{[ promptMessage ]}

Bookmark it

{[ promptMessage ]}

IM_5.pdf - Dr Mariusz Dybał Institute of Economic Sciences...

Info icon This preview shows page 1. Sign up to view the full content.

View Full Document Right Arrow Icon
This is the end of the preview. Sign up to access the rest of the document.

Unformatted text preview: Dr Mariusz Dybał Institute of Economic Sciences [email protected] Insurance market Government regulation of insurance (Based upon: George E. Rejda, PRINCIPLES OF RISK MANAGEMENT AND INSURANCE (10TH EDITION), Addison Wesley, 2007) 1 Mariusz Dybał – Government regulation of insurance Scheme of the Lecture 1. 2. 3. 4. 5. Reasons for Insurance Regulation; Regulation; Methods for Regulating Insurers; Insurers; What Areas are Regulated?; Regulated?; Current Problems and Issues in Insurance Regulation;; Regulation Case application no. 5. 2 Mariusz Dybał – Government regulation of insurance 1. Reasons for Insurance Regulation  Insurers are regulated by the states for several reasons, including the following:  Maintain insurer solvency; solvency;  Compensate for inadequate consumer knowledge; knowledge;  Ensure reasonable rates; rates;  Make insurance available. available. 3 1 Mariusz Dybał – Government regulation of insurance 1. Reasons for Insurance Regulation  Maintain insurer solvency: solvency:  Solvency is important for several reasons:  First, premiums are paid in advance, but the period of protection extends in the future:  For example, if an insurer goes bankrupt and a future claim is not paid, the insurance protection paid for in advance is worthless. 4 Mariusz Dybał – Government regulation of insurance 1. Reasons for Insurance Regulation  Maintain insurer solvency: solvency:  Solvency is important for several reasons:  Second, individuals can be exposed to great financial insecurity if insurers fail and claims are not paid:  For example, if the insured’s home is totally destroyed by a hurricane and the loss is not paid, he or she may be financially ruined. 5 Mariusz Dybał – Government regulation of insurance 1. Reasons for Insurance Regulation  Maintain insurer solvency: solvency:  Solvency is important for several reasons:  Finally, when insurers become insolvent, certain social and economic costs are incured:  Examples include the loss of jobs by insurance company employees, a reduction in premium taxes paid to the states. 6 2 Mariusz Dybał – Government regulation of insurance 1. Reasons for Insurance Regulation  Compensate for inadequate consumer knowledge: knowledge:  Insurance contracts are technical, legal documents that contain complex clauses and provisions:  Without regulation, an unscrupulous insurer could draft a contract so restrective and legalistic that it would be worthless;  Also, most consumers do not have sufficient information for comparing and determining the monetary value of different insurance contracts;  Regulation is needed to protect consumers against unscrupulous agents. 7 Mariusz Dybał – Government regulation of insurance 1. Reasons for Insurance Regulation  Ensure reasonable rates: rates:  Rates should not be so high that consumers are being charged excessive prices;  Nor should they be so low that the solvency of insurers is threatened. 8 Mariusz Dybał – Government regulation of insurance 1. Reasons for Insurance Regulation  Make insurance available: available:  Insurers are often unwilling to insure all applicants for a given type of insurance because underwriting losses, inadequate rates, adverse selection, and a host of a additional factors;  However, the public interest may require regulators to take actions that expand private insurance markets so as to make insurance more readily available. 9 3 Mariusz Dybał – Government regulation of insurance 2. Methods for Regulating Insurers  The three principal methods of regulating insurers are:    Legislation, Court decisions, State insurance departments. departments. 10 Mariusz Dybał – Government regulation of insurance 2. Methods for Regulating Insurers  Legislation:: Legislation  Almost all states have insurance laws that regulate the operations of insurers such as:        Formation of insurance companies; Licensing of agents and brokers; Financial requirements for maintaining solvency; Insurance rates; Sales and claims practices; Taxation; Rehabilitation or liquidation of insurers. 11 Mariusz Dybał – Government regulation of insurance 2. Methods for Regulating Insurers  Court decisions: decisions:  Courts periodically hand down decisions concerning:    the constitutionality of state insurance laws, the interpretation of policy clauses and provisions, and the legality of administrative actions by state insurance departments. 12 4 Mariusz Dybał – Government regulation of insurance 2. Methods for Regulating Insurers  State insurance departments: departments:   Almost all governments have a separate insurance department or bureau; Through administrative rulings, the insurance departments has considerable power over insurers doing business in the country. 13 Mariusz Dybał – Government regulation of insurance 3. What Areas are Regulated?   Insurers are subject to numerous laws and regulations; The principal areas regulated include the following:      Formation and licensing of insurers; Solvency regulation; Rate regulation; Policy forms; Sales practices and consumer protection. 14 Mariusz Dybał – Government regulation of insurance 3. What Areas are Regulated?  Formation and licensing of insurers:   Licensing includes minimum capital and surplus requirements;; requirements A license can be issued to:    A domestic insurer is domiciled in the state; state; A foreign insurer is an outout-of of--state insurer that is chartered by another state, but licensed to operate in the state; state; An alien insurer is an insurer that is chartered by a foreign country, but is licensed to operate in the state. state. 15 5 Mariusz Dybał – Government regulation of insurance 3. What Areas are Regulated? Solvency regulation:   Insurers are subject to financial regulations designed to maintain solvency: solvency:  Assets must be sufficient to offset liabilities: liabilities:    Admitted assets are assets that an insurer can show on its statutory balance sheet in determining its financial condition; condition; States have regulations that address the calculation of reserves;; reserves An insurer’s surplus position is carefully monitored by state regulators.. regulators 16 Mariusz Dybał – Government regulation of insurance 3. What Areas are Regulated? Solvency regulation:   Life and health insurers must meet certain riskrisk-based capital standards: standards:   A riskrisk-based capital (RBC) standard means that insurers must have a certain amount of capital, depending on the riskiness of their investments and insurance operations An insurer’s RBC depends on:     Asset risk, risk, Underwriting risk, risk, Interest rate risk, risk, Business risk. risk. 17 Mariusz Dybał – Government regulation of insurance 3. What Areas are Regulated?  Solvency regulation:  A comparison of the company’s total adjusted capital (assets minus liabilities) to the amount of required riskrisk-based capital determines whether company or regulatory action is required: required: Action level RBC Ratio Required Action No action 200% or higher None Company action level 150% 150%--200% Insurer must file a report with the regulator outlining the corrective actions to be taken. Regulatory action level 100% 100%--150% Regulator must examine insurer; insurer must file an action plan. Authorized control level 70% 70%--100% Regulator is authorized to take control of insurer. Mandatory control Less than 70% level Regulator is required to take steps to place the insurer under control. 18 6 Mariusz Dybał – Government regulation of insurance 3. What Areas are Regulated?  Solvency regulation:  The purpose of investment regulations is to prevent insurers from making unsound investments that could threaten the company’s solvency and harm the policyowners:: policyowners   Laws generally place a limit on the proportion of assets in a specific asset category, such as real estate; estate; Many states limit the amount of surplus a participating life insurer can accumulate, rather than pay as dividends.. dividends 19 Mariusz Dybał – Government regulation of insurance 3. What Areas are Regulated?  Solvency regulation:   Each insurer must file an annual report with the state insurance department in the states where it does business; business; The state insurance department assumes control of insurance companies that they determine to be financially impaired:: impaired    All states have guaranty funds that provide for the payment of unpaid claims of insolvent property and casualty insurers; insurers; States have guaranty laws and guaranty associations that pay the claims of policyowners of insolvent life and health insurers; insurers; The assessment method is the major method used to raise the necessary funds to pay unpaid claims. claims. 20 Mariusz Dybał – Government regulation of insurance 3. What Areas are Regulated?  Rate regulation:  Rate regulation takes a variety of forms across states: states:  Forms of rate regulation for property and casualty insurance include:        Prior approval law, law, Modified prior approval law, law, FileFile-andand-Use law, law, UseUse-andand-File law law,, Flex Rating law, law, State made rates, rates, Open Competition. Competition. 21 7 Mariusz Dybał – Government regulation of insurance 3. What Areas are Regulated?  Policy forms:   State insurance commission have the authority to approve or disapprove new policy forms before the contracts are sold to the public; public; The purpose is to protect the public from misleading, deceptive, and unfair provisions. 22 Mariusz Dybał – Government regulation of insurance 3. What Areas are Regulated?  Sales practices and consumer protection:  Sales practices are regulated by the laws concerning the licensing of agents and brokers: brokers:   All states require agents and brokers to be licensed; licensed; Insurance laws prohibit a variety of unfair trade practices, such as misrepresentation, twisting, and rebating: rebating:   Twisting is the inducement of a policyowner to drop an existing policy and replace it with a new one that provides little or no economic benefit to the client; client; Rebating is the practice of giving an individual a premium reduction or some other financial advantage not stated in the policy as an inducement to purchase the policy. policy. 23 Mariusz Dybał – Government regulation of insurance 4. Current Problems and Issues in Insurance Regulation  State insurance regulators face numerous problems and issues:       BidBid-rigging by brokerage firms; Questionable accounting practices; Unauthorized entities selling insurance; Modernizing insurance regulation; Insolvency of insurers; Credit--based insurance scores. Credit 24 8 Mariusz Dybał – Government regulation of insurance 4. Current Problems and Issues in Insurance Regulation  BidBid-rigging by brokerage firms:  Some brokerage firms increas its contingent commision income by steering corporate clients to favored insurance companies that paid high contingent commisions:  As a result, clients paid more for their insurance than was necessary. 25 Mariusz Dybał – Government regulation of insurance 4. Current Problems and Issues in Insurance Regulation  Questionable accounting practices:  Some insurers have engaged in questionable accounting practices that make their accounting statements and operating income appear better than is actually the case:  For example, improper recording of transactions involving finite reinsurance. reinsurance. 26 Mariusz Dybał – Government regulation of insurance 4. Current Problems and Issues in Insurance Regulation  Unauthorized entities selling insurance: insurance:  For example, unauthorized agents selling health insurance to small employer groups and individuals. individuals. 27 9 Mariusz Dybał – Government regulation of insurance 4. Current Problems and Issues in Insurance Regulation  Modernizing insurance regulation:   The insurance industry is regulated primarily by the states; Critics believe the current regulatory system is in need of reform because is:      Cumbersome; Unduly complex; Costly; Anticompetitive, With considerably overlap and duplication. 28 Mariusz Dybał – Government regulation of insurance 4. Current Problems and Issues in Insurance Regulation  Insolvency of insurers:  Insolvency of insurers continues to be an important regulatory concern: concern:  Reasons for insolvencies include:          Inadequate rates, rates, Inadequate reserves for claims, claims, Rapid growth and inadequate surplus, surplus, Problems with affiliates, affiliates, Overstatement of assets, assets, Alleged fraud, fraud, Failure of reinsurers to pay claims, claims, Mismanagement,, Mismanagement Catastrophic losses. losses. 29 Mariusz Dybał – Government regulation of insurance 4. Current Problems and Issues in Insurance Regulation  Insolvency of insurers:  The principal methods of ensuring insolvency are:       Minimum capital and surplus requirements; requirements; Risk Risk--based capital standards standards;; Review of annual financial statements; statements; Field examinations; examinations; Early warning system (IRIS ratios); ratios); FAST system analysis. analysis. 30 10 Mariusz Dybał – Government regulation of insurance 4. Current Problems and Issues in Insurance Regulation  Credit--based insurance scores: Credit  An increasing number of insurers are using a credit credit-based insurance score for underwriting: underwriting:  Proponents argue:    There is a high correlation between an applicant’s credit record and future claims experience, experience, Underwriting and rating can be more objective and consistent; consistent; Critics argue:    The use of credit data in underwriting or rating discriminates against certain groups, groups, Credit reports often contain errors that can harm insurance applicants,, applicants Credit Credit--based scoring is socially unacceptable. unacceptable. 31 Mariusz Dybał – Government regulation of insurance 5. Case application no. 5  Ashley is an actuary who is employed by the Nebraska Department of Insurance. Her duties include monitoring the financial position of insurance companies doing business in Nebraska. Based on an analysis of annual financial statements that insurers are required to submit, she discovered that Mutual Life Insurance has a riskrisk-based capital ratio of 175%. Based on this information, answer the following questions: 1. What is the purpose of requiring insurers to meet riskrisk-based capital requirements? 2. What regulatory action, if any should the Nebraska Department of Insurance take with respect to Mutual Life Insurance? 3. Would your answer to question (2) change if the riskrisk-based capital ratio for Mutual Life Insurance fell to 65%? Explain your answer; 4. Mutual Life Insurance has 25% of its assets invested in common stocks. Assume that the stocks are sold, and the proceeds are invested in U.S. government bonds. What effect, if any, will this investment change have on the riskrisk-based capital ratio of Mutual Life Insurance? Explain your answer. 32 Mariusz Dybał – Government regulation of insurance Thank You ;) 33 11 ...
View Full Document

{[ snackBarMessage ]}

What students are saying

  • Left Quote Icon

    As a current student on this bumpy collegiate pathway, I stumbled upon Course Hero, where I can find study resources for nearly all my courses, get online help from tutors 24/7, and even share my old projects, papers, and lecture notes with other students.

    Student Picture

    Kiran Temple University Fox School of Business ‘17, Course Hero Intern

  • Left Quote Icon

    I cannot even describe how much Course Hero helped me this summer. It’s truly become something I can always rely on and help me. In the end, I was not only able to survive summer classes, but I was able to thrive thanks to Course Hero.

    Student Picture

    Dana University of Pennsylvania ‘17, Course Hero Intern

  • Left Quote Icon

    The ability to access any university’s resources through Course Hero proved invaluable in my case. I was behind on Tulane coursework and actually used UCLA’s materials to help me move forward and get everything together on time.

    Student Picture

    Jill Tulane University ‘16, Course Hero Intern