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Without careful and systematic analysis of the necessity of these factors, I must respectfully oppose the passage of the proposed Federal Insurance Act of 1977. I assure you, however, that in so doing my opposition is not the product of a reflex States rights mentality. I am in favor of professional and responsible regulation in the public interest, but I frankly am not persuaded that the public will be better served by the proposals of S. 1710.
The CHAIRMAN. Thank you very much.
[Complete statement follows:] To: The Honorable members of the U.S. Senate Committee on Banking, Housing,
and Urban Affairs. From : Richard L. Mathias,
Director of the Department of Insurance,
State of Illinois. Mr. Chairman and Members of the Committee, my name is Richard Mathias
Although some will no doubt question what I have to say about the ultimate goal of any governmental regulation, in my judgment any regulatory initiative must have as its principal purpose the public interest. Grantedly, the concept “of public interest" covers a considerable amount of ground. It is vague, amorphous and often times is used to justify all sorts of governmental activity which would have little or no justification otherwise. An incredible amount of things have been done and/or prohibited—“in the public interest.” Fairly, more often than not the public interest is served by systematic and responsible government regulation. And while the extent of the service is subject to considerable dispute, in my opinion public interest appears to prevail with more frequency than it loses.
I am prompted to appear before you this morning share to my thoughts relative to the public interest considerations of S. 1710, "Federal Insurance Act of 1977." I do not presume to be the final arbiter of what “is in the public interest.” Nor indeed do I pretend to fully understand and/or comprehend what is and what is not "in the public interest." However, I am charged by my office with the regulation of the business of insurance in the State of Illinois, and out of a responsibility to that office and the citizens of the State of Illinois, I had better have some idea what the public's interest is as it relates to the business of insurance at least in the State of Illinois.
I have reviewed S. 1710 and understand it to do several things, most significantly; (1) To establish a Federal Insurance Commission ; (2) To establish a Federal Insurance Guaranty Program; and (3) To create the option of Federally chartered insurance companies.
The proposed Federal Insurance Act of 1977 would drastically alter the existing regulatory scheme of the business of insurance as it is presently understood. Traditionally and by sufferance of Congress, I suppose, the regulation of the insurance industry in the United States has rested with individual states. I should say at this point that I do not unilaterally oppose such a shift of regulatory emphasis as such. Nor do I oppose the concept of Federal regulation of the business of insurance if it will better serve the public interest. In the process of reviewing the proposed legislation, I read with interest Senator Brooke's remarks of Thursday, June 16, 1977 which appeared in the Congressional Record. I noted with interest his keen concern for the financial condition of the property and casualty insurance business in the United States. I too am extremely concerned as to the financial condition of not only the property and casualty insurance companies, but also life, accident and health companies as that is my primary job. I am, I suppose, primarily responsible for the financial health and well being of those insurance companies which do business in the State of Illinois. Some would say this is the primary responsibility of any regulation of the business of insurance. This acute concern for the financial stability of those companies engaged in the business of insurance is due primarily to the nature of the relationship between insurer and insured. A relationship which is based on a promise to pay “in the future," the basis of which is, of course, the ability to pay in the future or future financial stability. It is my own regulatory philosophy, if you will, that prompts at least a primary emphasis being placed on the financial solvency of any
insurance company doing business in Illinois. In my judgment, and although other regulatory actions appear to be more touched with the public interest, the solvency of an insurance company is the very basis upon which regulation should take shape.
I share Senator Brooke's concern, however I do not necessarily believe that financial solvency of insurance companies will be best regulated, or even better regulated, by the Federal Government. A review of the proposed legislation prompts two questions which, after what I consider careful analysis of the proposed Federal Insurance Act of 1977, still remain. These questions are_Is this type of regulation necessary? And what will it cost?
Among the considerations which make up my regulatory philosophy is a concern for the justification of any particular regulatory activity. From my experience, regulation is time consuming and costly. Although I believe it to be absolutely necessary, to allow regulatory activity to burgeon unchecked is, in my judgment, irresponsible. Cost of regulation, whether we like it or not, is eventually passed on. Ultimately, the cost reaches the consumer. The cost of insurance is a question which certainly affects the public interest. Further, the proposed legislation appears to be premised on the theory that state regulation of the financial solvency of insurance companies has somehow been inadequate or inept or just plain not enough. I cannot agree with that premise. Indeed, the history of insurance company insolvencies leads one in the opposite direction. There simply has not been an alarming increase in insurance company insolvencies either in Illinois or elsewhere to my knowledge. Grantedly, there have been economic downturns, if you will, and some occasionlly "spectacular" near misses with respect to insurance company insolvency, for example, the Washington, D.C. based Government Employees Insurance Company (GEICO). I am prompted to wonder if the GEICO problem would not have happened with a Federal Insurance Commission or a Federal Guaranty Fund. The facts simply do not support the necessity for a marked change in the structure of insurance regulation as we presently know it. I am not aware of any empirical studies which conclude that a Federal Insurance Commission would be any more vigilant in the regulation of the financial stability of insurance companies than have been the states. The proposed legislation, however, appears to be premised on a notion that the financial solvency of an insurance company, which opts for Federal charter, would be more carefully and systematically viewed than it has under individual state's regulation,
The facts do not support the cost effectiveness of proposed Federal regulation which would run alongside state regulation in this proposed duality. While I do not suggest that such regulation would cost twice as much, necessarily, it will certainly cost more and I am not altogether convinced that the necessary increase in cost will generate better regulation.
I have to date, neither seen, nor am I aware of the existence of any studies which analyze the cost of such proposed Federal regulation. Again, is the public interest served by the addition of a second layer of regulation without first analyzing its necessity and its cost?
I think most regulators, either state or Federal, will agree that deregulation appears to be gaining support, even among the most ardent consumer advocates. When administrative agencies are at times, faultingly trying to "justify their existence" under newly passed sunset laws, it is curious to see a proposal for a Federal Insurance Commission charged with the regulation of the financial activities of optionally Federally chartered insurance companies without the benefit of any empirical studies. If it is determined at some point in the future to be necessary and cost effective. I will be the first to support the passage of such legislation. To date, however, I have seen nothing which persuades me to either the necessity or the cost effectiveness of such a proposal.
In the area of consumer protection-one which is served best by responsive regulation-I am not persuaded that the proposed Federal regulation of insurance companies will be any more responsive or sensitive to consumer needs than state regulation has been. In fact, the mere geographic separation which will obviously occur points to a reduced degree of responsiveness and sensitivity rather than a growth of such sensitivity. Grantedly, the proposed Insurance Act of 1977 appears to limit Federal regulation to solvency matters, and it can he argued that the solvency of an insurance company is not as acutely a consumer issue as are a particular company's claims practices, agents and brokers activities, policy form preparation and the like which have apparently been left to the states, at least impliedly, by the proposed legislation. I am of the opinion and it has been my experience as a regulator that the financial solvency of a particular insurance company is directly related to the more acute “consumer" issues. I am concerned that a distance will develop which has historically not been the case between regulator/public should the regulatory emphasis shift to the Federal Government.
The regulation of insurance is at times most localized. In Illinois, for example, there are several major local considerations :
(1) Mine subsidence;
(4) The cost of product liability insurance coverage in an industrial state such as the State of Illinois.
While Illinois does not suffer from sinkholes or mudslides, nor has it been subject to earthquakes or hurricanes, these are local issues which are found in other areas of the United States. Again, I think any shift of regulation away from individual states toward Federal Government should be premised on factual determinations that have found a lack of responsiveness and sensitivity on the local level. Should that be found to be the case, I am indeed in favor of either making the local regulator more sensitive or responsive, or absent effectively doing so, shifting the primary responsibility of regulation where responsive and sensitive control can be found.
If the proposed system of “dual regulation" is accepted, I am concerned about the relationship between the two regulators and how that relationship will affect the regulated industry. I am concerned about gaps in regulation where consistency and uniformity are most necessary. For example, most recent Federal ERISA Statutes have caused insurance regulators in the states some serious problems. There is growing concern among state insurance commissioners and/or directors about the rapid increase in what had been termed "multiple employee trusts" which, depending upon your definition of what is “the business of insurance," should be regulated by state insurance departments. Today, however, a number of these entities have been escaping any regulatory control due to the "preemptive" language found in Federal ERISA Statutes. This preemptive language has been used quite effectively, in some cases, by entrepreneurial entities which, in my judgment, are in the business of insurance and have been avoiding state regulation based on the theory that the Federal Government is the proper regulatory body for such entities. I would not quarrel with this position if the Federal Government were regulating these entities. Unfortunately, for the membership and/or subscribers, the Federal Government has yet to regulate them at all. This is not dual regulation, it is no regulation when, in my judgment, regulation of some kind is most necessary. Concededly, state insurance departments have not always acted consistently and uniformly in their regulatory activities when a particular insurance company is found to be operating in more than one state. However, I have not yet encountered a situation when no one is regulating at all. This may become the case, I am afraid, should the proposed dual regulatory scheme become effective.
There will be a time lag before the newly proposed Federal Insurance Commission can commence full scale regulation. How long is yet to be determined. Thus, companies may "escape" regulation for a period of time when in fact regulation may be most vital. I am concerned that sufficient thought has not been given to the transition period between the option for a Federal charter and thus regulation by the Federal Insurance Commission and actual regulatory activity by that administrative agency. Further, even when the Federal Insurance Commission has "sufficiently tooled up” to be regulating, I am firmly convinced that there will be areas which were traditionally regulated by the states which will go unregulated for periods of time. I suppose when something drastic occurs, that particular area will be defined as Federally controlled as opposed to state controlled, but my concern is that it will take a “drastic occurrence" to clarify proper jurisdiction. I can foresee the development of a quantity of case law dealing with the appropriate jurisdiction of the states v. the Federal Government as that jurisdiction relates to the business of insurance. In the the meantime, areas of the business of insurance which have traditionally been regulated by the states will lapse, if you will, into the nether-world which exists between dual regulators. The net effect of this proposed dual system of regulation without careful study of its necessity, cost and implementation will be to weaken the system of regulation rather than to strengthen it. Again, is the public interest served by the addition of another layer of regulation which, from my review lacks specific areas of authority, carefully defined standards of control and clearly unequivocal delineation between two regulators, state and Federal. I am quite frankly afraid that the proposed legislation does not address itself sufficiently to the specifics of dual regulation which in my judgment are necessary if the proposed legislation is to serve its apparent intent.
Beyond the broad concerns as to the necessity, if any, and the cost effectiveness of such regulation, I have some specific concerns with respect to the proposed legislation. For example, Section 109 appears to place Federally chartered insurers under the Federal Anti-Trust laws. However, in the same section, the proposed legislation provides that the “Insurance Commission shall not adopt any rule or regulation, or exercise any other authority granted to it under this Act in such a manner as to impose a burden on competition not necessary or appropriate in furtherance of the purposes of this Act, and in all cases shall adopt the least anti-competitive alternative to protecting policyholders and the public interest.” This apparent inconsistency is somewhat confusing. Is the proposed legislation suggesting that the Federally chartered insurance companies are governed by the Federal Anti-Trust laws, but the Federal Insurance Commission may adopt a rule or regulation or exercise authority which is "necessary and/or appropriate” which imposes a burden on competition and must adopt the "least" anti-competitive alternative to protect policyholders and the public interest? It appears then that this Act would vest the Federal Insurance Commission with the ability to adopt rules and regulations which are minimally anti-competitive which would otherwise be in violation of Federal Anti-Trust laws. As this Committee is no doubt aware, at the sufferance of Congress, the business of insurance is not subject to the Federal Anti-Trust laws to the extent that state regulation controls. I am very concerned about the effect of a dual system of regulation of the business of insurance which on the one hand places Federally chartered insurers under the Anti-Trust laws, allows the Federal Insurance Commission to adopt rules or regulations which may be anti-competitive howsoever controlled by "least anti-competitive alternatives" and on the other allows the Federal Anti-Trust law exemption to continue to exist as regards non-Federally chartered insurers so long as the state regulates the business of insurance. The potential for inconsistency in the regulation of Federally chartered insurers and non-Federally chartered insurers is massive.
The proposed legislation does not appear to address itself with any degree of specificity, detail or clarity to what could potentially be a serious dichotomy between what the Federal Insurance Commission may or may not determine to be “least anti-competitive" and what state regulators have and continue to do in regulating the business of insurance in the marketplace. If the proposed legislation were to be passed in its present form, I fear years and years of litigation which would never ultimately resolve the issue and would effectively throw the delicate balance of the place of the insurance industry within industry generally in the United States into severe imbalance.
The proposed legislation in Section 107(C) appears to prohibit unfair discrimination by Federally chartered insurers in refusing to insure individuals solely because of age, sex, race, religion or national origin. This is purely a laudable objective. However, I am concerned about the coordination of the Commission's rules and regulations relative to the enforcement of this provision, and how those rules and regulations would interact with individual state efforts to eliminate such arbitrary, unfair discrimination. Further, while the proposed legislation prohibits unfair discrimination in certain areas, it appears to conclude that rates and/or premiums will not be considered to be unfairly discriminatory if such rates and premiums are supported by empirical evidence demonstrating that the creation of classes ordinarily discriminatory on their face, are reasonably “predictive of and significantly correlated to loss and expense experience.” The relationship between the determination of unfair discrimination and discrimination based on loss and expense experience is further complicated by the assurances by the author of the bill that it will not impinge on individual state rating or premium review authority. The proposed legislation's Section 204 regarding the applicability of state law is another area of concern. There is a marked lack of clarity as to the intention of the Act as relates to the taxation of optionally Federally chartered insurers by individual states. The State of Illinois derives a significant amount of revenue from the taxation of insurance companies doing business within its border. The effect and legislative intent of Section 204 as it relates to state's taxation of the business of insurance is unclear.
Regarding the proposal for a Federal Guaranty Fund, several individual and specific concerns are of note. Under the proposed language of Section 104, the Guaranty Fund would assume all policy obligations of the insurer. Yet under Section 102, it appears that there is an exclusion for the guaranteed insurer's reinsured obligations from coverage by the Guaranty Fund. I am concerned that this would necessitate a potential claimant pursuing recourse against both the Guaranty Fund and the reinsurer, thus being excessively burdensome if not potentially unavailable at all.
There is a simple question which the proposed legislation does not answer, and that is, when does the Guaranty Fund initiate paying claims? Again, Section 104 requires an “adjudicated insolvent insurer” while Section 102 provides that an insurer be in "default." It is vital that the interaction of the Guaranty Fund's assumption of obligations be clearly delineated by and expressly provided for. Further, the interaction between the Guaranty Fund's assumption of obligations does not at all relate to state liquidation procedures which, frankly, in the case of insolvent insurers have proven to be quite effective. Nor does the language relative to the Guaranty Fund's assumption of obligations relate in any way to state liquidation procedures which are necessary to terminate the livelihood of a state licensed insurer.
Under Section 102 of the proposed legislation, the Insurance Commission shall establish and collect from each insurer guaranteed under this Act an annual fee calculated as a percentage of its net direct premiums, and such fee may not exceed one fourth of one percent per year. However, the proposed language goes on to say that the "Commission may establish different levels of fees for different "types of insurers” and nowhere in the Act is the word "type" defined.
The Capital surplus requirement as set forth in Section 103 is not defined either for the Guaranty Fund or for purposes of chartering a potential Federally regulated insurer under Section 202.
While I am sure some of the particular inconsistencies of the Act are subject to amendment, my purpose in pointing them out is to demonstrate that I am not convinced or persuaded that sufficient thought has been given to the overall effects of what I consider to be a drastic shift in the regulatory scheme of the business of insurance in the United States. In fact, what has been proposed as a plan for the tightening up, increase and improvement of the quality of insurance company regulation, may well indeed do precisely the opposite. The possibility of the collapse of an individual company engaged in the business of insurance is indeed real. To suggest otherwise is incorrect. However, it may be equally wrong to suggest that because individual insurance companies face the possibility of insolvency, an untested and unstudied system of dual regulation should be established. I, not unlike Senator Brooke and indeed perhaps more so out of my responsibilities and obligations as the Director of Insurance of the State of Illinois, am concerned about the financial stability of insurance companies. It is out of this concern that I have carefully reviewed the proposed Federal Insurance Act of 1977. After this review and the review of related materials available to me in my state, from my limited experience as a regulator in one state, I must conclude that the proposal on its face will not increase the stability, financial or otherwise, of insurance companies doing business either in Illinois or elsewhere. Without careful and systematic analysis of the necessity and cost, together with the particular language of proposed legislation, I must respectfully oppose the passage of the proposed Federal Insurance Act of 1977. I assure you my opposition is not the product of a reflect "states' rights” mentality. I am in favor of professional and responsible regulation in the public interest and I am, frankly, not persuaded that the public will be served by the proposed S. 1710.
The CHAIRMAN. Our next witness is Mr. James Stone.
STATEMENT OF JAMES M. STONE, INSURANCE COMMISSIONER,
COMMONWEALTH OF MASSACHUSETTS, ACCOMPANIED BY KEITH R. RODNEY, DEPUTY COMMISSIONER OF INSURANCE, COMMONWEALTH OF MASSACHUSETTS
Mr. STONE. Thank you, Mr. Chairman. [Complete statement follows:]