The current system of state insurance regulation stifles product innovation, limits customer choices, increases costs and inhibits the proper functioning of fully competitive markets, according to a report done for the Financial Services Roundtable's Cluff Research Fund.
However, there is not one ring to save them, so to speak, the report concludes unless Congress creates a federal regulator with power of all, with the ability to banish all overlap and inefficiency and to act as the first and last authority, according to the report.
The report, titled Modernizing Insurance Regulation in the United States, was prepared by two partners at Dewy & LeBoeuf LLP and a law and health sciences deputy dean at University of Pennsylvania's Law School, and offered two sets of reforms: those that change the basic overall framework; and those reforms can be implemented within the existing regulatory framework, according to the report.
However, even the mildest would be an undertaking, and involves binding national standards to sever dependence on state legislatures, while a proposed federal "passporting"system as a mid-range option before outright overall federal regulation of insurance through a network of federal agencies would require Congressional action and agency implementation.
The report comes at a time when the Federal Insurance Office in the U.S. Treasury Department is starting to collect comments from the industry and consumers and government groups on insurance modernization as part of its mandate under Dodd-Frank financial services reform.
No one perfect solution was found, with both federal and state insurance regulations facing inefficiencies, supervisory overlap, balance sheet confusion and more law-making.
The authors were quick to point out that they were mindful of the Roundtable's longstanding goal of comprehensive reform through uniformity of regulation.
"We work from the basic premise that to the extent there are differences in regulation among states, these differences need to be justified by sound reasons," they said.
The authors found barriers to market entry and exit in the state licensing process, from the benign form of unnecessary paperwork to real roadblocks that inhibit the development of fully competitive markets. Significantly, the reinsurance regulatory arena was found wanting, resulting in problems for the U.S. in trade negotiations.
Ironically, "recent reform measures in New York, Florida and New Jersey have created a situation where there is an even greater lack of a uniform approach for the regulation of reinsurance," the report found.
The authors recommended some specific changes many groups have already advocated:
- Exempt markets from rate regulation
- Repeal seasoning requirements and state-specific license application requirements
- Improve coordination of examinations among states and decrease reliance on contractors for exam responsibilities
- Expand the Interstate Compact process to cover all states and other lines of insurance and completely deregulate form approval requirements for group insurance products and insurance sold to large commercial buyers
- Deregulate group and large commercial insurance
- Increase the harmonization, transparency and public understanding of the guarantee fund
- Consider global best regulatory standards
The report did begin by noting that the financial regulation of insurance is apparently sound and functions well as part of the greater market.
"Solvency regulation met the test, it would seem….at no point did insurance activity appear to add systemic risk to the broader financial system or the general economy. Excluding AIG, the major multiline property-casualty insurance company failures that did occur during the past decade did not result in shocks to the insurance market, let alone the larger economy, and there were no major life insurance company insolvencies," the report stated.
Although state-regulated insurance industry fared much better during the 2008-2009 financial crisis than the federal regulated banking industry, the report noted, AIG's failure "pointed to the absence of any meaningful group supervision of insurance enterprises."
This problem could become more significant due to the overlapping and at times inconsistent regulation by state insurance regulators coupled with Federal bank exercising authority under Dodd-Frank to supervise any insurance holding company designated as systemically significant, the report warned.
The terracing of reforms suggested in the Cluff report begins by apparent retention the existing state-based framework but fostering uniform, national standards through state action and with a state voluntary agreement for binding national standards that are developed on a multistate basis. This action targets dependency on state legislatures, as the report identifies dependence on these bodies to assure uniform national standards as a weak link in the system of standardization.
