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p> Issue: Insurance plays an important role in our economy; a fact made all to clear in the wake of Katrina. A properly functioning insurance market offers important financial planning instruments that allow individuals to recover and rebuild in the case of accidental loss. As a whole, the insurance sector contributes more than $270 billion to GDP—2.3 percent of the nation’s output. Despite this prominent stature in the economy, the industry operates under an archaic regulatory system that makes it difficult to provide consumers with the products they need. Rather than seek reforms to these burdensome regulations, some in Congress are seeking to create an additional layer of federal regulation.
Adding a New Layer of Federal Oversight Would Impose Costs on Consumers. Unlike most industries, insurance has been regulated at the state level, not the federal level. This approach was formalized when Congress passed the McCarran-Ferguson Act in 1945, which provided limited exemption from the federal antitrust laws in exchange for increased oversight by state insurance regulators. The aftermath of hurricanes Katrina and Rita has led some in Congress to reconsider this approach, calling for a greater federal role. In the Senate, S. 618, the “Insurance Industry Competition Act” has been introduced to repeal McCarran-Ferguson and impose federal antitrust oversight on the insurance industry.
However, expanding the antitrust laws to an industry that is heavily regulated by the states and subject to state antitrust laws would do little to improve hurricane preparedness, while doing much to increase the potential for costly lawsuits that could ultimately increase prices for consumers. As the Iowa insurance commissioner, Susan Voss, testified, “Repeal [of McCarran-Ferguson] risks transforming certain insurance practices that help consumers, promote competitiveness, and strengthen markets, into actionable violations of federal antitrust law.”
Regulatory Reform, Not More Regulation. After McCarran-Ferguson originally passed, state regulators expanded regulatory oversight of the industry. A ratemaking process was established to ensure that rates were “adequate, not excessive, and not unfairly discriminatory.” Adequate rates minimize the risk of insolvency to make certain that insurance companies have the required resources to pay claims, while rates that are not excessive or unfairly discriminatory protect consumers from price gouging and market misconduct.
Although extensive, state regulations are not necessarily efficient. Numerous states, including Massachusetts, New Jersey, Texas, and Florida, have had insurance “crises” as state regulations drive insurers out of the market, limiting consumer choice and product availability. In some instances states have responded by easing the regulatory burden (as in South Carolina), but in other instances states respond by further tightening restrictions on insurers. Florida, for example, is currently considering new restrictions on insurers that are likely to reduce the number of insurers willing to do business in the state.
In fact, with advances in technology and the deregulation of the larger financial services market, excessive state regulations have become a critical problem for the insurance sector. Not only insurance providers, but even many regulators, admit that reform is necessary. There have been attempts to address the regulatory burden at the state level, but progress has been slow at best. A new level of federal regulation would simply exacerbate this problem.
A Better Solution: Optional Federal Charter. If Congress is serious about improving the insurance market, it should seek ways to create a more efficient regulatory system, not simply increase the regulatory burden. One such approach is the optional federal charter, which would offer insurers the choice of a new federal charter (with federal oversight) as an alternative to the existing burdensome state regulatory regime. Importantly, this is not another layer of regulation added to the existing system; rather, it is an alternative regulatory system competing with the existing state regulatory system.
Of course, an optional federal charter is no guarantee of relief. Excessive regulation is detrimental, regardless where it implemented. But as in the world of banking, a dual charter system can offer a more streamlined approach to regulation, and the option leaves regulators at both levels of government more aware of the regulatory burden. Ultimately, the long-term solution requires a dynamic and open market where premiums are based on actuarial risk.
Next Steps: Improved Regulation through an Optional Federal Charter. The optional federal charter would force state regulators to reform outdated and inefficient insurance regulations. A choice of charters, as in the banking sector, injects a degree of competition among regulators that would break the logjam on modernizing the regulatory framework for insurance. At the same time, it would allow new products to be brought to the market much more quickly, with insurers having to navigate only one regulatory authority rather than go through the approval process in every state where they operate. This cuts administrative costs and offers lower prices for consumers.
In the last Congress, both the House and Senate introduced legislation to create an optional federal charter, acknowledging the fact that state level regulation was harming consumers. The new Congress should not ignore this important issue in a rush to expand federal regulation. Efforts to reform state level regulations must not be abandoned, either. The federal charter is, after all, optional and many insurers may choose to remain regulated at the state level. Consumers would benefit far more from an optional federal charter than from one more layer of bad regulation added to an already broken regulatory structure.