tends to air their dirty
laundry, things like the economic cycles that impact the
insurance market. Insurance companies, as we know, make a lot
of their money through their investment practices. And, as a
result, they follow the economic cycles of the Nation. And when
interest rates fall, their investment income declines. When the
stock market falls and they lose money, they need to--they want
to raise more money.
And this, we've seen in a recent study we did of ten major
insurance companies. The insurance industry is putting more and
more of their money into higher-risk investments in the
corporate sector in equity, stock investments, as well as
corporate bonds. And, as a result, these ten companies that we
studied lost a quarter of a billion dollars in investments in
just those five corporate frauds that this Committee and other
Senate Committees studied in recent years, Enron and WorldCom
being the main protagonists of those losses.
So when the insurance companies lose their money, they then
have to come up with an excuse, and instead of taking
responsibility for their investment mistakes, the industry
points to consumers and say, ``Oh, the claims have gone up.''
Well, we went back, and we studied 15 years of medical
malpractice claims loss history, and we see that the insurance
company, when they project losses initially, are inflating that
data. Thirty percent higher. When we look, after 10 years of
accounting revisions by the insurance industry, when they said,
``We had $10 billion in losses this year,'' 10 years later
they've revised those numbers down to $7 billion. They inflate
that data, those loss data, so they can push for rate increases
so they can tighten up coverage of insurance, and, of course,
so they can push for changes in tort laws.
That's the third dirty secret of the insurance industry.
These changes in tort laws actually don't fulfill the promises
of rate decreases.
I can go through, and perhaps, if you're interested later
on, I could talk about some of the studies we've done to show
that these tort law changes haven't worked. But I think the
best way to explain it is to just read to you what the
insurance industry has said when under the scrutiny of
regulation. They have been asked about the impact. When we
challenged the rate increase of SCPIE indemnity, the second
largest medical malpractice provider in California, this is
what their assistant vice president and actuary said to the
regulator, ``While MICRA''--which is California's malpractice
caps law--``was the legislature's attempt at remedying the
malpractice crisis in California in 1975, it did not
substantially reduce the relative risk of medical malpractice
insurance in California.'' ``Caps do not work,'' is what the
insurance company told the regulator, because they--because the
company wanted to raise rates instead.
And when, in 1987, the Florida regulators asked St. Paul
and Aetna and other companies to explain what was happening in
the wake of their tort law changes, St. Paul said that the
conclusion of their study about their caps, ``will produce
little or no savings to the tort system as it pertains to
medical malpractice.''
Senators, insurance reform is a crucial element of
improving our economy, because, as Chairman McCain had said
earlier, insurance is absolutely integral to the economic lives
and well-being of American consumers and businesses. I doubt
there's any disagreement on that. The question is, How do we do
it? Do we do it with regulation, or do we concede to a market
and to tort law changes and such that have, in the past, not
produced a savings that we expect and that consumers need?
I appreciate the time to participate in this hearing and
will be happy to take any questions.
[The prepared statement of Mr. Heller follows:]

Prepared Statement of Douglas Heller, Foundation for Taxpayer and
Consumer Rights

``Proposition 103: A Model for Insurance Regulation''

Mr. Chairman and Members of the Committee:

Thank you for inviting the Foundation for Taxpayer and Consumer
Rights (FTCR) to present its views on insurance regulation and engage
in this important discussion on the state of insurance regulation and
proposals to improve it.
FTCR is a nonpartisan, nonprofit organization that conducts
research, education and advocacy activities on insurance matters and
other consumer issues, including healthcare and energy. In particular,
FTCR has done extensive work on issues related to auto, home and
medical malpractice insurance and has long been an advocate of
insurance industry regulation. FTCR's founder, Harvey Rosenfield, is
the author of Proposition 103, the California insurance reform
initiative that provides the state with the Nation's most stringent
system of insurance regulation. I am FTCR's senior consumer advocate
and insurance specialist.
We would like to thank Chairman McCain for holding this oversight
hearing and we appreciate the effort of Senator Hollings, who, in
drafting S. 1373, has provided a model for discussing the strength and
efficacy of insurance regulation. This proposal reflects many of the
provisions of California's Proposition 103, which have provided a
stable and affordable insurance market for the past 15 years in
California, a stark contrast to the skyrocketing prices and industry
turmoil that characterizes the property-casualty marketplace in many
other states.
While we believe that insurance regulation should remain the
purview of state regulators, lawmakers and courts, we commend Senator
Hollings for putting forward a compelling proposal to protect insurance
consumers across the Nation. Senator Hollings proposal comes at a time
when insurance companies are pushing to deregulate the insurance
industry at the state level and by proposing an optional Federal
charter system with rules that would allow insurers to choose their
regulator in a manner that will undoubtedly reduce regulatory oversight
of the insurance industry.
It is our belief that the most effective way to protect consumers
and ensure reasonable insurance rates is through the tools of a prior
approval insurance regulation system. Our research has shown that
insurance company regulation, when properly implemented, can save
consumers billions of dollars and maintain profitability within the
insurance industry, thereby providing customers with the most choice in
the market. In other words, the regimen of insurance regulation creates
the environment that is most conducive to marketplace competition while
also affording consumers necessary protection against insurance company
profiteering.
In addressing the questions at hand, FTCR would like to present the
following thesis:
Insurance products are such an integral part of the economic life
of Americans, that ensuring both the affordability and quality of the
products is crucial to the financial security and well-being of
American consumers and businesses. Effectively regulating the insurance
marketplace is the best way to produce reasonable and stable rates for
consumers and appropriate market conduct by carriers
Our reports, analyses and experience have confirmed this thesis
time after time over the 15 years since the enactment of Proposition
103 in California. To illustrate the success of and need for a strong
regulatory regime for insurance, we bring together a variety of data
and analysis in this testimony to make the following points:

I. Proposition 103 has saved California consumers
billions of dollars through its prior approval
regulatory structure, including more than $62
million saved for doctors and homeowners in the
past two months alone as a result of FTCR's rate
challenges.

II. Insurance follows an economic cycle inversely
related to the Nation's financial markets.
Aggressive investing practices have created
volatility in insurance rates over the past five
years, culminating in the massive price spikes
and underwriting restrictions that appeared on
the heels of the collapse of Enron, Worldcom and
declining interest rates.

III. The antitrust exemptions provided to insurers are
anti-competitive and allow companies to set
prices collusively rather than compete on the
insurers' actual abilities to assess and carry
risks.

IV. Insurance companies project higher losses in order
to push for higher rates and imply a crisis, and
then quietly change their data in the years to
come.

V. Tort limitations imposed during previous crisess
have had no demonstrable effect on insurance
rates.

Proposition 103 Regulation Saves Consumers Billions of Dollars
In 1988, California voters, facing skyrocketing insurance premiums
and angry at the failure of tort reform to deliver its promised
savings, went to the ballot box and passed Proposition 103, the
Nation's most stringent reform of the insurance industry's rates and
practices--applicable to all lines of property-casualty insurance,
including auto, homeowners, commercial and medical-malpractice.
Proposition 103:

Mandated an immediate rollback of rates of at least 20
percent--rate relief to offset excessive rate increases by
establishing a baseline for measuring appropriate rates.

Froze rates for one year. Ultimately, because of the delay
caused by insurance company legal challenges to Proposition
103, rates remained frozen for four years pursuant to decisions
by the state's insurance commissioner.

Created a stringent disclosure and ``prior approval'' system
of insurance regulation, which requires insurance companies to
submit applications for rate changes to the California
Department of Insurance for review before they are approved.
Proposition 103 gives the California Insurance Commissioner the
authority to place limits on an insurance company's profits,
expenses and projections of future losses (a critical area of
abuse).

Authorized consumers to challenge insurance companies' rates
and practices in court or before the Department of Insurance.

Repealed anti-competitive laws in order to stimulate
competition and establish a free market for insurance.
Proposition 103 repealed the industry's exemption from state
antitrust laws, and prohibited anti-competitive insurance
industry ``rating organizations'' from sharing price and
marketing data among companies, and from projecting
``advisory,'' or future, rates, generic expenses and profits.
It repealed the law that prohibited insurance agents/brokers
from cutting their own commissions in order to give premium
discounts to consumers. It permits banks and other financial
institutions to offer insurance policies. And it authorizes
individuals, clubs and other associations to unite to negotiate
lower cost group insurance policies.

Promoted full democratic accountability to the public in the
implementation of the initiative by making the Insurance
Commissioner an elected position.

A copy of the text of Proposition 103 are submitted as Appendix A.
Insurers spent $80 million in their unsuccessful effort to defeat
Proposition 103, including the cost of sponsoring three competing
ballot measures that would have enacted ``tort reform.'' Having seen
how ``tort reform'' laws passed at the behest of the insurance industry
in 1975 and 1986 had had no effect on premiums, the voters rejected
each of the industry's 1988 measures.
Proposition 103 worked. Insurance companies refunded over $1.2
billion to policyholders, including motorists, homeowners and doctors.
In the closely studied area of auto insurance, California was the only
state in the Nation in which auto insurance liability premiums actually
dropped between 1989 and 2001, according to NAIC data. A 2001 study by
the Consumer Federation of America concluded that the prior approval
provision of Proposition 103 blocked over $23 billion in rate increases
for auto insurance alone through 2000.
Despite the clear success of Proposition 103, the insurance
industry continues to resist regulatory oversight and, instead pushes
for less accountability and less intervention. The industry typically
criticizes insurance regulation as slowing down the process of
adjusting rates and introducing products that companies want to provide
to consumers. Insurers argue for ``speed to market'' rules that would
set a national standard of scrutiny; not surprisingly, that standard is
far weaker than the regulatory strictures of Proposition 103 and the
prior approval method of insurance ratemaking.
This professed goal of efficiency must be weighed next to the need
to protect against high rates and low-quality products. Just as new
drugs must be put through a battery of tests to ensure safety prior to
being placed on the market, insurance products need to be fully vetted
before they are sold to consumers. The prior approval structure of
California's Proposition 103 gives the insurance commissioner and the
public the ability to ensure that consumers have access to insurance
products that provide high quality coverage and are not priced to gouge
consumers.

A. Prior Approval and Consumer Participation Allow the Public to
Scrutinize
Insurers' Books, Hold Firms Accountable
The chief tool necessary to effectively regulate insurance
companies is the right of government to approve, deny or alter
insurance rates before companies can change consumers' rates. Of
course, the quality of the regulator determines, at least in part, the
efficacy of the regulation. As a safety valve against an understaffed
or unwilling regulator, Proposition 103 provides the public with the
opportunity to analyze and challenge rates and industry practices in
the courts as well as before the agency in order to offer a competitive
perspective on rate changes proposed by insurers. This tool of
participation also serves as a way to hold the insurance commissioner
accountable to the regulatory structure, by allowing the public to
challenge rate hikes or practices that the Commissioner might have
otherwise approved.
Proposition 103's prior approval system establishes a set of
boundaries for insurance companies to use in setting rates for
consumers. The formula includes limits on, or guidelines for
administrative expenses, profits, the methods of projecting future
losses and other aspects of developing a rate. Effective insurance
regulation prohibits insurers from engaging in bookkeeping practices
that inflate their claims losses and limits the amount insurers can set
aside as surplus and reserves. It also forbids insurers from passing
through to consumers the costs of the industry's lobbying, political
contributions, institutional advertising, unsuccessful defense of
discrimination cases, bad faith damage awards, and fines or penalties.
A prior approval system places the burden on the insurance company
to justify its rates in advance, rather than on the consumer or
regulator to find inappropriate rates after the fact and only then
begin the process of scrutiny. It is our belief that pre-emptive
regulation is far more efficient and fair than the alternatives.
A series of recent examples of the power of the prior approval
system and the tangible benefit of consumer participation in California
follow:

On August 22, 2003, California Insurance Commissioner John
Garamendi ordered the state's second largest medical
malpractice insurer, SCPIE Indemnity, and its affiliate
American Healthcare Indemnity, to cut it's proposed rate hike
for physicians by 36 percent, in response to a rate challenge
brought by FTCR. As part of the challenge, FTCR actuaries and
insurance experts opened SCPIE's books to review the company's
financial data and actuarial projections. FTCR also interviewed
the firm's actuaries, economists and consultants in order to
demonstrate that the insurer's proposed 15.6 percent rate
increase was excessive.

Instead of the company's proposed 15.6 percent increase that was
originally set to go into effect on January 1, 2003, the
Commissioner only allowed SCPIE and its affiliate to increase
premiums by 9.9 percent beginning on October 1, 2003. The net
impact is a $16 million savings for the insurer's 9,000
physicians in 2003 and an additional $7.2 million of savings in
2004 premiums. (SCPIE has applied for an additional 2004
increase that FTCR will likely challenge.)

According to the decision issued by the commissioner, SCPIE tried
to justify its rate hike by claiming that it should not be
subject to a strict application of rate regulations and that it
did not have the burden of proving its rates were reasonable,
despite California's clear regulatory requirements. The
Commissioner rejected that argument and, to ensure regulatory
compliance by SCPIE and other insurers, officially designated
portions of his ruling as legal precedent.

FTCR challenged a recent 9.9 percent increase proposal by
the state's largest medical malpractice provider, NORCAL
Mutual. The ensuing scrutiny by California Department of
Insurance regulators, led the company to slash its rate request
by 70 percent, resulting in a $11.6 million savings to NORCAL-
insured doctors.

Using the consumer participation tools of Proposition 103,
FTCR recently blocked a 10 percent rate hike for homeowner's
insurance policyholders with the Northern California Auto Club,
the state's fourth largest homeowner's insurance provider. This
resulted in a $26 million savings for the company's 330,000
policyholders.

In 1998, FTCR challenged a rate decrease proposal by auto
insurer Allstate. The Commissioner allowed the company to
reduce rates, but FTCR's analysis indicated that rates should
have dropped further. In response to our challenge, Allstate
agreed to reduce its auto insurance premium by $43 million in
addition to the reductions associated with its initial rate
decrease proposal.

To ensure that the public is able to effectively intervene and
challenge inappropriate insurance rates and practices, Proposition 103
requires insurers to reimburse consumers or consumer representatives
when the group contributes to a decision rendered by the Insurance
Commissioner with respect to rates. Pursuant to Proposition 103,
consumer groups are also provided funding for participation in all
aspects of insurance regulation. This has allowed groups acting on
behalf of consumers a reasonable opportunity to enforce the rules set
forth in Proposition 103.

B. Auto Insurance: Regulation Protects Consumers From a National Trend
In the years since the implementation of Proposition 103, auto
insurance rates in California have defied the national upward trend.
The following tables summarize insurance industry data drawn from
annual reports published by the National Association of Insurance
Commissioners.\1\ We provide an analysis of data for the years 1989-
2001, encompassing the entire period following the implementation of
Proposition 103 for which data is available.
---------------------------------------------------------------------------
\1\ State Average Expenditures & Premiums for Personal Automobile
Insurance 1993-2001, National Association of Insurance Commissioners
---------------------------------------------------------------------------
The average auto liability premium dropped 22 percent in California
between 1989 and 2001. Prior to Proposition 103, auto insurance
premiums in California rose dramatically each year. Pre-election rate
increases by insurance companies in anticipation of Proposition 103's
passage, and post-election rate increases taken while Proposition 103
was stayed pending California Supreme Court review, pushed the average
liability premium in California to $519.39 by 1989.
According to the latest NAIC data, California's average auto
liability insurance premium for 2001 was $404.48--22 percent less than
the 1989 figure. The average premium decrease in California becomes
even more striking when adjusted for inflation.\2\ The average premium
in 1989, in 2001 dollars, was $741.81. In comparison, the average
California auto liability premium in 2001 was 45 percent lower.
---------------------------------------------------------------------------
\2\ The Bureau of Labor Statistics Inflation Calculator can be
accessed at http://data.bls.gov/cgi-bin/cpicalc.pl.

Comparison of Average Liability Premiums, 1989-2000
----------------------------------------------------------------------------------------------------------------
Year California Premium California Premium (2001 dollars)
----------------------------------------------------------------------------------------------------------------
1989 $519.39 $741.81
1990 $501.34 $679.32
1991 $522.95 $679.99
1992 $510.71 $644.67
1993 $512.52 $628.15
1994 $502.76 $600.80
1995 $514.53 $597.92
1996 $508.71 $574.20
1997 $492.31 $543.23
1998 $447.51 $486.22
1999 $405.85 $431.43
2000 $391.24 $402.37
2001 $404.48 $404.48
----------------------------------------------------------------------------------------------------------------

While auto premiums in California fell 22 percent, premiums
throughout the rest of the Nation rose 30.2 percent. Another measure of
the impact of Proposition 103 is a comparison with average liability
premiums in other states. While liability premiums for the rest of the
country grew 30.2 percent since 1989, California's dropped 22 percent.
Tables 2 and 3 below compare California's average premium to the rest
of the Nation's average.

Comparison of Average Liability Premiums, 1989-2000
Calculation is liability premiums/liability written car-years
----------------------------------------------------------------------------------------------------------------
Year California Rest of Nation \3\
----------------------------------------------------------------------------------------------------------------
1989 $519.39 $317.32
1990 $501.34 $338.55
1991 $522.95 $358.82
1992 $510.71 $381.69
1993 $512.52 $400.80
1994 $502.76 $411.40
1995 $514.53 $419.45
1996 $508.71 $431.45
1997 $492.31 $434.17
1998 $447.51 $423.39
1999 $405.85 $402.60
2000 $391.24 $398.44
2001 $404.48 $413.13
----------------------------------------------------------------------------------------------------------------

Comparison of Growth/Decline in Average Liability Premiums, 1989-2000
----------------------------------------------------------------------------------------------------------------
Period California % Change Rest of Nation % Change
----------------------------------------------------------------------------------------------------------------
1989-90 -3.5% 6.7%
1990-91 4.3% 6.0%
1991-92 -2.3% 6.4%
1992-93 0.4% 5.0%
1993-94 -1.9% 2.6%
1994-95 2.3% 2.0%
1995-96 -1.1% 2.9%
1996-97 -3.2% 0.6%
1997-98 -9.1% -2.5%
1998-99 -9.3% -4.9%
1999-2000 -3.6% -1.0%
2000-2001 3.3% 3.7%
----------------------------------------------------------------------------------------------------------------
1989-2001 -22.1% 30.2%
----------------------------------------------------------------------------------------------------------------

This sharp drop in California's average premium relative to that of
other states brought California's rank down from the 2nd highest rates
in the Nation in 1989 to 22nd in 2001.
---------------------------------------------------------------------------
\3\ In this table and in subsequent tables, ``Rest of Nation'' data
do not include California data.
---------------------------------------------------------------------------
Comparison of Growth in Average Liability Premiums, 1989-2000
Comparison of Premiums 1989-2001

California's overall post-Proposition 103 premium decline defies
national trend toward higher rates. In addition to lowering auto
liability premiums, Proposition 103 has slowed premium growth for other
types of automobile coverage at the same time that the rest of the
Nation saw its premiums increase drastically. California's
comprehensive premiums have fallen 10 percent while comprehensive
premiums for the rest of the Nation have shot up by 40 percent.
Collision premiums in California have gone up 20 percent, in contrast
to the rest of the country's 40 percent.

Comparison of Average Combined Collision and Comprehensive Premiums,
1989-2001

Combined liability, collision and comprehensive premiums are down
9.2 percent for Californians, up 35 percent nationally since
Proposition 103. In 1989 Californians paid $875.60 for liability,
collision and comprehensive combined coverage on average. Nationwide
consumers paid $606.40 for the combined coverage. However, with
Proposition 103 in effect, California drivers' fortunes have changed,
as combined average premium in California 2001 was $795.36, a 9.2
percent decline while nationally, motorists paid $817.87, a 34.9
percent increase

C. Insurance Regulation Has Allowed California To Be A More Profitable
Market For Insurance Companies Than The National Average, While
Keeping Rates Low
Despite the insurance industry's automatic negative reaction to
insurance regulation, California under the strict regulation of
Proposition 103 has been a more profitable environment for insurers
than the Nation as a whole. According to the most recent data available
from the National Association of Insurance Commissioners, in the
majority of lines of insurance returns are better in California than
countrywide.\4\
---------------------------------------------------------------------------
\4\ Profitability by Line by State In 2001, National Association of
Insurance Commissioners, December 2002.
---------------------------------------------------------------------------
Whether one compares return on net worth or profit on insurance
transactions (both are measures of profitability used by NAIC), the
findings consistently show that California is generally more profitable
for insurers than the Nation as a whole.

Table 7. Insurer Profitability in California vs. Countrywide Average
------------------------------------------------------------------------
Return on Net Worth 10 Year Average 1992-2001
------------------------------------------------------------------------
Line of insurance California Countrywide
------------------------------------------------------------------------
Private Passenger Auto (Total) 13.7% 9.8%
------------------------------------------------------------------------
Homeowners Multiple Peril 5.7% (3.4%)
------------------------------------------------------------------------
Commercial Auto (Total) 10.0% 7.2%
------------------------------------------------------------------------
Farmowners Multiple Peril 7.3% 0.9%
------------------------------------------------------------------------
Medical Malpractice 12.5% 9.6%
------------------------------------------------------------------------

Notably, workers compensation has not been as profitable in
California as that line has been nationally. Workers compensation
insurance, however, was deregulated in California in 1993 and is in
crisis currently.
California has been a profitable marketplace for insurers
specifically because of the regulatory regime. Regulation serves to
restrain the companies from damaging themselves as well as hurting
consumers. Insurance regulation is not meant to produce the lowest
premiums, it is meant to produce the most appropriate premiums for the
risk insured; insurance regulation guards against both excessive and
inadequate, as well as unfairly discriminatory rates. As a result,
regulated lines of insurance result in more stable rates for customers,
even if they are not the lowest prices at certain points in time.
The stable profitability associated with regulatory controls
creates an environment in which insurers want to sell in the state.
That is why there are so many insurers serving California customers.
There are over 200 companies selling auto insurance in California, 150
selling homeowners and almost 50 selling medical malpractice insurance.

II. The Insurance Cycle and the Impact of Enron, WorldCom and Low
Interest Rates
Over the last three decades-plus, the Nation has experienced three
major insurance crises, in the mid-1970s, the mid-1980s and the early
2000s. Each of these crises swept the Nation with massive rate
increases, insurers pulling or threatening to pull out of local markets
and a legislative push for changes to tort laws. Each of these crises
also occurred at the same time as a national downturn in the economy
that dramatically reduced insurance company investment returns.

A. The Insurance Cycle
The present insurance ``crisis''--apparent in homeowners, auto,
commercial liability as well as medical and other malpractice lines--
constitutes the apogee of a financial cycle to which the insurance
industry is constantly subject. As one consumer organization explains:

Insurers make most of their profits from investment income.
During years of high interest rates and/or excellent insurer
profits, insurance companies engage in fierce competition for
premium dollars to invest for maximum return. Insurers severely
underprice their policies and insure very poor risks just to
get premium dollars to invest. This is known as the ``soft''
insurance market. But when investment income decreases--because
interest rates drop or the stock market plummets or the
cumulative price cuts make profits become unbearably low--the
industry responds by sharply increasing premiums and reducing
coverage, creating a ``hard'' insurance market usually
degenerating into a ``liability insurance crisis.'' A hard
insurance market happened in the mid-1970s, precipitating rate
hikes and coverage cutbacks, particularly with medical
malpractice insurance and product liability insurance. A more
severe crisis took place in the mid-1980s, when most liability
insurance was impacted. Again, in 2002, the country is
experiencing a ``hard market,'' this time impacting property as
well as liability coverages with some lines of insurance seeing
rates going up 100 percent or more.\5\
---------------------------------------------------------------------------
\5\ ``Medical Malpractice Insurance: Stable Losses/Unstable
Rates,'' Americans for Insurance Reform, October 10, 2002.

Fitch, a Wall Street rating firm, recently began a discussion of
---------------------------------------------------------------------------
the current ``crisis'' by harkening back to the last one:

We need to look back at the hard market of the mid-1980s. . . .
The last major hard market turn was in the mid-1980s, and was
inspired greatly by a sharp drop in interest rates. In years
prior to the mid-1980s, cashflow underwriting was prevalent in
which a significant amount of naive capital was attracted to
the property/casualty industry on the lure of making strong
investment returns on the premium ``float'' between the time
premiums were collected and claims were paid. Naturally, much
of the naive capacity was directed at long-tail casualty and
liability lines at both the primary and reinsurance levels in
order to maximize the float. In the early 1980s, nominal
interest rates were running in the mid-teens. When interest
rates dropped off and significant reserve deficiencies were
simultaneously detected, many insurers suffered large losses to
both earnings and capital. The result was a sharp turn in the
market, especially in long-tail lines, and the emergence of a
so-called ``liability insurance crisis.'' The liability
insurance crisis included a sharp drop in availability of
coverages, and huge price increases (in many cases several-
fold).\6\
---------------------------------------------------------------------------
\6\ Fitch Ratings, Inc., Insurance Special Report Review & Outlook:
2001/2002: U.S. Property/Casualty Insurance, January 17, 2002, p. 19-
20.

Indeed, by early 2002, insurers had already begun licking their
chops as they looked forward to an infusion of profits from the latest
``crisis.'' In its ``Groundhog Forecast 2002,'' the Insurance
Information Institute projected a 14.7 percent increase in premiums,
the industry's ``fastest pace since 1986''--the last crisis.\7\ The
Auto Insurance Report proclaimed, ``The Stars Are Lining Up for Solid
Profits in 2002-2003.'' \8\ ``How Much longer to P-C Nirvana?'' asked
the National Underwriter, saying, ``Like kids on a long car trip headed
for summer vacation, many insurance company employees and the agents
that represent them have found themselves wondering just how much
longer this trip to property-casualty nirvana can last.'' \9\ Said an
industry executive: ``This manic behavior leads our customers to
believe we don't know what we're doing, and I think they have a point.
This is a generation of insurance professionals who need to learn how
to be successful with something other than low premiums.'' \10\
---------------------------------------------------------------------------
\7\ www.iii.org/media/industry/financials/groundhog2002/ visited
11/21/02.
\8\ Auto Insurance Report, May 13, 2002, p. 1.
\9\ National Underwriter, July 22, 2001, p. 26.
\10\ ``Liability Insurers Urged to Take Long View for Industry's
Financial Health,'' Orlando Business Journal, November 26, 2002 at
http://orlando.bizjournals.com/orlando/stories/2002/11/25/
daily25.html?t=printable.
---------------------------------------------------------------------------
B. Interest Rates and the Cycle
The current push for higher insurance rates is driven in part by
the historically low interest rates. There is an inverse relationship
between interest rates and insurance rates and, as the graph below
illustrates, when interest rates go down a crisis ensues and,
inevitably, rates increase.
When Interest Rates Fall, A Crisis Ensues

Over the past three decades, there has been an insurance crisis and
a concurrent spike in insurance premiums each time the Nation has
experienced a major decline in interest rates. The notable exception to
this is when interest rates dipped in 1992. Still reeling from
California's adoption of Proposition 103 after the 1980s crisis, the
insurance industry aborted another run-up in prices in 1992 and 1993
despite the declining economy and interest rates. As one insurance
executive explained, ``The last soft market was driven purely by the
need for cash to invest. . . . We all know we can't do the dumb things
we did last time. . . . We will not see a repeat of 1985-86.'' \11\
Arguing against a push to raise rates, a senior officer at the
Insurance Services Office, an industry data provider, said: ``Remember
the fallout from the last recovery: California's Proposition 103 and
other price-suppression laws, threats to the industry on the antitrust
front, and virulent consumer hostility.'' \12\
---------------------------------------------------------------------------
\11\ Business Insurance, July 13, 1992, p. 55
\12\ Insurance Week, Oct. 19, 1992, p.15
---------------------------------------------------------------------------
Despite its apparent awakening after the passage of Proposition
103, the insurance industry has fallen into its old ways in recent
years, as the most recent insurance-cycle crisis and the ensuing rate
increases have been particularly aggressive.
In this crisis as with previous crises, insurers have made it
difficult for consumers to obtain and maintain coverage. After the very
liberal underwriting practices of the mid 1990s, in which obtaining
coverage was not particularly difficult for consumers and businesses,
the trend over the past two years has been to shut consumers out of the
insurance market by implementing very restrictive underwriting
guidelines.
Increasingly, companies are punishing policyholders--especially in
the homeowners insurance market--for having filed legitimate claims. In
fact, during this crisis, insurers have begun to drop customers simply
for inquiring with their insurer about a possible claim, even if they
do not file a claim. Additionally, using the national claims database
known as the Comprehensive Loss Underwriting Exchange (CLUE), insurers
have been denying policies to consumers who have previous claims or
even mere inquiries, regardless of the nature of the claim.

C. The Role of Enron, Worldcom and the Corporate Scandals of 2001-2002
While internally acknowledging the insurance cycle and the role of
investments, particularly in mandatory financial filings, the insurance
industry has largely blamed factors such as higher medical bills,
increased labor costs, litigation costs and jury awards when it
presents its view of the insurance market to lawmaers and the public
generally. The industry does not, unfortunately, blame Enron and
WorldCom for rate hikes. More importantly, the companies do not blame
themselves and the insurance executives who decided to risk a growing
percentage of policyholder premiums on investments in Enron, WorldCom
and other corporations. They should. And insurance commissioners should
hold insurance companies accountable for the billions of policyholder
premium dollars that have been squandered as a result of risky
investment practices.
Ten property and casualty insurance companies reviewed by FTCR lost
a combined $274.1 million in 2001-2002 as a result of investments in
the big five frauds--WorldCom, Enron, Adelphia, Global Crossing and
Tyco.\13\ State Farm, for example, lost more than $74 million as a
result of that company's investments in Enron and WorldCom alone.
---------------------------------------------------------------------------
\13\ The companies reviewed include: Allstate Insurance Company,
Auto Club of Northern California, Auto Club of Southern California,
Farmers Insurance Exchange, Fireman's Fund, Liberty Mutual Insurance
Company, Mercury Casualty Company, Nationwide Mutual Insurance Company,
State Farm Mutual Auto, United Services Automobile Association.
---------------------------------------------------------------------------
1. Americans are more exposed to corporate corruption than they think

With the excitement surrounding the stock market bubble of the
1990s, insurance companies increasingly invested in private
corporations. Typically, insurance industry executives assert that
company portfolios are largely tied up in municipal and other
government bonds, with only limited exposure to corporate America.
However, by 2001, the particularly disgraced energy, high-tech and
telecom sectors figured heavily in insurance companies' portfolios. As
a result of this indulgence in higher risk investments, the spate of
recent corporate scandals and the insurers' investment follies
significantly impacted consumers, whose premium dollars have been
placed in insurance company portfolios replete with stocks and
corporate bonds.
In a 2002 study, FTCR identified billions of premium dollars lost
as a result of changes in property and casualty insurers' investment
strategies.\14\
---------------------------------------------------------------------------
\14\ All data are based on Annual Statements of insurers filed with
the California Department of Insurance. Calculations of stock and bond
holdings are based on the actual cost of the investments (see also
footnote 8).
---------------------------------------------------------------------------
Among FTCR's findings:

State Farm Mutual Auto lost $60.7 million on WorldCom
investments in 2002 and $42.6 million associated with its
Tellabs holdings.

Allstate lost $23.3 million when it shed several hundred
thousand shares of Tyco stock as the public became aware of
Tyco CEO Dennis Kozlowski's alleged criminal fraud in the first
half of 2002. The insurer also lost $11.7 million when it
discarded Qwest Communications stock, another firm investigated
by the SEC for its accounting practices.

Fireman's Fund wrote off the entire cost of its Winstar
stocks and bonds--$85.4 million -after that wireless
communications company filed for bankruptcy in April 2001.
Additionally, the insurer took a $28.6 million hit on WorldCom.

The Enron factor:

Enron, the company whose fraudulent accounting and
subsequent bankruptcy inaugurated the current era of corporate
scandals, was held by many of the insurers reviewed for this
analysis. In 2001, Enron losses cost State Farm Mutual Auto
$13.5 million, Farmers $9 million, Fireman's Fund $6.2 million,
Northern California Auto Club $4.4 million, United Services
Automobile Association $4.3 million and Allstate $3.6 million.
Fireman's Fund continued to hold $5 million dollars in Enron
bonds into 2002.
2. Insurers Change Investment Strategies in the late 1990s

FTCR studied investment data for ten major insurers between 1998-
2001. The study also examined available 2002 data, and reviewed data
going back to 1994 for four companies exhibiting the riskiest
investment behavior.
For this analysis, FTCR reviewed public filings to measure the
percentage of an insurer's portfolio that is invested in stocks (both
common and preferred) and corporate bonds.\15\ Real estate holdings,
which are reported separately from stock and bond holdings, were not
reviewed.
---------------------------------------------------------------------------
\15\ This percentage was calculated using the actual cost of
insurers' investments, also known as the purchase price. The purchase
price of the insurance companies' stock and bond holdings in a given
year remains constant, while other measures--such as book value--may
fluctuate. Moreover, the actual cost of the investments is useful in
that it shows how the companies in this study chose to allocate their
investment dollars over the years. In other words, if a given company's
level of investment in corporations grew over the period of the study,
it was not due to rising values of previously purchased stocks and
corporate bonds. The use of the actual cost value is also consistent
with the losses on stock and bond sales and write-offs listed below,
which are calculated based on the initial purchase price of the
investments.
---------------------------------------------------------------------------
Nine of the ten companies reviewed increased their level of
investment in the corporate sector between 1998 and 2001. The
companies' holdings in 1998 consisted on average of 48 percent stocks
and corporate bonds combined, with the rest invested in government
bonds. By 2001, the average percentage invested in corporate America
was up to 57 percent--a 19 percent increase in the size of insurers'
corporate investments relative to their overall portfolios. At the end
of 2001, seven of the 10 companies for which FTCR obtained data had
over 50 percent of their investments in stocks and corporate bonds.
For four of the companies that had most heavily invested in the
stock and corporate bond markets in 2001--USAA, Liberty Mutual, State
Farm and Nationwide--FTCR analyzed portfolios for an extended period,
1994-2001, and found that the companies had greatly increased
investments in the corporate sector relative to their overall
investments.

In 2001 United Services Automobile Association had more than
four-fifths of its entire portfolio--82 percent--invested in
the corporate sector. This represents a 61 percent increase in
the companies' investments in corporations since 1994.

Corporate investments accounted for 73 percent of Liberty
Mutual's portfolio in 2001, representing a 248 percent increase
over the insurer's 1994 corporate investments, which accounted
for 21 percent of its portfolio

State Farm Mutual Auto's percentage was 58 percent in 2001,
a 32 percent increase over its level of corporate investing
before the company jumped into the nineties stock bubble.

Nationwide Mutual's ratio of corporate investments to its
overall holdings jumped 37 percentage points over this period
to 65 percent--a 132 percent increase.

The following graph shows the rise in the percentage of these
companies' portfolios tied up in corporate sector investments.
Corporate Investment as a percent of Investment Portfolio 1994-2001

3. Heavy in Stocks
It is important to note that a large portion of corporate holdings
is invested in stocks and not in the generally more stable corporate
bonds.
The stock investments of the ten companies reviewed averaged 37
percent of their overall investments in 2001, eight percentage points
more than 1998 levels. United Services Automobile Association invested
more than half of its portfolio -57 percent--in stocks alone (up from
40 percent in 1994). Nationwide Mutual was close behind with 46 percent
(the company invested only 25 percent in stocks in 1994), and State
Farm Mutual Auto's stock holdings represented 43 percent of its
portfolio (compared to 27 percent in 1994). 42 percent of Liberty
Mutual's holdings were in stocks in stocks in 2001, up from 10 percent
in 1994.

4. Insurers' Major Losses
Insurance portfolios are replete with corporate stock and bond
picks that chronicle the recent bankruptcies, earnings restatements and
fraud indictments. A glance at stock and bond transactions in 2001 for
a handful of big insurance companies illustrates why investment income
fell dramatically by remaining too heavily invested in the stock and
corporate bond markets.
The 2001 figures below represent the sum of the amounts lost by a
given insurer on all transactions of a given company's stocks and bonds
for the entire year, 2001.

A Selection of Insurers' Major Stock and Bond Losses in 2001 \16\:
------------------------------------------------------------------------

------------------------------------------------------------------------
Allstate Fireman's Fund
------------------------------------------------------------------------
Adelphia: $1.1 million Broadcom: $31.2 million
\17\
AOL/Time Warner: $2.2 Cisco: $26.3million
million
Cisco: $6.9 million Enron: $6.2 million
Enron: $3.6 million WorldCom/MCI: $28.6
million
Global Crossing: Winstar: $85.4 million
$5.9million
Qwest: $11.7 million
WorldCom/MCI: $2.4 million
------------------------------------------------------------------------
Farmers Nationwide
------------------------------------------------------------------------
Enron: $9 million Enron: $734,513
Dynegy: $1.1 million EMC Corp.: $4 million
Compaq: $1.2 million
------------------------------------------------------------------------
State Farm USAA
------------------------------------------------------------------------
Enron: $13.5 million Enron: $4.3 million
Level 3 Communications JDS Uniphase (telecom
Inc: $55 million supplier): $7.6 million
Bank of America: $29.1 USAA emerging markets
million fund: $63.6 million (fund heavily
XO Communications Inc.: invested in international energy
$19.8 million and telecommunication stocks)
Battle Mountain Gold: $9.9
million
------------------------------------------------------------------------

The data reviewed for the first two quarters of 2002 show equally
precipitous declines in the portfolios of major insurers with
particularly dramatic losses resulting from WorldCom and Tyco holdings.
---------------------------------------------------------------------------
\16\ All of a given company's publicly traded units are grouped for
the purposes of this report. For example, ``WorldCom'' includes MCI and
WorldCom, ``AOL/Time Warner'' includes AOL and Time Warner, etc.
``Williams'' includes Williams Cos. and Williams Communications Group,
due to the Energy company having been the owner of the Communications
subsidiary during a portion of the period covered by this report and
the continuing close affiliation between the two companies.
\17\ Figures for stock and bond losses are based on total net gain/
loss from all transactions of the given issuer's stocks and bonds, and/
or basis adjustments for bonds, for each insurer.
---------------------------------------------------------------------------
The investment losses and other data detailed above are not meant
to be exhaustive. They paint a picture, rather, of the sort of
investment failures that have cut into insurance companies'
profitability in recent years and led to a national run-up in insurance
rates.
In light of these findings, it is useful to review the preamble to
the International Association of Insurance Supervisors' ``Supervisory
Standard on Asset Management by Insurance Companies,'' which reads:

In order to ensure that an insurer can meet its contractual
liabilities to policyholders, such assets must be managed in a
sound and prudent manner taking account of the profile of the
liabilities held by the company and, indeed, the complete risk-
return profile.\18\
---------------------------------------------------------------------------
\18\ ``Supervisory Standard on Asset Management by Insurance
Companies,''International Association of Insurance Supervisors.
Approved December 1999

Instead of following these standards, we have found that insurance
companies ignored their responsibility and jumped headlong into the
stock market bubble--only to fall hard when it burst with the string of
frauds and bankruptcies that decimated the Dow and NASDAQ.
The mismanagement of policyholder premium, however, has been
largely ignored as companies simply replenish the dissipated
investments through rate hikes.\19\ As a result of insurers' increased
exposure to corporate risk during this insurance cycle, the impact of
corporate fraud on companies and, in turn, policyholders was far
greater than should ever have been expected.
---------------------------------------------------------------------------
\19\ Insurance companies maintain significant surplus, beyond what
is reserved to pay losses, that could be tapped to cover claims if
there is a shortfall due to failed investments of policyholder premium.
---------------------------------------------------------------------------
Not surprisingly, with the recent rebounding of the stock market,
it is becoming evident that insurers wish to start selling more
policies in order to gain investment capital. Companies that earlier
this year had committed to reducing exposure and refusing to sell
insurance are once again entering the market and selling new policies.
If the stock market continues this expansion, and especially if
interest rates increase, a loosening of the insurance market--a
stabilizing and possibly lowering of rates as well as a liberalizing of
underwriting practices--is inevitable.
It is not, however, good public policy to allow insurers to foist
these economic cycles onto individual consumers and business consumers
of insurance by allowing the rating and underwriting chaos that
consumers have endured in recent years. Unregulated, or loosely
regulated insurance companies will invest recklessly, knowing that the
firms can simply pass through their investment mistakes and troubles.
Under this system, individuals and businesses face unnecessary
premium volatility as rates follow the investing cycles: when insurers'
investment returns are high rates will drop and when investment returns
drop, rates increase, and when the stock market, bond market and
interest rates all collapse at once rates will skyrocket. Furthermore,
without regulatory oversight to enforce more responsible practices,
consumers bear much more of the burden of bad economic times than they
gain in benefits during the good times.

III. The Insurance Industry Should Be Subject To Antitrust Laws
In 1945 the McCarran-Ferguson Act exempted the insurance industry
from Federal antitrust laws and in subsequent years the insurance
industry won antitrust exemptions from virtually every state. As a
result, insurer-controlled ``rating bureaus'' freely distribute
proposed pricing data, including projected losses, expenses, profits,
and overhead charges, to all insurers who wished to obtain the
information, allowing tacit price collusion.
As a result of this exemption, insurers are able to fix rates
through the use of advisory rates established by an insurance industry
owned organization, the Insurance Services Office (ISO). The ISO
projects loss trends, allowing insurers to share data and projections
for pricing rather than requiring companies to develop product pricing
competitively. As a result of the anti-competitive environment,
insurers know that they can price insurance too low when, for example,
investment returns are high, because the companies know that the
industry can act in concert to raise prices at a future date. Without
the antitrust exemption, insurers would need to price more responsibly
and based on their actuarial needs because they would not be assured of
the higher future prices that collusion allows.
Proposition 103 repealed the insurance industry's exemption from
the antitrust laws in California and prohibited the operation of
``rating'' and ``advisory'' organizations set up by the industry to
circulate pricing and policy information to insurance companies.
There is no reason to maintain this exemption from the Nation's
antitrust laws elsewhere, as there is no reason to provide the industry
with anti-competitive tools that allow it to act collusively against
the interest of consumers. The antitrust exemption should be repealed.

IV. Insurance Companies' Loss Estimates Are Inflated
The insurance industry bases rates on a series of actuarial
analyses and calculations. A key data set in these calculations is the
incurred losses that insurers report on an annual basis. Incurred
losses represent the projected payments a company will make for claims
filed in a given year. These projections are based on a combination of
the assessed value of those claims that have been filed as well as
those that have not yet been filed, but the insurer expects, known as
``incurred but not reported'' losses. In short, the data reported
annually as ``incurred losses'' are estimates of losses that are meant
to be an insurer's best guess as to their liabilities for the year.
The ``best guess'' data are used to assess a company's financial
condition, to develop new rates and, often, the data are used as fodder
for legislative efforts to push changes in tort law. FTCR has recently
analyzed fifteen years of loss projections in the field of medical
malpractice insurance and found that companies dramatically and
consistently exaggerate incurred losses initially, only to adjust the
losses downward in future years.
According to the data (we have reviewed reported losses since the
beginning of the last insurance crisis in 1986), malpractice insurance
companies have historically inflated their loss projections and then
revised their reported losses downward in subsequent years. The
research shows that the ``incurred losses'' that medical malpractice
insurance companies initially report for policies in effect in each of
the years examined were, on average, 33 percent higher than the amount
they actually paid out on those policies.
We have also found that insurers' reported losses were
significantly inflated during the ``insurance crisis'' of the late
1980s. In 1989, for example, medical malpractice insurers' loss
estimates were overstated by 40 percent. Based on this investigation,
the ``incurred loss'' data reported by medical malpractice insurers do
not represent, or even approximate, the actual losses a company will
sustain as a result of claims against its policyholders.
It is, therefore, our view that policymakers must not rely upon the
insurance industry's current loss projections, because those figures
are not based on hard or otherwise reliable data. In order to protect
the public from the abuse of unreliable accounting practices, new
regulatory and accounting reforms are needed. Additionally, regulators
and law enforcement officials should seek to resolve the outstanding
question as to whether insurance companies have simply failed to find
accurate tools for projecting losses or are intentionally inflating
their reported losses.

A. Incurred Losses vs. Actual Losses
The distinction between ``incurred'' and actual losses, commonly
known as ``paid losses,'' is central to understanding an insurance
company's true financial condition and to evaluate the losses insurers
report. It is a distinction insurers do not often make in public
debate.
Insurers calculate their rates for a given year based on their
``incurred losses'' for that year. When insurers say they have an
``incurred loss'' of a certain amount in a given year, however, they do
not mean that they have actually paid out that amount in that year.
Rather, they mean that they estimate that they will ultimately pay out
that amount on claims they predict they will receive that are covered
by policies in effect in that year. In other words ``incurred losses''
represent projected losses. Thus, if an insurer reports in 2003 that
its ``incurred losses'' for 2002 were $100, the insurer has not paid
out $100 for 2002 claims. Rather, the insurer estimates that it will
ultimately pay out--over a period of several years--$100 for claims
covered by policies in effect in 2002.
An insurer's ``incurred losses'' are, therefore, by definition, a
guess. Statistical and mathematical methodologies have been developed
which, using standard actuarial techniques, can be applied to make that
guess an educated one. However, absent a regulatory formula that both
mandates the use of such techniques and reviews insurers' compliance,
insurers have enormous discretion in determining incurred losses.
Each year, the insurer receives more information about the
``incurred losses'' it had guessed it would ultimately pay for claims
covered by policies in effect in a previous year. As time goes on new
claims are reported to the insurer, the insurer receives more details
about existing claims, and the insurer ultimately pays a specific
amount--or no amount--on each claim. As it receives this new
information, the insurer adjusts the original guess it made. The more
time that elapses, therefore, the less guesswork is involved and the
more accurate an estimate for a previous year becomes.
In medical malpractice, the average claim is paid approximately 5
and 1/2 years after the claim arises; most claims are paid within 10
years. An insurer's estimate of its true liability for claims it
guesses it has incurred in a given year is therefore substantially
accurate after 10 years.
Projecting the number of claims an insurance company must pay out,
and the amount of those claims, and setting rates based on these
guesses, is inherent in the nature of the insurance business. In
exchange for a premium an insurer receives from an insured in the
present, the insurer agrees to pay claims against that insured in the
future; there is no way for the insurer to know at the time it receives
the premium exactly how much it will pay for claims against the
insured, nor even whether there will be any claims against that insured
at all.
Insurers therefore may not fairly be criticized for estimating
their future losses and changing those estimates every year--that is
the nature of the business.\20\
---------------------------------------------------------------------------
\20\ Indeed, insurance companies employ their own ``statutory
accounting principles'' (SAP)--a departure from the ``generally
accepted accounting principles'' applicable to all other industries in
the United States--in recognition of their need to make loss
projections. Under SAP accounting practices, insurers not only report
incurred losses to regulators for purposes of justifying rate increases
and decreases. They are also permitted to treat incurred losses as real
losses for tax purposes. Although the IRS theoretically has the
authority to impose penalties for grossly overstated loss reserves, as
a practical matter it never imposes such penalties. See, e.g., K.
Logue, Toward a Tax-Based Explanation of the Liability Insurance
Crisis, 82 Va. L. Rev. 895, 917-18; R. Morais, Discounting the
Downtrodden, Forbes, Feb. 25, 1985, at 82-83 (``It is virtually
impossible on a case-by-case basis to prove reserve redundancy'')
(quoting Larry Coleman, analyst for National Association of Insurance
Commissioners).
---------------------------------------------------------------------------
Insurers may fairly be criticized, however, when they
mischaracterize these estimates of future losses as actual losses--
which they do frequently. For example, the most commonly used measure
of success in the insurance industry is the loss ratio: the ratio of an
insurer's incurred losses in a given year to its earned premiums in
that year. While the earned premium number is a hard number and does
not meaningfully change over time, the incurred loss number is a guess.
Yet insurers discuss the loss ratio as if each number were a hard
number. For example, if an insurer reports a loss ratio for 2002 of,
say, 110, it typically characterizes itself as actually paying out
$1.10 for each premium dollar it takes in in 2002. The implication is
that the company is losing money. In fact, it has not paid out $1.10 in
2002, but only guessed that when a final accounting of 2002 claims is
completed years later, it will have paid out $1.10.
For example, here is how the Florida coalition of insurance
companies, hospitals and the medical lobby characterize the industry's
financial status:

In 2001, medical liability insurers nationally paid out $1.40
for every $1.00 they received in premiums.\21\
---------------------------------------------------------------------------
\21\ Heal Florida's Health Care, fact sheet available at http://
www.healflhealthcare.org/heal_FLhealthcare/homepage.html.

In fact, this dire portrayal is based on incurred losses, and is,
by definition, only an estimate of what insurers will pay out in the
future. Yet the statement expressly--and falsely--states that that
amount was paid out.
Similarly, the North Carolina Access to Quality Healthcare
Coalition discussed North Carolina's medical malpractice incurred loss
ratio of 113 for 2001 as follows:

``In 2001, according to NAIC data, North Carolina professional
liability insurers paid $1.13 in claims for every $1 in
premiums they received.'' (Emphasis in original). (Fact sheet,
N.C. Access to Quality Healthcare Coalition).

Again, the numbers are referring to incurred losses, and insurers
only estimated that they will pay out $1.13. Again, the insurance
industry incorrectly states that that amount was paid out.
The description of projections as actual payments is false, and it
is a misrepresentation that has misled policymakers, the news media and
the public.
The difference between an insurer's initial estimate of its
incurred losses for a given year's policies and the amount of its
actual losses on that year's policies has important implications for
the current medical malpractice insurance debate. This is because the
rates an insurer charges for a given year are necessarily based on its
incurred loss estimates for claims covered by that year's policies, not
on its ultimate paid losses on that year's policies. Thus, if the
amount an insurer ultimately pays out for claims covered by a given
year's policies is less than the amount the insurer initially estimated
it would pay out for claims covered by those policies, the insurer's
rate (and the premiums paid by policyholders) for that year would have
been too high. Similarly, if the amount the insurer ultimately pays out
is more than the amount the insurer initially guessed it would pay out,
the insurer's rate for that year would have been too low.
It should be obvious that in a weakened economy such as today's,
insurance companies stand to gain by reporting sudden and substantial
increases in incurred losses. Such increases are used to justify sudden
spikes in premiums, such as those in the current malpractice
marketplace. They also provide tax breaks for insurers. And the
increased estimates of incurred losses are the foundation of the
industry's argument that only by enacting tort reform will premiums go
down.
Whether the insurer charged a rate that was too low or too high,
and the amount by which that rate was too low or too high, cannot be
known with confidence until 10 years after the insured pays the
premium. Whether the rates doctors are being charged in 2003 for
medical malpractice insurance are too low or too high, therefore, will
not be known for certain until 2012.
Unfortunately, there is no opportunity to go back ten years and
lower rates that, in hindsight, proved to be too high.
Nor is there any way to retroactively repeal the application of
tort law restrictions put in place at the behest of the industry based
on loss estimates that turned out to be far in excess of reality.

B. Data Show Companies Overestimated Losses
After 10 years of claims information being reported to insurers and
incurred losses being restated, the initial incurred loss estimated for
each year from 1986 through 1992 by the medical malpractice insurance
industry has proved to be at least 26 percent overstated. (Except where
stated, these figures reflect an analysis of ``claims made coverage'' a
common form of medical malpractice insurance.)

During the key crisis years--1986 through 1990--incurred
losses were initially estimated to reach $10.7 billion. Ten
years later the reported losses for that period totaled $7.1
billion, meaning that original loss estimates during the crisis
were 34 percent higher than the actual losses reported ten
years later.

The initial incurred loss estimate for 1988--the apogee of
the crisis--has proved to be 37 percent overstated.

In total, for the 7 years 1986 through 1992, malpractice
insurers' initial incurred loss estimates were $16.8 billion;
they reported incurred losses of $11.6 billion for those years
10 years after the initial estimates, for a total overstatement
of $5.2 billion, or 31 percent.

Initial incurred loss estimates for ``occurrence coverage''
policies for the years 1986-92 totaled $12.9 billion, but the
reported incurred losses for these years was corrected to $8.3
billion ten years later, a total overstatement of $4.6 billion,
or 35 percent.

The graph below illustrates the change in the combined (occurrence
and claims-made policies) incurred losses, as reported by the Nation's
medical malpractice. providers over the course of ten years. The graph
shows that the losses insurers initially reported are far higher than
the restated losses that are reported ten years later. Even after
revising the original 1988 projections upward in 1989, that year's
losses, along with every year's losses, eventually fell precipitously
as the incurred loss estimates were refined over time.

The data indicate that medical malpractice insurers overstated
their anticipated losses for each of the years analyzed for this study.
Additionally, it appears that the losses reported during the insurance
crisis of the mid-to late-1980s were more inflated than those of the
mid-1990s--although fewer years of restated loss data are available for
the mid-1990s.
According to the data (claims made and occurrence policies
combined):

In 1989, medical malpractice insurers announced losses for
that year of $4.4 billion; by 1998, that number had been
revised downward to $2.7 billion in losses.

For the years 1986 through 1990, insurers' initial incurred
loss estimates were overstated by an average of 36 percent.

During the following four years (1991-1994), initial
incurred loss estimates appear to have been overstated by 24
percent.\22\
---------------------------------------------------------------------------
\22\ For 1991 and 1992, ten years of incurred loss estimates are
available; for 1993, only nine years are available, and for 1993, only
eight years are available.
---------------------------------------------------------------------------
C. Reported Losses and the Present Crisis
The current crisis is roughly two years old; there is no data to
assess the accuracy of the insurers ``incurred loss'' reports for
recent years. In contrast to the previous years' data, because we have
fewer than five years of restated incurred loss estimates for each year
beginning with 1997, we cannot yet know what the ultimate payouts will
be for claims incurred in those years with any reasonable degree of
accuracy.
We can, however, examine the recent incurred loss reports to
determine whether the insurers have reported a sudden spike in incurred
losses, following the pattern of the 1980s crisis.
As revealed in the table below, there is a noteworthy and sudden
increase in reported incurred losses between 2000 and 2001, the
beginning of the current crisis. After four years during which total
malpractice incurred losses hovered between $5.09 to $5.27 billion, the
estimate for 2001 jumped 17 percent to nearly $6 billion.

Initial Incurred Loss Estimate Past Five Years Medical Malpractice
(Claims Made and Occurrence Policies Combined)
------------------------------------------------------------------------
Year Insurers' initial estimates of incurred losses for year
------------------------------------------------------------------------
1997 $5,273,973,000
------------------------------------------------------------------------
1998 $5,217,410,000
------------------------------------------------------------------------
1999 $5,093,117,000
------------------------------------------------------------------------
2000 $5,116,965,000
------------------------------------------------------------------------
2001 $5,985,382,000
------------------------------------------------------------------------

Loss inflation during the last insurance crisis--when insurers had
multiple motives to show greater losses--was pronounced compared to the
years which immediately followed. That said, for those non-crisis years
in which at least five but less than 10 years of claims information is
now available, insurers' initial incurred loss estimates also appear to
be substantially overstated.
As noted, insurance companies have a financial incentive to
overstate losses during periods when their investments are performing
poorly. By contrast, in periods of economic growth, such as the mid-
1990s, insurers seek to maximize their investment income during such
periods by lowering prices in order to attract capital and to expand
market share. They have nothing to gain by overstating losses at such
times; indeed, inflating losses would reduce insurers' authority under
state laws to write additional policies.
In view of this data, it is to be expected that insurers' incurred
loss estimates for 2001, 2002 and 2003--and thus their proposed rates
for coming years--are inaccurate. We have clear evidence that the
malpractice rates insurers charged during the last insurance crisis and
the years following it were grossly excessive--by an average of between
31 percent (for claims-made coverage) and 35 percent (for occurrence
coverage). We should not be surprised to discover in the future that
the incurred loss estimates medical malpractice insurers are reporting
today, and the resultant rates that companies are charging, have been
similarly inflated.
These results should raise a red flag for insurance regulators and
lawmakers. The information presented here suggests that the industry's
accounting practices are in need of revision, including far greater
scrutiny by insurance and financial regulators.

V. Limiting Liability and Restricting Consumer Rights Does Not Reduce
Rates But Does Reduce the Quality of the Insurance Product
The insurance industry, in every state legislature and in Congress,
proposes restricting the rights of policyholders or those injured by
policyholders as the best way to restrain rates. Rather than regulate
insurance companies' actuarial practices, administrative costs and
profits, the insurance industry typically calls on government to
regulate the ability of consumers to be compensated for an injury. The
failure of these proposals is borne out in the data that clearly shows
that there is no correlation between rates and legal liability.
The fallacy of the efficacy of tort restrictions lies in the belief
that insurers will automatically reduce rates if they are relieved of
liability. In fact, without the requirements of regulation, insurers do
not and will not reduce rates regardless of whether or not the law
limits the rights of policyholders or other claimants.

A. Limits on Third Party Bad Faith Lawsuits Does Not Reduce Insurance
Rates
A 1999 study by FTCR found that states that ban injured victims of
auto accidents to sue the driver's insurance companies for low-balling
or unfairly denying or delaying claims payments actually have faced
greater rate increases than states that allow the suits, known as third
party bad faith suits. The data directly contradict the insurance
industry assertion that banning a third party bad faith cause of action
will lower rates.
The insurance industry has suggested that limiting the right to sue
brings premiums down and that the converse is also true: allowing such
suits raises premiums. Data from the National Association of Insurance
Commissioners, however, shows no relationship between the right of
third parties to sue and premium levels. According to the study, which
reviewed premiums from 1989-1996, California was the only state with a
ban on third party suits that saw a reduction in premiums and, other
than Pennsylvania, consumers in all states with these tort restrictions
saw rate increases of more than 25 percent, with most states above the
national average of 35.8 percent for this time period. Of course,
California was the only state with the regulatory structure of
Proposition 103 in place to restrain rates.
According to the data, a limitation on third party bad faith
liability has not resulted in lower premiums as insurers promise. A
copy of this study is available at http://www.consumerwatchdog.org/
insurance/rp/rp000156.pdf.

B. Medical Malpractice Caps Do Not Reduce Insurance Rates
A March 2003 report by FTCR compared the impact on premiums of the
tort restrictions of California's Medical injury Compensation Reform
Act of 1975 (MICRA) with the regulatory strictures of Proposition 103.
The study found that physicians' premiums increased by 450 percent over
the first 13 years with the malpractice caps contained in MICRA and
declined after the passage of Proposition 103. A copy of that study is
available at http://www.consumerwatchdog.org/healthcare/rp/
rp003103.pdf.
Despite the allegation that caps will lower rates, the reality is
that even under California's MICRA law insurers have sought major
increases in recent years. A major malpractice insurer, SCPIE, has
increased rates by 23 percent since 1999 and the state's largest
medical malpractice insurer, NORCAL Mutual, has increased rates by 26
percent since 2001. Indeed, during the aforementioned Proposition 103
rate challenge, SCPIE stated that California's strict malpractice caps
law did not hold down insurance rates. In written testimony, SCPIE's
actuary and Assistant Vice President James Robertson stated:

``While MICRA was the legislature's attempt at remedying the
medical malpractice crisis in California in 1975, it did not
substantially reduce the relative risk of medical malpractice
insurance in California.''

This is not dissimilar to filings by Aetna and St. Paul Companies
in the mid-1980s in which the companies refused to lower rates in
Florida after that state imposed a liability cap. According to St. Paul
Fire & Marine Insurance Company's 1987 filing with the Florida
Department of Insurance:

``The conclusion of the study is that the noneconomic cap of
$450,000, joint and several liability on the noneconomic
damages, and mandatory structured settlements on losses above
$250,000 will produce little or no savings to the tort system
as it pertains to medical malpractice.''

In short, liability caps reduce an insurers exposure without any
mandatory impact on rates, while insurance regulation necessarily
impacts rates as it is, by definition, a mechanism for controlling
rates.

C. Regulating Rates Not Rights Makes the Difference
Throughout the country, lawmakers have experimented with a host of
liability-limiting tools ostensibly imposed to keep rates down. These
restrictions, which include the approaches discussed above, as well as
no-fault insurance and a variety of others such as periodic payments
and elimination of the collateral source rule, fail to restrain rates
because they do not address rates. The flaw in the promise of tort
restrictions is that it depends upon insurers to reduce rates without
requiring the companies to do so. It should be noted that a more
important flaw in these programs is the injustice of barring a victim
from access to their rights to compensation for their injuries.
The insurance industry presses for tort restrictions with the
promise that rates will go down, but the industry never agrees to
mandatory rate decreases and regulatory oversight of the companies. The
insurance industry has invested millions of dollars to promote the
notion that lawsuits are the sole barrier to affordable insurance, yet
after the industry successfully shields itself from lawsuits, there is
no commensurate rate decrease.
The lesson from decades of legislation restricting victims' and
consumers' rights is that the insurance crises keep happening and rates
continue to cycle higher and higher unless lawmakers address the real
problem by regulating rates.

VI. Conclusion
In this testimony we have presented the view that the preeminent
public interest in protecting insurance consumers requires that
insurance rates and practices are subject to a strong and thorough
regulatory regime that promotes accountability.

First and foremost, insurance companies should be subject to
strict prior approval system of rate regulation to ensure that
consumers neither pay excessive premiums nor shoulder the
unmitigated swings of the insurance cycle. Insurers should be
required to justify rates and products (demonstrating, for
example, the quality of the coverage to be offered) in advance
of placing insurance products in the marketplace. As part of
the regulatory process, insurers' books should be subject to an
additional layer of regulatory accountability by giving the
public an independent right to challenge rate hike proposals
and other regulatory actions.

Insurance companies, which are currently exempt from
antitrust laws, are able to collude through the sharing of data
in a manner that leaves consumers without a competitive market
for insurance products. The industry should be stripped of this
unique exemption from the Nation's laws against anticompetitive
practices.

Insurance companies use loss projection techniques that are
demonstrably inaccurate and possibly intended to inflate
companies' apparent losses. These projections, at least for the
medical malpractice line of insurance, are consistently higher
than the actual losses insurers pay out over time and should be
viewed skeptically by insurance regulators. Similarly the data
should not be accepted as grounds for changing tort laws.

The insurance industry alternative to rate regulation,
dubbed ``tort reform'' by insurers, has not achieved its
promised goal of reducing insurance rates. Statutory changes
that have limited the legal rights of policyholders and
insurance claimants over the past thirty years have
consistently failed to produce savings specifically because
these laws never limit the rates insurers can charge.

Although the insurance industry will argue for deregulation, much
in the same way private energy companies argue for deregulation, the
path of strict rate regulation and market conduct enforcement will
provide the most security in the most fair and public manner for
consumers and insurers. As with energy deregulation, in which many of
the major firms either filed for bankruptcy or fell to penny-stock
status in the wake of deregulation, a move to further undermine or
overturn the insurance regulatory regime would be at the peril of
consumers and the insurers.
The model for reforming the insurance industry is California's
voter-approved ballot initiative Proposition 103. The initiative has
produced a stable and competitive insurance market for fifteen years in
California, with above average profits for insurers and below average
premiums for consumers.

Appendix A
Complete Text of Proposition 103

I. Complete Text Of Proposition 103 As Approved By The California
Electors, November 8, 1988
Insurance Rate Reduction and Reform Act
Section 1. Findings and Declaration.

The People of California find and declare as follows:

Enormous increases in the cost of insurance have made it both
unaffordable and unavailable to millions of Californians.
The existing laws inadequately protect consumers and allow
insurance companies to charge excessive, unjustified and arbitrary
rates.
Therefore, the People of California declare that insurance reform
is necessary. First, property-casualty insurance rates shall be
immediately rolled back to what they were on November 8, 1987, and
reduced no less than an additional 20 percent. Second, automobile
insurance rates shall be determined primarily by a driver's safety
record and mileage driven. Third, insurance rates shall be maintained
at fair levels by requiring insurers to justify all future increases.
Finally, the state Insurance Commissioner shall be elected. Insurance
companies shall pay a fee to cover the costs of administering these new
laws so that this reform will cost taxpayers nothing.
Section 2. Purpose.

The purpose of this chapter is to protect consumers from arbitrary
insurance rates and practices, to encourage a competitive insurance
marketplace, to provide for an accountable Insurance Commissioner, and
to ensure that insurance is fair, available, and affordable for all
Californians.
Section 3. Reduction and Control of Insurance Rates.

Article 10, commencing with Section 1861.01 is added to Chapter 9
of Part 2 of Division 1 of the Insurance Code to read:

Insurance Rate Rollback
1861.01.(a) For any coverage for a policy for automobile and any
other form of insurance subject to this chapter issued or renewed on or
after November 8, 1988, every insurer shall reduce its charges to
levels which are at least 20 percent less than the charges for the same
coverage which were in effect on November 8, 1987.

(b) Between November 8, 1988, and November 8, 1989, rates and
premiums reduced pursuant to subdivision (a) may be only increased if
the commissioner finds, after a hearing, that an insurer is
substantially threatened with insolvency.

(c) Commencing November 8, 1989, insurance rates subject to this
chapter must be approved by the commissioner prior to their use.

(d) For those who apply for an automobile insurance policy for the
first time on or after November 8, 1988, the rate shall be 20 percent
less than the rate which was in effect on November 8, 1987, for
similarly situated risks.

(e) Any separate affiliate of an insurer, established on or after
November 8, 1987, shall be subject to the provisions of this section
and shall reduce its charges to levels which are at least 20 percent
less than the insurer's charges in effect on that date.

Automobile Rates & Good Driver Discount Plan
1861.02. (a) Rates and premiums for an automobile insurance policy,
as described in subdivision (a) of Section 660, shall be determined by
application of the following factors in decreasing order of importance:

(1) The insured's driving safety record.

(2) The number of miles he or she drives annually.

(3) The number of years of driving experience the insured has had.

(4) Such other factors as the commissioner may adopt by regulation
that have a substantial relationship to the risk of loss. The
regulations shall set forth the respective weight to be given
each factor in determining automobile rates and premiums.
Notwithstanding any other provision of law, the use of any
criterion without such approval shall constitute unfair
discrimination.

(b)(1) Every person who (A) has been licensed to drive a motor
vehicle for the previous three years and (B) has had, during that
period, not more than one conviction for a moving violation which has
not eventually been dismissed shall be qualified to purchase a Good
Driver Discount policy from the insurer of his or her choice. An
insurer shall not refuse to offer and sell a Good Driver Discount
policy to any person who meets the standards of this subdivision. (2)
The rate charged for a Good Driver Discount policy shall comply with
subdivision (a) and shall be at least 20 percent below the rate the
insured would otherwise have been charged for the same coverage. Rates
for Good Driver Discount policies shall be approved pursuant to this
article.

(c) The absence of prior automobile insurance coverage, in and of
itself, shall not be a criterion for determining eligibility for a Good
Driver Discount policy, or generally for automobile rates, premiums, or
insurability.

(d) This section shall become operative on November 8, 1989. The
commissioner shall adopt regulations implementing this section and
insurers may submit applications pursuant to this article which comply
with such regulations prior to that date, provided that no such
application shall be approved prior to that date.

Prohibition on Unfair Insurance Practices
1861.03 (a) The business of insurance shall be subject to the laws
of California applicable to any other business, including, but not
limited to, the Unruh Civil Rights Act (Civil Code Sections 51 through
53), and the antitrust and unfair business practices laws (Parts 2 and
3, commencing with section 16600 of Division 7, of the Business and
Professions Code).

(b) Nothing in this section shall be construed to prohibit (1) any
agreement to collect, compile and disseminate historical data on paid
claims or reserves for reported claims, provided such data is
contemporaneously transmitted to the commissioner, or (2) participation
in any joint arrangement established by statute or the commissioner to
assure availability of insurance.

(c) Notwithstanding any other provision of law, a notice of
cancellation or non-renewal of a policy for automobile insurance shall
be effective only if it is based on one or more of the following
reasons: (1) non-payment of premium; (2) fraud or material
misrepresentation affecting the policy or insured; (3) a substantial
increase in the hazard insured against.

Full Disclosure of Insurance Information
1861.04. (a) Upon request, and for a reasonable fee to cover costs,
the commissioner shall provide consumers with a comparison of the rate
in effect for each personal line of insurance for every insurer.

Approval of Insurance Rates
1861.05. (a) No rate shall be approved or remain in effect which is
excessive, inadequate, unfairly discriminatory or otherwise in
violation of this chapter. In considering whether a rate is excessive,
inadequate or unfairly discriminatory, no consideration shall be given
to the degree of competition and the commissioner shall consider
whether the rate mathematically reflects the insurance company's
investment income.

(b) Every insurer which desires to change any rate shall file a
complete rate application with the commissioner. A complete rate
application shall include all data referred to in Sections 1857.7,
1857.9, 1857.15, and 1864 and such other information as the
commissioner may require. The applicant shall have the burden of
proving that the requested rate change is justified and meets the
requirements of this article.

(c) The commissioner shall notify the public of any application by
an insurer for a rate change. The application shall be deemed approved
sixty days after public notice unless (1) a consumer or his or her
representative requests a hearing within forty-five days of public
notice and the commissioner grants the hearing, or determines not to
grant the hearing and issues written findings in support of that
decision, or (2) the commissioner on his or her own motion determines
to hold a hearing, or (3) the proposed rate adjustment exceeds 7
percent of the then applicable rate for personal lines or 15 percent
for commercial lines, in which case the commissioner must hold a
hearing upon a timely request.

1861.06. Public notice required by this article shall be made
through distribution to the news media and to any member of the public
who requests placement on a mailing list for that purpose.

1861.07. All information provided to the commissioner pursuant to
this article shall be available for public inspection, and the
provisions of Section 6254(d) of the Government Code and Section 1857.9
of the Insurance Code shall not apply thereto.

1861.08. Hearings shall be conducted pursuant to Sections 11500
through 11528 of the Government Code, except that: (a) hearings shall
be conducted by administrative law judges for purposes of Sections
11512 and 11517, chosen under Section 11502 or appointed by the
commissioner; (b) hearings are commenced by a filing of a Notice in
lieu of Sections 11503 and 11504; (c) the commissioner shall adopt,
amend or reject a decision only under Section 11517 (c) and (e) and
solely on the basis of the record; (d) Section 11513.5 shall apply to
the commissioner; (e) discovery shall be liberally construed and
disputes determined by the administrative law judge.

1861.09. Judicial review shall be in accordance with Section
1858.6. For purposes of judicial review, a decision to hold a hearing
is not a final order or decision; however, a decision not to hold a
hearing is final.

Consumer Participation
1861.10. (a) Any person may initiate or intervene in any proceeding
permitted or established pursuant to this chapter, challenge any action
of the commissioner under this article, and enforce any provision of
this article.

(b) The commissioner or a court shall award reasonable advocacy and
witness fees and expenses to any person who demonstrates that (1) the
person represents the interests of consumers, and, (2) that he or she
has made a substantial contribution to the adoption of any order,
regulation or decision by the commissioner or a court. Where such
advocacy occurs in response to a rate application, the award shall be
paid by the applicant.

(c)(1) The commissioner shall require every insurer to enclose
notices in every policy or renewal premium bill informing policyholders
of the opportunity to join an independent, non-profit corporation which
shall advocate the interests of insurance consumers in any forum. This
organization shall be established by an interim board of public members
designated by the commissioner and operated by individuals who are
democratically elected from its membership. The corporation shall
proportionately reimburse insurers for any additional costs incurred by
insertion of the enclosure, except no postage shall be charged for any
enclosure weighing less than 1/3 of an ounce. (2) The commissioner
shall by regulation determine the content of the enclosures and other
procedures necessary for implementation of this provision. The
legislature shall make no appropriation for this subdivision.

Emergency Authority
1861.11. In the event that the commissioner finds that (a) insurers
have substantially withdrawn from any insurance market covered by this
article, including insurance described by Section 660, and (b) a market
assistance plan would not be sufficient to make insurance available,
the commissioner shall establish a joint underwriting authority in the
manner set forth by Section 11891, without the prior creation of a
market assistance plan.

Group Insurance Plans
1861.12. Any insurer may issue any insurance coverage on a group
plan, without restriction as to the purpose of the group, occupation or
type of group. Group insurance rates shall not be considered to be
unfairly discriminatory, if they are averaged broadly among persons
insured under the group plan.

Application
1861.13. This article shall apply to all insurance on risks or on
operations in this state, except those listed in Section 1851.

Enforcement & Penalties
1861.14. Violations of this article shall be subject to the
penalties set forth in Section 1859.1. In addition to the other
penalties provided in this chapter, the commissioner may suspend or
revoke, in whole or in part, the certificate of authority of any
insurer which fails to comply with the provisions of this article.
Section 4. Elected Commissioner

Section 12900 is added to the Insurance Code to read:

(a) The commissioner shall be elected by the People in the same
time, place and manner and for the same term as the Governor.
Section 5. Insurance Company Filing Fees

Section 12979 is added to the Insurance Code to read:

Notwithstanding the provisions of Section 12978, the commissioner
shall establish a schedule of filing fees to be paid by insurers to
cover any administrative or operational costs arising from the
provisions of Article 10 (commencing with Section 1861.01) of Chapter 9
of Part 2 of Division 1.
Section 6. Transitional Adjustment of Gross Premiums Tax

Section 12202.1 is added to the Revenue & Taxation Code to read:
Notwithstanding the rate specified by Section 12202, the gross
premiums tax rate paid by insurers for any premiums collected between
November 8, 1988 and January 1, 1991 shall be adjusted by the Board of
Equalization in January of each year so that the gross premium tax
revenues collected for each prior calendar year shall be sufficient to
compensate for changes in such revenues, if any, including changes in
anticipated revenues, arising from this act. In calculating the
necessary adjustment, the Board of Equalization shall consider the
growth in premiums in the most recent three year period, and the impact
of general economic factors including, but not limited to, the
inflation and interest rates.
Section 7. Repeal of Existing Law

Sections 1643, 1850, 1850.1, 1850.2, 1850.3, 1852, 1853, 1853.6,
1853.7, 1857.5, 12900, Article 3 (commencing with Section 1854) of
Chapter 9 of Part 2 of Division 1, and Article 5 (commencing with
Section 750) of Chapter 1 of Part 2 of Division 1, of the Insurance
Code are repealed.
Section 8. Technical Matters

(a) This act shall be liberally construed and applied in order to
fully promote its underlying purposes.

(b) The provisions of this act shall not be amended by the
Legislature except to further its purposes by a statute passed in each
house by roll call vote entered in the journal, two-thirds of the
membership concurring, or by a statute that becomes effective only when
approved by the electorate.

(c) If any provision of this act or the application thereof to any
person or circumstances is held invalid, that invalidity shall not
affect other provisions or applications of the act which can be given
effect without the invalid provision or application, and to this end
the provisions of this act are severable.

Senator Sununu. Thank you, Mr. Heller.
Mr. Rahn?

STATEMENT OF STEPHEN E. RAHN, VICE PRESIDENT,

ASSOCIATE GENERAL COUNSEL, AND DIRECTOR OF STATE

RELATIONS, LINCOLN NATIONAL LIFE INSURANCE COMPANY, ON BEHALF
OF THE AMERICAN COUNCIL OF LIFE INSURERS

Mr. Rahn. Thank you, Mr. Chairman, and Members of the
Committee.
Much of the testimony this morning has focused on the P&C
industry. I'm happy to be here today to testify on behalf of
the life insurance industry. By way of background, my name is
Steve Rahn. I'm the Director of State Government Relations for
the Lincoln National Life Insurance Company. I am here today on
behalf of the American Council of Life Insurers.
I have spent my entire career dealing in state legislative
and regulatory matters. Prior to joining Lincoln, I worked for
the Indiana General Assembly.
Now, if past experience with hearings and other committees
is any guide, I think you're very quickly learning and can
easily appreciate the fact that the current state-based system
of insurance regulation has failed to keep pace as our business
and our markets have evolved. There's clear consensus today
that the current system is badly broken, and I would point out
it's not a difference between a Federal system and a state
system. There are already over 50 systems of regulation of
insurance under the current state-based system.
And I think it's fair to say that most agree that if
substantial improvements are not made, and not made quickly,
that it will be extremely difficult for life insurers to remain
healthy and competitive, and, most importantly, in turn, to
provide for the best products for our consumers at the lowest
possible cost.
Now, where the paths of the witnesses have diverged today,
and will probably continue to diverge today, is on the best way
to accomplish needed reform. State regulators are going to
argue that there are, indeed, problems, but that the
appropriate solutions can all be found within the existing
state-based system of regulation and all that's really needed
is more time for the states to act.
Others here have suggested, and will continue to suggest,
that the Federal Government should help move the remedial
process along by enacting Federal minimum standards that the
states could then enforce.
Let me briefly address both of those approaches. As
indicated in my written statement, life insurers believe that
state regulation will always be an integral part of the
insurance regulatory landscape, and it's for that reason that
the ACLI and the life insurance industry remains firmly
committed to working with the states to improve it.
However, progress has been extremely slow, and there's no
realistic expectation that the many aspects of the state system
that need to be improved will be addressed within a reasonable
period of time. That is why the ACLI has proposed a Federal
insurance charter as an option. This would parallel the
successful dual-chartering mechanism that we've seen in the
banking system.
In terms of geographic scope of the business of life, life
insurers are quite similar to banks in that some carriers do
business nationally, and some do it internationally, while
others operate locally.
We also don't believe that the Federal minimum standards
are the answer either, as, by their very nature, they don't
provide the uniformity that our industry so desperately needs.
Minimum standards establish only a baseline that the states
could modify as they see fit. For life insurance, laws and
regulations need to be uniform from one jurisdiction to
another. We may have life insurance that operates locally, but
even they don't have local issues. It's very different than the
P&C industry. By that, I mean that life insurance product
standards, financial solvency requirements, and consumer
protections can and should be uniform throughout the country.
In addition, the Federal minimum standards approach would
not create a Federal insurance presence in Washington that we
believe is critical for an industry that is increasingly
international in scope and plays an enormously important role
in the economy. It is simply too critical of a cog in the
Nation's financial machinery for the Federal Government not to
understand our issues, nor for our industry to remain the only
segment of the financial services industry without a primary
Federal regulator.
My last point is perhaps the most important. It's
imperative that we be successful in modernizing the life
insurance regulatory system, because if we aren't and if the
life insurance franchise is minimalized--or marginalized, the
consequences to consumers and the economy would be devastating.
Consider this. We currently have 76 million baby-boomers
nearing retirement. With life expectancies increasing, these
retirees will have to depend increasingly upon the products and
services that only the life insurance industry can provide.
These include products that have guaranteed lifetime payments,
long-term care, and lifetime financial security. As you are
well aware, Social Security and Medicare alone simply aren't up
to the task.
Equally important to consider is the fact that the life
insurance industry ranks fourth among institutional sources of
funds supplying 9 percent of the total capital in the financial
markets, or $3.4 trillion, and we're the principal source of
long-term capital.
Mr. Chairman, I again thank you for having this hearing.
And while we have some concerns with his bill, I would like to
thank Senator Hollings for introducing his Federal optional
charter legislation. We're pleased that the Senate is beginning
to focus in earnest on the critical question of how to
modernize the insurance regulatory system, and we encourage
you, in the strongest terms, to work with us to put in place an
appropriate Federal charter option for insurance companies. We
believe that's in the best interest of the industry, its
customers, and our economy.
Thank you.
[The prepared statement of Mr. Rahn follows:]

Prepared Statement of the American Council of Life Insurers given by
Stephen E. Rahn, Vice President, Associate General Counsel and
Director, State Relations, Lincoln National Life Insurance Company

Mr. Chairman and members of the Committee, my name is Steve Rahn,
and I am Vice President, Associate General Counsel and Director of
State Relations for The Lincoln National Life Insurance Company. I am
appearing today on behalf of the American Council of Life Insurers, the
principal trade association representing domestic life insurance
companies. The ACLI's 383 member companies account for over 70 percent
of the life insurance premiums and 77 percent of annuity considerations
of U.S. life insurance companies. I am also Chairman of the ACLI's
Policy Advisory Group, which has spearheaded the association's efforts
to develop a Federal legislative solution to the issue of regulatory
modernization.
I appreciate the opportunity to appear before you today to discuss
the pressing need to modernize the life insurance regulatory framework.
In survey after survey of the ACLI membership, including one this
summer of life insurer CEOs serving on the ACLI Board of Directors,
regulatory modernization is the very top priority of our business.
My message to you this morning is both simple and urgent. The life
insurance business is a vital component of the U.S. economy, providing
a wide array of essential financial and retirement security products
and services to all segments of the American public. However, for the
insurance business to remain viable and serve the needs of its
customers effectively, our system of life insurance regulation must
become far more efficient and be brought in line with the needs and
circumstances of today's marketplace. This is not a call for less
regulation. It is a call for strong regulation administered
efficiently, preserving the paramount importance of effective solvency
regulation and appropriate consumer protections.
I would like to focus on three points the morning. First, why
regulation is so important to us at this juncture. Second, what the
ACLI has done to assess the current regulatory environment and identify
areas that are in need of improvement. And third, the options for
improvement we are focusing on and how we are pursuing them.

The Changing Marketplace and the Importance of Efficient Insurance
Regulation
The marketplace environment in which life insurers and other
financial intermediaries compete has changed dramatically in the past
several years. Importantly, the role of regulation in this new
competitive paradigm has increased significantly.
Historically, life insurers competed only against other life
insurers. Whatever the inefficiencies of insurance regulation,
companies incurred them equally. Existing companies had learned how to
cope with the unwieldy regulatory apparatus, and potential new entrants
almost always looked to existing companies and charters because of the
difficulty of creating a new one. The status quo, while often
frustrating, did not present insurers with serious competitive
problems.
Today, the situation is radically different. A generation ago, the
average life insurer took in almost 90 percent of its premiums from the
sale of life insurance, compared to only 13 percent from annuities.
Today, those numbers are almost completely reversed, with 70 percent of
premium receipts coming from annuities compared to only 30 percent from
life insurance products. Today, life insurers administer over $1.8
trillion in retirement plan assets, amounting to over 25 percent of the
private retirement plan assets under management in the U.S.
The point is that life insurers, as providers of investment and
retirement security products, find themselves in direct competition
with brokerages, mutual funds, and commercial banks. These non-
insurance firms have far more efficient systems of regulation, often
with a single, principal Federal regulator. Without question, the
regulatory efficiencies they enjoy translate into very real marketplace
advantages. Our system of insurance regulation now stands as perhaps
the single largest barrier to our ability to compete effectively.
In the context of this new competitive environment, insurers'
inability to bring new products to market in a timely manner is the
most serious shortcoming of the current regulatory system. National
banks do not need explicit regulatory approval to bring most new
products to market on a nationwide basis. Securities firms typically
get regulatory approval for new products in several months. By
contrast, life insurers must get new products and disclosure statements
approved in each state in which the product will be offered, and
different jurisdictions often have widely divergent standards,
interpretations, and requirements applicable to identical products.
Without question there are individual states that are quite prompt in
reviewing a company's product form filings. Others are not. And the
problem, of course, is getting approval in multiple jurisdictions,
which is extremely costly, extremely time consuming, and can take a
year or more--and in some instances much longer. With the average shelf
life of innovative new life insurance products being approximately two
years, it is easy to see why the current product approval process is so
problematic.
The advent of Gramm-Leach-Bliley and an increasingly diversified
financial services landscape will only intensify concerns in this area.
For example, there is clear evidence that firms having both insurance
and securities operations are allocating capital away from the
insurance unit due largely to the inefficiency of the insurance
regulatory system. New securities products can be brought to market in
a more timely and cost-effective manner than their insurance
counterparts. Over the long run, the implications to insurers and their
customers of these adverse capital allocation decisions are serious,
and they can be expected to worsen as consolidation and cross-industry
diversification continue.
Even with respect to products such as whole life insurance, which
have no direct analog in the banking or securities businesses, we face
competition from other providers of financial services for the
consumer's attention and disposable income. Moreover, the costs of
regulatory inefficiency are necessarily borne directly or indirectly by
the public.
The present state-based system of insurance regulation was
instituted at a time when ``insurance'' was not deemed to be interstate
commerce. Consequently, the underpinnings of that system--which remain
pervasive today--contemplate doing business only within the borders of
a single state. Today, most life insurers do business in multiple
jurisdictions if not nationally or internationally. And, the system has
been cumulative, with new laws, rules and regulations often added but
old ones seldom eliminated. In short, our system of regulation has
failed to keep pace with changes in the marketplace, and there is a
very wide gap between where regulation is and where it should be.
For many life insurers, making regulation more efficient is now an
urgent priority. Companies no longer believe they have the luxury of
being able to wait for years and years while incremental improvements
are debated and slowly implemented on a state-by-state basis.

Importance of the Life Insurance Franchise
Failure to modernize the life insurance regulatory system risks
marginalizing the life insurance franchise, and the resulting adverse
consequences to consumers and the economy would be substantial. Life
insurers are unique in that they are the only institutions capable of
guaranteeing against life's uncertainties. Through life insurance,
annuities, and other financial protection products, life insurers
protect against living too long and not living long enough. With 76
million baby-boomers nearing retirement, there is the potential for a
true retirement crises. We not only have an aging population with
increasing life expectancies, but must also confront the fact that the
average American nearing retirement has only $47,000 in savings and
assets, not including real estate. Fully 68 percent of Americans
believe they will not be able to save enough for retirement. Over 61
percent are afraid they will outlive their savings. The role of life
insurers in addressing the retirement security needs of millions of
Americans has never been more important. Retirees will depend
increasingly upon the services only life insurance products provide;
guaranteed income, long term care, and lifetime financial security. As
the Congress faces the Social Security and Medicare challenges in the
next fifty years, it will need a high performing life insurance
industry to partner with and help shoulder the burden.
Life insurers not only help in shaping how people plan for the
future, but also in sustaining long-term investments in the U.S.
economy. Fifty-seven percent of the industry's assets--$2 trillion--is
held in long-term bonds, mortgages, real estate, and other long-term
investments. The industry ranks fourth among institutional sources of
funds, supplying 9 percent of the total capital in financial markets,
or $3.4 trillion. Investments include: $417 billion in federal, state,
and local government bonds, which help fund urban revitalization,
public housing, hospitals, schools, airports, roads, and bridges; $251
billion in mortgage loans on real estate-financing for homes, family
farms, and offices; $1.2 trillion in long-term U.S. corporate bonds;
and $791 billion in corporate stocks. In 2002, life insurers invested
more than $304 billion in new net funds in the Nation's economy.

Lack of Uniformity Hampers Multi-State Insurers
A significant impediment for multi-state insurers is the current
state-based system's inability to produce, in crucial areas, both
uniform standards and consistent application of those standards by the
states. I'd like to give you a brief outline of the business and
regulatory complexities commonly faced by life insurers under the
current system.
Before a company can conduct any activities, it must apply for a
license from its ``home'' or ``domestic'' state insurance department. A
license will be granted if the company meets the domestic state's legal
requirements, including capitalization, investment and other financial
requirements, for acting as a life insurer. If the company wishes to do
business only in its home state, this one license will be sufficient.
However, in order to sell products on a multi-state basis, a company
must apply for licenses in all the other states in which it seeks to do
business. Each additional state may have licensing requirements that
deviate from those of the company's home state, and the company will
have to comply with all those different requirements notwithstanding
the fact that the home state regulator will remain primarily
responsible for the insurer's financial oversight.
Once a company has all its state licenses, it can turn its
attention to selling policies. To do that, a company must first file
each product it wishes to market in a particular state with that
state's insurance department for prior approval. A company doing
business in all states and the District of Columbia must, for example,
file the same policy form 51 different times and wait for 51 different
approvals before selling that product in each jurisdiction. And this
process must be repeated for each product the insurer wishes to offer.
Since these 51 different insurance departments have no uniform
standards for the products themselves or for the timeliness of response
for filings, a company may receive approval from one or two
jurisdictions in 3 months, from another ten jurisdictions in 6 months,
and may have to wait 18 months or longer to receive approval from all
jurisdictions.
This process is further complicated by the fact that each insurance
department may have its own unique ``interpretation'' of state
statutes, even those that are identical to the statues in other
jurisdictions. As a result, a company will be required to ``tweak'' its
products in order to comply with each individual department's
``interpretation'' of what otherwise appeared to be identical law.
Since a company has to refile each product after it has been
``tweaked,'' the time lapse from original filing to final approval can
very well be double that which was originally expected. And, as a
result of the various ``tweaks,'' what started out as a single product
may wind up as thirty or more different products.
After a company has received approval to sell its products in a
state, it needs a sales force to market those products. Here again we
encounter the inefficiencies of the current state system. Each state
requires that anyone wishing to act as an insurance agent first be
licensed as such under the laws of that state. Each state has its own
criteria for granting an agent's license, and this criteria includes
differing continuing education requirements once the license is issued.
Like companies, insurance agents wishing to work with clients in more
than one state must be separately licensed by the insurance departments
in each of those states. And, because of the differing state form
filing requirements for companies noted above which results in products
being ``tweaked'' for approval in each of the various jurisdictions,
persons granted agent licenses by more than one state will not always
have the ability to offer all clients the same products.
After this multitude of licenses and approvals has been secured, a
company can begin to sell products nationwide. However, the lack of
uniformity in standards and application of laws will continue to be a
complicated and costly regulatory burden that the company must
constantly manage. The very basic things that any business must do to
be successful--such as employing an advertising campaign, providing
systems support, maintaining existing products, introducing new
products and keeping our sales force educated and updated--are all
affected 51 different sets of laws, rules and procedures under the
current regulatory structure.
Add to this the fact that states also police actual marketplace
activity by subjecting a company to market conduct examinations by the
insurance departments of every state in which it is licensed. Even
though state market conduct laws nationwide are based on the same NAIC
model laws, there is minimal coordination on these exams among the
various states. As a result, a company licensed to do business in all
51 jurisdictions is perpetually having states initiate market conduct
examinations just as one or more other states are completing theirs,
with the cost of each exam being borne by the company. And, because
these examinations are largely redundant, the benefits derived relative
to the costs incurred are marginal at best.
In sum, these issues result in very real costs in terms of money,
time, labor and lost business opportunities attributable to this
cumbersome state regulatory system, which places a great competitive
burden on individual companies, and on the industry as a whole.

ACLI Study of Insurance Regulation
By the late 1990s, life insurers had concluded that it was
imperative for the industry to address the issue of regulatory reform.
In September of 1998, the ACLI Board of Directors instructed the
association to undertake a detailed study of life insurance regulation.
The objective of this study was to pinpoint those aspects of regulation
that are working well and those aspects that are hindering life
insurers' ability to compete effectively and thus in need of
improvement. This study broke life insurance regulation down into 35
individual elements (e.g., agent and company licensing, policy/contract
form approval, solvency monitoring, guaranty associations,
nonforfeiture). Individual elements were then rated based on eight
factors (uniformity, speed/timing, cost, objective achieved, necessity/
relevance, expertise/capacity, sensitivity to industry needs/views, and
enforcement/penalties) and assigned one of four overall ``scores''
based on the eight factors. The overall scores were excellent, good,
needs improvement, and unsatisfactory.
This study was completed in November of 1999 and revealed
widespread dissatisfaction with the current regulatory system. No
element of regulation was rated ``excellent,'' 14 elements were rated
``good,'' and 21 of the 35 elements received negative scores, with 16
rated ``needs improvement'' and five rated ``unsatisfactory.''
The study concluded that life insurers generally believe the laws
and regulations on the books are necessary and appropriate. However,
these laws are seldom uniform across all states and, even where
uniform, are frequently subject to divergent applications and
interpretations. Having to comply with even uniform laws 50+ times is
costly and time consuming. When those laws differ and when
interpretations of identical or similar laws differ significantly
state-to-state, an insurer's ability to do business in multiple
jurisdictions is severely hindered. Given these considerations, the
life insurers do not seek diminished regulation. Rather, they seek a
far more efficient means of administering the laws and regulations to
which they are now subject.
A copy of the ACLI report, entitled ``Regulatory Efficiency and
Modernization: An Assessment of Current State & Federal Regulation of
Life Insurance Companies and an Analysis of Options for Improvement,''
is being made available separately to provide additional background on
this issue.

Solutions
Pursuant to a policy position adopted by our Board of Directors and
embraced by our membership, the ACLI is addressing regulatory reform on
two tracks. Under the first track, the ACLI is working with the states
to improve the state-based system of insurance regulation. Under the
second, the ACLI has developed draft legislation providing for an
optional Federal charter for life insurers.

Improvements to State Regulation
Improving a state-based system of regulation has never really been
an ``option'' for the ACLI: rather, it is a given. While substantial
changes to the present system must be made, regulation of insurance by
the states will always be a fundamental part of our regulatory
environment. From the ACLI's perspective, the yardstick for gauging the
success of regulatory reform in the principal areas where change is
necessary is quite simple: uniform standards; consistent
interpretations of those standards; and a single point of contact for
dealing with multiple jurisdictions. Only in this way will insurers
doing a national business be able to operate effectively and provide
their customers with the products and services they are demanding.
The states and the leadership of the National Association of
Insurance Commissioners (NAIC) deserve credit for the way in which they
have stepped up to the task of developing strategies for implementing
meaningful reform. The states are working to forge a strong consensus
for progressive change. While the true measure of success, of course,
will be the actual implementation of appropriate reforms, the NAIC has
shown strong commitment and effort over the course of the last several
years.

Optional Federal Charter
At the same time the ACLI Board reaffirmed its commitment to
improve state regulation, it also directed the association to
aggressively pursue an optional Federal charter for life insurance
companies. This decision reflects several different perspectives within
our membership. A number of companies believe the insurance business is
badly in need of a dual regulatory system analogous to that presently
found in the commercial banking, thrift, and credit union businesses.
Such a system enables institutions to select a state or Federal charter
based on the particular needs and circumstances of their operations.
For example, companies doing business in multiple jurisdictions might
be more inclined to opt for a Federal charter so that they will have to
deal with only a single regulator. On the other hand, companies doing
business in a single state might find a state charter to be far more
practical and cost-effective. Other companies are skeptical that at the
end of the day individual state regulators and state legislators will
be able to cede authority to the extent necessary to implement a system
of uniform, efficient state regulation.
Additionally, most life insurers are increasingly convinced that
there is a need for a Federal insurance regulatory ``presence'' in
Washington. More than at any other time in our history, issues
dramatically affecting our business are being debated and decided in
Congress. Yet, unlike any other segment of the financial services
industry, there is no regulator in Washington that can serve as a
source of information and perspective for lawmakers. This lack of
insurance regulatory presence was illustrated dramatically in the wake
of the events of 9/11/01 when lawmakers had no ready source of
information and advice on the immediate and longer-term insurance
consequences of those events.
The ACLI spent approximately a year and a half developing draft
legislation providing an optional Federal charter for life insurers.
This effort involved over 300 ACLI member company representatives and
brought to bear their considerable expertise on literally every aspect
of life insurance regulation. The American Insurance Association and
the American Bankers Insurance Association also developed draft
optional Federal charter legislation. These groups have worked closely
over the last year and have reached agreement on a consensus draft of a
bill providing for a Federal charter option for all lines of insurance,
insurance agencies and insurance agents.

Congress Should Avoid Incremental Federal Legislation
There have been suggestions that Congress should defer action on
optional Federal insurance charter legislation and instead see whether
an incremental approach to regulatory efficiency might suffice. For
example, discrete issues such as product approvals or coordination of
market conduct examinations might be addressed along the lines of the
NARAB provisions included as part of the Gramm-Leach-Bliley Act.
Quite candidly, Mr. Chairman, I would argue strongly against this
approach for a number of reasons. First, the effort of the states and
the NAIC to enhance regulatory efficiency is, by its very nature,
incremental. The states have identified several priority issues to
tackle, and they are developing concepts to deal with them. Achieving
some form of overall ``national treatment'' under a state regulatory
regime should be an ultimate goal, but even the states have recognized
that it is impractical to seek to achieve that goal in the near term.
We simply do not need the states and the Congress employing incremental
approaches to regulatory modernization.
As noted above, ACLI is working aggressively with the states and
the NAIC to improve state-based regulation. While we salute the NAIC
and others for their efforts toward this end, the ACLI believes this
effort should not be exclusive of but rather complementary to the
pursuit of an optional Federal charter.
One of the fundamental values of a Federal charter option is that
it can achieve uniformity of insurance laws, regulations and
interpretations the moment it is put in place. And only Congress can
enact legislation that has this broad-based, immediate effect. As I
noted at the outset, many life insurers believe regulatory
modernization is a survival issue, and in that context the speed with
which progressive change takes place is critical. Today's marketplace
is intolerant of inefficient competition. And the prospect of having to
wait a number of years to see whether incremental Federal legislation
will even be enacted, and then, if it is, having to wait for some
additional period of time to see whether it works is not even remotely
appealing to me. Because if the answer turns out to be ``no,'' my
company will likely have become irrelevant long before any meaningful
steps have been taken. We are not willing to take that risk.
In my judgment, Congress should not ``finesse'' this issue by
putting a clock on the states either to force them to perform better or
to see how much they can accomplish over some set period of time. This
approach ultimately sidesteps the responsibility to protect a vital
industry and the consumers it serves.
I believe Congress should focus its attention on a global,
comprehensive alternative to state insurance regulation expressly
crafted to meet the needs of today's national and multinational
insurers. I believe an immediate and concerted effort to put in place
an optional Federal charter is the best course of action for providing
needed regulatory solutions for our industry and for providing the
states with strong incentive for improving their regulatory structure.
In sum, the ACLI will work with the states to pursue important but
incremental improvements to state insurance regulation. But we will
look to Congress for the improvements that only Congress can provide in
the form of an optional Federal insurance charter.

An Optional Federal Charter Is Not an Attack on States' Rights
Insurance is the only segment of the U.S. financial services
industry that does not have a significant Federal regulatory component.
Under the optional Federal charter concept being advanced by the ACLI
and others, the states would retain a greater, or at least as
significant, a role in insurance regulation as their state regulatory
counterparts now have in the banking and securities industries.
The Federal charter proposal does not mandate Federal insurance
regulation of all insurers. Rather, it allows an insurance company the
option of seeking a Federal charter if company leadership believes that
to be more complementary to the company's structure, operations or
strategic plan.
It is not an affront to states' rights to seek the elimination of
conflicting or inconsistent laws. A principal objective of the ACLI
proposal is to reduce the regulatory burden caused by such conflicts
and redundancies and to do so by adopting the best state laws and
regulations as the applicable Federal standards.
A further objective of the Federal charter option is to modernize
the insurance regulatory framework and, in so doing, make insurers
significantly more competitive in the national and global marketplace.
Enhancing competition is a sound and legitimate role for Congress and
substantially outweighs concerns over any diminution of the regulatory
role of the states.
The importance of insurance protection was underscored by the
events of September 11, as was the fact that it is in the national
interest to have a Federal authority with expertise and involvement in
the U.S. insurance industry given the industry's significant and
substantial importance to the overall financial health of the Nation.
Establishing an agency to fill this void is not, and should not be
characterized as, a diminution of states' rights.
Finally, the concept of an optional Federal charter is far less an
infringement on states' rights and prerogatives than preemptive Federal
standards, minimum or otherwise. The latter apply to all insurers and
suggest that the states are incapable of dealing with important
regulatory matters even as they pertain to state chartered carriers.

An Optional Federal Charter Will Not Foster Regulatory Arbitrage
Some have suggested that the implementation of a Federal charter
option will lead to regulatory arbitrage and a regulatory ``race to the
bottom'' as companies seek increasingly lax regulation and regulators
rush to accommodate. Nothing could be further from the truth.
First and foremost, the ACLI and its member companies are not
seeking to migrate to a Federal system of insurance regulation that is
lax. To the contrary, we are seeking an strong regulator located in the
Treasury Department that will administer a comprehensive system of
regulation predicated on the ``best-of-the-best'' drawn wherever
possible from existing state statutes or NAIC model laws. Only where
the state system is irreparably broken (e.g., the product approval
process) have we sought to create new regulatory concepts.
Second, the notion that adding one more system of regulation on top
of the 51 that already exist will somehow give rise to regulatory
arbitrage is groundless. Today, companies have the right in virtually
all jurisdictions to change their state of domicile--that is, to move
to a different state that would have primary responsibility for the
company's financial oversight. Consequently, there are 51 opportunities
for regulatory arbitrage today.
It is inconceivable that Congress would put in place a Federal
regulatory option that was not at least as strong as the better--if not
the best--state system. How, then, would we be creating some new
opportunity for this dreaded ``race-to-the-bottom?'' What possible harm
would come from companies moving to a Federal system of regulation that
is as strong as, if not stronger than, the one they are leaving?
Inherent in this assertion of possible regulatory arbitrage is the
notion that a company executive could wake up one morning and simply
decide to flip a company's charter. Quite simply, business does not
work that way. Such a change carries with it countless significant
consequences and considerations and is not entered into lightly. It is
costly, time consuming and initially highly disruptive. The notion of
regulatory arbitrage implies that companies would be inclined to move
into and out of regulatory systems on a whim or whenever decisions were
made or likely to me made that would be adverse to their interests. In
the real world, this does not and would not occur.

The Federal Charter is Optional
We urge you to keep in mind that all advocates for a Federal
insurance charter believe that the charter should be optional.
Companies that do a local business or that for other reasons would
prefer to remain exclusively regulated by the states are perfectly free
to do so. The ACLI has worked hard to draft a Federal charter option
that, to the extent reasonably possible, remains ``charter neutral.''
For example, we have avoided building into the Federal option
advantages (e.g., tax advantages) that companies would be hard pressed
to turn their backs on even if they wished to remain state regulated.
While individual motives may vary, our member life insurance
companies are strongly united in our desire to modernize our regulatory
system so we can regain our competitive footing and effectively serve
our customers. Some feel that a Federal charter is in the long-term
best interest of their company and customers. Others have indicated
they would prefer to remain state chartered even if a Federal charter
were available to them. Like other financial service firms, we believe
insurers must have the ability to select the charter that best suits
our operations, products, markets and long-term strategies

An Optional Federal Charter Will Not Disrupt State Premium Tax
Revenues
Opponents of an optional Federal charter have suggested that if
such an option were to become a reality, national insurers would, over
time, somehow escape state premium taxes, which constitute a
significant source of revenue for all states. This concern is totally
unfounded.
As this Subcommittee knows better than most, with the exception of
Government Sponsored Enterprises, all for-profit federally chartered
financial institutions such as commercial banks, savings banks and
thrifts pay state income taxes. For insurers, this state tax obligation
takes the form of a state premium tax. There is no precedent for, nor
is there any expectation of, exclusion from this state tax obligation.
Indeed, all versions of the optional Federal charter legislation
expressly provide for the continuation of the states' authority to tax
national insurers.
There is presently debate in some jurisdictions over whether
insurers should pay a state net income tax in lieu of a state premium
tax. This debate will continue irrespective of whether there is an
optional Federal insurance charter. Simply put, state tax revenue is
not a material factor in the debate over an optional Federal charter.

Consumer Protections Will Not Diminish Under an Optional Federal
Charter
We believe insurance consumers will also benefit if an optional
Federal charter becomes a reality. Strong solvency oversight and strong
consumer protections are the cornerstones of any effective insurance
regulatory system. The ACLI draft optional Federal charter legislation
and the consensus version being finalized by the ACLI and other
interested groups is built on these cornerstones. In this regard, the
draft legislation duplicates the following important aspects of state
insurance laws:

It guarantees that consumers are protected against company
insolvencies by extending the current successful state-based
guaranty mechanism to national insurers and their
policyholders.

It ensures the financial stability of national insurers by
requiring adherence to statutory accounting principles that are
more stringent (conservative) than GAAP.

It duplicates the stringent investment standards currently
required under state law.

It mirrors the strong risk-based capital requirements of
state law to ensure companies have adequate liquid assets.

It duplicates state valuation standards that ensure
companies have adequate reserves to pay consumers' claims when
they come due.

It reproduces the requirement that companies submit
quarterly financial statements and annual audited financial
reports.

It mirrors the existing nonforfeiture requirements under
state law that guaranty all insureds receive minimum benefits
under their policies.

In addition, consumers who deal with national insurers may very
well enjoy significant added protections and benefits over those
afforded by the states. For example, consumers will experience uniform
and consistent protections nationwide and will enjoy the same
availability of products and services in all 50 states. Consumers will
also benefit from uniform rules regarding sales and marketing practices
of companies and agents, and for the first time consumer issues of
national importance will receive direct attention from a Federal
regulator.

Conclusion
Life insurers today operate under a patchwork system of state laws
and regulations that is not uniform and that is applied and interpreted
differently from state to state. The result is a system characterized
by delays and unnecessary expenses that harm companies and disadvantage
their customers. Failure to reform insurance regulation will pose a
severe and ever larger competitive burden that could threaten the
viability of the life insurance industry and those it serves in an
increasingly competitive global economy.
Mr. Chairman, we encourage you in the strongest terms to work with
us to put in place an appropriate Federal regulatory option available
to insurance companies, insurance agencies, and insurance producers. It
is in the best interests of our industry, its customers and our overall
economy to do so as expeditiously as possible.
On behalf of the member companies of the American Council of Life
Insurers, I would like to conclude by thanking you and members of the
Committee for the opportunity to express our views on this most
important subject.

Senator Sununu. Thank you very much, Mr. Rahn.
I will defer to Senator Hollings for the first round of
questions.
Senator Hollings. Thank you very much, Mr. Chairman.
Mr. Rahn, I think, most respectfully, that our bill,
patterned after the California system, is not an option bill.
Otherwise, trying to go down the roll call here of this
outstanding panel, obviously Mr. Heller and Mr. Hunter favor
the change or some kind of bill along the lines of 1373. Mr.
Rahn wants to get Federal minimum standards reform, as
necessary, so a Federal insurance charter option, as does Mr.
Berrington. He wants the option charter. The only fellow in
favor of staying in the--when in doubt, do nothing, and staying
in doubt all the time, is my own Commissioner, Mr. Csiszar.
[Laughter.]
Senator Hollings. I speak affectionately of him, because he
was a Canadian when the Governor first went to appoint him, and
I had to rush around making him a citizen.
[Laughter.]
Mr. Csiszar. And I thank you for it.
Senator Hollings. Yes sirree, and we're delighted to have
you as a citizen. And, incidentally, the Republican Governor
just reappointed him, so both sides have every confidence in
him.
Senator Sununu. Well, with all due respect, Senator
Hollings, I very much appreciate the fact that both of you are
from South Carolina, but I think I have an easier time with Mr.
Csiszar's accent.
[Laughter.]
Senator Hollings. I do, too.
[Laughter.]
Senator Hollings. Now, having said that, the best
testimony, if I were a juror, is Mr. Ahart. And the reason I
say that, and I really want to yield to our friend, who was the
insurance commissioner and knows way more about it than anybody
else, Senator Nelson, because he's been in the pits and done an
outstanding job down there in Florida--and, incidentally, Mr.
Heller, that was in Florida. The witnesses all appeared back in
the 1980s before this Committee, 25 years ago, and they said,
``If we had product liability, product liability regulation,
that immediately the rates would go down.'' And you jogged my
memory, the State of Florida did do that, adopted a product
liability bill, and St. Paul and the others, the rates went up.
The rates went up. That's the actual record. I remember that.
That's why I'm frustrated, but not with Mr. Ahart.
[Laughter.]
Senator Hollings. I'm not frustrated a bit, because he's
the one I worry about. I've had relatives in the insurance
business, I've had the agents--I lost a home, and thank
goodness for the agent, Mr. McDowell, because the first
question is, ``Was it a total loss?'' They couldn't believe it.
They came down and took all the kind of pictures and everything
else like that. They realized that I had to wait for an hour
for my house to catch fire from the other houses down the
street. Four houses went. And then, of course, the--FEMA
grabbed me--I've been after FEMA for years, but they got after
me----
[Laughter.]
Senator Hollings.--and raised the level--it's a seashore
home, and all of a sudden I couldn't have the third floor,
because of the--so I had to reconcile that with the insurance
company and other regulations that they had with respect to new
construction and everything else of that kind. And with the
agent--I'm for the agents--I saw my way through, and we were
totally satisfied.
However, you want legislative tools. You want Federal
regulation using Federal tools for the file-and-use forms, for
the licensing, Federal regulations. There isn't any question,
that everybody, except Mr. Csiszar, is for some kind of Federal
regulation and fixing of the responsibility and fixing of the
understanding and fixing of the responsibility.
Let me go right to the point. Mr. Csiszar, what's wrong
with the California bill or my bill, 1373? I'm trying to get
criticism. What's wrong with it?
[Laughter.]
Mr. Csiszar. And criticism you will get, but polite
criticism it will be.
Senator Hollings. Surely.
Mr. Csiszar. As I said, the first concern, of course, is
that there is--if you just look at the California market, there
is a vast difference in markets between California and a place
like South Carolina, for instance. We have had experience in
South Carolina with a very strict reapproval process. You might
remember John Richards as a commissioner some years ago. And
the experience we had with a very, very strict approval process
and essentially no rate increases in many instances, was that
companies simply left the state. And the end result was that--
for instance, in the automobile market, to which I referred
earlier, we essentially were left with the South Carolina
Reinsurance Facility, State Farm, and Allstate, and no one--
there were one or two others, but no one was writing insurance.
And as a result, we had the $200 billion--$200 million a year
deficits, and, of course, these recoupment fees that you might
remember that angered everyone, every driver, particularly the
good drivers, who suddenly realized that they were subsidizing
the bad drivers through all of this.
So my first response to your bill is that if we were to
implement the California-style regulatory system in South
Carolina, you'd be driving away the insurance companies, and we
have a record of that happening, you know.
Again, I think the fact that there is--that you would have
Federal regulation, even though presumably this would entirely
preempt, I suppose, any kind of state regulation, as I read
your bill, I think you also have to be careful of a number of
things, not least of which is that little thing called premium
taxes on which states subsist. I think you would endanger that.
I think the cost that you might incur with this new system
might outstrip the cost of the state system. Even though you're
looking at 50 states, Federal regulation, from one estimate
that I've seen, consumes about $1.3 trillion a year, with lost
opportunities adding another trillion dollars a year, in an $11
trillion kind of economy. So it could be an expensive Federal
system that you're implementing this way.
The bureaucracies that go with it, obviously, we've--our
record hasn't been good with new kinds of Federal entities.
Look at the Energy Department, look at the Education
Department. They have become large bureaucracies over the years
since we've implemented them.
And, last, I would say that the precedent of Federal
supervision isn't necessarily encouraging. We've had long-term
capital management, we've had the savings-and-loan crisis,
we've had BCCI, which was another bank, we've had, even as
recently as a year or two ago, a bank in Chicago, Superior
Bank, for instance--I believe it was Superior--going under. So
the entire record of Federal supervision isn't all that
stellar, I'm afraid.
Senator Hollings. Well, I think you hurt your credibility
when you say that 50 state systems would cost less than one
Federal system.
But, in any event, you're right, we went into the savings
and loan, we cleaned up BCCI. But here, as witnesses say, they
need regulation. We've got the GAO report, and everybody says
let's get Federal regulation for licensing, file-and-use forms,
yes, that it would be an improvement to have the option, at
least the option, of a Federal system. They don't talk about a
big Federal bureaucracy and everything else of that kind.
They're asking, the majority of the witnesses, for Federal
regulation and the option.
But, you're right, the automobile insurance market went
down in California. And if there's one place where the
automobile predominates, that's in state of California, and you
and I know what troubles we've had with automobile insurance.
When you say it's a different market, ours was lousy, until you
came along. You helped clean it up.
But I can tell you right now, the California market has got
a stellar record. What's wrong with the California record?
Ms. Csiszar. My understanding is that the numbers on the
California record--and I would defer to some of the
associations--but the numbers that I've seen, the price--the
lower prices are largely as a result of not having seen any
increases in earlier times, as I understand. And in other
cases, in other states, you would have those increases. Now, I
don't have the numbers at my fingertips, but I do know that
that is one of the interpretations that one can take. With
respect----
Senator Hollings. Mr. Heller, do you want to comment on
that?
Mr. Heller. Certainly, Senator, if you don't mind. I mean,
in a sense that's true. In California, prices weren't
increasing, while they were around the nation, but that's
because of the regulatory regime. In California, prior to
Proposition 103, auto liability rates were the second-highest
in the Nation. Now that has declined, and California's rates
are lower than the national average, because the commissioner,
under Prop 103, ordered the reduction of rates because they
were excessive.
Now, in--there have been times when rates have gone up
slightly in California because that was appropriate, and that's
the key to regulation, and this is why I suggest that Ms.
Csiszar has--I think was off in the point that you don't allow
rates--that rates stay frozen. They don't necessarily have to
stay frozen; they stay appropriate, and that's what's good for
the market. So if there's a need for an increase, the
commissioner is obligated to allow it, and that has happened.
In 2000/2001, California auto rates did go up by 3.3
percent, because that's what the market needed, that's what
consumers needed, and that's what the industry needed. But you
don't see the wild swings, as we've seen recently in medical
liability or in homeowners insurance, where rates go up 15, 30
percent at times, because the market is trying to self-regulate
and follow the economy.
So, yes, rates went down in California, but they went down
because Prop 103 imposed regulation on the system, and it's
what was expected.
Senator Hollings. Thank you, Mr. Chairman.
Senator Sununu. Thank you, Senator.
Mr. Csiszar, I think it was Mr. Berrington who indicated
that there are over 300 different state rate review laws, and
he said something over 200 different form review laws. Is that,
in fact, the case? And is that really a good and a healthy
thing for efficient and competitive markets?
Mr. Csiszar. Each state, of course, admittedly has its own
way of reviewing products and reviewing rates, and it varies by
line, so I don't know the exact number that it would be, but
certainly the 50 states and the District of Columbia have
different regimes, so they vary.
I think the answer, and what we're looking for at the NAIC,
is--we understand the need for greater uniformity. There's no
question about that. And, in fact, the reforms that we're
advocating all move toward that greater uniformity. And I think
what we're looking for is a system whereby you have a much
greater coordination among the states than we've had in the
past, across all areas. And let me give you an example.
When we had the problems in the early 1980s and mid-1980s,
one of the systems we came up with was on the financial side,
and we came up with an accreditation system. And by virtue of
that accreditation system, for instance, now we defer to the
domiciliary state in terms of the solvency regime that we have
in place.
Now, what I'm suggesting is that there are ways of
resolving the costs that you imply if you say you have all
these systems. Given that we are trying to bring those into a
more uniform, more homogenous state, I would say that, with the
accreditation system, for instance, you have an example of how
that can be done at the state level. The Federal level is not
the only answer, in terms of making it more efficient and
making it more effective, if you will. I'm suggesting that the
states can do the same thing in a more coordinated manner,
whether it be through some accreditation system or another form
of coordination.
Senator Sununu. Well, there is discussion of the Interstate
Compact. I think that's what you're alluding to. It was
formally adopted by the NAIC a couple of years ago. How many
states have signed onto the compact?
Mr. Csiszar. I might wish to correct you on the 2 years
ago. The adoption really was--it was actually earlier this
year. And part of the reason was, we had agreed on a model, and
then the Attorney General has commented on it, consumer groups
came back with some comment, so it really wasn't until very
recently that we adopted it. Since then, NCOIL and NCSL have
both come out in support of that. So the whole process of
implementing that compact is really going to occur within the
next state legislative session from state to state.
Senator Sununu. So you think things are really going to
change. It's been a slow, painful----
Mr. Csiszar. I think----
Senator Sununu.--dragged-out process----
Mr. Csiszar.--I think we can make a change----
Senator Sununu.--but things are about to change.
Mr. Csiszar.--and I--you know, as I said, you know, and
I've been criticized for it, but I welcome this kind of
opportunity, in a sense, because it does put pressure on us to
change. And I don't think that's necessarily bad. But I think
that that pressure to change, between that pressure--between
that and the willingness of commissioners to set an example, in
some instances--for instance, in South Carolina, we've made it
much more difficult, by implementing our automobile system, for
other states to say that that system can't work. So I think
between that, between setting examples, between pressure by the
industry, we--it can change, and it will change. And we know
there's a limited amount of time. It can't take forever.
Senator Sununu. Mr. Hunter, Mr. Csiszar talks about
uniformity and the move to uniformity. Do you think
uniformity--that movement to uniformity at the state level--is
anti-consumer?
Mr. Hunter. It doesn't have to be. It can be, obviously, if
you gut needed regulations. You know, the fact that they have
300 rate approaches is not necessarily surprising, because they
have several lines of insurance with different needs, that, if
you divide by 50, it's about six rate approaches per state, if
that's right. I mean, life insurance has no rate regulation.
That's one approach. Some have file-and-use, some--and as I
pointed out in my testimony, there is a reason for different
rate approaches for different lines of insurance. Some lines of
insurance absolutely have to be regulated, because they're
anti-competitive lines of insurance, like the assigned risk
plan or something like that, where everyone agrees it's not
competitive; it has to be regulated. Other lines should not be
regulated at all, and then there are degrees in between,
depending upon the situation, how informed the consumer is, and
so on.
So there are ways to get uniformity within the states, but
that doesn't mean there wouldn't still be different approaches
to different lines of insurance.
Senator Sununu. You also mentioned speed to market in your
testimony.
Mr. Hunter. Yes.
Senator Sununu. Do you think efforts to accelerate speed to
market is anti-consumer?
Mr. Hunter. No. In fact, I worked very hard at the NAIC
level. When I was a commissioner and after I left as a funded
consumer rep at the NAIC, we met almost weekly for a whole year
to work out a system of speed to market that would get products
and prices approved within a 30 day timeframe that we agreed to
that would eliminate all these funny, odd rules in individual
states. We agreed to that. We helped work through all that.
Consumers do not want inefficient regulatory systems.
However, when it comes to the point of gutting protections
which are going on right now, that's where we say no.
Senator Sununu. You suggested that even an optional Federal
charter would result in a race to the bottom.
Mr. Hunter. Yes.
Senator Sununu. I think that was the phrase you had used.
Mr. Hunter. Yes.
Senator Sununu. We effectively have an optional Federal
chartering system for banks.
Mr. Hunter. Yes.
Senator Sununu. We have state chartered banks, Federal
chartered banks.
Mr. Hunter. Yes.
Senator Sununu. Has that resulted in a race to the bottom
in the banking industry?
Mr. Hunter. Yes.
Senator Sununu. Would you support--if we repeal the
antitrust provisions, antitrust protection, for insurers,
either at the state level or by Federal legislation, would you
support the elimination of price controls?
Mr. Hunter. Depends. Depends on the line of insurance and
what else is in place. Do you have an informed consumer? Are
there systems of consumer information? Is it really a
competitive market? You have lines of insurance, like credit
insurance, that absolutely have to be regulated----
Senator Sununu. Right.
Mr. Hunter.--regardless of whether there's an antitrust law
or not.
Senator Sununu. Mr. Ahart, we were just talking about speed
to market. Your association has a number of proposals that are
out there. Could you maybe speak to the issue of speed to
market and how your proposals would improve and affect speed to
market?
Mr. Ahart. Sure. We would actually have Federal legislation
which would be adopted which would preempt state rights. On
forms, it would allow file-and-use, and then you'd file the
form 30 days prior, the state would have the right to reject it
within that 30 days. If it was approved or they've done--they
did nothing with it over 30 days, then it would be deemed to be
approved, and they'd be able to use it. So that would clearly
speed up the issue of forms.
On rates, we would actually look for just the marketplace
to take control and just file-and-use without--unless those
areas are uncompetitive, and then the state would still
regulate them.
Senator Sununu. Can you quantify the kind of impact that
you think or would hope that this would have on speed to
market?
Mr. Ahart. I don't know what you mean by quantify, except
that all I can say is----
Senator Sununu. What's the average speed to market in a
given state?
Mr. Ahart. Oh, it can take----
Senator Sununu. What's the average speed----
Mr. Ahart. Right now it can----
Senator Sununu.--to market nationally?
Mr. Ahart. Sure.
Senator Sununu. How would it affect the speed to market,
either as a percentage or a reduction in months, weeks----
Mr. Ahart. Absolutely.
Senator Sununu.--days?
Mr. Ahart. It can take up to 18 months now to get new
products formed. And, at times, companies put in new forms or
rates, and actually so many years go by, where they just ignore
them and don't do anything with them anymore and try to do a
new product, so that opportunity has been missed, where this
would actually do everything within 30 days.
Senator Sununu. But you haven't set a specific goal with
your legislative proposal that you want to reduce time to
market by 3 weeks or by 10 percent or by 30 percent?
Mr. Ahart. Well, it would----
Senator Sununu. Do you----
Mr. Ahart.--reduce everything----
Senator Sununu.--try to quantify----
Mr. Ahart.--to 30 days. So, I mean, and all those ones--I
don't think there's anything out there that is quicker than 30
days. There are ones out there that take 18 months, there are
ones out there that take forever, and so it would----
Senator Sununu. Fair enough.
Mr. Ahart.--quantify it that way.
Senator Sununu. Why don't I defer to Senator Nelson and
then we'll have a second round.
Thank you.
Senator Nelson. Thank you, Mr. Chairman.
All the old memories come back.
[Laughter.]
Senator Nelson. And you all have been an excellent panel.
You've presented, most articulately, the questions in a
changing environment in which change is needed.
Now, I approach this from the standpoint of--for a product
that is essential for the functioning of our society, which
insurance is, how can you best produce a product that is the
most efficient at the least cost with the least amount of fraud
that is an environment in which companies can offer a decent
product and make a good living?
So, naturally, I'm going to ask the questions about the
protection of the consumers and providing a healthy
marketplace. Our experience in Florida--for example, with
homeowners--was one of the most disrupted marketplaces in the
world, of which the government had to step in, create quasi-
governmental insurance companies to take up the slack when the
insurance companies fled the state because of the massive
losses from the most costly natural disaster in the history of
the country to that point in insurance losses, Hurricane
Andrew.
And yet the government wasn't going to be what was solving
it. That was just temporary. What was going to solve it was to
nurture that private marketplace back to life, to health, so
that it could supply the product, in this case, of homeowners
insurance.
So how do we blend all of this together? How do we get
balance?
Now, let me ask a couple of questions here. First of all,
I'm concerned, Mr. Csiszar, that the National Association of
Insurance Commissioners, which had performed a magnificent
service in the past, I'm concerned that it has lessened,
because of the duration of an insurance commissioner's term,
its ability to represent the best interest of consumers. Let me
ask you, what is the average time that an insurance
commissioner in a state is in office?
Mr. Csiszar. I think you need to talk to George Dale, Mr.
Nelson, I think George is the longest-serving commissioner----
Senator Nelson. That's not the question. The question is,
what is the average time?
Mr. Csiszar. Probably one Governor's term.
Senator Nelson. To the contrary. It's less than one year,
the average time.
And where does that insurance commissioner usually come
from, Mr. Csiszar?
Mr. Csiszar. Not always from the industry or with the
experience from the industry. Oftentimes from a political or a
legal environment.
Senator Nelson. Usually that insurance commissioner is
appointed because that insurance commissioner has knowledge of
insurance and he comes from the insurance industry.
And at the end of his term, in less than an average of 1
year, where does that insurance commissioner, when he or she
leaves public service, where do they go?
Mr. Csiszar. I think the record there is that they do tend
to go back to the industry or, in some shape or form, go to the
industry.
Senator Nelson. And that's my concern. And that leads me to
want to support an approach like Senator Hollings' approach,
because not only of Gramm-Leach-Bliley--and, by the way, the
U.S. Supreme Court case was--I guess it was Barnett Bank versus
Bill Nelson. I was the one standing up for the insurance
industry. I happened to be insurance commissioner at the time,
inherited a case that had come--had started before my term. But
on a technical reason, with a unanimous U.S. Supreme Court,
they decided that, for technical reasons, the early in-the-
century law said that banks could do insurance business. And so
that led, ultimately, to enormous changes, that led to Gramm-
Leach-Bliley. Enormous changes have occurred, and here we are.
Now, let me ask Mr. Hunter, you, I think, want some Federal
participation here. It's the Federal charter that you're
concerned with. Tell us about that.
Mr. Hunter. Commissioner--I mean, Senator.
[Laughter.]
Mr. Hunter. Well, you know, I've been an insurance
commissioner, too, and I have, in my entire life, supported
state regulation. And, as I say in my written testimony, I'm at
a crossroads. I think state regulation is failing.
Now, I think CFA and I are going through a process, and I
think we're going to come out that we support a Federal
approach, like Senator Hollings, over and against the state
approach, but we would not support a dual charter. We don't
like that idea. But we would support a Federal approach that
would be ``the'' approach for at least some of the companies,
perhaps along the lines of the Hollings approach, which I think
makes sense.
But we have not finally crossed the Rubicon. We're having
meetings with other consumer groups that are coming up. We're
having a major summit of consumer leaders and others coming up.
And that's going to be the primary question, are we going to
move it toward abandoning our--my lifelong support of state
regulation, which is hard. It's hard. It's, sort of, like
leaving a church or something, you know. It's a difficult
process.
Senator Nelson. It's been difficult for me, too.
Mr. Hunter. But I am----
Senator Nelson. Because I saw how it could----
Mr. Hunter.--I am at the Rubicon, you know.
Senator Nelson.--I saw how it could work, but I've also
seen the flaws of how it doesn't work.
Mr. Hunter. And I think, you know, to the--the Gramm-Leach-
Bliley is only part of it. It's this massive giving away--a
willingness to give away consumer protections over the last few
years in order to preserve the turf, instead of saying, ``Well,
we'll preserve the turf by being strong and protecting
consumers,'' which is what they should have done, in my view.
Senator Nelson. Mr. Chairman, may I ask two more questions,
just so I--I'm kind of, you know, in a groove here----
[Laughter.]
Senator Nelson.--and I'd like to continue.
Mr. Berrington, you represent an association of which your
leader, the president, Bob Bagley, is a friend, we've worked on
things. You support a Federal charter, but there are many other
associations that don't support the Federal charter. Tell me
about that.
Mr. Berrington. There are other trade associations in the
property-casualty business that have different views. I think
all of them recognize the problems that have been set forth
this morning with regard to the current state of state
regulation. And with--those organizations ought to speak for
themselves, of course, but I know that there are companies
within those organizations which are moving toward the idea of
a Federal charter, an optional charter, with the rights kinds
of standards--strong consumer protections----
Senator Nelson. Yes.
Mr. Berrington.--and a competitive-based----
Senator Nelson. Do you support----
Mr. Berrington.--regulatory system.
Senator Nelson.--the Hollings bill?
Mr. Berrington. We have some difficulties with the bill.
First, the bill----
Senator Nelson. I don't want to get----
Mr. Berrington. I'm sorry.
Senator Nelson.--into all the details.
Mr. Berrington. No, it----
Senator Nelson. If you would submit it for the record.
You're inclined to look at it, but you don't necessarily
support it. Is that it?
Mr. Berrington. We don't support the prior-approval
regulatory regime, rather than an Illinois-type of competitive
regime.
Senator Nelson. How about you, Mr. Rahn?
Mr. Rahn. No. From the life insurance perspective, the
approach that's taken in Senator Hollings' bill would not
really work for us. The bill has been crafted primarily to
address the property and casualty industry, and there would
need to be accommodations made to address the life industry.
We also feel very strongly that there should be an option,
that there should be an ability for the states to have a say,
and insurance regulation to have two competing systems, and
then to also allow companies, depending on their business, mix
of products, and other things, to have that option.
Senator Nelson. OK. Let me move on----
Mr. Rahn. All right.
Senator Nelson.--because of the time here.
Final question is, Do you think--the Hollings approach, as
I understand, does have the regulation of rates at the Federal
level.
Mr. Berrington. Right.
Senator Nelson. What's your opinion about whether or not a
Federal panel can do regulation of rates?
Mr. Berrington. Our view, Senator, is that there should be
no rate regulation, that it should be a competition----
Senator Nelson. You would----
Mr. Berrington.--like the Illinois----
Senator Nelson.--like to have no rate regulation.
Mr. Berrington. That's--and we're prepared to give up the
antitrust exemption to get that. The proposal, the Prop 103
approach, which is what's used in 24 other states----
Senator Nelson. Yes.
Mr. Berrington.--has not been the cause of lower rates in
California----
Senator Nelson. Well, let me just----
Mr. Berrington. So we would hope--we would suggest a
different regulatory regime.
Senator Nelson. I understand. And I'll tell you, it's going
to be a long day before I can get to that point, because in the
aftermath of Hurricane Andrew, when I was looking at rate
increases of 200 percent, and I was the only thing standing
between those rate increases and the consumer, there just
simply is going to have to be some rate regulation somewhere in
the process.
Mr. Chairman, thank you for your indulgence. I think,
again, just--this is an excellent starting point. I think the
Hollings bill is an excellent starting point. I think we can do
some blending of ideas here. Market conduct, I think, in large
part's got to be done at the state level, but this is the
beginning of seeing if we can get some consensus. But, in this
industry, Mr. Chairman, getting consensus on anything----
[Laughter.]
Senator Nelson.--is very difficult to do.
Senator Sununu. Thank you, Senator Nelson.
Mr. Berrington, I do want to give you a chance to just
respond to the question, in the interest of fairness, regarding
why you would be supportive of the optional charter proposal
you talked about in your testimony and questions here, and what
your concerns would be about the mandatory regulatory structure
proposed by Senator Hollings.
Mr. Berrington. Thank you, Mr. Chairman.
We think the optional approach is one which is most likely
to get consensus in the industry ultimately, because there are
companies with different needs. Smaller companies have more
comfort with a local regulatory regime. Certainly for national
companies or large regional companies, the Balkanization that
has occurred at the state level adds cost and is difficult to
do.
We believe that the Federal approach, for those who choose
it--let me come back to it for a moment, if I might--would be
one that would have very tough consumer protections--it is not
to the benefit of any our member companies that there not be
tough consumer protections--tough financial regulation, so that
we don't have the kinds of stresses going forward in the
guarantee fund system that we have today, but one would that
would, quite frankly, utilize competition for the establishment
of rates.
There's been much talk this morning about Prop 103, and the
conversation about Prop 103 has been basically in the context
of automobile insurance. But Prop 103 really related to all
insurance except workers' compensation. And the--what it did
do, Senator Hollings, because your bill follows that approach--
what it did was to take, as a rate regulatory approach,
something which is called a prior-approval system with a
deemer. That's insurance talk. Commissioner Nelson certainly
recalls that, and you may well, from your days as Governor. But
basically the approach that was taken by Prop 103 was already
the law in 23 other states with regard to workers'
compensation.
The changes that have resulted in California automobile
insurance rates coming down have had nothing to do with Prop
103. Indeed, the rates did not begin to come down until six or
seven or 8 years after Prop 103 was passed.
But what things happened during the interim? Among other
things, California passed a very tough seatbelt law. We all
know that the greater the use of seatbelts, the lower the
injury levels there are in accidents. It also passed
legislation which stopped the subsidization of high-risk
drivers by those in the regular market. That brought rates down
dramatically, as well. It took other reforms. And as those
began to work through the system, they brought rates down.
But as Senator Lautenberg said earlier today, New Jersey
has had some of the highest rates of auto insurance in the
country. They had almost exactly the same prior-approval system
that California had. The difference, I think, should be drawn
not between California and the rest of the country, but between
California, which does not rely principally on competition for
rate regulation, and Illinois, which does, and has for decades.
Let me just show you quickly a chart. This is homeowners
insurance, which is also regulated by Prop 103. Here is the
comparison between homeowners insurance rates in California and
in Illinois from 1991 through the year 2000, just after Prop
103 got its legs, so to speak. In every year, homeowners
insurance rates in Illinois, also a state with substantial
population density and rural areas, has been 40 percent less,
approximately 40 percent less, than what they pay in
California. If Prop 103 were the magic elixir, why didn't it
bring down rates with regard to homeowners insurance to the
same level as Illinois?
Senator Sununu. Mr. Berrington, you're welcome to submit
that for the record, and I'll give you a minute to conclude
your answer.
Mr. Berrington. Sure.
Senator Sununu. But I just want to note that we'll go to
Senator Hollings after the conclusion of your answer to my
question.
Thank you.
Mr. Berrington. Thank you very much. I appreciate the
indulgence.
And I would also like to submit for the record the
California auto insurance premium chart, which, as you can
see--this is Prop 103, and the rates didn't start to come down
until many years after that, and in every----
Senator Sununu. Without objection.
[The information referred to follows:]

Myths and Facts about California's Proposition 103, Insurer
Investments, and Workers' Compensation Reform

In recent testimony before the Senate Committee on Commerce,
Science and Transportation, Douglas Heller (Foundation for Taxpayer and
Consumer Rights) and Robert Hunter (Consumer Federation of America)
made claims about the purported benefits of California's Proposition
103 (''Prop 103''); insurance company investments; and the impact of
various reforms on California's workers' compensation system.
We do not believe their claims have merit, but since their long-
term agenda includes trying to federalize a Prop 103-type insurance
regulatory system, it is critical that policymakers understand the
nature of Prop 103. In addition, their erroneous assertions about
insurer investment practices and how rate regulation reforms affected
California's workers' compensation system should not be allowed to go
unchallenged. Therefore, set forth below are myths and facts about each
of these issues.

I. Myths about Proposition 103
Myth: Prop 103 saved the California auto insurance market through
its prior approval regulatory structure.
Fact: While everyone agrees that the California auto insurance
market improved dramatically, it was not due to Prop 103. Prop 103 set
up a government-centered price control system for insurance, in
contrast to market-based rate regulation. Numerous academic studies,
have demonstrated conclusively that states with prior approval
regulatory regimes have more significant problems in their insurance
marketplaces than states that allow free market competition.
In fact, the California auto insurance marketplace improved because
of other factors (e.g., lower liability costs, improved fraud
detection, and greater public safety) and in spite of Prop 103. It is
critical to underscore that substantial premium savings did not occur
in the auto insurance market until nearly eight years after Prop 103
had been approved. During those years, other policy changes that
impacted accident rates, loss costs and the claiming environment were
being implemented. All of those had a meaningful and positive impact on
the auto insurance market.
Myth: Since Prop 103 was successful in California, it should be
used in other states and nationally.
Fact: As stated previously, Prop 103 did not stabilize or improve
the insurance market in California. Its essential regulatory mechanism
(price controls) has failed in states that use it. Moreover, if Prop
103 had been good for insurance markets and consumers, it also would
have helped the homeowners insurance market in California. In fact,
average homeowners premiums in California in 2000 were 44 percent
higher than in Illinois, a state which has market-based regulation and
price flexibility. As the attached chart shows, California's homeowners
insurance premiums were consistently higher than those in Illinois
during the 1990s.
Those offering Prop 103 as ideal regulation fundamentally
misrepresent both insurance and economics. The prices consumers pay for
insurance (premiums) are generally based on the underlying claims costs
associated with their policies. Consumer advocates incorrectly argue
that auto insurance premium decreases following Prop 103's passage were
due to its ``rate rollback'' provisions, rather than the more obvious
explanation: that the decreases were a direct response to declining
loss costs.
Myth: Arguments that substantial decreases in claims costs in
California, rather than Prop 103's price regulation, were responsible
for reducing auto insurance premiums in California are subjective and
just insurance industry ``spin.''
Fact: In addition to the overwhelming academic research on the
destructive effects of price regulation on insurance markets and
consumers, there has been empirical analysis specifically on Prop 103
and the California auto insurance market. David Appel, Ph.D., a
principal with the actuarial firm Milliman, USA, and one of the
Nation's foremost scholars on insurance regulation and an expert in
actuarial science, analyzed the specific claims of alleged benefits of
Prop 103. His carefully specified econometric analysis \1\ of the
California experience indicates that Prop 103 had no statistically
significant impact on California loss costs. Put simply, factors other
than Prop 103 brought claims costs-and premiums--down.
---------------------------------------------------------------------------
\1\ An Analysis of the Consumer Federation of America's ``Why Not
the Best?,'' David Appel, Milliman, USA, December 2001.
---------------------------------------------------------------------------
So what brought loss costs down?

Fundamental changes in the tort system: A court decision in
1979 (Royal Globe) unleashed an onslaught of litigation in
California courts, both for auto liability claims as well as
other liability claims. Between 1980 and 1987, California
Superior Court auto liability claims filings increased 82
percent. In addition, average claim severity quadrupled,
leading to dramatic increases in auto liability insurance
costs--and premiums--in the state. In 1988, the year that Prop
103 passed, the California Supreme Court overturned the Royal
Globe doctrine (in Moradi-Shalal); the court even acknowledged
the ``undesirable social and economic effects of the [previous]
decision . . . [such as] excessive jury awards, and escalating
insurance, legal, and other 'transactions' costs.'' This
dramatic change in the legal environment was a significant and
crucial factor in reducing claims costs in California.

Policy initiatives on safety, fraud, and excessive claiming
behavior helped to reduce loss costs as well: Seat belt usage
increased substantially and the blood alcohol standard for
driving under the influence of alcohol (DUI) was reduced to
0.08 percent in 1990. None of these changes were part of Prop
103, and all of them occurred wholly separate from Prop 103.
Moreover, the enforcement of DUI laws intensified; this
resulted in the number of DUI-related claims dropping
substantially, by about 60 percent through the 1990s.

The California legislature also passed laws (e.g., SB 953 in 1991)
that aggressively cracked down on fraud and excessive claiming
behavior. Additionally, there were dramatic increases in the
California Department of Insurance anti-fraud budget. As Appel
notes in his analysis, by 1998, the empirical factors actuaries
use to measure fraud and claiming behavior (e.g., the Bodily
Injury to Property Damage ratio), which had been 2.3 times
higher for California in 1992, dropped to rough parity with the
rest of the Nation by 1998.

The effect of these initiatives was dramatic, Appel determined.
Average claim cost growth slowed substantially in California,
compared to the rest of the Nation, and the slowdown was
particularly greater for liability-related coverages than for
physical damage and theft coverage, which would be expected
given the positive changes in the litigation environment.

Myth: Even considering other factors, Prop 103 did no harm to
California's insurance market.
Fact: The Appel econometric analysis showed that California
consumers could have saved in excess of $10 billion from 1989 to 1998
had market based pricing been permitted to function in the place of
Prop 103's price controls. Appel notes that the post-Prop 103
regulatory environment in California was likely to induce insurers to
defer reductions in premiums in response to declining costs. Why?
Because they feared that regulatory ``rigidity'' would not allow them
to raise premiums if costs rose again in the future. By interfering
with market forces, and the ability of insurers to compete in that
market by raising or lowering premiums in response to changing costs,
Proposition 103 was, and continues to be, detrimental for consumers.
Myth: The antitrust exemptions provided to insurers are anti-
competitive and allow companies to set prices collusively rather than
compete against one another. The industry can act in concert to raise
prices at a future date. Without the antitrust exemption, insurers
would need to price more reasonably and based on their actuarial needs
because they would not be assured of the higher future prices that
collusion allows.
Fact: Setting aside for the moment the fact that insurers do comply
with antitrust laws, this scenario does not accurately portray how
companies operate in the marketplace. From an economics perspective,
the idea that firms collude together, even tacitly, in a competitive
market--and the insurance market is very competitive--by acting in
concert to raise or keep prices higher than warranted by actuarial
standards is not borne out by either real world experience or economic
theory. In order to succeed in the market, insurers must keep premiums
as low as possible in order to keep their customers from shifting their
business to another insurer. Any attempt by a company to keep prices
artificially high in order to gain additional profit would allow that
company's competitors to increase their market shares by merely
lowering their prices.
Premium data for California indicate that insurers were reluctant
to significantly lower prices in auto insurance until 1996--eight years
after Prop 103 was passed and when it was clear that the favorable loss
trends generated by non Prop 103 factors (discussed elsewhere) were
substantial and relatively permanent. In a market-driven system,
insurers would have been free to raise and lower prices as needed,.
Myth: Prior to Proposition 103, auto insurance premiums in
California rose dramatically each year. The average auto liability
premium dropped 22 percent in California between 1989 and 2001 while
premiums throughout the rest of the Nation rose 30.2 percent.
Fact: As detailed above, auto liability insurance premiums dropped
substantially in California because of the favorable changes in the
litigation environment, improving safety and reduced fraud, not because
of Prop 103. Two trends explain both the drop in California's auto
premiums and the simultaneous rise of such premiums in the rest of the
country. First, until 1989 and the legal decisions and policy changes
that resulted in decreasing liability costs, California was a
litigation nightmare for insurers. Since then, costs (and premiums)
have dropped to about the national average. Second, the overall
litigation environment in the Nation has worsened in recent years, thus
becoming more costly to both insurers and consumers as a general
matter.

II. Insurer Investment Practices
Myth: Insurers have foregone their traditional conservative
investment philosophy and strategies for maintaining reserves (in order
to pay future claims payments) in favor of riskier stock market and
other exotic investment products.
Fact: The property-casualty insurance industry invests very
conservatively, putting a large majority (ranging from 66-71 percent
over the last decade) of its investments for future claims payments in
U.S. government, municipal, special revenue, and public utility bonds.
While there was a slight increase in the proportion put into common
stock during the 1990s, investment in highly stable bonds still
continues to dominate property-casualty insurance. The percentage
invested in common stocks grew from 16.1 percent in 1991 to 20.8
percent in 2001, when property-casualty insurers held 66.1 percent of
their $782 billion total investments in bonds. By being one of the
largest investors in state, municipal, and special revenue bonds, the
property-casualty insurance industry not only exhibits stable and
conservative stewardship of funds for claims payments, but also makes
major contributions to the public infrastructure and economic
development of local communities and states.
Myth: Property-casualty insurers lost substantial amounts of their
investment portfolios in such stocks as Enron, WorldCom, Tyco, and
volatile high tech/dotcom stocks such as AOL, Cisco, JDS Uniphase and
others. Losses in these stocks by some insurers constitute evidence of
risky investment behavior on the part of property-casualty insurers and
are the cause of recent insurance price hikes.
Fact: This is patently false. Important and well-known factors,
such as World Trade Center terrorism losses, water damage and mold
claims, and natural disaster losses, have dramatically increased
insurance losses in recent years, and have led, in turn, to increases
in insurance prices. In addition, rising liability insurance losses
caused by an aggressive lawsuit industry have greatly destabilized the
insurance marketplace.
In recent testimony, one group tried to suggest that $37 million
insurers lost from the bankruptcy of Enron was responsible for premium
increases. Insurers were not the only ones who lost money because of
the Enron scandal. Millions of investors, and sophisticated mutual
funds, brokers, and pension funds lost billions. However, relative to
the $782 billion that property-casualty insurers invest annually, the
Enron losses represent less than one thousandth of one percent (.005
percent) of annual investments. Even when other losses such as those
from WorldCom are included, the overall impact is trivial as a
percentage of overall investments. This group also failed to
acknowledge that many of the other stock losses cited may eventually be
recovered as those companies' financial conditions improve. Because
insurers are most heavily invested in less volatile bonds, they can
often wait to recover some losses on stocks, since stocks comprise
about one-fifth or less of the industry's investments.
Myth: A Proposition 103-style prior approval state regulatory
system will result in less risky investment practices on the part of
insurers.
Fact: As previously highlighted, investment practices are already
very conservative in the property-casualty insurance industry and
covered by solvency regulation, industry best practices, and state
laws. The addition of a Prop 103-type regulatory system would not
improve investment practices or solvency regulation because the major
focus of Prop 103 is command-and-control price and product regulation.
Prop 103 could threaten the efficacy of solvency regulation by
channeling resources and focus away from the kind of oversight and
enforcement functions that truly benefit consumers and form the
foundation of a financially healthy insurance market. A regulatory
system that relies on competition, state and Federal antitrust
provisions to regulate prices and products, on the other hand, can
concentrate resources and expertise on solvency and market conduct
regulation, ensuring the viability of the insurance marketplace.
Myth: Insurance companies make all of their profits off of
investments and routinely expect to lose money on underwriting.
Fact: This statement is palpably untrue. As a general matter
insurers attempt to price products so that a reasonable profit can be
generated from the insurance operation itself. Property-casualty
insurance is a highly competitive business with over 1,100 major
insurer groups representing nearly 4,000 companies. As such, there are
differing assessments of the correct balance of underwriting and
investment profit. In an environment where investment returns allow for
a premium to be decreased, the competitive marketplace may result in
those reductions. This may vary by line of insurance, with some
insurers electing to consistently make underwriting profits in every
line of business they write.
Myth: Insurers resort to a ``tort reform'' strategy whenever
interest rates decline and the investment environment becomes tougher.
Fact: Property-casualty insurers are the biggest players in the
U.S. tort system. As such, the industry seeks tort reform not as a
convenience, but because reform of the tort system will result in
decreased litigation costs. Because of the steady increase in class
action lawsuits, the aggressiveness of the trial bar in asbestos,
medical malpractice, product liability, and even new areas, such as
obesity, claims costs have soared. When insurance losses increase
because of these rapidly rising liability losses tort reform is urgent
and must remain an important goal through periods of both good and bad
environments for underwriting and investments.
Myth: Tort reforms never result in a stabilization of insurance
costs and premiums and are used by insurers as a ruse to hide their
poor results in investments.
Fact: Substantial tort reforms in the late 1980s in many states,
following a major escalation in the frequency and severity of lawsuits,
did lead to a marked stabilization of liability insurance costs and
premiums that lasted through much of the 1990s. Tort reform was a key
factor in producing more stable insurance prices, and, along with
robust competition among insurers and good investment results, resulted
in billions of dollars in savings for commercial and individual
consumers during the 1990s. There is simply no getting away from the
fact that underlying claims costs are the major part of insurance
premiums, and to the extent that tort reform can reduce fraud,
questionable and exaggerated claims, and novel lawsuits, it can
significantly help to keep claims costs--and premiums--in check.

III. California Workers' Compensation
Myth: Workers' compensation has not been as profitable in
California as it has been nationally because of price deregulation in
1993. Because of ``deregulation,'' the California workers' compensation
system is currently in crisis because insurers became foolish, engaged
in cut-throat competition, and underpriced their products.
Fact: There are numerous inaccuracies in the above claims.
Regulatory modernization, brought about by a more market-driven rating
law for workers' compensation in 1993, saved California businesses and
consumers billions of dollars in the first six years following
implementation. The 1993 reforms repealed the so-called ``minimum
rate'' law, through which the government established the final price of
workers' compensation insurance and thereby prevented workers'
compensation insurers from giving employers greater choice of carriers.
By enacting a more modern rating system, California eliminated a rigid
government price setting mechanism, thus finally allowing some price
competition in the workers' compensation marketplace. However,
California did not relinquish its authority to prevent workers'
compensation rates that were ``inadequate.'' Thus, if at any time
California regulators thought that an insurer's rates were in fact
``inadequate,'' the regulators had the right and the responsibility to
reject that rate.
Rather, the problem with the California workers' compensation
system is an absence of system controls over medical treatment costs
and payments for lost wages, combined with a hyper-complex statute
generating a high level of dispute and litigation. Average ultimate
loss per indemnity claim in California has more than doubled in the
past 6 years--from $25,849 in 1996 to $52,142 in 2002.
Although workers' compensation reform was a significant issue in
the recent campaign to recall Governor Gray Davis and election of the
new Governor, it is telling that none of the major candidates advocated
a return to price controls or a Prop 103-type regulatory regime for
California's workers' compensation insurance. Indeed, all pointed
correctly to system costs as the culprit.
Contending otherwise is merely an attempt by those with a stake in
keeping the current dysfunctional system to change the subject.

American Insurance Association, December 2003.

Mr. Berrington.--and in every single year, Illinois auto
insurance rates, relying on competition, have been less than in
California.
Thank you for your indulgence.
Mr. Hunter. I'd like to also submit something----
Senator Sununu. Senator Hollings----
Mr. Hunter.--responding to that, if I could.
Senator Sununu. Without objection, Mr. Hunter, you'll be
allowed to submit whatever you'd like for the record.
[Mr. Hunter submitted the Consumer Federation of America
``Industry Comments on CFA Study of Insurance Regulation in
California'' available at www.consumerfed.org and retained in
Committee files.]
Senator Sununu. Senator Hollings?
Senator Hollings. Mr. Berrington and Mr. Rahn both complete
your statements for the record, not just this minute, but fill
it out and submit it to the Committee, because I'm anxious to
find out what's the best way to do it. I've been looking at
it--incidentally, I've been the state fellow protecting state's
rights up there for so many years. And Mr. Csiszar, when I
changed insurance commissioner, I not only put him in there,
but I put a lot of Hollings people in there that got jobs----
[Laughter.]
Senator Hollings. You talk about Federal bureaucracy.
[Laughter.]
Senator Hollings. I filled up the state bureaucracy with
it.
[Laughter.]
Senator Hollings. I've been up here 37 years, and I haven't
gotten anybody a job at the FAA, the FTC, the FCC, the Defense
Department. Now, Strom did.
[Laughter.]
Senator Hollings. He knew how to do it. But I've been
faulted for not getting everybody a job. Every time I call over
to the Defense Department, they say, ``Well, let them fill out
the forms'' and everything else like that.
[Laughter.]
Senator Hollings. So I want that criticism, Mr. Rahn and
Mr. Berrington, but let's--incidentally, I organized the state
life insurance company, the state life. It was bought out.
Incidentally, I guaranteed insurance trusts before the
Securities and Exchange Commission before Manny Cohen, the
Chairman, in 13 days, and it still stands as a record, before
the Securities and--all you've got to do is take the water out
and all the fees out and all the racket out, and you can get a
good company. And so when I get out the year after next, Mr.
Berrington, I'll be looking you up, because you and I can
organize one and we can make money.
[Laughter.]
Mr. Berrington. So we both have life after this.
[Laughter.]
Senator Hollings. Really. It's a sure shot, man, that
mortuary table. You don't lose.
Mr. Hunter, what's your comment, please?
Mr. Hunter. Oh, I just was going to respond to Mr.
Berrington. I have been----
Senator Hollings. Will you, please?
Mr. Hunter. Well, I--we responded to all these points
before, and I wanted to submit for the record the fact that the
seatbelt use level has changed in every state. I mean, all
these arguments are just bogus. California Prop 103 worked. It
was--it's different than New Jersey, it's different than these
other states he points to. It was unique, and it had a huge
impact. When it became law, the rates were, like, $200 higher
than Illinois, and now they're almost even. So Illinois is no
great shakes. It hasn't driven rates down in Illinois.
Senator Hollings. Mr. Heller?
Mr. Heller. Yes, and, Senator Hollings, if I could just add
one point. Mr. Berrington did note that workers' compensation
was not covered by Proposition 103. In fact, in 1993,
California law deregulated, to open competition, the workers'
compensation market. And if anybody followed what happened in
the California gubernatorial recall, one of the big discussions
was a dramatic workers' compensation crisis in which every
single company has left the state. Our state fund, which is the
state-subsidized insurance fund, has 56 percent of the market,
and nobody else will sell policies. That's the one line that is
not covered by Proposition 103. It's the one line that was
subject to open competition, and it failed miserably.
Senator Hollings. I just don't understand Mr. Berrington's
comparison on property insurance, because Warren Buffett, he
says that he doesn't pay anything out there in California on
his multimillion dollar properties; whereas, in Nebraska he's
got a very modest home and he's paying a fortune. What's the
answer to that?
Mr. Berrington. Well, I think, Senator Hollings, although I
am--I follow California matters perhaps less than others, I
think Warren Buffett was talking about property taxes, not----
Senator Hollings: That's right.
Mr. Berrington.--in California----
Senator Hollings. He was talking about property taxes, but
they ought to sort of parallel the insurance rate.
Mr. Berrington. Well, he wasn't talking about insurance
rates, I don't believe, but----
Senator Hollings. No, I know he wasn't talking about
insurance rates, but common sense would parallel it. Do you
disagree?
Mr. Berrington. I'm not sure I follow. All I'm--the point
I'm trying to make is that homeowners insurance rates in
California have been much higher consistently with a prior-
approval regulatory system than homeowners insurance rates in a
peer state, Illinois.
Senator Hollings. Well, Mr. Chairman, let me thank you and
thank the panel. This has been an outstanding panel, and anyone
on the panel that has further submission that want to elaborate
on the points made, please do so. The Committee is anxious to
learn and put out the best product possible, because everybody
wants some Federal options or Federal regulations or licensing
or forms or whatever else, and I find out, in talking, whether
or not to give that option. As they said, ``For Lord's sakes,
don't give us two systems that we've got to conform to.'' One
bureaucracy, Mr. Csiszar, is enough, be it state or Federal.
And yet I'm hearing they want that Federal option.
So thank you very much, Mr. Chairman.
Senator Sununu. Thank you very much, Senator Hollings. And
perhaps before we close the record, we can find someone in the
Senate that can answer for those high insurance rates in
Nebraska.
[Laughter.]
Senator Sununu. Mr. Ahart, under your proposal, we would
have Federal statute that sets certain minimum standards in a
number of areas for insurance, but how would those standards or
those requirements be enforced?
Mr. Ahart. Yes. It would still be enforced on a state
regulation basis.
Senator Sununu. And what if the headstrong members of Mr.
Csiszar's organization don't agree with the statute, don't feel
comfortable adopting those standards?
Mr. Ahart. I mean, it would be Federal law, so, I mean, I
believe they would have to follow Federal law. But if for some
reason they wanted to challenge it, that's why they have the
court system, the same way they can challenge things now.
Senator Sununu. So there aren't--would there be specific
fines or penalties assessed on the states, or would it just be
a question of encouraging further litigation?
Mr. Ahart. Well, the--I mean, it could be drafted any way.
The bill really hasn't been completely drafted yet, so--I mean,
it's in the process, so things will all be looked at.
Senator Sununu. And are there other associations or
insurance companies that have lent their support to this
proposal, or is that something that you haven't done yet?
Mr. Ahart. No, we've actually met with a lot of people, and
I think we have a lot of support from different groups,
specific insurance companies, even in associations that support
Federal charters, that agree with our proposal and that believe
that a middle-of-the-ground proposal is the way to go.
Senator Sununu. So could you provide a list of----
Mr. Ahart. Sure, we'll provide----
Senator Sununu.--organizations, entities----
Mr. Ahart. Sure.
Senator Sununu.--companies that are supporting----
Mr. Ahart. Absolutely.
Senator Sununu.--the initiative, for the record, please?
Mr. Rahn. Mr. Chairman, could I respond to that, just----
Senator Sununu. Yes, please, Mr. Rahn.
Mr. Rahn.--on the life side?
You know, looking at it from the life perspective again, I
think that the minimum standards approach, we would consider to
perhaps be the worst place to start. In a sense, what it does
is it, from a state rights perspective, forces upon the state
certain things to happen. It could also allow the states to
adopt additional requirements on top of those minimum
standards, so you end up, again, with the lack of uniformity,
that our industry seeks. And it really doesn't address the
array of issues that need to be addressed. It's kind of a
piecemeal approach. So that is why, from our association's
standpoint, again, looking at it from the life perspective,
we'd prefer to see an optional Federal charter addressing all
those things rather than having just a minimum standards
approach.
Mr. Ahart. Can I just say that we don't--I mean, he's----
Senator Sununu. Please.
Mr. Ahart.--interpreting that we're supporting minimum
standards. We don't support Federal minimum standards. We
support Federal standards, for instance in the rates and
whatever. I mean, we've said what we support. It's not
considered to be minimum standards.
Senator Sununu. I appreciate the distinction.
Mr. Rahn, is it fair to say that your biggest concern is
speed to market?
Mr. Rahn. Well, it's clearly one of our biggest concerns. I
think there are two focuses that we want to look at.
If you look at how the life industry has changed, it's gone
from an industry that was pretty much considered not to be
interstate commerce to an industry that is very interstate
commerce and that is competing with other financial services
industries. So that when we go to market, clearly getting speed
to market is one of the key issues. But, in addition to that,
if you look at how our business is regulated, even though we're
state regulated, the tax writing and tax policy and pension
writing of Congress really decides what types of products we'll
have, what'll be available, how we go to the consumers. Once
those changes are made, we don't have a presence here in
Washington of a regulator that you turn to before those types
of decisions are made. So I think one of the key drivers for us
is having a regulatory presence.
In other words, when you're getting ready to consider tax
legislation or pension legislation, unlike the banking industry
or the securities industry, you don't have anyone to pick up
the phone to talk to, and I think that was dramatically shown
after 9/11 when there was not an insurance industry
spokesperson to go to to immediately answer questions that were
arising after that.
So speed to market is clearly one of the important aspects,
but there's a whole array of things, from market conduct,
Washington presence, and other things, that are important to
us.
Senator Sununu. Have the compact proposals put forward by
the NAIC addressed any of these concerns adequately,
particularly with regard to speed to market?
Mr. Rahn. Yes. The NAIC is clearly trying to address some
of these issues, but they're addressing it, again, on an
incremental basis, which is how, when you're having to deal
with over 50 jurisdictions, you're going to have to approach
it. But if you look at the interstate compact, you're looking
at a situation where we've taken 3 years to develop that
compact. There's a hope that within a few years, by 2008 or
2009, we might have enough states to have the compact
operational, and may have as much as maybe 60 percent of the
market. That's simply too slow. In the meantime, you know, our
industry continues to face competition and other things, so
while we support what the NAIC's doing, that slow, incremental
approach is not going to get us where we need to be, nor does
it address the presence issue.
Senator Sununu. Mr. Csiszar, along those lines, one of your
members--I have a wire-service report--was recently quoted as
saying, ``The current regulatory framework with each of the 50
states and the District of Columbia having individual licensing
setups is akin to driving across the country and having to stop
and get a new driver's license at every state border.'' This
commissioner said, quote, ``You would never get across the
country. It would take you months. And, in my view, there's no
reason for running the insurance industry that way.'' Now, that
seems like a very strong statement from a member of your
organization.
Mr. Csiszar. And, actually, as director of the State of
South Carolina, I would concur with that. My view, also, is
that the process is too slow. That is why we're trying to
change it, and that is why we have efforts such as the
Interstate Compact, that is why we have a new electronic filing
system, for instance, for rates and for forms served. So we're
doing everything we can.
And let me--the timetable that you're looking, or that you
heard, in a sense is driven by realism. And one of the
realities at the state level is the fact that, for instance,
not every legislature sits every year. We have states in which
legislatures only sit every 2 years. So that from the
standpoint of implementing the state compact, making the
legislative changes that are needed, I think those states have
to take that into account, and that's why you see the numbers
where they are.
Senator Sununu. This commissioner also supported an
exemption for large commercial insurers from having to obtain a
license in every state. Is that something that you also concur
with?
Mr. Csiszar. I think that's something that's under
consideration. At this point, I think--I don't think there's
universal agreement on that within the NAIC, but there are
certain--certainly, one of the avenues open in all of this is
some type of domiciliary deference for licensing. So I think
that's an open issue. While it is an open issue, I think there
are those to whom it would have appeal.
Senator Sununu. I have one final question, and I'd like Mr.
Rahn, Ms. Csiszar, and Mr. Heller to address it, just to get a
spectrum of views.
First, how much is collected nationally each year in
premium taxes? How much is used to fund regulation among the 50
states? And is that arrangement good for the insurance
industry? And is it good for consumers?
Mr. Rahn?
Mr. Rahn. Thank you.
I--and Mr. Hunter may have it here--I don't have the exact
number of what the premium tax collected are for--so you can--
he can give you that number.
Senator Sununu. Can I suggest a working figure of about $10
billion? Mr. Hunter, will we agree on that?
Mr. Hunter. Let me just--why don't you talk to them and
I'll find the exact number for you.
Senator Sununu. Does somebody want to venture----
Mr. Csiszar. It's the figure I'm getting.
Senator Sununu. Ten billion?
Mr. Csiszar. That's about right.
Senator Sununu. OK. So we have--it's $10 billion in premium
taxes. We can all agree on that? Maybe I should have started
with Mr. Csiszar. What percentage of that is used to fund the
regulatory efforts of your members?
Mr. Csiszar. Our collection--well, I don't know the
average, to be honest with you, but I think we can get you
those.
Senator Sununu. I'm actually a little bit more curious to
know the aggregate. So of the $10 billion, what percentage of
that is used to fund----
Mr. Csiszar. I would have to get back to you on that----
Mr. Hunter. 8.4.
Senator Sununu. $8.4 billion of the $10 billion?
Mr. Hunter. 8.4 percent.
Senator Sununu. So less than 10 percent of that goes to
fund the regulatory organizations.
Now the easy one, I suppose. Is that good for the insurance
industry, those that are being regulated? And is that good for
consumers?
Mr. Hunter, since you had all of that helpful information,
I'll start with you.
Mr. Hunter. Originally, the idea was to collect premium
taxes to regulate insurance.
Historically, they've been running under 5 percent. The
Consumer Federation of America, other consumer groups, and the
agents got together and worked on a proposal for at least
trying to reach 10 percent, as a minimum, required to get
consumer protections, based upon an analysis we did. And the
agents groups and we put some pressure on, and we moved it up
slowly year by year. It's now at 8.4 percent, which is better,
but it still doesn't even meet our minimum requirement for what
needs to be done. That's why there are so few market conduct
exams. That's why market conduct exams are an abject failure
to----
Senator Sununu. But should the goal----
Mr. Hunter.--protect consumers.
Senator Sununu.--should the goal be to attain a particular
percentage to achieve----
Mr. Hunter. No.
Senator Sununu.--these goals, or to attain----
Mr. Hunter. No.
Senator Sununu.--an appropriate level of spending?
Because I'm sure the states----
Mr. Hunter. Yes.
Senator Sununu.--could hit that goal by just----
Mr. Hunter. Yes.
Senator Sununu.--they could just double----
Mr. Hunter. No, of course. We----
Senator Sununu.--double the tax and spend twice as much,
but still not be spending----
Mr. Hunter. When we came out----
Senator Sununu.--10 percent.
Mr. Hunter.--with the 10 percent goal, working with the
agents groups, we, obviously, split it up between various
things that needed to be done to protect consumers, including
upgrading market conduct, which is not--it's not a new problem
that we see in market conduct; it's a problem decades old.
Senator Sununu. Mr. Rahn?
Mr. Rahn. Yes. From the life insurance perspective, it's
correct, most of the premium tax is used to go to state general
funds and is not directed, as the numbers show, to insurance
regulation, generally. That can also take place in the form of
fees that aren't--that are imposed on insurers and don't take
the form of premium tax. To a certain extent, our view on that
is--and that's been a cost of doing business in a state. Just
like any other entity doing business in a state, there is a
cost for doing business in that state.
One of the things I want to clarify is that if you look at
the optional Federal charter approach that we've proposed, and
others, we would keep that premium tax in effect. There would
be no loss of premium tax to the states as a result of the
optional Federal charter.
Now, you may ask, from the insurance company perspective,
why would you do that when you have this cost? Well, we think
that the cost of having a Federal regulator, in terms of fees
that would be imposed on us to have that system, would cost us
more; but, in the long run, having one system of regulation
would be so much more efficient, we'd still come out ahead in
the aggregate. And I think you would get, you know, a better,
more streamlined, uniform approach to regulation in the
outcome, also.
Mr. Csiszar. Well, let me respond, first of all, to the
comment about the taxes. We think that that's utopia. The
reality of it is, and the history seems to show, that if you're
going to have regulation at the Federal level, that tax is
going to go, eventually, to the Federal level. So we are very
concerned about that. But that's not our prime concern.
Insofar as the level of spending is concerned, let me say
this. It really--it has to vary by state, and I don't think you
can set a necessary target level of 10 percent or of premium
taxes or 5 percent. We operate, for instance, at 5 percent, but
I only have about 50 domestic companies. Whereas, a state such
as New York or Pennsylvania may have three or four or five or
six times that number of domestic companies, and we defer to
their analysis.
So the level of employment, the level of activity within
the department really varies from state to state. So I think
that the target approach is not one. It's a question of, given
what is necessary within a given state, what needs to be done?
Is that being done? And I think, quite frankly, South Carolina,
we're at 5 percent, and we do a pretty darn good job at it. So
I think the question really has to be addressed in the context
of the different departments.
Senator Sununu. But why not support a system whereby
premium taxes are leveled at a rate sufficient and necessary to
pay for the regulatory burden and the resulting reduction in
premium taxes are passed on to benefit consumers?
Mr. Heller?
Mr. Heller. Yes, thank you, Mr. Chairman.
I think this question is very important, not only to the
question of taxes, but to the broader issue of regulation. We
can't forget that most insurance companies don't pay other
taxes, other than their premium tax. So this is, in a sense, a
great benefit, and they pay very--it's a substantial amount of
money, but as an exchange for the gross premium tax, you avoid
other taxes.
The amount of money that's being spent on insurance
regulation state by state is really the big problem, the fact
that there isn't enough being appropriated to the regulator
from this--what should be considered an insurance regulation
tax. And when you discuss issues of speed to market, from the
consumer perspective it's not speed that matters, it's quality
of regulation and the quality that get into the marketplace,
just as you would want--you need drugs to go through a vetting
process at the FDA before they get to market. You don't want
speed, you want quality.
If you have the right amount of money put forward to the
insurance regulator and they were able to actually go ahead and
regulate, as we do in California--we do a pretty good job,
though there are certainly many flaws--then you could actually
have, if not the fastest market, you could have the best
marketplace. And I think appropriating the right amount of
money to the regulators would be a very good start.
Senator Sununu. Senator Nelson?
Senator Nelson. Thank you, Mr. Chairman. You've started a
very important line of inquiry with regard to the premium tax.
Senator Hollings. Excuse me, too. Our bill retains the
premium tax.
Senator Nelson. Yes, sir.
And, indeed, the testimony that you just elicited from Mr.
Hunter, that 8.4 percent of the total $10 billion in premium
tax actually goes to the regulatory function, says that this is
a nice little source of revenue for the states to be used on
other things other than insurance regulation. And that ought to
be addressed in this whole issue. So I appreciate you bringing
it up.
Since we're limited on time here, and that's why I was
rushing through before. I didn't know that I could get back
here, because other things that are going on this morning. What
I'd like to do, Mr. Berrington and Mr. Rahn, since your
industry is split on the issue of the Federal charter, if you
could have Governor Keating and Mr. Bagley come in and let's
discuss this, because just in, for example, life insurance, the
National Alliance of Life Companies opposes the Federal
charter; whereas, you all support it. On the P&C, the AIA, as
you've testified, supports it, but the AAI, the NAII, the NAMIC
oppose it; whereas, the reinsurers support it.
So there's nothing unusual. I mean, this is typical of the
insurance industry, but let's see what we can get in the way.
And now, to follow up, let's take the Hollings bill as a
starting point. Licensing and standards for the insurance
industry, it provides that this Federal commission would do
that. Is that generally supported by this panel here? Licensing
and standards for the insurance industry? Not long answers. I'm
just trying to get concepts.
Mr. Berrington. For those that chose the Federal approach,
all of this would come within the Federal regulatory regime.
Whether it be a commission or the Treasury Department, which we
propose, is a different issue.
Senator Nelson. Anybody violently disagree with this----
Mr. Ahart. Yes.
Senator Nelson.--at a Federal commission?
Mr. Ahart. Senator, from the agents' standpoint, we would
disagree with it. Again, we think that that should be done on a
state basis and just attack the issues. I mean, most of this
is--unfortunately, is just general and it doesn't deal with
specific issues. It's passing the problem on to a Federal
commission, and it could be the same problems you have at the
state level. So it doesn't really address specific issues of
speed to market or licensing, uniformity, things like that. It
just says we're going to switch it to this group. They could do
as poor a job, or poorer, than most of the states in the
country.
Mr. Rahn. I'll offer you two quick comments. I think that
the Federal regulator should have the responsibility for those.
Our proposal is that they be based upon the best of the best of
the existing state models and state laws.
Second, one disagreement that we have, and I think that
there needs to be further consideration of, is whether the
regulator should be in Commerce or Treasury, which would be the
more appropriate regulator, who could do the regulations, has
the most experience.
Senator Nelson. OK. How about another requirement under the
Hollings bill for the Federal commission would be annual
examinations and solvency review. Does anybody violently
disagree with that?
[No response.]
Senator Nelson. How about establishment of accounting
standards? Does anybody violently disagree with that, by a
Federal commission?
[No response.]
Senator Nelson. OK. Well, then you get down to
investigation of market conduct. Anybody violently oppose that?
[No response.]
Senator Nelson. Mr. Hunter?
Mr. Hunter. No.
Senator Nelson. How can a Federal commission do the market
conduct in 50 states?
Mr. Hunter. Well, first of all, most insurance companies
operate in 50 states. Most of the big companies where, for
example, the Prudential and Met Life type crises that we had in
market conduct were national in scope, and they were training
people how to do these bad things. No one was catching it until
lawsuits started occurring. Those could--might have been caught
by a Federal market conduct review if it was done well by FTC
or somebody who was interested in consumer protections. And it
seems to me that those could have been caught.
Now, it's true, when you get to smaller companies, I think
Mr. Hollings--under the bill, the smaller state-based companies
would not be regulated by the Federal entity, and, therefore,
those smaller companies would remain subject to a market
conduct review by the states, as I understand the bill.
Senator Nelson. In that one case that we busted open, where
we found a major national company was charging higher rates for
African Americans for small-value burial policies, we busted
that open, because, I mean, we dug, and we dug, and we dug, and
we found it. Would a Federal commission be able to do that as
well as a state regulator?
Mr. Hunter. Obviously not today, because the state
regulators have the horses today. But a Federal commission
could, yes, because there are several--it was more than one
company, by the way. Some of the companies sent--the NAIC was
onto it a decade earlier than you caught it, and they sent out
surveys saying, ``Are you doing it?'' And a lot of companies
just lied and said, ``No, we're not.'' And so the NAIC might
have caught even earlier. A Federal regulator, if it had sent
out a survey, might have caught it even earlier, but they might
have also been lied to. I think it's possible. Obviously, it
would take time, and, you know, there would probably need to be
some kind of transition.
Mr. Heller. Senator Nelson, if I could just add one point,
because we do have some concerns. And where Bob is at the
Rubicon, we're still a little bit more protective of the
state's right to regulate. Perhaps that's because we've seen
some good success in California.
It is our view, on the whole, that as you get more local
with insurance products, which in many ways can be very local,
and the issues are very local, the market conduct should, and
we still retain the view that they should be regulated by the
state. But what we appreciate so much about the Senator
Hollings approach is that it does take a comprehensive
approach, and it wants to do it seriously. Our fear is, of
course, that if you lose the seriousness and the diligence
that's, I think, implied by this approach, then you get into a
world which is much more dangerous than the state-by-state
approach. So we would certainly reserve our faith in the state
market conduct approach at this point, because we think, at the
local level, there is a greater understanding of the local
problems.
Mr. Rahn. Senator, I would----
Senator Nelson. The final Hollings standard for the
Commission would be the regulation of rates and policies. That,
of course, is a controversial one. Do you want to give just a
quick summary of that?
Mr. Rahn. Yes. With regard to--that's where I think that
the bill is drafted more in line with P&C requirements than
life requirements, and I think there would have to be some
accommodation for the way that life products are regulated. We
do think that the product approval process is broken and that a
new process needs to be put in place in that.
The other thing I wanted to say on market conduct is, you
already have examples of very powerful and effective Federal
regulators that do market conduct standards--the SEC, the
Department of Labor, and others--so I'm sure that a Federal
regulator could work out a system that would be quite
effective.
Senator Nelson. And I appreciate that. I just--you know,
you come to the table from your own experience, and I remember
that so many things, how we found them was because we paid
attention to complaints that we were getting out in the field
with our examiners or with our outreach office. We'd get these
complaints, and you'd have to diligently follow up, instead of
a cursory kind of looking at it, and then dig underneath and
you'd find some of the bad practices that were going on.
Well, this is certainly going to be an interesting----
Mr. Csiszar. Senator, if I can only add to that, I would--
obviously, we feel the same way with you, and I think if what
you're looking at, for instance, in New York these days with
investigations being carried on against mutual funds, with the
investigations that were carried on with the various banks and
the investment banks, they were at the state level, and they
were driven by the state level. So I think I would share that
concern about the difficulty that a Federal commission would
have.
Senator Nelson. Well, Mr. Ahart, you spin up your agents,
because they have--politically, they have the effect on the
system, because there's an agent in everybody's hometown. And
y'all start working on this, because obviously the trends are
moving in this area, and something's got to be done.
I think Senator Hollings' bill is a good first start. Now
let's see what we can do with it.
Senator Sununu. Senator Hollings?
Senator Hollings. Yes, thank you, Mr. Chairman.
Mr. Csiszar is an excellent witness. He goes right away to
Spitzer. But Spitzer is the exception. The GAO report, Senator,
was exactly what they found, the biggest fault with the state
regulatory bodies. They had come up to snuff, so to speak, on
solvency, because they had all kind of difficulties during the
1970s and 1980s. So they had gotten uniformity there, they had
looked into the solvency, but practically no market conduct
surveys. That was the GAO report. So the states are not doing
it. They might have the capability, but they've not been doing
it at all. That was the criticism in the GAO report.
Senator Sununu. Thank you.
Senator Hollings, I have a couple of final questions. Let
me begin with you, Mr. Ahart.
Senator Nelson mentioned the agents--I mean, thousands and
thousands of agents, for the most part entrepreneurs, small-
business owners, family owned businesses--and those issues
broadly get a lot of discussion and focus here in Congress, and
for good reason. And I don't know that you've had an
opportunity to talk directly from their perspective on the
optional charter issue, in particular. What kind of concerns
would you want to be addressed, or do you have, with an
optional charter proposal?
Mr. Ahart. Yes, well, I mean, first of all, we would oppose
any kind of Federal charter, Federal commission, or Federal
department of insurance, any kind of Federal bureaucracy, which
is promulgating standards. You know, we truly believe that it
should be Congress that mandates uniform standards, and that
the states then regulate it. And those should be only on the
issues that need to be addressed.
As I've said before, you know, a lot of our consumers and
our agents like dealing with their states when there are
problems and consumers have problems and they want to deal with
a regulator. They feel comfortable talking with their state. I
find it very hard to believe that they would feel very
comfortable calling somebody in Washington, D.C.
So, you know, once again, our issue is to deal with the
issues that are a problem. And as those issues are a problem,
we can deal with them with Federal legislation.
Senator Sununu. Do you prefer the optional approach to
Senator Hollings' bill? And are your concerns with the two
different approaches the same, or do you----
Mr. Ahart. The concerns are----
Senator Sununu.--have different concerns----
Mr. Ahart. No, the concerns are basically----
Senator Sununu.--with the different approaches.
Mr. Ahart.--the same--is that, first of all, neither one of
them is proven. Basically, what you're doing is switching state
regulation to Federal regulation without specifying exactly
what you're doing, and that body could have the same problems--
or could have the same problems that some of the poor states'
regulations are having. So I don't think it ever solves the
problem, and we're more concerned with solving the actual
problems that we see, which most people are saying is--in fact,
everybody's testified to--is speed to market, uniformity in
licensing, and consumer protections.
Senator Sununu. Well, thank you, to all the witnesses, for
your time, for your input. As we have indicated, you'll be
allowed to submit additional information for the record.
This hearing is adjourned.
[Whereupon, at 11:30 a.m., the hearing was adjourned.]
A P P E N D I X

Prepared Statement of Brian K. Atchinson, Executive Director,
Insurance Marketplace Standards Association

Introduction
Thank you for the opportunity to address the issue of Federal
Involvement in the Regulation of the Insurance Industry.
I am Brian Atchinson, Executive Director of the Insurance
Marketplace Standards Association (IMSA). IMSA is an independent, non-
profit membership organization created in 1996 to strengthen consumer
trust and confidence in the marketplace for individually-sold life
insurance, annuities and long-term care insurance products. We
encourage you to visit our website (www.IMSAethics.org) to learn more
about IMSA. IMSA members comprise more than 200 of the Nation's top
insurance companies representing approximately 65 percent of the life
insurance policies written in the United States. The IMSA Board of
Directors is comprised of chief executive officers from IMSA qualified
companies as well as non-insurance industry directors. To attain IMSA
qualification, a life insurance company must demonstrate its commitment
to high ethical standards through a rigorous independent assessment
process to determine the company's compliance with IMSA's Principles
and Code of Ethical Market Conduct.
From 1992-1997, I served for five years as Superintendent of the
Maine Bureau of Insurance. In 1996, I was President of the National
Association of Insurance Commissioners (NAIC). Prior to joining IMSA, I
served as an executive officer in the life insurance industry. As a
former regulator and company person, my views on the regulation of
insurance are based upon a number of different vantage points.

The Changing Role of Market Conduct Regulation
Insurance regulation is intended to ensure a healthy, competitive
marketplace, protect consumers, and create and maintain public trust
and confidence in the insurance industry. An integral component of
insurance regulation is the appropriate oversight of the manner in
which insurance companies distribute their products in the marketplace;
namely, market conduct regulation.
The history of market conduct regulation goes back to the early
1970s when the NAIC developed its first handbook for market conduct
examinations and did its first market conduct investigation. We've come
a long way--by 2001, the states employed 353 market conduct examiners
and 103 contract examiners, 815 Complaint Analysts, and 494 Fraud
Investigators. In 2001, departments reported a total of 1,163 market
conduct exams and 439 combined financial/market conduct exams.
Yet, as noted in the report on market conduct regulation issued by
the General Accounting Office last month, there is little uniformity in
the manner in which individual states perform market conduct
examinations today. Knowledgeable observers agree that the current
state-based system of market conduct regulation presents challenges
that even many in the regulatory community acknowledge is in need of
improvement/updating. State market conduct examinations have been
described as being like snowflakes--no two are alike. Insurance
companies often are subject to simultaneous or overlapping market
conduct examinations from different states applying different laws and
regulations. This lack of uniformity places significant costs and human
resource burdens upon insurance companies that translate into higher
costs which are ultimately passed on to consumers in the form of higher
prices for their products.

Making Market Conduct Regulation More Efficient
The challenge going forward is to create a uniform system of market
conduct oversight that creates greater efficiencies for insurance
companies while maintaining appropriate consumer protections.
The NAIC has been working toward uniform regulation for some time.
But, unfortunately, the efforts developed since issuance of the NAIC's
Statement of Intent over three years ago have not attained substantial
improvements in market conduct regulation. The pace of change has been
slow and has prompted the industry to promote more efficient and
effective alternatives.
Establishing Federal standards to regulate the market conduct
practices of insurers could improve the current regulatory system in
several ways. As the GAO Report indicates, many states do not maintain
a formal market conduct analysis or examination process. By introducing
a uniform set of national standards for market conduct regulation,
consumers could be assured that all insurers would be subject to some
degree of regulatory oversight.
Establishing national market conduct standards would allow
regulators to focus upon whether an insurer has a sound market conduct
and compliance infrastructure in place to better protect consumer
interests. Today's market conduct examinations tend to focus upon
technical instances of noncompliance rather than exploring whether a
company has a comprehensive system of policies and procedures in place
to address market conduct compliance issues. Uniform national market
conduct standards also would establish a more efficient regulatory
process which would eliminate the costs and administrative burdens of
the current system that are ultimately passed on to consumers.

Response to Market Conduct Challenges
IMSA's mission is primarily to strengthen trust and confidence in
the life insurance industry through commitment to high ethical market
conduct standards. IMSA qualification also provides a consistent
uniform template of market conduct compliance policies and procedures
at all IMSA member companies. To become an IMSA-qualified company, an
insurer voluntarily undergoes an internal assessment of their existing
policies and procedures to determine whether they comply with IMSA
standards. They must then successfully complete a review by an
independent assessor to qualify for IMSA membership. By undergoing the
independent review required to attain IMSA qualification, a company
must have in place a comprehensive system of compliance throughout the
organization.
Companies that qualify for IMSA membership devote considerable
resources to maintaining IMSA's standards. They also are well-
positioned to respond quickly and effectively to state market conduct
inquiries and to comply swiftly with new Federal or state legislative
requirements.
In the last two years, IMSA has gained greater acceptance by
regulators and rating agencies. In fact, a small, but growing, number
of state insurance departments use IMSA membership as an informational
tool when planning and conducting market conduct exams. We applaud
these efforts and would like to see more state insurance departments
using IMSA information to create greater efficiencies in the market
conduct examination process. A recent study released earlier this year
by the research arm of the National Conference of Insurance Legislators
(NCOIL) acknowledged the important benefits independent standard-
setting organizations such as IMSA can provide to promote sound
marketplace practices. During a period of time in which state insurance
department budgets are under tremendous pressure, we encourage
regulators to pursue all available means to leverage increasingly
limited market conduct examination resources.
IMSA continually strives to meet the needs of consumers, companies
and the marketplace as a whole by helping its member companies develop
and refine an infrastructure of policies and procedures designed not
just to detect but to resolve questionable marketing, sales, and
distribution practices before they become more widespread.
Consumers should be able to expect honesty, fairness and integrity
in their insurance transactions. Neither regulators nor companies alone
can ensure that the marketplace is always operating in a fair and
appropriate manner at all times. Organizations like IMSA, working in
conjunction with regulators, can offer invaluable support to reform
market conduct regulation and may even offer a blueprint for uniform,
national reform solutions.

Conclusion
The financial services marketplace is becoming increasingly
competitive for life insurance companies. To be able to bring products
to market and conduct their operations in an efficient manner, the life
insurance industry, as represented by IMSA member companies, believes
market conduct regulation must be more uniform and efficient. IMSA
qualified companies stand as the benchmark for excellence in the life
insurance industry and provide a de facto nationwide set of uniform
market conduct and compliance standards that can serve as a template
for true market regulation reform.
We, at IMSA, will continue to explore ways to improve market
conduct regulation for the benefit of regulators, insurers and
consumers alike. I would like to thank the members of this Committee
for examining this crucial topic and for the opportunity to share my
perspectives on this important issue.
______

Prepared Statement of the National Association of Mutual Insurance
Companies (NAMIC)

Introduction
Mr. Chairman, members of the Committee, the National Association of
Mutual Insurance Companies (NAMIC) is pleased to submit this statement
for your consideration on the matter of Federal involvement in the
regulation of insurance.
NAMIC is the Nation's largest property/casualty insurance trade
association with 1,350 members that underwrite more than 40 percent of
the p/c insurance premium written in the United States. NAMIC's
membership includes 4 of the largest p/c carriers, every size regional
and national insurer and hundreds of farm mutual insurance companies.
As you may know, the first successful insurance company formed in
the American colonies was actually a mutual: The Philadelphia
Contributionship for the Insurance of Houses from Loss by Fire. It was
created in 1752 after Benjamin Franklin and a group of prominent
Philadelphia citizens came together to help insure their properties
from fire loss.
In the early days of our nation, most insurance companies followed
the Contributionship model; that is, groups of neighbors or business
owners formed mutual insurance companies to help each other avoid the
certain financial ruin that would befall them if their properties or
businesses were destroyed by catastrophic events.
While we honor our history, today's mutual insurance industry also
has a clear vision of the future. Insurance regulation should remain
close to those who understand the needs and preferences of their
constitutencies. The states should continue to regulate the business of
insurance however not without significant reforms to incorporate modern
day efficiencies. Artificial barriers to competition and regulations
that vary from state to state without serving any public purpose make
it more difficult than necessary to do business n a regional or
national basis.
NAMIC member companies believe that a reformed system of state
insurance regulation is superior to an unproven system of Federal
regulation. Achieving reform of state insurance regulation is our
highest policy priority, and every year, we devote a larger percentage
of our resources to achieving this objective. Given the profile of our
membership, NAMIC's position is representative of a dynamic cross
section of the property/casualty insurance industry.
Because of our official position, NAMIC welcomes this hearing. Not
only are we confident that this committee will reach the same judgment
as our member companies, we believe that any indication by the Congress
of an interest in insurance regulation will motivate state policymakers
to act.

The Road to Reform from the NAMIC Perspective
In 2002, NAMIC released a public policy paper articulating our
argument against Federal regulation of insurance. Entitled Regulation
of Property/Casualty Insurance: The Road to Reform, it is the
culmination of years of member study. Our member companies began their
consideration with an open mind, but as work progressed it became clear
that the best option for consumers and the insurance industry is to
reform the state system rather than coming to Congress for a solution
that promises to be worse than the original problem.
The insurance industry is at a crossroads. Many in our industry
already have chosen the path of reform that runs through Washington.
They believe the state system of regulation is irreparably broken and
only can be fixed by Congressional action. Others take a wait and see
approach to reforming the state system. Indeed, they are engaging in
efforts of reform, but with one eye on the clock, almost waiting to
jump on the bandwagon making the most progress.
Missing from this debate is the point of view that a Federal
regulator, or even a dual charter, is not in the best interest of the
industry or consumers. It is this point NAMIC emphasizes based on the
following reasons:

Federal Involvement is the Wrong Answer at the Wrong Time
In developing our public policy paper, NAMIC identified a series of
defects in the rationale for seeking Federal involvement in the
regulation of insurance. They include:

1. Federal involvement is often used to enact social regulation.
Under a Federal system, insurance is likely to be treated as
another ``government entitlement'' with all the trappings
associated with that term. This would cause serious erosion to
the basic principles of risk sharing upon which the industry is
built.

2. Asking Congress to intercede is fraught with danger for consumers
and industry. Proponents of Federal regulation may design their
idea of ``a perfect system,'' but they can neither anticipate
nor prevent the imposition of social regulation in exchange for
the new regulatory structure. In our judgment, the chances of
the ``perfect system'' going from draft legislation into law
are almost nil.

3. A Federal or dual charter not only would not reduce regulation,
it would add regulatory layers and complexity to the current
system. It is by no means certain that a new Federal regulator
would be the ``single'' regulator for even the largest
property/casualty insurance companies. Dual regulation,
proposed by some, would produce an unfair environment for the
thousands of smaller companies, and create regulatory
competition that often produces poor policy in financial
institution regulation.

4. Costs and bureaucracy will increase under a Federal framework.
Will a Federal charter reduce regulatory costs that are
indirectly paid by consumers and/or taxpayers, and will it
bring about less bureaucracy for companies choosing this
option? There is no evidence that a Federal insurance regulator
is going to depart from the tradition of creating an expensive
and inefficient government program. In addition, each state has
its own unique tort laws that significantly affect insurance.
Because state tort laws do not constitute the regulation of
insurance, and have historically been shown great deference by
the courts, federally licensed insurers would have to tailor
products to accommodate each state's tort laws. These factors
will significantly hamper gaining efficiencies from a Federal
system.

The cost to consumers will inevitably rise as well. Currently,
states derive significant income from premium taxes, which
exceed the cost of regulation. The cost of a new layer of
Federal regulation must be accounted for somehow. The necessary
funds must either come directly from the Federal budget, or
from fees assessed to insurers. Since taxes and fees must be
passed on to consumers, they will have to pay for two
regulatory systems under a dual charter approach, unless the
states forego premium tax revenue.

5. When the single national regulator makes a mistake, it has
significant economy wide consequences. When a state regulator
makes a mistake, the damage is localized and can be more easily
``fixed.'' In other words, what if a national regulator gets it
wrong? Industry proponents argue that Congressional action
could produce a national system resembling the open competition
found in Illinois--a regulatory model that NAMIC strongly
supports. But what if the system created looks more like highly
regulated states? The economic fallout from a strict national
regulatory climate would be crippling, and the accountability
would be at Congress' door.

6. The time for further change has not arrived. The new balance
necessitated by GLBA is still evolving. It has shown great
promise, but requires more time to mature fully. Unlike 1999
when GLBA passed, there is no major impetus, such as
convergence of the financial services industry, to further
change the balance between Federal and state regulation. In
times past, momentous change has been the consequence of
significant needs or events. No such need exists today. Change
without need could destabilize a system that has worked well
throughout our Nation's history.

State Regulation is More Pro-Consumer
From a consumer's perspective, the state system of regulation has
performed admirably. It has proven to be adaptable, accessible, and
relatively efficient, with rare insolvencies and no taxpayer bailouts.
Proposals for Federal and dual charters offer few advantages for
consumers, and consumer interests are rarely cited as reasons for
changing from the state system.
Federal regulation is no better than state regulation in addressing
market failures or consumer interests. Regulated industries of all
types have had failures at both regulatory levels. Neither can claim
immunity from market failure. Additionally, claims that consumers are
well served by Federal bureaucracies seem dubious.
The clear advantage to consumers in the state system is
accessibility. It is easier for an insurance consumer to deal with a
regulator in their home state than having to contact a regional Federal
office to intervene in disputes.

A Reformed System of State Insurance Regulation is Superior
Changes must be made to create a reformed, competitive and
consistent system that will benefit both consumers and industry. NAMIC
is working to achieve four specific areas for state reform:

Rate Regulation
States should eliminate the approval process for pricing insurance
products. NAMIC has endorsed the NCOIL Property/Casualty Modernization
Act approved in 2001. The model lays out a ``use and file'' regime for
personal lines in competitive markets and a ``no file'' standard for
commercial lines. There is unanimous support among the industry trades
for this language.
Still, this is a potentially controversial issue among some state
legislators. However, rate modernization not only is not radical, it is
not new. Two brief examples speak to its success as public policy:

In 1969, the Illinois legislature repealed outright the
prior approval law that was put in place following passage of
McCarran-Ferguson in 1945. Property/casualty rates in Illinois
remain unregulated today. Several vital signs demonstrate that
this policy works well. Today, consumers enjoy stable rates,
ranking in the middle of all states in average personal
expenditures because the Illinois market attracts the largest
share of all private passenger auto and homeowner insurers in
the Nation. Low residual markets indicate affordability and
availability. These positive signs are all the more remarkable
when you consider that Illinois includes the third largest
urban area in the United States, and two-thirds of the state's
residents live in the Chicago area. With over three decades of
success and no legislative proposals to reinstitute regulation,
there can be no argument that this structure is well tested and
beneficial to everyone involved.

The demonstrably negative impact of prior approval on South
Carolina's state auto insurance market prompted the Legislature
to act in 1999. Only 78 companies offered policies in the state
in 1996 and over 40 percent of all insured drivers were in the
assigned risk pool. With the elimination of prior approval in
favor of a flex rating system, 105 new companies are in the
market, rates are lower and residual market participants, once
numbering over a million, have declined to 58,000.

Recent progress demonstrates that states are beginning to take
responsibility for the negative results of their regulatory policies.
New Jersey and Louisiana, two of the most restrictively regulated
states in the nation, have begun to overhaul their public policies
regarding rate regulation in the face of shrinking pools of insurance
providers.
As has been often and loudly stated, the product approval process
is especially challenging for the life industry because of direct
competition with banks in certain financial services. NAMIC agrees that
the life industry and its consumers would be well served by a
streamlined regulatory process and believe the life compact could help
address this need. Efforts to create a more competitive marketplace for
insurers and consumers alike must not begin and end on the life side of
the equation.

Market Surveillance
States vary widely in how they staff and approach their market
surveillance activities. A few states, for example, regularly schedule
market conduct exams, regardless of whether problems have been reported
with a particular insurer. The open-ended costs of these exams
(salaries, meals and lodging) are charged to the company under
examination. A lack of uniformity and coordination among states in
performing exams often results in duplicative and costly processes,
especially for multi-state insurers, who are most likely to be targeted
for review.
As state insurance departments spend less time on ``front end''
regulation (i.e., prior approval), states need to adopt a market
regulation program that relies on analysis of existing and available
market data to reveal performance deviations rather than largely open-
ended market conduct examinations relied upon today. With this
approach, regulators can focus their limited resources on companies
that fall outside a predetermined set of standards developed from data
analysis. Any new market regulation process must be proportional,
allowing insurers to mitigate complaints or market inconsistencies
before being subjected to more severe actions like a market conduct
exam, administrative penalty or fine.

Solvency Monitoring
State regulators have adopted several solvency tools over the past
decade to strengthen oversight of the insurance industry. While the
industry has supported improvements in solvency monitoring, there
remains a high degree of variation among states in how financial exams
are conducted. NAMIC has helped produce an industry white paper that
identifies three primary recommendations to facilitate discussion of
the examination system by all stakeholders. Recommendations under
consideration by the NAIC center on controlling expenses, integration
of private CPA auditor work and risk-oriented financial reporting.

Company Licensing
States, working through the NAIC, have made some progress in the
past few years in bringing more uniformity to the company licensing
process. One outcome is the Uniform Certificate of Authority
Application (UCAA), which is now used in all insurance jurisdictions.
The states should now consider draft language so future amendments to
the UCAA can be adopted without seeking legislative approval each time.
However, the key to more uniformity of this process is ensuring that
state deviations are reduced or eliminated.

Response to S. 1373: The Insurance Consumer Protection Act
One bill the Senate is considering is S. 1373, The Insurance
Consumer Protection Act. In our analysis, the legislation brings to
life many of the concerns we have about Federal regulation.
Government approval of insurance prices. S. 1373 is an anti-
competition bill in that it would require prior approval for all rates
by a Federal regulator. Not only is competition a much better regulator
of rates than government, regulators in states with prior approval are
routinely backlogged in their reviews. One super-agency is unlikely to
be capable of staying current with rate applications. The result will
be the imposition of needless bureaucracy and less efficiency with
national implications.
Massachusetts' repressive auto rating structure provides living
proof that restrictive regulation is unnecessary and harmful to
insurers and consumers alike. In Massachusetts, the Insurance
Commissioner is charged with setting every aspect of the auto insurance
rate, even including the amount of money that an insurer may allot to
expenses. This rate applies to all companies doing business in
Massachusetts, which gives large national insurers who enjoy economies
of scale a distinct advantage over smaller insurers. Despite this
advantage, these insurers avoid this state. Massachusetts' auto
insurance market is in a severe state of decline. Currently, there are
less than 20 companies writing auto insurance in the state, while NAIC
statistics show that their auto insurance rates are some of the most
expensive in the Nation. On May 16, 2003, the Massachusetts
Commissioner of Insurance held an annual hearing to determine whether
competition existed in their auto insurance market. Had she found in
the affirmative, she would not be obligated by state law to set rates
as described above. This hearing, which was widely attended by the
insurance industry, proved that regional and national insurers would
like to re-enter this market. However, they will not do so until this
punitive regulatory environment is reformed a change that has been made
by other states.
The number of insurers who compete in the competitive Illinois
market is at least 6 times the number who seek to survive in
Massachusetts. In today's world, harmful regulatory structure has an
impact beyond state borders. Many regional and national companies have
simply decided that it is too costly to contend with this regulatory
relic, so they avoid the state altogether, denying choices to consumers
and removing incentives for companies to lower rates. True reform will
result in the elimination of unnecessary regulatory burdens.
This proposal promises to slow regulatory processes even more
through a provision that would allow anyone to challenge a rate filing.
This is a serious flaw, particularly in the absence of provisions
prohibiting frivolous or malicious objections. While consumers do not
want to pay higher insurance rates, they also want to their insurance
carrier to be solvent. Ideally, premium decisions should be based on
adequacy of the rate and competitive pressure--not political pressure.
Subjecting the critical calculation of ratemaking to a political
process, as this provision would, will harm not help consumers by
creating a supercharged environment in which defending rates that are
actuarially sound will be needlessly difficult. This is the kind of
``social regulation'' that will ultimately harm this industry's ability
to charge a price based on risk.
Increased market conduct burdens. This proposal dramatically
increases the use of market conduct examinations. While regulators and
industry agree that this can be a useful regulatory tool, the way in
which exams are triggered and conducted is already under an
extraordinary level of scrutiny. Currently, the states that conduct
these exams do so on a scheduled basis-regardless of the company. The
result is that a company on solid footing may face an intensive review,
while the bad actor next door knows that they won't be subject to an
exam for another 3 or 4 years. Even when bad actors are revealed,
regulatory resources will be spread so thin that dealing aggressively
with the problem may not be possible. This proposal would radically
increase the indiscriminate use of this tool at a time when there is a
growing consensus that a more thoughtful, and perhaps targeted,
approach is more desirable.
A far more constructive use of regulatory resources is to focus on
identifying and intervening in problem situations. Systems to
facilitate this more effective form of regulation are currently under
consideration. Diverting resources away from identifying and addressing
problems in their earliest possible phases can only harm the cause of
responsible regulation. Not only would this result in needless use of
public and private resources, but also it would be a mistake felt
nationally.
Destabilized state guaranty funds. State guaranty funds are one of
this industry's greatest consumer protection stories. Their creation
and continued success provides further proof of this industry's ability
to adapt to the needs of the times. By removing all federally licensed
insurers from state guaranty funds, this proposal would leave the
viability of the state guaranty funds in question. It is unclear
whether the remaining local companies in each state would have
sufficient resources to protect consumers whose insurers become
insolvent. Once again, this mistake will result in needless
bureaucratic duplication, and will be felt on a national basis.
A related and troubling aspect of this proposed legislation would
create a Federal guaranty fund system, and protect its officers from
personal responsibility, ``for any act or omission''. This provision is
particularly curious in light of the heightened corporate governance
provisions in this Act. While CEOs of insurance companies would be
required to personally attest to portions of their annual reports,
guaranty fund officials are given civil immunity for ``any act or
omission''. This inequity is compounded by what can only be described
as the Act's victim-pays provision. If insurers are victims of official
misconduct, they will be forced to fund their own compensation for
damages, in that repayment will come from the guaranty fund.
Suspect uniformity. One of the few advantages that could
potentially be offered by Federal regulation is a degree of uniformity
by eliminating unnecessary regulation. However, this proposed
legislation would not provide uniformity because it subjects federally
licensed insurers to state regulations that are more stringent than the
Federal standards.
Not all differences between the states are unnecessary, but reflect
unique conditions in each state. For instance, the states are prone to
a diverse series of risks that inevitably result in different
regulatory requirements. Those risks include: earthquakes, floods,
draught, forest fires, hail, tornadoes and hurricanes. The p/c industry
provides insurance for natural disasters, and our products must vary to
address the particular situation in each region. When it comes to these
kinds of differences, one size does not fit all, and a government-
sponsored incentive in one area would make no sense in another. These
variations will continue regardless of the regulatory structure.
Tort laws will also continue to vary by state. Because tort laws do
not appear to constitute the regulation of insurance, and have
historically been shown deference by the U.S. Supreme Court, a Federal
insurance regulator would not have the authority to create tort
uniformity.
Even the sponsor of S. 1373 recognizes the primacy of state law, in
the aforementioned provision that subjects federally regulated insurers
to state standards that are more restrictive than the Federal
standards, unless the state standard prohibits something authorized by
the Federal law.
New bureaucracy. It creates a new regulatory bureaucracy, while
leaving state systems and premium taxes in place. It is commendable
that this proposal does not seek to deny states much needed premium tax
revenues in these difficult fiscal times. However, the result will be
that policyholders would have to fund two regulatory structures. This
is particularly troubling in light of the fact that state systems have
a proven ability to adapt to the needs of the times.

The Role of the NAIC in Regulatory Reform
Calls for reform of the state insurance regulatory system have been
heard for years but little substantive reform, other than the NAIC
financial accreditation program, has occurred. Frustrations have grown
as the marketplace becomes more competitive and more global.
Complicating matters further is that the NAIC is often--wrongly in our
view--held to account for implementation of sweeping reform.
The NAIC is just one piece of the reform puzzle. Public policies
defining reform must be established by state legislatures. Yet the NAIC
has been looked to for years by Congress and others as the source of
regulatory reform.
The first decision by the Supreme Court of the United States on
state versus Federal power to regulate insurance was Paul v. Virginia
(1869). The Court held that delivery of an insurance policy in Virginia
issued by a New York company was not interstate commerce. The Court
employed a narrow definition of ``commerce''. As a mere contract rather
than a physical good or commodity, Congress was not empowered to
regulate it.
Two years after Paul, the National Convention of Insurance
Commissioners (later the NAIC) convened for the first time to help its
member regulators oversee companies doing business in one state.
Uniformity in legislation affecting insurance and departmental rulings
was high on the new organization's list of objectives.
In 1944, the Supreme Court overturned Paul, redefining insurance as
interstate commerce and triggering passage of the McCarran-Ferguson Act
by Congress the following year. Under McCarran, states can preempt
Federal anti-trust laws by regulating the business of insurance. The
industry and the NAIC were given three years by Congress to devise a
regulatory framework that could be put into effect across the country
to halt enforcement of Federal anti-trust and discrimination acts.
The NAIC responded by developing model acts and regulations related
to insurance rates and policy form language that were quickly enacted
by the states. This set of circumstances gave birth to the present
regime of prior approval for property-casualty products now operational
in more than half the states and opposed by NAMIC today.
In the late 1980s, the House Energy and Commerce Committee's
persistence in challenging regulators was instrumental in the NAIC
adopting its Financial Regulation Standards and Accreditation Program
in 1989. The program consisted of a set of financial regulation
standards for state insurance departments, which identified model laws
and regulations, and regulatory, personnel and organizational processes
and procedures necessary for effective solvency regulation.
Nearly all the states, with the help of their legislatures,
subsequently adopted the accreditation standards, but this has not
stopped Congress and others from continuing to ask probing questions
about the continued viability of the program. As recently as August
2001, a report prepared by the General Accounting Office outlined
``gaps and weaknesses'' in the accreditation program in response to the
Martin Frankel fraud scandal. This, in tum, has caused the NAIC to re-
evaluate certain aspects of its accreditation standards.
Clearly, this type of oversight of state insurance regulation seems
appropriate for Congress to continue to pursue. It is also important
here to mention another ``role'' that Congress has played with respect
to state insurance regulation in the past decade. In 1992, Congress
enacted legislation that had the effect of standardizing the Medicare
supplemental insurance policies. While Congress mandated this
requirement, it was left to the NAIC and the states to ``design'' the
standardized forms and to implement their use in each state.
While this particular piece of legislation appears to have worked
well in protecting citizens from purchasing unnecessary multiple
Medigap policies, it is not yet clear to us whether this approach would
work for other lines of insurance or in possibly bringing more
uniformity to certain state regulatory functions.
The Gramm-Leach-Bliley Financial Services Modernization Act (GLBA)
contained at least two provisions directly affecting state insurance
regulation. The first called on state regulators to develop a better
system of licensing out-of-state insurance producers, or face a
Congressionally mandated entity to perform that function. Regulators
responded with a uniform producer licensing model act and two years'
worth of effort enacting it in most state legislatures. The other GLBA
provision required insurers to protect the nonpublic personal
information of their policyholders. Forty-nine states and the District
of Columbia have met the GLBA privacy standards, largely based on the
NAIC privacy model.
Taking the intent of GLBA one step farther, regulators agreed to a
``Statement of Intent'' in March 2000 outlining their desire to change
the organizational structure of insurance regulation to better address
the rapidly evolving changes to the financial services industry.
This brief review of the NAIC's actions over the years naturally
leads to the conclusion that the NAIC is the protector of the
principles of insurance regulation in general and state regulation in
particular and as such it should be the source of comprehensive reform.
However, in our judgment this is incongruent with reality. In
describing its own work, the NAIC has said that regulators have long
realized that diversity and experimentation are strengths of the state
system, but they also recognize that the basic legislative structure of
insurance regulation requires some degree of uniformity throughout the
states. This inherent tension between sovereignty and uniformity in the
context of a voluntary organization of mostly appointed state officials
with no authority to enact the models they write has produced both
large expectations and large disappointments.
The NAIC deserves recognition for focusing attention on key
marketplace improvements such as speed-to-market and market conduct for
which NAMIC member-companies are asking. Out of necessity, much of
their work concerns the procedural or functional aspects of regulation.
Unfortunately, by themselves, better procedures do not satisfy the
deeper needs of the industry.
While individual state regulators can recommend standards for
reform and raise the profile of important market reform issues, they
cannot act alone. Simply put: the NAIC cannot be expected to do what it
is not empowered to do, that which is the most pressing task for all of
us concerned about the future of the insurance industry: enactment of
fundamental public policy reform.
In the final analysis, before Congress intercedes, state
legislative action must be the focus of modernization initiatives.
There are important and effective national organizations prepared to
lead reform efforts in the states.

The Role of National Legislative Organizations in Regulatory Reform
NCOIL. The National Council of Insurance Legislators was formed in
1969 to help legislators make informed decisions on insurance issues
affecting their constituents and to oppose any encroachments of state
authority in regulating insurance.
NCOIL members collectively represent residents in states where 90
percent of insurance premium is written each year. In addition to
conducting annual meetings/seminars for its members, NCOIL has been
instrumental over the years in developing its own set of model laws
that have been enacted in several states. These models have addressed
issues such as financial information privacy, mental health parity,
life settlements, long-term care tax credits, Federal choice no-fault,
commercial lines deregulation and property/casualty domestic violence.
The leadership of NCOIL also has testified at several Congressional
hearings in opposition to initiatives that would have created a dual
system of insurance regulation, in opposition to Congressional
initiatives that would have usurped the existing authority of states to
regulate insurance rates, and on the viability of having an interstate
compact to govern key aspects of insurance regulation.
ALEC. The American Legislative Exchange Council was founded in 1973
by a small group of bipartisan state legislators with a common
commitment to the Jeffersonian principles of individual liberty,
limited government, federalism, and free markets. Today, ALEC has grown
to become the Nation's largest bipartisan individual membership
organization of state legislators, with more than 2,400 members in 50
states.
ALEC remains committed to preserving the state regulation of
insurance and has developed its model Property/Casualty Insurance
Modernization Act to facilitate the replacement of outmoded,
inefficient insurance regulations with market-based reforms. In
addition, ALEC has developed a special project, national in scope,
designed to educate state lawmakers about the importance of making
insurance regulatory changes that are less intrusive and more uniform
in nature, which is one of the primary goals of those clamoring for
Federal preemption.
One of the most exciting aspects of ALEC's involvement with this
issue is its extraordinary record of success in affecting public policy
changes in other areas. ALEC, for example, is the preeminent force for
state level tort reform efforts facilitated through ALEC's Disorder in
the Court Project. ALEC legislators have introduced more than 100 bills
in over two-dozen states. Over 20 of these bills have been enacted.
Members are also responsible for passing model pension reform
legislation in 13 states over the past two years, a monumental success.
This leadership is likely to continue. More than 100 ALEC members hold
senior leadership positions in their state legislatures, while hundreds
more hold important committee leadership positions.
NCSL. The largest state legislative organization is the National
Conference of State Legislatures, formed in 1975. The primary component
of NCSL's mission is to advise Congress and the Administration as to
the effect of Federal action on the states.
Recently, the organization's Executive Committee Task Force to
Streamline and Simplify Insurance Regulation approved a Statement of
Principles to guide state legislatures in the pursuit of regulatory
reform for the property and casualty industry. Also approved was an
interstate compact that would facilitate the approval of annuity, life
insurance and disability income products by a single entity for use in
all insurance jurisdictions. For the NCSL to depart from its Federal
advisory function to make specific state proposals is an extraordinary
step.
While NCSL has no more power to bind than does the NAIC, there is a
fundamental difference in authority. Its members are elected
officeholders with obvious influence over the outcome of legislative
proposals in the states.

Conclusion
NAMIC joins with our colleagues in asking for fundamental reform of
insurance regulation. While we disagree with some on the method to
bring this about, we all agree that unnecessary regulatory barriers
between the states must be eliminated. True reform must also preserve
the meaningful differences between the states. This balance can best be
achieved through reforms within the states.
History has proven that state insurance regulation can be reformed
through emphasis on state legislatures. In taking this stance, we are
not relying solely on history. We have cited significant changes that
are currently underway: within the states, at NCSL, NCOIL, and ALEC,
and at the NAIC. These changes are happening with the cooperation,
assistance, and advocacy of the insurance industry.
At the same time, we are deeply concerned about calls for Federal
regulation of insurance. After extensive study, NAMIC has determined
that Federal regulation of insurance was undesirable because:

1. It is likely that social regulation would be employed, harming
the industry's ability to price risk.

2. There is no guarantee that proven free market reforms would be
employed.

3. Any system of dual regulation would add a layer of bureaucracy
and cost that would ultimately be paid by policyholders.

4. Regulatory mistakes will not be contained within a single state,
but will have an immediate national impact.

When we first articulated these concerns, some argued that they
were only theoretical. However, with the introduction of S. 1373, the
Insurance Consumer Protection Act of 2003, many, if not all of our
concerns have been justified.
The areas for reform have been defined. Now it is up to the states
to enact changes in public policy that will make the difference. We
urge you to continue your efforts to assure that change takes place in
the states. As it has in the past, your interest alone will prompt a
renewed resolve on the part of the states. We believe this pressure,
given time, will bear fruit.
Thank you for your consideration of our comments.
______

Prepared Statement of the Independent Insurance Agents & Brokers of
Arizona (IIABA)

Chairman McCain, Ranking Member Hollings, and Members of the
Committee. My name is Lanny Hair, and I am pleased to have the
opportunity to give you the views of the Independent Insurance Agents &
Brokers of Arizona (IIABA) on the current state of insurance regulation
and IIABA's views on the role Congress can play to reform and improve
the current system. I am the state executive of IIABA, and our
association represents approximately 300 agencies in Arizona as well as
an additional 100 ``Associate'' members engaged in support services to
independent agencies. It is our membership that is the ``front line''
communication to insurance consumers, and we feel a strong allegiance
and obligation to represent those consumers and their interest in
insurance regulatory issues.

Introduction
At the outset, Chairman McCain, I must note that IIABA applauds the
Committee's interest in this issue as we have many challenges facing
the state-based system of insurance regulation. It is our expectation
that this hearing will be the first step in what promises to be a
comprehensive and ongoing process, and we hope we will have the
opportunity to present our views at each and every stage of your
deliberations on these crucial questions.
In the last few years, the perceived need for reform has increased.
The enactment of financial services modernization legislation and the
emergence of an increasingly more consolidated, more global financial
services industry have sparked new interest in the concept of an
``optional'' Federal insurance charter and, more generally, in Federal
regulation of the business of insurance. Proponents of such proposals
argue that Federal insurance regulation would promote greater
uniformity, reduce costs and cause less frustration than the current
multi-state system.
IIABA believes it is essential that all financial institutions be
subject to efficient regulatory oversight and that they be able to
bring new and more innovative products and services to market quickly
to respond to rapidly evolving consumer demands. It is clear that there
are deficiencies and inefficiencies that exist today, and there is no
doubt that the current state-based regulatory system should be reformed
and modernized. At the same time, however, the current system is
exceedingly proficient at insuring that insurance consumers--both
individuals and businesses--receive the insurance coverage they need
and that any claims they may experience are paid. These aspects of the
state system are working well, and I have little doubt that this
Committee will hear any testimony to the contrary. The optional Federal
regulation proposals, however, would displace these well-running
components of state regulation as well and, in essence, thereby ``throw
the baby out with the bathwater.''
IIABA supports state regulation of insurance--for all participants
and for all activities in the marketplace. Yet despite this historic
and longstanding support, we are not confident that the state system
will be able to resolve its problems on its own. In fact, we feel there
is a vital role for Congress to play in helping to reform the state
regulatory system, and such an effort need not replace or duplicate at
the Federal level what is already in place at the state level. We
propose that two overarching principles should guide any such efforts
in this regard. First, Congress should attempt to fix only those
components of the state system that are broken. Second, no actions
should be taken that in any way jeopardize the protection of the
insurance consumer, which is the fundamental objective of insurance
regulation.
Due to our concerns with the current state regulatory system, our
national association, the Independent Insurance Agents and Brokers of
America (IIABA) has drafted a proposal that addresses many of our
concerns. Under the proposal that IIABA has been developing in
conjunction with a broad-based group of insurers and insurance
producers, these overarching principles would be satisfied through an
approach under which--

1. The Current State of Insurance Regulation
As the United States Supreme Court has so aptly put it, ``[p]erhaps
no modern commercial enterprise directly affects so many persons in all
walks of life as does the insurance business. Insurance touches the
home, the family, and the occupation or the business of almost every
person in the United States.'' \1\ ``It is practically a necessity to
business activity and enterprise.'' \2\ Insurance serves a broad public
interest far beyond its role in business affairs and its protection of
a large part of the country's wealth. It is the essential means by
which the ``disaster to an individual is shared by many, the disaster
to a community shared by other communities; great catastrophes are
thereby lessened, and, it may be, repaired.'' \3\ Thus, it is ``the
conception of the lawmaking bodies of the country without exception
that the business of insurance so far affects the public welfare as to
invoke and require governmental regulation.'' \4\ Since the inception
of the business of insurance in the United States, it is the states
that have carried out that essential regulatory task. Today, state
insurance departments employ over 11,000 individuals and address
hundreds of thousands of consumer complaints and inquiries annually,
and they draw on over a century-and-a-half of regulatory experience
they endeavor to protect the insurance consumers of this country.
---------------------------------------------------------------------------
\1\ United States v. South-Eastern Underwriters Ass'n, 322 U.S.
533, 540 (1944).
\2\ German Alliance Ins. Co. v. Lewis, 233 U.S. 389, 415 (1914).
\3\ Id. at 413.
\4\ Id. at 412.
---------------------------------------------------------------------------
These core regulatory tasks of state insurance regulators can
essentially be divided into the following eight categories:

(1) Regulation of the coverage parameters of insurance contracts;

(2) Sales practices regulation;

(3) Claims practices regulation;

(4) Claims dispute mediation/resolution;

(5) Claims payment guarantees--state guaranty funds regulation and
solvency regulation;

(6) Claims payment guarantees--qualification standards and financial
audits;

(7) Insurer licensing, merger review and corporate governance
regulation; and

(8) Insurance agent/broker licensing and qualifications to do
business regulation.

a. The Positive--Protecting Consumers and Ensuring Claims Are Paid

The goal of all insurance is to protect the purchaser (or their
heirs) from calamity. At its most basic level, this means that the
consumer purchases an insurance contract and, in exchange for the
premium paid for that contract, the consumer receives a promise from
the insurance company that they will be compensated for any losses they
experience that are covered under that contract. From the consumer
perspective, it is imperative that the insurance contract be adequate
for their needs and that the insurer actually pay any claims that are
made under that contract. In both of these respects, the historical
performance of state insurance regulators is impeccable--they ensure
that necessary coverage minimums are included in insurance contracts
and, perhaps even more importantly, they make sure legitimate claims
are paid.
Regulators play two very distinct roles in ensuring that claims are
paid. First, they are responsible for guaranteeing that funds are
available to pay any and all claims that arise. Despite their best
efforts to oversee and audit insurers' financial solvency, insurance
companies--like national banks and savings and loans--sometimes fail.
The state system of insurer guaranty funds--which are like Federal
Deposit Insurance Corporation (FDIC) insurance but for insurance
companies instead of banking institutions--works. It has paid out over
$11 billion to cover claims asserted against insolvent insurers since
they were first created in the mid-1970s, and none of that money has
been at taxpayer expense. The Arizona Guaranty Fund has on several
occasions been activated to protect Arizona consumers from carrier
insolvency, and local access to Arizona Guaranty Fund employees to help
the consumer process claims has been most valuable in expediting
payment of monies due Arizona consumers.
Second, state regulators play a vital role in mediating disputes
that arise on a daily basis between consumers who have submitted claims
and insurers who contend that the claims either are illegitimate or are
not covered by the insurance policy. The respective bargaining
positions between tens of millions of insureds--such as individuals and
small businesses--and their insurers is tremendously skewed. Insurance
consumers therefore regularly rely on the intervention of state
regulators on their behalf when claims disputes arise. Large segments
of every insurance department in the country are dedicated to assisting
with the resolution of such disputes, and all available evidence
suggests that insurance consumers are very satisfied with those local
efforts. The Arizona Department of Insurance is staffed with insurance
professionals and attorneys that are recognized as consumer advocates,
individuals ready and waiting to become involved in the claims process
to assure that the consumer is treated fairly and receives benefits
they are due.

b. The Negative--Product Regulation and Duplicative Oversight

It has become evident that all of the perceived shortcomings of
state regulation of insurance fall into two primary categories--it
simply takes too long to get a new insurance product to market, and
there is unnecessary duplicative regulatory oversight in the licensing
and post-licensure auditing process.
In many ways, the ``speed-to-market'' issue is the most pressing
and the most vexing from both a consumer and an agent/broker
perspective because we all want access to new and innovative products
that respond to identified needs. The reality of today's marketplace is
that banking institutions and securities firms are able to develop and
market new and more innovative products and services quickly, while
insurance companies are hampered by lengthy and complicated filing and
approval requirements in 50 states. As a result, some argue that
insurance companies--and, derivatively, agents and brokers selling
their products and services--are at a competitive disadvantage compared
to their counterparts in other financial services industries.
Today, insurance rates and policy forms are subject to some form of
regulatory review in nearly every state, and the manner in which rates
and forms are approved and otherwise regulated can differ dramatically
from state to state and from one insurance line to the next. While most
insurance codes provide that policy rates shall not be inadequate,
excessive or unfairly discriminatory, and that policy forms must comply
with state laws, promote fairness, and be in the public interest, there
are a multitude of ways in which states currently regulate rates and
forms. These systems include prior-approval, flex-rating, file-and-use,
use-and-file, competitive-rating and self-certification. These
requirements are important because they not only affect the products
and prices that can be implemented, but also the timing of product and
rate changes in today's competitive and dynamic marketplace.
The current system, which may involve seeking approval for a new
product or service in up to 55 different jurisdictions, is too often
inefficient, paper intensive, time-consuming, arbitrary and
inconsistent with the advance of technology and regulatory reforms made
in other industries. In recent years, the Arizona Legislature has
recognized the need for reform in that area, and has been proactive in
``deregulation'' of rates and form approval for commercial insurance,
as they recognize that segment is comprised of a more sophisticated
group of buyers of consumers. However, as you have heard previously, it
often takes two years or more to obtain regulatory approval to bring
some new insurance products to market on a national basis. Cumbersome
inefficiencies create opportunity costs, and the regulatory regime in
many states is likely responsible for driving many consumers into
alternative markets mechanisms. As a result, the costs of insurance
regulation are exceeding what is necessary to protect the public,
particularly in the area of commercial insurance. In order to keep
insurers competitive with other financial services entities and
maximize consumer choice in terms of the range of products available to
them, changes and improvements are needed.
Similarly, insurers are required to be licensed in every state in
which they offer insurance products, and the regulators in those states
have an independent right to determine whether an insurer should be
licensed, to audit its financial solvency and market-conduct practices,
to review mergers and acquisitions, and to dictate how the insurer
should be governed. With the exception of market-conduct examinations,
it is difficult to discern how the great cost of this duplicative
regulatory oversight is justified, especially in light of the fact that
the underlying solvency requirements are essentially identical from
state to state. Market conduct examinations present a somewhat more
thorny issue because, although the majority of sales and claims
practices requirements and prohibitions are similar across the country,
there are local variations. It is, of course, difficult for a regulator
to determine compliance with another jurisdiction's requirements. At
the same time, it seems wholly unnecessary for each regulator to
examine every insurer on every aspect of their compliance practices
given that there is such an extensive overlap in requirements. The
Arizona Department of Insurance recognized the need for reform in this
area, and earlier this year streamlined their market conduct
examination process with the objective to target those insurance
companies which have provided cause to believe are in violation of
State Statute or regulatory process. The new procedures will reduce
costs and better direct the State's resources to protect the consumer.

2. Solutions
Although heroic efforts have been made to date, state regulators
and legislators face the near impossible challenge of addressing and
remedying the identified deficiencies unilaterally. For the most part,
these reforms must be made by statute, and state lawmakers face
practical and political hurdles and collective action challenges in
their pursuit of such improvements on a national basis. Despite the
actions of the states on producer licensing reform over the last two
legislative sessions, real-world realities suggest that it is
extraordinarily difficult, if not impossible, to pass identical bills
through the 50 state legislatures.
Although the proposed optional Federal regulation proposals might
correct certain deficiencies, the cost is incredibly high. The new
regulator would serve to add to the overall regulatory infrastructure--
especially for agents and brokers selling on behalf of both state and
federally regulated insurers--and undermine sound aspects of the
current state regulatory regime. The best characteristics of the
current state system from the consumer perspective would be lost if
some insurers were able to escape state regulation completely in favor
of wholesale Federal regulation. Federal models propose to charge a
distant and likely highly politicized Federal regulator with the
implementation and enforcement of a single set of rules that would
apply equally across all states and all insurance markets. Such a
distant Federal regulator may be completely unable to respond to
insurance consumer claims concerns and its mere creation could spark
fears that this will prove to be the case. Nor can a single regulatory
system harmonize the diversity of underlying state reparations laws,
varying consumer needs from one region to another, and differing public
expectations about the proper role of insurance regulation. Arizona has
a long and proud history of successful State regulation that
demonstrates that the unique needs of Arizona consumers have been
addressed. The large populations of retired and/or elderly citizens
have required that consumer safeguards for this group be put in place,
and both the Arizona Legislature and Arizona Department of Insurance
accomplished that in a rapid and effective manner. The potential
responsiveness of a Federal regulator to both industry and consumer
needs in several critical areas could therefore jeopardize the
fundamental purpose of insurance regulation and must be considered
questionable at best.
This year, Sen. Fritz Hollings (D-S.C.) has introduced the
Insurance Consumer Protection Act (S. 1373). This legislation takes a
very dramatic approach by proposing to repeal the McCarran-Ferguson
Act. In addition, S. 1373 would create a ``Federal Insurance
Commission,'' an independent panel within the Department of Commerce.
The commission would be the sole regulator of all interstate insurers
offering property and casualty insurance as well as life insurance. As
with any proposal that would shift regulation from the states to the
Federal government, IIABA strongly opposes this legislation.
There are several key components to S. 1373 that IIABA strongly
objects to. Under this legislation, a newly formed commission would
have full authority over both rates and policies, while at the same
time allowing consumers to have a right to challenge rate applications
before the Commission. The Commission would also be responsible for
licensing and standards for the insurance industry, annual examinations
and solvency reviews, investigation of market conduct, and the
establishment of accounting standards. The bill would also allow the
Commission to investigate the organization, business, conduct,
practices and management of ``any person, partnership or corporation in
the insurance industry.'' It would appear that insurance agents and
brokers would fall under this definition. IIABA believes that by
creating this commission, S.1373, would only take everything that is
wrong with the current state system and shift it to the Federal level,
where there is even less accountability. We are specifically troubled
that this legislation would regulate agents from all states and for all
lines of business who do business across a state line in what will
inevitably be a new massive Washington bureaucracy. While IIABA does
have problems with the current multi-state licensing system, we think
that adding another layer of regulation on top of this is a big
problem.
We believe that the states are better positioned to accommodate
diversity and to respond to change. Certainly history shows that the
State of Arizona has done an outstanding job responding to needed
consumer protections. However, weaknesses exist in state regulation
today. Unnecessary distinctions among the states and inconsistencies
within the states thwart competition, reduce predictability and add
unnecessary expenses to the cost of doing business. Similarly, outdated
rules and practices do not serve the goals of regulation in today's
financial services marketplace. Nevertheless and as noted previously,
there is much that is good about the current state-based system that
would be jettisoned through the creation of a Federal regulator,
including an enforcement infrastructure upon which consumers throughout
the Nation heavily rely to protect their interests. Federal charters
and the establishment of a full-blown, unprecedented, untested and
likely politicized regulatory structure at the Federal level are not
the answer.
What is needed is a third way--a system that builds on, rather than
dismantles, the States' inherent strengths to meet the challenges of a
rapidly changing insurance environment. It must include mechanisms to
promote the establishment of more uniform and consistent regulations
and regulatory procedures, but must be poised to respond faster and
more fully to the reality of electronic distribution and to emerging
industry trends such as globalization and consolidation. It must
modernize areas in which existing requirements or procedures are
outdated, while continuing to impose effective regulatory oversight and
necessary consumer protections. The result, for all stakeholders,
should be a more efficient, modernized and workable system of insurance
regulation.
For the last year, IIABA has been spearheading a cooperative
attempt to develop just such a proposal. We have been working with
other trade associations and directly with an array of national and
regional insurers in an effort to identify precisely what must be fixed
and how that might be done without displacing the components of the
current system that work so well and without creating additional layers
of government bureaucracy. Through this process, four specific areas
for reform and the constraints on the mechanisms for that reform have
been identified, and we have begun assembling a draft proposal for
accomplishing these reforms. In my remaining testimony, I will outline
the four components of this draft proposal.

a. Rate and Form Filing and Review/``Speed to Market'' Reform
As previously discussed, the product regulation requirements in
most states require insurers to file new rates and forms with the
insurance commissioner and obtain formal regulatory approval before
introducing them in the marketplace. Accordingly, an insurer that
wishes to introduce a new product on a national basis may be forced to
seek approval in up to 55 different jurisdictions. The process can be
inefficient, paper intensive, time-consuming, arbitrary and
inconsistent with the advance of technology and the regulatory reforms
made in other industries. These cumbersome inefficiencies create
unnecessary costs and delays, reduce industry responsiveness and drive
many consumers into alternative market mechanisms. The regulatory
regime in many states exceeds, in terms of scope and cost, what is
necessary to protect the public.
In evaluating potential solutions to these problems, it is
essential to recognize that uniformity is very difficult to achieve for
property and casualty lines product regulation. Due to geography and
other factors, some states must take into account issues that other
states need not address. In addition, states may subject rates and
forms to different levels of regulatory scrutiny, and as in Arizona
personal lines and commercial lines products may be treated
differently.
Unnecessary or unreasonable consumer protection concerns also limit
the range of potential options to some extent. The concern is that the
quicker and easier it is to have a new product or rate approved, the
less protection consumers will receive. The solution thus must strike a
balance between timely and quality reviews and appropriate consumer
protections. In addition, ``race to the bottom'' and ``turf'' concerns
have to be taken into account. Particularly under a scheme that employs
a single point of review, states that use more stringent rate and form
processes will be hesitant to accept the introduction of products or
policies approved under more lenient guidelines. We believe it is
possible, however, to strike an appropriate balance between realizing
meaningful speed-to-market reform and protecting consumer interests.
Based on these objectives and considerations, the IIABA proposal is
designed to do three things: (1) make the system more market-oriented;
(2) make the system faster; and (3) create greater accountability. On
the form approval side of the equation, this would be accomplished by
preempting any state law that requires more than allowing all proposed
forms (both commercial and personal lines) to be used no later than 30
days after they have been filed with the insurance commissioner unless
the rate or form is disapproved within that time period. Under such a
system, an insurer must at most file a proposed form with the insurance
department 30 days in advance of the proposed effective date, and the
form must be used at that time unless affirmatively disapproved by the
regulator. If a department affirmatively approves the filing at any
time within the 30-day period, the insurer may use the form
immediately. Under the proposal, regulators would be entitled to a
single 15-day extension of this disapproval period if an approval
application is incomplete, and more permissive state filing/approval
requirements would not be affected.
Under this approach, the current requirement that filings be done
in every state in which the product will be offered would not be
disrupted and current state form requirements would not be preempted
(except as discussed below). In both the personal and commercial lines
context, any disapproval must be articulated in writing and be based
substantively on a properly promulgated statute, regulation or final
court order. Many regulators have historically disapproved policy forms
based on unpublished and unsubstantiated ``desk drawer rules,'' but
such actions would be impermissible under our approach. As noted
previsously, more permissive form filing and approval requirements
would not be displaced by the Federal rules.
Under our draft proposal, rate approval is treated much differently
than form approval because the competitive market generally is the most
efficient and effective regulator for rates. At the same time, in
markets that are not sufficiently competitive, regulators need to
retain the ability to monitor rates and to intervene to disapprove
rates when necessary. Accordingly, under the draft proposal, any
regulatory review requirement for rates in competitive markets that
requires more than the filing of the rates with the insurance
department would be preempted. States, however, will remain empowered
to approve or disapprove rates in ``non-competitive'' markets if an
affirmative finding has been made determining that the market is ``non-
competitive.'' That determination would be subject to Federal court
scrutiny under the proposal.

b. Producer Licensing
Insurance agents and brokers must be licensed in every state in
which they conduct business, and many producers face considerable
hurdles in complying with inconsistent, duplicative and unnecessary
licensing requirements when they operate on a multi-state basis.
Although state licensing reforms adopted over the last two years offer
great promise, additional improvements and refinements are necessary.
The core proposal that we are developing to address this problem is to
mandate licensing reciprocity in all states and thus achieve meaningful
licensing reform that is national in scope. This could be accomplished
by prohibiting a state in which an agent or broker is seeking to be
licensed on a non-resident basis from imposing any licensure
requirement on that person other than submission of proof of licensure
in their home state and the requisite fee. Under a reciprocal licensing
system that is national in scope, any individual agent or broker would
only be confronted by a single set of licensing requirements.
The largest potential impediment to such a proposal is the concern
by some that it could create incentives for certain states to establish
lenient requirements with the hope that producers might flock there for
resident licenses. Such a ``race to the bottom'' would be detrimental
to the goal of fair, responsible regulation. To address the concern,
the draft proposal would empower the NAIC to establish minimum
standards for licensure. Only agents or brokers licensed as a resident
in states that satisfy these minimum standards would be able to benefit
from the preemption of state licensing authority over non-resident
agents. If an agent or broker resides in a state that does not adopt
the minimum-licensing standards, the proposal would explicitly enable
that producer to apply to a state in which they do business and that
has adopted such minimum standards to be licensed as a resident.
Through this mechanism, Congress also could dictate minimum licensing
standards. Under the draft proposal, for example, the minimum licensing
standards would be required to include the performance of a criminal
background check, utilization of standardized licensing cycles and
application forms and fees in the filing process, imposition of a
standardized trust account requirement for use in any state that
requires maintenance of such accounts, and the mandatory availability
of agency-level licenses.

c. Company Licensing/Transaction Review/Corporate Governance/Insolvency

Standards/Financial Audits
Like insurance agents and brokers, insurers currently must be
licensed by every state in which they do business. They also must
satisfy a variety of corporate organization, solvency and governance
requirements and go through multiple reviews of proposed corporate
transactions (i.e., change in control, mergers and acquisitions) and
financial audits. Insurers need a single set of requirements; requisite
compliance with the rules of multiple states creates delays and adds
unnecessary costs without adding any tangible consumer benefit.
Compliance with multiple audit procedures also is needlessly
inefficient, costly and administratively cumbersome for insurers.
As in the insurance producer context, in developing potential
solutions, the possibility of a race to the bottom and regulatory turf
concerns of state insurance departments must be considered. In
particular, state insurance departments likely will be hesitant to
accept licensing, solvency and auditing determinations made by other
states where the insurer does a significant amount of business in their
states.
Regulation in this area also must contemplate the financial risks
at stake if insurer solvency is not sufficiently regulated and
companies become financially unsound. Concerns about possible strains
on the guaranty system and the need for bailouts (such as in the
savings-and loan-crisis) are never far from the surface when dealing
with this area of regulation.
To remove duplicative and inconsistent requirements and examination
procedures while at the same time maintaining sufficient protection for
policyholders and the public, the proposal for companies tracks the
producer licensing proposal by preempting the ability of all states to
impose any licensing/transaction, review/corporate or governance/
solvency standards or requirements on any non-resident company that is
licensed by a state that is accredited by the NAIC. An insurer would be
able to select as its ``home state'' either its state of domicile or
its state of incorporation. States still would be free to require non-
resident companies to be licensed but only upon proof of home-state
licensure and the submission of a fee. The draft will clarify that any
company that satisfies such Federal ``passport'' requirements can offer
products in a non-resident state even if the state does not try to
license them through the federally approved process (if the state does
license in a federally permissible way, an insurer would have to comply
with the state requirements, however). Hence, although any state could
impose more stringent requirements on its resident companies, the
system would remain uniform from the perspective of each individual
insurer because each insurer would need to comply with only one set of
substantive requirements.
To stem a potential ``race to the bottom,'' a company will be
required to be licensed in an ``accredited'' state in order to use its
license as a passport to do business in other states and have the
preemption outlined above apply to its activities in those non-resident
states. The legislation would empower the NAIC to continue to conduct
the accreditation process, subject to two new requirements.
First, additional accreditation requirements would have to be
incorporated into the NAIC's accreditation requirements, including the
new producer licensing minimum standards and any company minimum
licensing, solvency or other standards that Congress chose to
incorporate.
Second, the NAIC's accreditation criteria and any determination
that a state is (or is not) accredited would be subject to review and
disapproval either by a Federal agency or by a Federal court. Such
oversight would be limited to reviewing NAIC determinations regarding
what standards must be satisfied to become accredited and applications
of those standards to states that have applied for accreditation.
To ensure that no company would be penalized (and thus unable to
qualify for the ``passport'' rights) by virtue of the fact that it is
domiciled in a non-accredited state, the legislation would permit an
insurer to choose an alternative state of ``residence'' for licensing
purposes if its state of domicile and its state of incorporation both
are not accredited. Tentatively, the legislation will allow such an
insurer to be licensed in the accredited state in which it does the
most business based on premium volume. This should increase the
pressure on all states to become accredited.
The legislation also must account for the possibility that the NAIC
will refuse to implement the program and/or that the states will decide
to boycott the process. In either event, the legislation will
incorporate the back-up provisions included in NARAB. Hence, either if
the NAIC refuses to implement the accreditation procedures as required
under the Act or if a majority of states do not become accredited
within a specified number of years, an independent body would be
established either to stand in the shoes of the NAIC in conducting the
accreditation process or--if states refuse to comply--to act as a
licensing clearinghouse so that insurers will qualify for the
licensing/solvency/etc. single set of requirements envisioned under the
overarching approach. The proposal utilizes a combination of the NARAB
back-up provisions and the Risk Retention Act non-resident state
regulatory provisions to create these fall-back sets of provisions. The
tighter they are designed, the less likely it is that the NAIC and/or
the states will refuse to comply with the intended NAIC accreditation
procedures.

d. Market Conduct Examinations

Insurers are subject to examinations from insurance departments in
multiple States. Exam procedures are inefficient and requirements are
duplicative as a result of lack of coordination between States.
Multiple exams are costly and administratively cumbersome for insurers.
There often does not appear to be a sound justification for the
examination and there are no restrictions on most insurance
department's exercise of their market conduct examination power. As
stated earlier, the Arizona Department made major reforms in its Market
Conduct Examination procedures this year. Not all states, however, have
shared our motivation to improve this aspect of the regulatory process.
It must be noted that market conduct examinations directly involve
consumer protection issues and, as a result, turf concerns and
political concerns can be prevalent. Moreover, the focus of market
conduct examinations is supposed to be on sales practices that occur
where the customer is located rather than where the company resides,
undermining the practicality of mandating a home-state regulation
approach.
To reduce the administrative costs of compliance by clarifying the
circumstances under which a regulator of a non-resident insurer may
conduct examinations, the frequency with which such examinations may be
conducted, and the review procedures that will apply, the proposal
would require that, in the non-resident state, examinations may be
conducted only to review compliance with properly promulgated statutory
and regulatory requirements, and that no insurer can be deemed to have
``failed'' such an examination unless it is provided with an
explanation in writing that sets forth the statutory and/or regulatory
requirement that allegedly has been violated. The proposal includes a
provision permitting any claim that a regulator is exceeding the scope
of his or her authority to be brought in Federal court.
In an effort to facilitate greater coordination of market conduct
examinations where appropriate, the proposal includes a provision
authorizing and encouraging the use of multi-state compacts to
facilitate market conduct examinations.

Conclusion
Although IIABA supports the preservation of state regulation of the
business of insurance, we believe that reforms to the current system
are necessary and essential. Specifically, IIABA believes the best
alternative for addressing the current deficiencies in the state-based
regulatory system is a pragmatic, middle-ground approach that utilizes
Federal legislative tools to foster a more uniform system and to
streamline the regulatory oversight process at the state level. By
using Federal legislative action to overcome the structural impediments
to reform at the state level, we can improve rather than replace the
current state-based system and in the process promote a more efficient
and effective regulatory framework.
Rather than employ a one-size-fits-all regulatory approach, a
variety of legislative tools could be employed on an issue-by-issue
basis to take into account the realities of today's marketplace and to
achieve the same level of overall reform as the imposition of a Federal
regulator. State regulation in Arizona has proven to be effective and
responsive to Arizona consumer needs. Arizona consumers wish to
maintain their say in how insurance regulation protects them. Arizonans
prefer to be regulated by Arizonans. The specific ideas outlined above
are just a few of the many specific solutions that could be adopted
under this type of approach. Instead of relying on the agenda of a
displaced and possibly politicized Federal regulator, however,
insurance regulation would continue to be grounded on a more solid
foundation--the century-and-one-half worth of skills and experience
that the states have as regulators of the insurance industry. The
advantage of this approach is that it offers the best of all worlds. It
will promote the establishment of more uniform standards and
streamlined procedures from state to state, protect consumers while
enhancing marketplace responsiveness, and emphasize that the primary
goals of insurance regulation can best be met by improving, not
abandoning, the state-based system that has been in place for over 150
years.
______

Response to Written Questions Submitted by Hon. Olympia J. Snowe to
Craig A. Barrington

Question 1. In your testimony, you provide arguments in support of
an optional Federal system of chartering insurance companies. You
identify many benefits of such a system, in which insurance companies
would have the option of remaining subject to state regulation, or of
becoming federally-chartered. In addition, you suggest that policy-
makers at the Federal level should act to create a more market-based
system of regulating insurance companies, to reduce obstacles and allow
companies to provide more efficient services and products. If insurance
companies were able to move to a market in which rates and prices were
more market-based, rather than strictly regulated by government
entities, what would be the primary consumer protections that currently
exist, or that you would recommend, to ensure that insurance providers,
in their desire to provide the best price to beat competition, did not
``over-sell'' themselves and their products and thereby increase the
risk of insurance providers having insufficient resources to satisfy
claims?
Answer. Our Optional Federal Charter (``OFC'') proposal
incorporates strong consumer protection provisions, including national
regulatory oversight of financial solvency and market conduct, thus
establishing a new national regulatory system designed to detect
significant financial issues and multi-state patterns of market
misconduct much more effectively than is possible under the current
fragmented state approach. In fact, our OFC proposal enhances consumer
protection by focusing Federal regulators on those core financial and
market behavior oversight functions, rather than on the ``government
price controls'' and ``product creativity hostility'' that are the twin
hallmarks of state regulation in most states most of the time.
However, it is important to note in this regard, that within the
general pattern of state price controls, there are some noteworthy
exceptions. Your question assumes that insurers are strictly price-
regulated for all products in every state today. This is not uniformly
the case. In Illinois, for example, there are no government price
controls, and market-based rate regulation has worked to create a
stable insurance environment for consumers. The Illinois experience
substantiates that consumers are well-served by a system where the
market sets prices rather than the Illinois insurance regulator setting
them. Moreover, there are no government price controls whatsoever with
regard to life insurance products, and there is no evidence that free
market pricing has resulted in diminished consumer protection for these
lines. It is neither good economics nor effective government policy to
believe that the financial responsibility of an insurer will in any way
be assured through government price controls. Indeed, to the contrary,
financial responsibility is protected through a regulatory system that
focuses specifically on the financial examination and marketplace
conduct of companies operating in that marketplace. This is what our
OFC proposal contemplates.
As a matter of general background, insurance regulation today can
be categorized in two broad ways. The first approach focuses on
government price and product controls that require companies to file
insurance rates and policy forms with state regulators and get their
approval. The second type of regulatory approach focuses on the
financial health and stability of insurance companies--so they can keep
the promises they make--and emphasizes oversight of the market behavior
of those companies. The former mode of regulation--a government
``command-and-control'' system--has been discarded for every other
major industry except property and casualty insurance. There is no
economic justification for its continuation. More importantly,
government price and product controls actually deny consumers the kind
of marketplace options they enjoy with respect to other products. This
type of regulation makes the state regulatory agency the focus of
political power, forcing companies to essentially beg the government
for approval of prices and products. Regulatory delays in reviewing
insurance rates and forms, coupled with reluctance to approve rate
increases where necessary or to approve new or innovative products,
provides a disincentive for insurance companies to develop a broad
range of products. In turn, this hurts consumers by shifting attention
away from financial solvency and marketplace regulation, which are the
two core ``consumer protection'' functions of regulators. Government
price and product controls create an unhealthy marketplace that relies
on government approval, not on consumer demand.
The latter kind of regulation--based on financial health and market
conduct--is utilized for every other industry. Focusing regulatory
resources on the financial health of those companies operating in the
marketplace protects consumers by ensuring that the companies have the
financial strength to pay claims when due. Allowing marketplace forces
to regulate insurance prices and products empowers consumers, rather
than regulators. Regulatory reform (especially elimination of
government price and product controls) frees up government resources
and allows a redirection of regulatory attention where it is most
needed, including effective solvency regulation and rehabilitation or
liquidation of troubled companies. Ultimately, consumers also benefit
from a streamlined and efficient insurance regulatory system that
reduces regulatory costs for insurers.

Question 2. You testified that one possible benefit of a Federal
regulatory regime would be the increased speed with which insurance
products could be brought to market. Reflecting upon the testimony of
Mr. Hunter, I am compelled to echo his question as to what benefit
consumers might draw from the increased rapidity in which insurance
providers could bring insurance products to market? Wouldn't such
rapidity increase the chance that a product could be sold which
contained unnecessary risks for consumers?
Answer. AIA advocates removing burdensome, and economically
indefensible, impediments to bringing safe new products to market. We
do not think there is any justification for this type of system--a
system that not only wastes resources, but places such a high barrier
to bringing new products to market that it stifles innovation.
Subsequent to the Senate Commerce, Science and Transportation
Committee hearing, the Capital Markets, Insurance and Government
Sponsored Enterprises Subcommittee of the House Financial Services
Committee held a hearing at which Neal Wolin, Executive Vice President
and General Counsel of The Hartford Financial Services Group,
testified. The following quotes from his November 5 written testimony
are instructive of the state regulatory problems experienced by our
industry:

``To give you a sense of impact on our operations, our
property-casualty companies make an average of 5,500 filings
each year with the 51 jurisdictions . . . and [those filings]
often result in lengthy dialogue between our lawyers and
actuaries and insurance department personnel. If significant
changes are made in one jurisdiction, we may need to restart
the process with jurisdictions that have already approved the
forms.''

``This elaborate process is burdensome on our industry, but
more importantly, has negative effects on the customers we seek
to serve. First, consumers ultimately pay the cost of our
compliance with this regulatory scheme through higher premiums.
Second, the complexity of the process interferes with our
ability to get new products to consumers rapidly. We live in a
time when consumer preferences change rapidly, and when
industries are generally judged by their ability to discern and
meet these changing preferences. In contrast, it can easily
take more than a year in our industry to secure the approvals
necessary to market a new product nationally.''

The magnitude of the problem becomes even more astounding when you
consider the aggregate number of property-casualty filings made each
year. The volume of submissions, in addition to entrenched hostility
toward innovative new products and/or enhancements, diverts regulatory
attention. Our OFC proposal emphasizes strong market conduct and
financial regulation by the Federal regulator and does not displace
mandatory coverage provisions of state reparations laws; these are the
principal mechanisms for making certain insurers conduct their business
appropriately and for highlighting to the regulator problematic
behavior across jurisdictional lines.
If the insurance industry cannot keep pace and cannot provide
consumers with real choices, the economy suffers. Insurance provides
much-needed security for businesses and individuals to innovate, invest
and take on risk. But the ability to innovate, invest and take on risk
is substantially impeded because insurers labor under the weight of a
``government-first, market-second'' regulatory system. It rewards
inefficient market behavior, subsidizes high risks and masks underlying
problems that lead to rising insurance costs. The bottom line is that
consumers ultimately will pay more for less adequate risk protection
than would be the case under a more dynamic, market-oriented regulatory
system administered by a single Federal regulator.
In summary, this question is closely linked to your first one.
AlA's response there aims to address your concerns about regulator
review and consumer protection. We obviously do not advocate that new
products violate the law. In fact, to reiterate, not only does our OFC
proposal preserve and enhance consumer protections, but the
jurisdictions that today do not provide price obstacles show no
evidence of placing consumers at higher risk. Indeed, the opposite is
true: presently the state regulatory system spends the majority of its
time, energy, and scarce resources preventing all but the most standard
insurance policy forms from getting to the marketplace, instead of
monitoring the financial health and marketplace activities of insurers.
Consumers would be well-served by regulatory focus on those activities.

Question 3. The American Insurance Association's (``AlA'') proposal
for an optional Federal charter would apparently leave the insurance
guaranty funds at the state level, where they are now. It seems that,
taking an example from the Federal insurance for banking deposits,
there might be certain benefits to the federalization of large guaranty
funds that exist, in part, to reassure consumers and provide confidence
that the insurance system as a whole can weather difficulties in
certain regions or within certain companies. What are your thoughts
regarding the positive and negative aspects of increased Federal
participation in the guaranty funds held to protect against
insolvencies? Would Federal participation in the guaranty funds reduce
the possibility that insurance consumers in one state might be
reimbursed at levels lower than other consumers in other states, and,
if so, would this result be sufficient, in your opinion, to justify
establishing Federal guaranty funds to replace state guaranty funds?
Answer. This is an important question. Although there is a
reasonable argument that a Federal guaranty system should be created
for federally-chartered insurers, we drafted our OFC proposal-after
substantial thought on the issue-to leave the state guaranty fund
system in place so long as those state funds provide nondiscriminatory
coverage for federally-chartered insurers.
In crafting the OFC proposal, we decided to leave the state
guaranty funds in place for a number of key reasons. First, we believe
the state guaranty fund system has admirably performed its
responsibilities for more than three decades and it may be best not to
uproot a system that has had a successful history. Second, we were told
by advocates of the state guaranty fund system that, by removing
federally-chartered insurers, the state fund system may be weakened,
given it would have fewer participating insurers, and ultimately may be
threatened. While we strongly believe insurers should have the option
to be federally chartered, we do not want to encourage arguments that
the OFC proposal impairs elements essential to the state system.
Nevertheless, the state guaranty fund system is under significant
stress today based on the recent increase in insurer insolvencies. An
ultimate decision about their proper role in an OFC environment is
ultimately a matter of thorough legislative debate and discussion. Our
current OFC proposal was crafted with a goal of not needlessly
disrupting state based institutions and sources of funding.
______

Response to Written Question Submitted by Hon. Olympia J. Snowe to
J. Robert Hunter

Question. As we seek to achieve the proper balance between state
and Federal regulation of insurance companies, the need to protect
consumers' interests is of paramount importance. As such, we need to
weigh the value of protecting consumers against abusive practices, as
well as the desire to allow consumers to obtain the best prices
possible for products, stemming from free competition among insurance
providers and the absence of overly burdensome regulations. What are
the primary concerns and complaints that consumers raise regarding the
provision of insurance? What lessons regarding insurance regulation do
these concerns provide?
Answer. Thank you for your thoughtful question, Senator Snowe.
There are three main areas of concern for insurance products--
policy forms, risk classifications and overall rate levels. Market
forces will not protect consumers on policy forms and risk
classifications (such as introducing credit scoring to rate policies).
If unregulated in these two areas, insurers are in an overwhelming
position to take advantage of consumers. There must be prior approval
of policy forms and risk classifications. The issue of risk
classification must command more scrutiny by legislators and
regulators. Insurers are using all sorts of personal information--
completely unrelated to the insurance transaction--to segment the
market into smaller and smaller pieces. These actions are undermining
the basic principles and policy goals of insurance.
If these two areas--policy forms and risk classifications--are
effectively regulated, then an argument can be made that market forces
will constrain overall price levels in most lines of insurance (there
are exceptions, such as non-competitive lines like assigned risk plans
and lines with reverse competition, such as credit insurance). Insurers
point to Illinois to support their case for complete deregulation. But
consumers point to massive rate hikes in homeowners insurance in
unregulated Texas, the worker comp rate explosion in unregulated
California and other failures of deregulation to make their case. At
best, the evidence is mixed about the role of market forces in
regulating overall insurance price levels. Theoretically, then, a file
and use system for overall rate levels--combined with prior approval of
policy forms and risk classifications--might best balance consumer
protections with reliance on market forces.
However, CFA's analysis of regulatory methods throughout the
nation, including the file and use systems, concluded that the
California auto insurance system--installed as the result of California
residents voting for Proposition 103--is the best system for consumers
and insurers alike. This analysis can be found at www.consumerfed.org.
(The report is called ``Why Not The Best? The Most Effective Auto
Insurance Regulation in the Nation,'' dated 06/06/01.) Under this
system (used for most of property-casualty insurance, but not workers'
compensation), competition is maximized by eliminating the state anti-
trust law exemption, allowing banks to compete with insurers, removing
state impediments to competition, such as anti-group and anti rebate
laws, and improving consumer information. It also uses regulation to
backstop the competitive forces, understanding that regulation and
competition both seek the same goal: the lowest possible price
consistent with a fair return for the service providers.
As I point out in my testimony, insurers realized very nice
profits, above the national average, while consumers saw the average
price for auto insurance drop from $747.97 in 1989, the year
Proposition 103 was implemented, to $717.98 in 1998. Meanwhile, the
average premium rose nationally from $551.95 in 1989 to $704.32 in
1998. California's rank dropped from the third costliest state to the
20th.
Updating this information through 2001 \1\ shows that, as of2001,
the average annual premium in California was $688.89 (Rank 23) vs.
$717.70 for the Nation. So, from the time California went from reliance
simply on competition as insurers envisioned it to full competition and
regulation, the average auto rate fell by 7.9 percent while the
national average rose by 30.0 percent.
---------------------------------------------------------------------------
\1\ State Average Expenditures & Premiums for Personal Automobile
Insurance in 2001, NAIC, July 2003.
---------------------------------------------------------------------------
______

Response to Written Questions Submitted by Hon. Olympia J. Snowe to
Douglas Heller

As we seek to achieve the proper balance between state and Federal
regulation of insurance companies, the need to protect consumers'
interests is of paramount importance. As such, we need to weigh the
value of protecting consumers against abusive practices, as well as the
desire to allow consumers to obtain the best prices possible for
products, stemming from free competition among insurance providers and
the absence of overly burdensome regulations. What are the primary
concerns and complaints that consumers raise regarding the provision of
insurance? What lessons regarding insurance regulation do these
concerns provide?

Question 1. What are the primary concerns and complaints that
consumers raise regarding the provision of insurance?
Answer. For more than fifteen years the consumer advocates at the
Foundation for Taxpayer and Consumer Rights have heard from insurance
consumers about their frustrations, concerns and complaints regarding
insurance. The two chief concerns and complaints by insurance consumers
relate to exorbitant rates and the failure to efficiently and equitably
handle a policyholder's or injured victim's claim.
A good example of the former complaint came from a motorist in
Pennsylvania:

I am a consumer who is mandated to carry auto insurance in the
state of PA. However, after 15 years of a perfect driving
record, and one accident later, my auto insurance rates
skyrocketed. After numerous calls to the insurance company,
insurance commissioner's office, district attorney, consumer
protection agency, I ended up in the same place; no where. All
I wanted to know is how does an insurance company determine
what an adequate price increase is? Who makes sure they are not
overcharging their policy holders? Is it the same people who
are salaried by the insurance companies they are suppose to
watch over?

An example of the latter comes from New York:

In 1994 our house in New York was destroyed by a fire that was
caused by an accident. On that day we were assured . . . that
we would be back in our house in six months, however they have
not offered us a settlement that would replace our loss (we
were insured for replacement value), and (the insurer) has
fought our claim . . . for the past seven and a half years . .
.

We have had countless appraisals, and an arbitration that was
refused by the insurer. The fact is that My mother paid every
month, for thirteen years, to insure that if a catastrophe
struck it would be fixed promptly and fully, but our insurer
has only offered 2/3's of the replacement cost at any given
time, even though we had full replacement coverage. My family
has been put through great pain and suffering over this
problem, we have in effect been raked over the coals of our
burnt out house.

Of course, various iterations of these problems are repeated time
and again, not only to consumer protection organizations like ours, but
to insurance commissioners and lawmakers throughout the country.
Additionally, we often see complaints that merge the two issues.
Consumers often complain that an insurer improperly blamed an accident
on them, without a proper investigation and then increased their
premium. In recent years there has been an upsurge in complaints from
homeowners who file a legitimate claim and then are non-renewed by
their insurer. Next they find that only very expensive policies are now
available to them, because their claim has been filed with a national
claims database known as the Comprehensive Loss Underwriting Exchange,
or CLUE, which is used by virtually all insurers to discriminate
against homeowners with prior claims.
These problems, particularly rate related complaints, are not
exclusively the problems of individual consumers of personal lines
insurance. This year, Congress and many state legislatures have
considered the problem of massive rate hikes for physicians and
hospitals purchasing medical malpractice insurance. Unfortunately, the
discussion on this issue has focused exclusively on approaches that
limit the rights of injured patients, leaving the possibility of
regulating insurance company rates (as opposed to victims' rights)
virtually out of the picture. Over the years, unregulated medical
malpractice insurers have pushed rates wildly up and down, following
the trajectory of the broader economy rather than the actual assumption
of risk. While the accessibility of insurance in the mid-1990s--even
for doctors with terrible records and conduct--went unquestioned, the
incredible swing upward in recent years has engendered an angry
constituency of doctors who cannot tolerate the vagaries of the
unregulated insurance marketplace, even if their fury is misdirected
towards the innocent victims of malpractice who try to use the
insurance system as it was meant to be used.
On the claims side of the insurance equation, the complaints come
from small businesses and associations such as condominium associations
as well as individuals. After the very destructive 1994 Northridge,
California earthquake, thousands of personal and commercial property
insurance claims were low-balled and delayed by insurers. Market
conduct exams by the state Department of Insurance indicated that
approximately 50 percent of claimants were mistreated or defrauded to
some degree by their insurer. However, those exams, which suggested
that insurers owed policyholders more than $200 million in unpaid
claims, were quashed by the insurance commissioner, who resigned in
disgrace when the public learned of this six years later. The
commissioner allowed insurers to avoid penalties and repayment by
paying a few million dollars into private foundations controlled by the
commissioner. Because the regulatory powers of the Department staff
were stymied by the Insurance Commissioner, consumers were left
unprotected and underpaid.
In short, the main concerns of insurance consumers are that they
pay the right amount for their policy and that they get what they pay
for.

Question 2. What lessons regarding insurance regulation do these
concerns provide?
Answer. It is our view that these concerns and complaints serve as
a strong indication that insurance consumers are best served when the
insurance marketplace is well regulated. As the auto insurance
policyholder from Pennsylvania notes, all drivers are required by law
to purchase the insurance companies' product. Homeowners who have a
mortgage are required to purchase insurance, a de facto mandate.
Indeed, a variety of insurance products have become so integral to the
functioning of our economy and consumers' financial lives that it could
be said that insurance is akin to a utility in contemporary America.
When a product is mandated or otherwise unavoidable, it is
impossible to ensure a competitive marketplace in which the consumer is
on an equal playing field with the seller without regulatory
intervention. That is, no matter what the insurers charge, a motorist
must by auto insurance; a consumer cannot put off buying a policy like
they might forgo a new car for another year. Also, a consumer cannot
retroactively choose not to buy a policy if an insurer does not pay
claims properly; the consumer has already paid for the policy in
advance.
As such, we believe that some of the assumptions about delivering
consumer protections must be analyzed. You state that ``we need to
weigh the value of protecting consumers against abusive practices, as
well as the desire to allow consumers to obtain the best prices
possible for products, stemming from free competition among insurance
providers and the absence of overly burdensome regulations.''
First, the ``best'' insurance premiums do not stem from free
competition. As we have learned in California and throughout the
nation, so-called free competition, or unfettered markets, led to the
incredibly volatile and high rates of the insurance crises of early
1970s and the mid-1980s. Second, we are wary of language such as
``overly burdensome regulations'' because, while we see plenty examples
of inefficient and ineffective regulation, it is hard for us to
identify examples of overly burdensome regulations.
The insurance industry, which is not even subject to anti-trust
laws in most states, has been able to undercut most regulation
throughout the country, with the notable exception being California. In
order to successfully protect consumers from excessive rates and unfair
insurer conduct, new laws should be enacted to strengthen the
regulatory oversight of insurance companies. As is the case under
California's Proposition 103 the burden to justify insurance rates
should be on the companies, rather than on the public to contest rates.
Further, insurers should be expected to meet stringent standards of
conduct with respect to the treatment of claimants.
The real life concerns of insurance consumers continually teach us
that, around the country, the products and services provided by
insurers are not sufficiently overseen by regulators. They teach us
that the price of insurance is of the utmost importance to consumers
and businesses and that, because insurance is a service we pay for in
advance, vigilant regulation is essential to ensure that companies
fulfill their obligations to consumers.
As we describe in our full testimony, the stringent regime of
California's Proposition 103 provides the best example of regulatory
efficacy in the Nation. California has successfully regulated insurance
rates for 15 years, since the enactment of Proposition 103. The effect
of regulation has been to lower rates for consumers while maintaining a
healthy and profitable marketplace for insurers. Our full testimony
explains in greater detail that insurers' profits in California over
the past ten years have been higher than the national average. That
tells us that insurance regulation not only protects consumers from
unjustifiable premiums, but it also protects insurers from errant and
risky practices.
I hope these responses assist you as you look for ways to improve
insurance consumer protections. Thank you for considering our views.
______

Response to Written Question Submitted by Hon. Olympia J. Snowe to
Thomas Ahart

Question. In your prepared testimony you provided a proposal for
the licensing of insurers, insurance agents, and brokers, under which
each insurer, agent or broker would be subject to one state regulator
for licensing determinations, solvency regulations, financial audits,
corporate transaction reviews, and corporate governance requirements.
You also propose that state regulators would be limited to 30-day
reviews of proposed insurance policies, and states would be prohibited
from enforcing requirements for prior rate approvals for insurance
coverage sold in a ``competitive'' marketplace. Finally, you suggest
that state regulators should be limited in their ability to conduct
examinations. At a time when we hear so many concerns expressed by
consumers that they are overwhelmed by the complexity of the insurance
products offered to them, and that they are unsure of the solidity of
the providers from which they seek to buy products, how would your
proposal for a new licensing regime protect the consumer? Would your
proposal decrease the ability of regulators to adequately examine new
and complicated products, at the same time you were reducing the
ability of regulators to go in and examine insurance providers or
agents that might be behaving in an unethical manner?
Answer. There is near universal consensus that insurance regulation
must be modernized and reformed, but there are differences of opinion
about how best to address the flaws and deficiencies that exist with
the current regulatory system. Some support pursuing reforms in the
traditional manner, which is to seek legislative and regulatory
improvements on an ad hoc basis in the various state capitals. A second
approach, pursued by several large international and domestic insurers,
would result in the dangerous and unprecedented establishment of full-
blown Federal regulation. The Independent Insurance Agents and Brokers
of America (IIABA) believe the first option is unlikely to result in
the desired results or in achieving greater regulatory uniformity among
the states. We also believe the second option would unnecessarily
jettison the expertise and experience of state regulators, create
confusion among consumers, and exempt federally chartered insurers from
the consumer protection framework that exists today at the state level.
In response to the need for reform and because of the deficiencies
associated with the approaches outlined above, IIABA has developed a
third approach and middle-ground solution. Specifically, we are calling
on Congress to use the legislative tools at its disposal to overcome
the structural impediments to reform and ultimately achieve a more
efficient and effective regulatory framework. In other words, we
advocate using Federal legislative action to bring about greater
consistency and other needed reforms across state lines. In this way,
we can assure that insurance regulation will continue to be grounded on
the proven skills and experience of state regulators. This pragmatic
concept would address many of the legitimate criticisms lodged against
the current system and improve and enhance state insurance regulation
without replacing it altogether.
Working in conjunction with organizations and policymakers
interested in this approach, IIABA continues to consider the potential
applications of this concept. Although this development process is
still underway, there are some areas where our work is more evolved and
refined. In order to give you some perspective concerning the possible
applications, I have highlighted some of the ways in which this
approach could perhaps be implemented, focusing below only on producer
licensing and speed-to-market issues.

National Licensing Reciprocity--In the licensing arena, we
propose implementing reciprocity on a 51-jurisdiction basis and
preempting all non-resident licensing laws that are
inconsistent with the GLBA/NARAB standards. By using Congress's
preemptive authority, we could provide that a producer licensed
in his/her home state may obtain a non-resident license by
simply completing the NAIC's uniform application and paying the
requisite fee.

National Uniformity--Additional uniformity is necessary in
producer licensing, and Federal legislation could be used to
establish greater multi-state consistency. Such uniformity
standards could address a broad array of issues, including, but
not limited to, resident licensing requirements, the licensing
cycle and renewal process, entity licensing, the use of the
Producer Database, etc.

Countersignature Laws and Other Restrictive Barriers--This
type of proposal could also provide for the outright preemption
of countersignature laws and similar barriers to effective
multi-state commerce.

Parameters for Rate and Form Review--Through the use of
preemption, a Federal proposal could establish parameters for
the purpose of standardizing and streamlining the review and
approval of insurance products. This could be done on the form
side, for example, by making a traditional file-and-use system
(with a strict deemer provision, limited to 30 days, and other
mandates) the most stringent form of review available to state
regulators. Rate regulation could be addressed in similar ways,
and IIABA supports using preemption to move to a competitive
rating system that would eliminate the traditional review and
approval of rates and only require rates to be filed
electronically at the time they are introduced in the
marketplace.

Your question appears to focus on three aspects of our proposal--
the manner in which in would address product regulation, solvency
regulation, and market conduct oversight--and I have attempted to
address each of these issues below:

Product regulation--Many states regulate the development and
introduction of new products into the marketplace in ways that
cause significant and unnecessary delays, undermine the forces
of competition, and create affordability and availability
problems for consumers. We seek to eliminate the unnecessary
delays associated with introducing a new product into the
marketplace, and we believe that competition plays an important
role. Some state insurance departments actually establish the
prices that can be charged for insurance products, but IIABA
believes that insurers should be free to set their own
insurance rates in any market that is competitive. With regard
to policy forms, IIABA believes that states should be mandated
to take action on a proposed product within 30 days or some
similar, reasonable timeframe. States that have enacted similar
reforms, including Illinois and South Carolina, have had great
success.

Solvency regulation--This is one area of insurance
regulation that operates effectively and efficiently, and
IIABA's proposal does not interfere with this functional aspect
of insurance regulation. State regulators generally do an
excellent job in this area. We do, however, have some strong
concerns about how solvency regulation and guarantee funds
would be affected by proposals calling for Federal regulation.

Market conduct oversight--IIABA strongly believes that
market conduct review should be a primary focus for state
regulators, and we do not seek to undermine the work being
performed in this area. We do not believe the level of scrutiny
should be reduced; we simply believe there should be greater
coordination among the states and a greater reliance on home
state regulators. Today, insurers are often the subject of
lengthy, cumbersome, and duplicative market conduct reviews by
multiple state regulators. These regulators do not coordinate
their exams and do not share or communicate their findings with
other states. IIABA simply seeks to improve the process,
enhance multi-state coordination, and eliminate exams that are
nothing more than unjustified ``fishing expeditions.''

IIABA believes that solvency regulation and consumer protection are
the two most important functions that are performed by state insurance
regulators, and we do not intend to undermine these areas in any way.
Our proposal, which calls on Congress to use its legislative and
preemptive powers to bring about reform and enhanced consistency, does
not dislodge consumer protections in any way.