TPPF COMMENTARY: Consumers Lose with Texas' Burdensome Insurance Regulations

Why do Texas homeowners pay insurance rates that are much higher than the national average? And why can’t coastal residents obtain private windstorm insurance coverage?

Weather plays a role – Texas endures arguably the most severe and wide-ranging weather risks in the nation – but so does Texas’ unreasonably burdensome regulatory structure.

The Texas Insurance Code permits the Texas Department of Insurance (TDI) to reject filed rates before they are used in the marketplace. This runs against the Texas Legislature’s stated preference for a file-and-use regulatory system, where insurers may use rates immediately after filing them. Such pre-market regulation costs insurers – and thus consumers – time and money.

TDI’s focus on “excessive” insurance rates also contributes to our current woes. Again with authority from the Code, TDI may reject “excessive” rates, defined by statute as “likely to produce a long-term profit that is unreasonably high in relation to the insurance coverage provided.” But what is “excessive” for one person is not necessarily “excessive” for another. And why should a government agency get to decide what is an “unreasonably high” profit? How often do you hear governmental concern about a business loss being “unreasonably high”?

There is simply no one-size-fits-all solution for insurance prices, and attempts to impose one wreak more havoc on consumers than the supposed problem.

For example, a focus on blocking “excessive” rates risks putting TDI in a position where it cannot ensure “adequate” rates, another call of the Code. The very rates that TDI might reject as unreasonable may be the ones that ensure a company remains solvent.

If “excessive” rates enter the market, consumers retain the option to go elsewhere for more affordable coverage. But if rates that enter the market are too low to keep insurers solvent, consumers are in danger of losing their coverage altogether and doling out even more money to get reinsured.

Consider the current funding crisis of the Texas Windstorm Insurance Association (TWIA), the state’s provider of windstorm insurance. Because of below-market rates and a corresponding failure to enforce TWIA’s status as the state’s provider of last resort for windstorm insurance, TWIA has seen an explosion in the number of policies in force and in its overall exposure. As of August 31, 2008, there were 224,468 TWIA policies in force – up from 68,756 in 2001– and TWIA’s total exposure was $66.6 billion.

However, prior to Hurricane Ike, TWIA could cover less than $2.1 billion in losses. As claims from Ike will eclipse TWIA’s reserves, Texas taxpayers will be forced to bail out the state for losses that should have been covered by TWIA were reasonable policies in place.

Fortunately for Texas insurance consumers, the Texas Sunset Advisory Commission acted on Wednesday to address the shortcomings in Texas insurance law. It recommended measures that will provide insurers greater clarity and predictability during the rate-setting process. More regulatory certainty will attract companies to Texas, expanding the choices available to consumers.

The Commission’s recommendations strengthened the transition to a true file-and-use regulatory system. If the Legislature follows suit next session, rates will respond more quickly to market conditions, and more insurers will compete aggressively for Texas consumers.

The Commission also took important steps to fix our broken windstorm insurance system. TWIA’s rates were too low because its methodology relied exclusively on Texas storm damage from the last 30 years, during which Texas saw only one major storm. But modern hurricane loss models have proven to be reliable tools for setting windstorm insurance rates. The Commission recommended that TWIA be allowed to join the rest of the world in using such models.

Finally, to slow TWIA’s dramatic growth, the Commission recommended that applicants for TWIA coverage be required to provide written proof of two declinations from windstorm insurers writing policies in Texas.

Enacting these measures during the upcoming legislative session will provide Texas consumers the benefits of increased competition and greater insurance availability. Texas’ homeowners’ insurance market will be better equipped to handle – and Texas’ tax dollars will be at much less risk from – the next catastrophic storm to strike our coast.

Drew Thornley is an economic freedom policy analyst at the Texas Public Policy Foundation, a non-profit, free-market research institute based in Austin.

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Foundation praises Sunset Commission support for competitive insurance reforms

AUSTIN – Today, the Sunset Advisory Commission approved reforms that will make the Texas homeowners’ insurance market more competitive and reduce costs for both consumers and taxpayers.

“The Texas Department of Insurance (TDI) has been in regulatory limbo for the last five years,” said Foundation policy analyst Drew Thornley. “With these reforms, its marching orders are now clear: step back and let open competition bring down rates.”

The Sunset Advisory Commission adopted its staff’s recommendation to strengthen the transition to file-and-use insurance regulation. Prior to 2003, TDI regulated insurers under a “prior approval” model, where companies had to file their proposed rates and be approved by TDI before they could be used. Under “file-and-use,” an insurer is supposed to be allowed to use a rate as soon as it is filed with TDI, with the department allowed to reject a rate after the fact if it is determined to be “excessive.”

“The 2003 law added file-and-use without fully repealing prior approval,” Thornley said. “Having both systems on the books has created an erratic regulatory climate where insurers are hesitant to sell policies. Consumers pay a high price when government regulators limit the choices that the free market can provide. Though the commission report keeps prior approval under certain circumstances, it requires the department to limit its use and provide clear definitions.”

Thornley cited his recent research, which showed that competitive insurance reforms adopted by Washington, D.C., Illinois, and South Carolina attracted insurers, lowered or stabilized premiums, and decreased the size of residual markets, which are markets for insurance applicants that primary markets deem too risky.

The Foundation also applauded the commission’s support for reforms to TWIA so that it functions as a true “provider of last resort” rather than a first option for windstorm insurance coverage.

“Texas has been warned for at least a decade that TWIA’s rates did not accurately reflect the risks to coastal communities and that TWIA’s funding mechanism would not survive a major hurricane strike to the Texas Gulf Coast,” Thornley said. “Sadly, Hurricane Ike broke our windstorm insurance system, putting Texas taxpayers on the hook for a costly bailout. We must fix TWIA to prevent additional damage to Texas homeowners and taxpayers.”

The Texas Public Policy Foundation is a non-profit, free-market research institute based in Austin, Texas.

Drew Thornley is a policy analyst at the Texas Public Policy Foundation and the co-author of the recent report “Consumers, Competition, and Homeowners’ Insurance: A Sunset Report on the Texas Department of Insurance and the Office of Public Insurance Counsel.”

The Sunset Advisory Commission is a legislative advisory committee that reviews the policies and programs of more than 150 government agencies once every 12 years.

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TPPF expert to speak at Heritage Foundation

AUSTIN – Bill Peacock, Director of the Texas Public Policy Foundation’s Center for Economic Freedom, will speak at the Heritage Foundation on Thursday, October 18^th.

The Heritage Foundation and Competitive Enterprise Institute will convene experts and political leaders from around the country to discuss America’s fast changing property insurance environment. Particularly in the hurricane zone that stretches from Texas to South Carolina, homeowners have paid ever-higher homeowners’ insurance rates as government-backed insurance entities have grown ever larger.

This conference will focus on ways that the United States can retain a vibrant, private insurance industry that provides rationally priced insurance for everyone without placing an enormous burden on taxpayers. Mr. Peacock will share his research and assessment of the Texas property insurance market, especially related to windstorm coverage.

The conference will take place on Thursday, October 18^th between noon and 3 p.m. CDT. Mr. Peacock will present on the first panel, which is expected to begin around 12:40 p.m. The event will be webcast on the Heritage Foundation’s website, http://www.heritage.org/press/events/index.cfm.

WHAT: “Making Property Insurance More Affordable for Everyone: What Private Companies, State, Local and Federal Governments Should Do”

WHEN: Thursday, October 18, 2007
12:00 – 3:00 p.m. (CDT)

WHERE: The Heritage Foundation – Van Andel Center
214 Massachusetts Avenue, NE
Washington, DC

The Texas Public Policy Foundation is a non-profit, free-market research institute based in Austin.

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TPPF COMMENTARY: Consumer Sovereignty

Government has a hard time letting go of certain decisions. Over the last several years, regulators and policymakers have shown support for allowing consumers to exercise more choice regarding the products they purchase -- at least until they don't like the choice those consumers make. In this week's commentary, Bill Peacock, Director of the Foundation's Center for Economic Freedom, looks at recent events in the Texas insurance and electricity markets and articulates why government needs to trust consumers and leave well enough alone.

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Consumer Sovereignty

Time to Bring Consumer Regulation into the 21^st Century

By Bill Peacock

“Many people want the government to protect the consumer,” said the late economist Milton Friedman. “A much more urgent problem is to protect the consumer from the government.”

Friedman’s words particularly ring true regarding the Texas insurance industry.

Since World War II, regulation of insurance has been justified in the name of ensuring “affordable” prices. Experience, however, shows that regulation has led to wild swings in prices and availability.

States like Illinois and South Carolina have proven that a modernized regulatory approach focusing on fairness (ensuring that the cost to a policyholder reflects his level of risk) and solvency (ensuring that companies have the financial resources to pay claims) in lines such as auto and homeowners’ insurance creates a more stable and healthier industry. Since their reforms, both states have seen more companies enter the market, stable rates, and smaller residual markets.

A study that compared Illinois’ auto insurance market to other comparable states found Illinois to have more predictable “rate levels, lower consumer prices, the highest number of insurance carriers in the nation, and a low number of uninsured drivers.”

Texas insurance regulators, however, operate as though none of this has taken place.

This summer, the Texas Department of Insurance rejected or threatened to reject three rate filings by two different insurers. And this week, they are preparing to “crack down” on affiliated business arrangements—where one company owns or controls another and is in a position to refer business to the controlled business—in title insurance, ignoring the obvious efficiencies gained by such arrangements.

This approach to regulation turns on the notion that without government oversight, insurance companies will take advantage of consumers. They make this assumption based on the fact that a few insurers tend to serve the majority of the homeowners’ market, and thus can exercise “market power” over consumers.

If competition was working in the homeowners’ market, critics contend, more people would have left the larger providers and chosen providers that offered lower prices. They claim the existence of consumers sticking with higher prices is proof that consumer choice is not readily available; thus consumers need protection from the larger companies who are profiting at their expense. Of course, no standard is ever offered for how much business the large firms should lose before competition is considered optimal.

This was the same rationale that drove the debate on electric re-regulation during the last legislative session. Market opponents said the market share of TXU in conjunction with higher prices was proof of their anti-competitive behavior.

But it has only been recently that the attempts of a company to take market share from its competitors have been deemed anti-competitive. In more lucid times, companies increasing their market share were seen as being aggressive, and consumers who stuck with such companies were given credit for being sophisticated buyers.

Research examining online “consumer stickiness” shows consumers sticking with one provider in the presence of lower prices elsewhere can be an indicator of a healthy, highly-competitive marketplace. While the Internet allows consumers to search and frequently switch to alternative providers, “branding, awareness, and trust” make consumers willing to pay higher prices to retailers that they have previously dealt with.

Consumers reign supreme in the marketplace. Nobody forces consumers to buy electricity, insurance, or cell phones from a particular provider—unless it’s the government restricting availability via regulation, as it has done with telephone and electric service in recent times.

Every time consumers buy insurance or pay their electric bill, they signal that they have made an affirmative choice that satisfies their individual preferences. If the price and product is good enough for consumers, it ought to be good enough for the government as well.

Bill Peacock is Director for the Center for Economic Freedom with the Texas Public Policy Foundation, a non-profit, free-market research institute based in Austin. He may be reached at bpeacock@texaspolicy.com.

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Texas consumers will benefit from modernizing insurance market

FOR IMMEDIATE RELEASE

August 28, 2007

Texas consumers will benefit from modernizing insurance market

Paper recommends shift of TDI focus from rate regulation to fairness and solvency

AUSTIN – The focus of the Texas Department of Insurance (TDI) and other Texas policymakers on rate regulation has been misguided and damaging to Texas consumers, according to a new paper released today by the Texas Public Policy Foundation.

“The marketplace for both homeowners’ and windstorm insurance is not being allowed to meet the needs of Texas homeowners or investors,” said Bill Peacock, Director of the Foundation’s Center for Economic Freedom. “Without meaningful reforms and a new focus at TDI, it will be Texas taxpayers and consumers who will foot the bill for these harmful policies.”

The paper, “Modernizing the Texas Insurance Marketplace,” recommends four actions that would improve the competitiveness of Texas’ insurance market:

* Implement a regulatory emphasis on fairness and solvency at TDI: Because TDI’s regulatory focus has remained on subjective notions of “affordability,” the market-oriented “file-and-use” system has turned into a de facto prior approval system that will cause long-term harm to the homeowners’ market. TDI should allow rates to be observed in the marketplace in order to more accurately assess fairness, and redirect its regulatory resources to ensure that insurers have enough reserves to cover potential claims.

* Completely deregulate homeowners’ insurance rates in Texas: Illinois has completely deregulated insurance rates and focused its insurance department on insurance solvency and market conduct. As a result, Illinois has a “healthy, stable, and thriving marketplace that benefits consumers.”

* Allow Texans to purchase insurance from companies licensed in other states: Legislation to allow interstate commerce in health insurance was filed last year in the U.S. Congress. Adopting a similar principle here in Texas would present some logistical challenges, but ultimately would increase competition and shift regulatory costs away from Texas taxpayers.

* Adopt the concept of an optional federal charter: This proposal would allow insurers to opt for either federal or state regulation, as is currently done in the banking industry. Federally licensed insurance carriers could sell a product in any state, while a state licensed carrier could sell in those states in which it is licensed. A recent study on the optional federal charter conservatively estimated that it would reduce costs for life insurers by more than $5.7 billion per year.

“Insurance regulations are wasteful, produce higher industry costs, delay innovation, reduce competition, slow the introduction of new products to the market, and build operational inefficiencies into the insurance carriers,” Peacock said. “Texans will be better off without the regulations and those side effects.”

The Texas Public Policy Foundation is a non-profit, free-market research institute based in Austin. The paper can be downloaded through this link or via the Foundation’s website, www.TexasPolicy.com.

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