Automobile Insurance Deregulation

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Automobile Insurance Deregulation
Martin F. Gracemgrace_at_gsu.edu Richard D. Phillipsrphillips_at_gsu.edu
Department of Risk Management and
Insurance Robinson College of Business Georgia
State University
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Conclusions

• Georgia not in a crisis
• Best time to re-evaluate regulation
• Benefits from deregulation exist and have been
  demonstrated in other states.
• More companies competing
• More commitment to the state
• More willing to make fixed-cost investments
• More willing to commit capital
• Even in times of crisis

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Congressional Testimony of Ernst
CsiszarDirector, South Carolina Department of
Insurance, April 10, 2003

• For years, neither actuarial methodology nor
  supply and demand had much to do with automobile
  insurance ratemaking in South Carolina. Politics
  drove that ratemaking process within our state.
  Politically, there was never an opportune time to
  raise insurance prices. This resulted in
  significant rate suppression. In the short term,
  rate suppression kept the costs of insurance
  down. However, in the longer term, insurers were
  leaving the market because they were unable to
  secure an adequate rate for their product. Hence,
  the level of competition within the market
  decreased. Rate suppression, as well as frequent
  legislative changes designed to address
  short-term ills of one form or another, also sent
  the wrong signals to the market. These provided
  incentives to consumers to continue to engage in
  risky behavior (e.g., speeding), because the
  insurance premiums they paid were artificially
  low for some and did not accurately reflect their
  insurance risk. Consequently, in this system,
  good-risk drivers were subsidizing the insurance
  of bad-risk drivers.

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Why Regulate?

• Monopoly
• High Entry Barriers
• Informational Problems
• What do we have in Automobile Insurance?
• Monopoly?
• Entry Barriers
• Little to none in Georgia
• Informational Problems?
• Agents, Internet, A.M. Best
• Georgia has some 367 Private Passenger Auto
  Insurers in the State. Each has an incentive to
  sell insurance. There are plenty of agents and
  internet resources on auto insurance.
• Why regulate what looks like a competitive
  market?

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Two Major Styles of Regulation

• Prior Approval Filing
• Insurer seeks regulators approval prior to a
  rate being implemented.
• Competitive Filing
• Insurer can price insurance with few or limited
  restrictions.
• Note There may be a distinction to what the law
  says and how the regulator behaves.

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Actual Rate Regulation Laws

• State made rates
• Prior approval with a w/o deemer provision
• Prior Approval with a deemer provision
• File and use
• Use and file
• File only
• Flex rating

Generally Prior Approval
Generally Competitive
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Evidence of the Impact Auto Insurance Regulation

• Overall average impact small
• Across all regulated states across time, the
  average regulate price is close to the average
  price in competitive states
• Sometimes prices are lower than competitive
  markets and sometimes prices are higher than
  competitive markets.
• The most rigorous study found that prior approval
  rate regulation had little effect on prices over
  the period 1970s to the late 1990s.
• However, regulation, on average, causes other
  significant distortions
• Reduced incentives by insurers to invest which
  leads to
• Reduced competition
• More expensive distribution mechanisms
• Lower capital contributions
• Reduced choice for consumers
• Lower levels of innovation
• Greater levels of subsidization of high risk
  drivers (which increases costs in the future).
• Great political dissatisfaction with auto
  insurance. It becomes a salient political issue
  in a state.
• In addition, in some states, the impact of
  regulation caused severe distortions

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Source Scott Harrington, Effects of Prior
Approval Rate Regulation of Auto Insurance, in
(Cummins ed)Deregulating Property-Liability
Insurance Restoring Competition and Increasing
Market Efficiency (Brookings Institution, 2002)
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Personal Automobile Loss Ratios GA, SC, IL, and
US 1985 - 2005
Source NAIC and authors calculations
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Personal Automobile Insurance Profits GA, SC,
IL, and US 1989 - 2005
Source NAIC Report on Profitability By Line By
State
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Personal Automobile Residual Markets GA, SC, IL,
and US 1988 - 2004
Source AIPSO
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Number of Personal Automobile Insurers GA, SC,
NJ, MA, and IL 1985 - 2005
Source NAIC and authors calculations.
Includes all insurers writing 100,000 of NPW in
personal automobile liability and personal
automobile damage insurance.
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What Can We Expect From Deregulation?

• More consumer choice
• Lower average prices
• Regulated prices can be high because firms can
  not raise and lower them as needed, so they tend
  to choose on the high side.
• More commitment to state in hard times
• More product innovation
• Better incentives

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South Carolina Regulatory Regime
Provision Pre-Reform
Rates Prior Approval
Risk Classification Restricted
Public Rate Hearings Yes
Limits on Underwriting Restricted
Residual Market Subsidies Yes Paid by insureds
Compulsory Insurance Yes
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Large Subsidies Went to High Risk Drivers
Chart shows loss ratio and average loss cost for
drivers in the residual market for bodily injury
losses from 1993 - 1998
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Rate Suppression and Subsidies Reduce Incentives
to Control Costs
Table shows average automobile insurance premium
in 1991 and 1998 forSouth Carolina, Southeast
States, and Nationwide.
Jurisdiction 1991 1998 Increase
South Carolina 615.89 766.23 24.4
Average GA, FL and VA 669.48 749.37 11.9
Nationwide 685.56 797.23 16.3
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South Carolina Today
Provision Pre-Reform Post-Reform
Rates Prior Approval Flex-rating
Risk Classification Restricted Increased
Public Rate Hearings Yes No
Limits on Underwriting Restricted Eased
Residual Market Subsidies Yes Paid by insureds Yes
Compulsory Insurance Yes No
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Sample South Carolina Statistics Post Reform

• Number of automobile insurance companies
• 1998 88 companies
• 2003 155 companies
• Size of the residual market
• 1998 600,000 policies
• 2003 340 policies
• Eliminated subsidies for risky drivers
• According to the National Association of
  Insurance Commissioners, average automobile
  insurance expenditures dropped for SC relative to
  the nation
• 1998 24th highest average premium
• 2001 34th highest average premium