Segment 3 Of 3 Previous Hearing Segment(2)
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INSURANCE REGULATION AND COMPETITION FOR THE 21ST CENTURY
Tuesday, June 18, 2002
U.S. House of Representatives,
Subcommittee on Capital Markets, Insurance,
and Government-Sponsored Enterprises,
Committee on Financial Services,
Washington, D.C.
The subcommittee met, pursuant to notice, at 2:00 p.m., in Room 2128, Rayburn House Office Building, Hon. Richard H. Baker [chairman of the subcommittee] presiding.
Present: Representatives Baker, Ney, Gillmor, Weldon, Biggert, Ose, Rogers, Kanjorski, Bentsen, Maloney of Connecticut, Sherman, Inslee, Shows, Ross, Grucci, and Lucas of Kentucky.
Ex officio present: Representative Oxley.
Chairman BAKER. I would like to call this meeting of the Capital Markets Subcommittee to order.
This hearing represents the third such meeting of the committee in our exploration of the need for reform with regard to the marketing and sale of insurance products nationally. The one thing that is clear to date is that the current system is not working as well as it could. And despite the best efforts of state regulators and those involved in the markets, the inability to control the actions of 50 independent regulators is a very daunting task. The end-loser in the process in the current environment, of course, in my view, is that of the consumer, who often finds limited choices or high-priced choices as a result of the lack of competitive forces.
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We have had testimony from some CEOs of insurance companies that they simply do not participate in certain states in the marketing of their product because of the regulatory constraints. That certainly is not acceptable.
Having recognized the significance of the problem, it is also apparent that we will not be able to seek resolution in a short-term window. It is a very complicated matter requiring thorough study and examination, and the members of the committee are entitled to have all available information to make the best appropriate decision. However, Chairman Oxley has expressed on repeated occasions his interest in seeing the committee do its work, that we move toward a reasonable goal as quickly as is possible, and that we do it in the most professional manner available to us. As a result, this hearing will not be the last. There is much more work for us to do before beginning discussions of legislative proposals.
In the likelihood that Mr. Kanjorski would be here shortly, he has been the proponent on the committee of what we call roundtables, where we get folks together in a room, roll up our sleeves, and just sit there until we get something done. We are contemplating a roundtable with regard to the issues raised in these three hearings over the course of the next couple of months—and I was praising you in your absence, Mr. Kanjorski, talking about your advocacy of roundtable approaches and that it is advisable, I think, given the nature and complexity of this subject, certainly over the course of the next couple of months to attempt to form an environment for such a roundtable to take place, assisting us in identifying all the areas where it is evident that there is significant agreement.
And I guess that would be sort of the concluding perspective is that as difficult as it will be to have a plan on which all parties can agree, there are significant areas where many people do find agreement and we should move in those areas certainly as quickly as we are able. To that end, I am certainly appreciative of all those who will appear here today. Your input and testimony will be helpful to the committee members as we move forward in the coming months.
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With that, Mr. Kanjorski, if you have an opening statement, I would like to recognize you.
Mr. KANJORSKI. Thank you, Mr. Chairman. Mr. Chairman, we meet today for the third time to analyze various proposals to increase the efficiency and uniformity of insurance regulation in the United States. I again commend you for your diligence in convening this series of hearings. Today's proceeding should help us to better appreciate the regulatory models used in other sectors of the financial services industry and how these sectors might be affected under various proposals to reform insurance regulation.
At our previous hearings, we have heard from both sides of the ongoing policy debate about reforming insurance regulation and creating an optional federal charter. Some of our witnesses have argued that the needed reforms are most appropriately pursued at the state level. Others have suggested that joint state and federal oversight would most effectively address the regulatory efficiency problems plaguing the industry. We will hear similar views today.
No matter what side one takes in this long-standing debate, it has become clear to me that there is no longer a question of whether we should reform insurance regulation in the United States. Instead it has become a question of how we should reform insurance regulation.
This reform effort will likely prove difficult given the diversity and complexity of the insurance industry. As a result, I suspect it will take us several years to forge a consensus on this complicated set of issues.
Later today I plan to continue to explore whether we should create a tiered regulatory structure for insurance similar to the oversight system we devised for investment advisors. Under this system, the Federal Government would regulate insurers above a certain size or in a certain business line while states would retain the responsibility for regulating the rest.
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We should also continue to carefully examine the consumer issues as we proceed in the weeks ahead. We should, for example, find out the cost and benefits of a streamlined regulatory system. We should further determine what safeguards are needed to protect the interests of consumers. In the end, consumers should be the ultimate beneficiaries of our action.
Additionally, Mr. Chairman, I am particularly pleased that Wayne McOwen will testify before us today. Mr. McOwen serves as a senior vice president of Guard Financial Group, which is based in my congressional district. Guard Financial Group operates several subsidiaries and affiliates that participate in various aspects of the insurance and financial services industries. I have previously found Mr. McOwen's insights informative and instructive, and his comments today will help us all to better understand the needs of a small, progressive insurer.
In closing, I look forward to hearing from our distinguished witnesses and to learning more about their views for improving insurance industry regulation. As we continue to examine these issues, I am confident that our careful analysis will allow us to eventually identify a bipartisan consensus on the most effective and appropriate way to move forward.
Chairman BAKER. Thank you, Mr. Kanjorski.
[The prepared statement of Hon. Paul E. Kanjorski can be found on page 326 in the appendix.]
Chairman Oxley, did you have an opening statement?
Mr. OXLEY. I do, indeed. Thank you, Mr. Chairman. Today, the committee holds its third and final hearing on its series examining various proposals to reform insurance regulation. I am very pleased that Chairman Baker has devoted so much time and energy to this issue, which is of the utmost importance to insurance consumers across the country.
While we have just scratched the surface of this very complicated matter, this series of hearings has established the foundation for the committee's future work in this area. And I can assure you there will be future work. This committee will remain focused on this issue until true reform is achieved.
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As many of you know, my interest in reform is not new. Several years ago, I asked the National Association of Insurance Commissioners to focus on this glaring problem, and they responded in March of 2000 with a statement of intent, ''The Future of Insurance Regulation,'' which established NAIC's platform for modernizing insurance regulation. It was a good first step and laid out goals and timetables for action.
Since that time, the NAIC has experienced some successes and some failures. In the face of congressional legislative pressure, the NAIC has made significant progress in agent licensing reform, and I commend their efforts. However, there is still much work to be done. First, to make reciprocity a reality in every state and to achieve the ultimate goal of uniformity. I also remain troubled that many of the larger states, with the bulk of the agent-broker population, have either not yet passed legislation or have passed legislation that may not meet the NARAB requirements.
Unfortunately, the NAIC has met with less success in its efforts to modernize the product approval process. Almost a year ago to the day, the NAIC testified before this subcommittee and held out CARFRA as the solution to the life insurance product approval problem. Now, the NAIC has largely abandoned the initial CARFRA approach and has shifted gears to an interstate compact mechanism. The interstate compact mechanism has been around for quite some time and raises some difficult issues. It is too early to say whether such a system will succeed or fail, but one thing is for certain: consumers cannot afford another misstep.
I am here not to blame the NAIC for lack of reform. The leadership team at the NAIC has done yeoman's work, and I would like to thank Commissioner Terri Vaughan, who is with us today, Ohio Commissioner Lee Covington, Illinois Commissioner Nat Shapo, and others for their important leadership efforts.
To a large degree, their hands are tied. The NAIC can approve initiative after initiative but it is the state legislatures that must act on them. Unfortunately, it is becoming increasingly apparent that the NAIC may be facing an insurmountable task.
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Mr. Chairman, it is my hope that organizations such as NCOIL, which I helped to found back in the 1970's when I was in the Ohio legislature, will take an active role also in this important reform process.
It is my sincere hope that the alliance between the NAIC and state legislators will bring reform to this industry. However, this committee will not sit idly by. I am committed to continuing working on this issue for the long haul, looking at all the different facets of the industry. We will keep building on our reform efforts, and we will not let up until consumers receive the most effective and competitive marketplace that can be created.
Mr. Chairman, again, my congratulations on this effort at three very important hearings to set the stage for future activity. And I yield back the balance of my time.
[The prepared statement of Hon. Michael G. Oxley can be found on page 324 in the appendix.]
Chairman BAKER. Thank you, Mr. Chairman. Mr. Ross, did you have a statement?
Mr. ROSS. Thank you, Mr. Chairman. Actually, I do not have a statement. I got here early in hopes of being able to ask a couple of questions soon after what I am sure will be some very brief testimony from this panel.
Chairman BAKER. Thank you, Mr. Ross. Mr. Ney? Mr. Gillmor?
Mr. GILLMOR. I will just enter my statement in the record, Mr. Chairman. And I do commend you for moving forward on this important subject.
Chairman BAKER. Thank you, Mr. Gillmor. Mr. Bentsen did not have an opening statement.
If there are no further members wishing to make an opening statement, at this time I would like to move to our panel of witnesses, and I certainly do appreciate all of your willingness to appear and participate. As you probably know, we encourage you to keep your remarks to five minutes. Your prepared text will be made part—if possible, your prepared text will be made part of the official record. And that facilitates us being able to get to our question and answer period, which is usually very productive for us.
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With that, I would like to welcome the Honorable Terri Vaughan, who is here today in her capacity as president of the National Association of Insurance Commissioners. Welcome, Commissioner.
STATEMENT OF TERRI VAUGHAN, PRESIDENT, NATIONAL ASSOCIATION OF INSURANCE COMMISSIONERS
Ms. VAUGHAN. Thank you, Mr. Chairman and members of the subcommittee. It is an honor and a real pleasure to be here with you.
Today, I would like to make a few basic points. First, the sole reason for government regulation of insurers and agents is to protect American consumers. Effective consumer protection that focuses on local needs is the hallmark of state insurance regulation. We understand local and regional markets and the needs of consumers in these markets and we recognize that consumer protection is the purpose of our jobs and the basis of our statutory authority.
The subcommittee's theme for these hearings is insurance regulation and competition for the 21st century. While commercial competition is certainly a significant aspect of the insurance markets in the United States, it has not been the primary purpose of government regulation. The primary purpose is consumer protection. And once the consumer protection responsibilities of government insurance regulators are satisfied, it is fair to ask how the system of regulation can be made most compatible with the demands of commercial competition without sacrificing the needs of consumers. The NAIC and state regulators have given this much attention over the years, and we continue to give this matter our highest attention.
Paying for insurance products is one of the largest consumer expenditures of any kind for most Americans. Figures compiled by the NAIC show that an average family, people right here in this hearing room, can easily spend a combined total of $4,500 each year for home, auto, life, and health insurance coverage. Protecting insurance consumers in a world of hybrid institutions and products must start with the basic understanding that insurance is a different business than banking and securities. Insurance is a commercial product based upon a number of subjective business decisions.
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During 2000, we handled approximately 4.5 million consumer inquiries and complaints regarding the content of policies, treatment of consumers by their insurance companies and agents, and many of those calls led to a successful resolution of the problem at little or no cost to the consumer.
During your June 4th hearing one of the industry witnesses testified that a recent Roper opinion poll concluded that the public rates state government is better than the Federal Government at consumer protection and this statement does not surprise us. State regulators know from years of firsthand experience that when consumers need help with insurance sales or claims problems, they naturally look to their local state agency charged with supervising insurers to get assistance.
While recognizing the inherent strength of our system when it comes to protecting consumers, we also agree that there is a need to improve the efficiency of the system. And in March 2000, we adopted the NAIC statement of intent on the future of insurance regulation, endorsing a new action plan to do this. Working in their individual states and collectively through the NAIC, the commissioners have made tremendous progress. And looking ahead we will continue to deliver on the goals and objectives set forth in the statement of intent, that is creating an efficient market-oriented system, regulatory system for the business of insurance.
In Attachment A of my written testimony, you will find a status report on our modernization efforts.
In responding to the demands of insurance consumers in each state, the NAIC generally agrees with the comment by a previous industry witness that state uniformity is not the Holy Grail. However, where appropriate, we are working to achieve full regulatory uniformity to benefit both consumers and insurance providers. And marketing life insurance is one area where we agree with the industry that national uniformity is needed to enable to life insurers to market products nationally.
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To accomplish uniform supervision of life insurance products within the state system, we are currently working with state legislators and regulators to draft an interstate compact that gets the job done while preserving necessary and effective state consumer protections. The goal of the compact is to establish a single point of filing, where life insurers would file their products for approval and thereafter, assuming the product satisfies appropriate product standards created jointly by the compacting states, insurers would be able to sell those products in multiple states without the need for making separate filings in each state.
Over the next few months, we will continue to work with legislators and regulators, as well as consumer and life insurance industry representatives to develop model compact legislation.
If I could just for a moment digress and respond to a comment that Chairman Oxley made in his opening comments. We have not abandoned CARFRA. In fact, we view CARFRA as a critical first step to creating an interstate compact. Through CARFRA we developed uniform standards, we developed a coordinated review process, and we continue to pursue CARFRA because it provides essential building blocks for the interstate compact. In fact, in June we just added 12 new states to CARFRA, I think demonstrating that CARFRA remains an important element of our reforms.
The subcommittee asked us to address a few specific questions in our testimony, and let me do that. In the producer licensing reform area, to date 46 states enacted legislation designed to satisfy Gramm-Leach-Bliley and that legislation is being considered by four additional jurisdictions. This represents about 76 percent of total nationwide premiums. While these numbers are significant, we continue to work toward the goal of uniformity.
In approving the insurance product approval process in both life and property and casualty industries, I previously mentioned our work on the interstate compact for life and annuity products. In addition, we are working to achieve operational efficiencies in the rate and form filing area. And we are pursuing changes to the regulatory framework for property and casualty rates and forms.
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Our achievements and goals for operational efficiency are detailed in my written statement. However, I would like to highlight one area. That is our electronic rate and form filing system, SERFF. Almost 500 companies are now using SERFF, are filing rates and forms with the states. One company told us that with SERFF, its cost per filing has dropped from $38 down to less than $10 per filing with added savings because regulatory review is done more quickly. With SERFF, we have a ready-made opportunity to streamline and generate savings to companies and presumably their customers, and we wonder why more companies are not taking advantage of SERFF since many have testified to the NAIC about the cost and the time savings.
In the area of market-based regulatory reform, the NAIC has developed a streamline model law to implement reforms for commercial lines. Recent consideration of commercial lines rate regulation led to the conclusion that commercial insurance consumers will generally be better served by less restrictive regulatory interventions and a greater reliance on competition. We are working with state legislators to enact the model in the states, and we are also studying the benefits of market-based models for personal lines markets. However, we have not yet concluded our recommendations.
The system of state regulation in the United States has worked well for 125 years. We understand that protecting America's insurance consumers is our first responsibility. We understand that the markets have changed and that modernization of state insurance standards and procedures is needed to ease regulatory compliance for insurers and agents.
We ask Congress and the insurance industry participants to work with us to implement the NAIC's modernization initiatives through the state legislative system. It is the only practical way to achieve the necessary changes quickly, in a manner that preserves the state consumer protections that are expected by the public. The state process may take more effort than having an insurance czar in Washington but it rewards the citizens and consumers in each state by giving them control over important aspects of insurance and claims procedures that affect their financial security and the communities in which they live.
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We look forward to continuing to work with Congress, with you, and within state government to improve the national efficiency of state insurance regulation while preserving its long-standing dedication to protecting American consumers.
Thank you.
[The prepared statement of Terri Vaughan can be found on page 411 in the appendix.]
Chairman BAKER. Thank you very much. It is evident we have votes on the floor. I was thinking this through. If anybody understands the assumption of risks, probably our four witnesses do. You have just assumed a three-vote risk. Rather than rush the next witness and try to get the testimony in before we have to leave to vote, I suggest we recess now. We will return as quickly as we can. I am going to guess about 20 minutes. And as soon as I can get back, we will start back up again.
We stand in recess. Thank you.
[Recess.]
Chairman BAKER. We will now reconvene our hearing. Members will be filtering back from the vote momentarily. But given that, and not wanting to detain anyone longer, let me introduce our next witness, Mr. Tom Ahart. Is that correct? President of the Independent Insurance Agents and Brokers of America.
Welcome, sir.
STATEMENT OF TOM AHART, PRESIDENT, INDEPENDENT INSURANCE AGENTS AND BROKERS OF AMERICA
Mr. AHART. Thank you very much.
Chairman BAKER. You will need to punch your little button on that thing. Got it? There you are.
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Mr. AHART. Thank you very much, Chairman Baker. I appreciate the opportunity to be here and appreciate the full committee and the subcommittee looking into this issue.
We have listened to a lot of testimony and read testimony from the other hearings and would like to say that we agree that there is definitely a need for reform in the regulatory area. When we look at the way it is regulated right now that the state basis, there are a lot of good issues at the state basis but there are two issues in particular which we need to help and that is the speed to market issue and the over regulation in the licensing and post licensing audit issue.
On the speed to market issue, as an agent, especially from New Jersey, I can tell you there is definitely a problem in getting products—new products out to consumers. Often it is years before new products can get to consumers, which hurts insurance companies. It hurts the agents and brokers. And it hurts the consumers, who don't have the opportunity for the new types of programs. So we definitely need to do something with that.
There is also still a problem with licensing, both at the company and the agent-broker end, and we would like to do something with that.
So although we recognize the need for reform, we don't agree with some of the other proposals in certain areas. First of all, from the proposals we have heard, there are really two. One is to keep the status quo, which would keep the state regulation basis as it is. And although we think the state regulators do a fantastic job for the most part in protecting consumers, there are certain areas, as we mentioned, with speed to market and licensing issues that remain a problem. Again, I would like to say that the state regulators in protecting the consumers are great in making sure that minimum coverages are provided. They are great in taking care of claims disputes and claims inquiries which happen often at the state level. And they are very good at operating their guarantee fund, which has not had to any taxpayer input since its inception in the 70's.
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The other option, other than status quo, is going with federal charters and some type of federal regulation. Our problem with the federal regulation overall is, number one, we believe it is overkill. We think that there definitely are problems in the system, as we mentioned, with speed to market and with inefficiencies in licensing. But, as we also mentioned, there are a lot of good things that are done by the state regulators. And the federal charters or federal regulation doesn't necessarily tackle the problem. I can see situations where you could have a new federal bureaucracy or federal legislator which actually operates as one of the poorest states might operate or one of the ones that don't do the job so well and you could actually then be hurting other states that have good regulation.
Again, coming from New Jersey, we have great state regulators but we have some real political problems that impede what they can do. And in those situations, if we had something like that at the federal level, which there is no guarantee it wouldn't be that way, it would be terrible for everybody.
So, first of all, I think that it could be overkill. Second, I don't necessarily see that it attacks the problem. The problems are, again, speed to market issues. The problems are inefficiencies in licensing and whatnot. And federal charters don't necessarily attack those issues.
What I would like to propose is our solution, which we have been working together with different insurance companies, with different agent-brokers groups, with state regulators, and with legislators. And we are offering a pragmatic middle ground approach, which is a compromise between the status quo and federal regulation. What we believe is that we should continue to use state regulation, which has worked well for over 150 years but use federal legislative tools to help with specific issues.
To give you some examples on the speed to market issue, we would use uniformity and a model similar to the Illinois model in that on forms we would use file and use provisions with a 30-day review period so that when products are—when forms are filed, the regulators would have 30 days to look at them and they would be deemed approved unless they are disapproved, which would move products along.
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On the rate end, we also would follow the Illinois model where we have the competitive market model. And the rates would be filed but they could not be disapproved on competitive markets. States would only be able to disapprove them on non-competitive markets.
Well, on agency and company licensing we would really use reciprocity, which is starting to work now with the NAIC model. And what we would do is have both companies and agents have approval in their resident states. And once they are approved in their resident states, they would be able to have reciprocal, non-resident licenses in other states by just showing their current resident license as well as paying the fee.
In addition, in market conduct exams, we think that that should be regulated better and that it is completely inefficient right now and we try to move those inefficiencies and reduce the cost. We would try to limit the use of those in non-resident states so that they can only require an exam to review compliance with properly promulgated statutory and regulatory requirements.
Also, just getting back to the agency company licensing end for a minute, we think that you could use the legislative tool of preempting states rights, for instance, on the counter signature laws, which would get rid of those if they are a problem.
So, in conclusion, I would just like to say we recognize that there is a problem. We ask Congress to help as soon as they can. We believe that they should meet with the states and work with the NAIC and come up with a solution similar to our proposal, which is a middle of the ground, pragmatic approach which uses the well-founded base of state regulation but uses legislative tools to help. And we believe that would protect consumers in the outcome.
Thank you very much.
[The prepared statement of Tom Ahart can be found on page 330 in the appendix.]
Chairman BAKER. Thank you, Mr. Ahart. We appreciate your testimony.
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Our next witness is Mr. Glenn J. Milesko, president and CEO of Banc One Insurance Services Corporation, appearing here today on behalf of the American Bankers Insurance Association and the Financial Services Coordinating Council. Welcome, Mr. Milesko.
STATEMENT OF GLENN J. MILESKO, PRESIDENT AND CEO, BANC ONE INSURANCE SERVICES CORPORATION, ON BEHALF OF THE AMERICAN BANKERS INSURANCE ASSOCIATION AND THE FINANCIAL SERVICES COORDINATING COUNCIL
Mr. MILESKO. Thank you, Mr. Chairman. The banking industry—
Chairman BAKER. And you will need to pull that mike a little closer. It is hard to hear you, sorry.
Mr. MILESKO. The banking industry is keenly interested in the regulation of insurance because it is actively engaged in that business. In 2001, 1,900 banking organizations were in the insurance business. And ABIA's member banks sold more than $50 billion in premium volume.
Our experience with the state regulatory labyrinth has led us to conclude that it is not suitable for all insurers and producers, especially those operating in multiple states or using the Internet to reach consumers. An alternative is urgently needed.
These hearings show that many others share our frustrations with the lack of uniformity among state laws, the failure of the existing system to allow products into the market on a timely basis, the continued existence of multiple agent licensing and continuing education requirements, and the competitive disadvantage insurers face relative to banks, security firms, and mutual funds in the delivery of like financial products. And these shortcomings remain despite federal pressure on the state system to modernize.
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We believe that the solution to this problem is to give insurers and producers a choice between federal and state regulation. Federal regulation would be an option, not a replacement, for state regulation. The system has worked well in banking for 140 years. We believe it would work well for insurance.
Dual chartering has actually strengthened the banking system—the state banking system. Over 70 percent of banks are state chartered and it is the charter of choice for new banks. Why? Choices has kept banking vibrant, innovative, and diverse. The alternative regulatory environments serve as laboratories for change that have led to the development of products that are now commonplace, all to the benefit of consumers. Choice has also promoted better, more efficient supervision. Any soulution must also rely on market-based competition rather than price controls for establishing rates for insurance products. It is ironic that we avoid price controls on food, clothing, and shelter, commodities more necessary to human survival than insurance, yet rate regulation persists all to the detriment of consumers.
Last year, Illinois state representative Terry Park, then president of NCOIL, testified before this committee that because his state eliminated rate regulation for auto insurance, such insurance is readily available to consumers, and at a lower cost than in other states. He also noted that Illinois has more than double the number of competing insurers than either Massachusetts or New Jersey, two states whose rigid rate controls have led to the highest average auto rates in the nation.
For these reasons, our optional federal charter proposal does not permit regulation of rates or forms. Instead, we would protect consumers through strong solvency and market conduct standards and the application of antitrust laws. Our proposal includes risk-based capital standards, investment standards, and dividend restrictions. Federally chartered insurers and producers would also have to adhere to vigorous market conduct standards, preventing unfair competition and deceptive acts and practices.
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Regular reporting, examination of federal insurers and producers, and strong enforcement authority would be part of the federal regime. The combination of strong solvency and market conduct standards, backed by examinations and potential enforcement actions, would ensure that federal insurers and producers operate for the benefit of policy-holders and that consumers are protected.
Now, let me broaden the perspective and speak for the insurance banking and securities interests that together make up the FSCC. In my 30 years in the insurance business, I have never encountered an issue this significant where there is such agreement. Here, these industries are approaching Congress shoulder to shoulder with a single message. We agree on the nature of the problems confronting the current system. We agree on principles for addressing those problems. And we agree on the details of a legislative solution.
This consensus reaches beyond the FSCC. The Financial Services Roundtable, the Council of Insurance Agents and Brokers, the Financial Services Forum, all are in support of an optional federal charter.
In large measure, we credit this consensus to your efforts, Mr. Chairman, and to the efforts of Chairman Oxley for moving in a deliberate fashion to investigate the workings of the state regulatory system. We are grateful for your interest and believe these investigations have favored support for a comprehensive rather than an incremental approach to regulatory reform. The scope of the problem is simply to great and the need to act too strong for incremental measures to succeed.
Mr. Chairman, there is a rare convergence of interest here and a broad consensus for a very specific course of action. On behalf of the ABIA and the FSCC, I urge you to move forward with an optional federal charter for the insurance industry. The members and staff of the ABIA and the FSCC stand ready to assist in this endeavor.
Thank you very much.
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[The prepared statement of Glenn J. Milesko can be found on page 358 in the appendix.]
Chairman BAKER. Thank you very much, sir.
Our next witness is Mr. John Van Osdall, Chairman, Council of Insurance Agents and Brokers. Did I pronounce that correctly, sir?
Mr. VAN OSDALL. You did.
Chairman BAKER. Oh, terrific.
STATEMENT OF JOHN VAN OSDALL, CHAIRMAN, COUNCIL OF INSURANCE AGENTS AND BROKERS
Mr. VAN OSDALL. Thank you, Chairman Baker.
Chairman BAKER. You are welcome.
Mr. VAN OSDALL. And Ranking Member Kanjorski and subcommittee members, thank you for the invitation to be here today.
Today, I am representing the Council and I think, as you know, the Council of Insurance Agents and Brokers tends to represent the insurance agents in the United States that represent the larger business interests. We probably handle or place each year about 80 percent of the commercial insurance business that generates throughout the United States. So that is really our phase and the direction that we would like to have our comments made in today.
We want to thank the fellow panelists also, particularly Commissioner Vaughan, who has done yeoman's work in the area of licensing for us and licensing reform, and that is very much appreciated. It has gone a long way and we know that we still have a ways to go. So thank you very much.
And Tom Ahart is with us today in a capacity that also is very similar to ours in the idea of believing that this is the time for more federal intervention in the regulatory process.
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We really feel strongly that this is the appropriate time to begin talking about the options for federal regulation and federal intervention. And to that end, our FAME organization, which is really a newly created research report that was being released today for the first time, is entitled, ''The Cost and Benefit of Future Regulation Options for the U.S. Insurance Industry.'' About a year ago, we engaged an independent economic consulting firm to do a study of regulatory approaches and options that we should be considering. And we think they have done a good job and are looking forward to sharing this with you.
The Council is also very interested in the possibility of SROs. We have watched the SROs work in many models in professional organizations throughout the United States. We think that this may offer a real opportunity and hope that the committee will look into the SRO model. We have seen it work in the bar associations for years throughout the United States. And we feel that this may be the kind of solution that could be meaningful as you consider it.
Apparently the states have crossed the threshold in adopting NARAB. And I think it should be commented also that the NARAB model itself is based on the National Association of Securities Dealers' models. So this is another SRO that we think has done well over the years. We really suggest that you seriously consider it as you go about your deliberations.
We really support reform in any form. We need reform. The idea of the speed to market that you are now considering, the idea of the flexible rates and policy forums that you are now considering, we think is really a step in the right direction and we applaud you for that.
None of the concepts and the regulatory approaches that you seem to be considering we think are mutually exclusive. We think that there is room for each of these considerations and would like to do anything we can to encourage that.
Again, NARAB we think is a good template. It is really a carrot and a stick sort of a template. We think that it has a good effect. We think it has had the result of improving state regulation. We think that without the NARAB as the carrot and as the stick, that we would not have nearly made the progress that we have made. We think the Illinois model is really the great model for the future of insurance regulation and that would be beneficial for our clients, who again tend to be the larger commercial insurance buyers.
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We also know that congressional oversight is very important and whether it be done by an independent, newly created agency or a part of an existing agency, like the Treasury Department, would be workable from our vantage point. We think that that will also be encouraged by the optional federal chartering.
So we are here to support to you. We thank you for what you are doing and want to be a part of anything we can do to further the effort.
Thank you, Mr. Chairman.
[The prepared statement of John Van Osdall can be found on page 401 in the appendix.]
Chairman BAKER. Thank you very much. Mr. Shows, did you have a statement? Yes, I will get you in regular order. Thank you.
Commissioner Vaughan, I was interested in how the compact process would actually be formalized. As I understand it, the compact has not yet been formally prepared so there is not a document yet ready to circulate. That is subject to NAIC approval, I believe. Which would then have you take the next step of going to each state legislature to adopt the provisions of whatever the compact elements are. And my question is, in good faith, what do you see as the time necessary to achieve that in light of what has happened with NARAB?
Ms. VAUGHAN. Well, in light of the producer licensing activities, the enactment of Gramm-Leach-Bliley slightly less than three years ago, we now have legislation enacted in 46 states. Now, I am not going to say that we could enact interstate compact legislation in 46 states in two-and-a-half years. I think that would be a pretty optimistic time frame. But I do think the key to all of this, as you have said, as Chairman Oxley said, is the participation and support of the state legislators. We are working very closely with them on this. They have the—NCSL has a task force to streamline and modernize state insurance regulation, and they spent about a day in Philadelphia a week ago working on the interstate compact draft with us, having a hearing, inviting people to come in and testify, and making some suggestions to us on ways that we could improve the draft so that it could be acceptable to the legislators.
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So we are working very closely with them. And our plan is to have it in a form that we can adopt as a membership of the NAIC in September and hopefully have some legislative endorsement at some point in the fall so that we can introduce it in state legislatures next January. I think if we can do that, and I am confident we can meet that time line, I believe that we can very quickly get a significant group of states in place to make the interstate compact operational.
The current draft that we have says that the interstate compact does not become fully operational, in the sense of approving products, until we have at least 26 states or 50 percent of the market. And I am pretty confident that we could do that in short order.
Chairman BAKER. So you are basically guesstimating a three to five year window?
Ms. VAUGHAN. You are going to make me put a time frame on this.
Chairman BAKER. Oh, I was just going to give it my best shot.
Ms. VAUGHAN. Boy, let me tell you with respect to producer licensing. The challenge that we have had is that we can get a whole bunch of states very quickly, we did that in producer licensing. We got 46 states. And then we have got four or five jurisdictions that you just have to pull along and pull along and really work with. And the challenge that we face is that we are as an organization unfortunately are being judged by you folks in terms of all states. And when it is really—it is just a few states, it is three or four states that are a problem and it may be a problem in the interstate compact. We are working very hard to get the large states on board, and we believe that we are going to be able to do that. But I would have a hard time promising and committing to all 50 states in a particular period of time.
Chairman BAKER. I understand. Thank you.
Mr. Ahart, how do you feel about the Illinois model? Do you find that to be a reasonable structure?
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Mr. AHART. Yes, definitely. As we look to the speed to market issues, first of all, with forums it would be a perfect model for us. And then it would be a file and use model in that companies would file their forms and they would have 30 days to approve them. And they would know within 30 days whether approved or not and then they could use them. On the rate side, it is pretty much a free marketplace on the rates. They file the rates but they are allowed to use them right away on a competitive marketplace. If a certain marketplace is deemed uncompetitive because of very few companies writing the business, then the state would have the ability to work on those rates or approve or disapprove them. But it would be a great model. And that was one of the legislative tools we would like to use by adopting similar provisions to the Illinois model.
Chairman BAKER. What would be your objection to the Illinois model being made national?
Mr. AHART. I would have no objections to that.
Chairman BAKER. Terrific.
Mr. Milesko, do you think the Illinois model goes far enough for you?
Mr. MILESKO. It is a good model. We like the free competition, but we also are concerned that—I think we are concerned that it doesn't go far enough in terms of allowing some of the other issues to be addressed. It does talk about the licensing. It talks about the rate and forms. But I think there are other issues that still need to be addressed that are much broader than just what we are doing in Illinois.
Chairman BAKER. And if you would for at least my purposes, I would love to have your written thoughts as to the objections of pursuing a line of that sort. In trying to understand it, it would be helpful to know the specific areas of contention that the organization would have with that type approach.
Mr. MILESKO. Well, right now we operate in all 50 states. When we look at the issues that we have in terms as an insurance company, it just addresses I believe the agents. For example, in one state it takes us over a year to get our certificate of authority. In other states, such as North Carolina, Connecticut, there is a three year seasoning requirement for the legal entity to be licensed in doing business before it can get approval in those states. In many cases, the capital surplus requirements are much higher than the NAIC model. So I am looking at it from an insurance company perspective as well as from a national agency perspective where we need to be licensed with our 5,000 agents in all the states.
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Chairman BAKER. Sure, thank you very much. My time has expired.
Mr. Kanjorski?
Mr. KANJORSKI. I am going to put you on the spot, Ms. Vaughan. Could you name the three to four states that give you the worst trouble?
Mr. MILESKO. From my standpoint, the states are New York, California, Texas are some of the worst states.
Mr. KANJORSKI. Are the worst states?
Mr. VAN OSDALL. May I comment on that?
Mr. KANJORSKI. Yes.
Mr. VAN OSDALL. From a licensing standpoint, the big three that we are missing, really, are California, New York, and Florida. They have a significant portion of the premium. In fact, the Council of Insurance Agents and Brokers filed suit against both Nevada and Florida this past week because we continue to have such concern about the punitive income- sharing arrangements that those two states protect their local agents with. That has been of great concern to us. That has a real impact on our business.
Mr. KANJORSKI. So it is just the small states that give you trouble?
Mr. VAN OSDALL. Just the small states, right.
Mr. KANJORSKI. What is the worst disadvantage if we went to a federal or a federal optional charter, Ms. Vaughan?
Ms. VAUGHAN. I think the worst disadvantage would be the inability of the regulators in Iowa to address the local market issues in Iowa. And to give you a specific example, we have a very large senior citizen population in Iowa. We have the highest percentage I think in the country over 85. And so that means that we have had to focus a lot of attention in that area. And I guess I have concerns as a regulator from Iowa about whether the federal regulator would be sensitive to the market issues that we encounter in Iowa.
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Mr. KANJORSKI. Very good. Mr. Ahart, you are sort of looking for the best of all worlds, state regulation, federal legislative tools, and reciprocity of licensing. That would be Christmas on the Fourth of July, right?
Mr. AHART. I think it is very doable actually. Right now, we have a very good state regulation process in almost all areas. The one problem again with federal charters, whether they are optional or mandatory, is for agents and others they are mandatory because you would have to deal with your national companies as well as your regional companies. And they are against speed to market, licensing issues, things like that. If you went after each issue with federal tools for uniformity and reciprocity and let the state regulators handle the rest of it, which they are doing so well, you could tackle those issues as they came about. So I think it is very doable.
Mr. KANJORSKI. Mr. Milesko, you talk about the federal optional charter, and what I am curious about, if we were to allow insurance companies to select a federal charter or state charters, how would that impact on the cost of administration at the state level? Wouldn't that take money that now flows to the states for regulation and take that away from them and have to flow to the Federal Government for regulation and wouldn't there be a shortfall since we are having two distinct bodies of regulation, how do you make that distinction up?
Mr. MILESKO. I think the insurance companies that are national companies and national agencies that would opt for the federal charter would pay the costs. And those companies also would still participate in the guarantee funds.
Mr. KANJORSKI. But would they contribute to the states?
Mr. MILESKO. Yes.
Mr. KANJORSKI. In other words, pay the states, as you are now, and pay an additional fee for the benefit of the federal charter?
Mr. MILESKO. Yes.
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Mr. KANJORSKI. Okay.
Mr. MILESKO. It would overlay on top of the state system.
Mr. KANJORSKI. And you think there is uniformity in the large companies to assume a greater burden of cost for regulation?
Mr. MILESKO. I think the cost savings would more than pay for—
Mr. KANJORSKI. Offset.
Mr. MILESKO.—the additional costs that they would pay for a federal regulator.
Mr. KANJORSKI. Okay. Mr. Osdall, while you were talking about the tremendous accomplishments of the SROs, the chairman and I had a slight discussion on the auditing field. Do you think that they do the best in the world?
Mr. VAN OSDALL. I do not have any comment on that.
[Laughter.]
Mr. VAN OSDALL. I think if you look at the—I can't speak to the auditing field, excuse me. No.
Mr. KANJORSKI. You are turning into a good politician. That is what we do, shut up when you can't say something good, right?
I think this has been a great panel, Mr. Chairman, in terms of setting out all the choices. I am just wondering—going back to your opening statement and my tremendous affection for roundtable discussions, I hope the panel that is here today are part of that roundtable because I think they would certainly help us to find some common ground. And their input I think would be most worthwhile for the committee.
Chairman BAKER. I thank you, Mr. Kanjorski. It will be a big roundtable and we will try to get everybody a seat.
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Mr. Ney?
Mr. NEY. Thank you, Mr. Chairman. The question I had, Mr. Van Osdall, under some of the proposals, you would have to have a federal charter license and then you would still have to have a state license, I assume. Would you support that dual regulatory licensing situation?
Mr. VAN OSDALL. Well, we know that at the end of the day there is going to be some dual regulation. I think we don't escape that. I think one of the interesting things that you will see in our report that is being released today is of the premium taxes that are taken by the various states, about 10 percent of that amount is actually used to run the regulatory agencies within the state. So we know that we are already paying a tax to the state. We therefore also feel that the additional cost—going to Mr. Milesko's comment about also satisfying a federal regulator where necessary—at the end of the day we think will cost less in the hidden or internal costs of an insurance company in providing the consumer the product. That does not seem—the duplicative cost does not seem to be a concern when we weigh it against the benefit of the ease of doing business and being able to more quickly deliver the product to our client.
Mr. NEY. One other question based on state and fed. Several years ago, the FTC started to look at business practices and Congress banned them from doing that because you are state regulated. If we embark down this path of the federal charter, would you accept the fact the FTC and such other entities could look at your business practices and do an entire regulatory scheme?
Mr. VAN OSDALL. We would do that.
Mr. NEY. You would accept that. One question I had for anybody who would like to answer, if you could. What are you hearing from the consumers of the country? Are they focused at all, any people calling and consumers saying, ''Gee, I think fed is better than state.'' Is anybody actually hearing from any of the consumers that use your product?
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Mr. MILESKO. Maybe I could take a try at that.
Mr. NEY. I am not talking about the ones you might have wrote a letter to to tell them about the hearing. I mean genuine people.
Mr. MILESKO. One of the things that we have been able to do on the bank insurance side is use a lot of the banking systems because of the penalties, when you violate any of the banking regulations and apply those to the system that we have put in place on the insurance side.
To give you an example of that, last year we did $2.7 billion in annuity sales and because of the systems and the edits that we have built in, there were less than $5,000 of complaints and charge-offs that we had to make good for consumers. So the number of complaints we get in relationship to the premium volume that we write is de minimis. And I think part of that is because we try to the extent we can to systematize everything we do. And if we went with the optional federal charter, it would make it that much more efficient. And I could give you some examples of very specifically today, in terms of pre-licensing education, just to deal with licensing but you take each one of these issues separately. In Arizona, there is no requirements. In Colorado, there are 90 hours of pre-licensing study.
Mr. NEY. Let me interrupt you—on my time, but what about the consumers? What are you hearing from—I understand you are saying—I gather you are saying there will be better educational practices.
Mr. MILESKO. Right.
Mr. NEY. You will be better able to do better for the consumers. Are you actually—anybody hearing anything from people that are calling up and saying, ''Hey, I have been looking at this issue.''
Mr. AHART. I would just like to say that we have—being an insurance agent, we deal with our consumers all the time. We talk to them actually a lot about state versus federal regulation. Their biggest concern is there is a lot of questions on claims and coverage situations and things like that that they feel fairly comfortable going to their State Department of Insurance on. And I think they would be very uncomfortable going to a federal bureaucracy to find those problems—they like to deal as local as they can with those issues.
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Ms. VAUGHAN. I would say we don't have a lot of consumers calling us out of the blue and saying what they are thinking about having federal regulation of insurance, because the average consumer is not really aware that this debate is going on. But when I am out speaking and I am talking to consumer groups or I am talking to high school teachers and I make them aware of the debate, I can tell you, the reaction I get is not a good one. They want to know that they can go to their local insurance regulator to deal with issues. And that gets back to the 4.5 million consumer inquiries and complaints that we have every year and the fact that they know that there is someone there that can contact when they have a problem.
Mr. NEY. Sorry, Mr. Milesko. Did you have an observation on that or the consumers or any interaction?
Mr. MILESKO. Well, I think the biggest thing for consumers is the access to new products, innovative creative products, and what we have been able to do, for example, with annuities and some of the other products that we are now bringing to customers and consumers that maybe didn't have the opportunity to get that in the past. And I think generally if you look at the track record, there aren't fines, there aren't penalties, there aren't consumer complaints, there aren't censures.
And I know in one of the other panelists' testimony they were talking about the number of consumer issues. And I guess the point that I would make is with the optional federal regulator and the way we would put it together, I think you would cut down on the number of complaints and offer the consumers potentially better products at lower cost because of the savings involved.
Mr. NEY. My time has expired. Thank you.
Chairman BAKER. Thank you, Mr. Ney. Mr. Ross?
Mr. ROSS. Thank you, Mr. Chairman. And, first for Mr. Milesko, I am trying to sort this thing out and figure out exactly where I am going to come down. And one of the concerns that I have, and all of you have done a great job today in providing testimony that has been very helpful to us, both verbally and in writing, and I want to thank each of you for joining us here today, or at least a few of us. For property and casualty insurance, state insurance regulators often play an important role in helping to ensure that claims are paid. I served for 10 years in the state senate, so I have some understanding of how it works at the state level. This involves helping to interpret the insurance contract under the law of the pertinent state to determine whether a valid claim has been asserted. From everything I understand, the consumers, at least in my state, are happy with this system. As far as I can recall, 10 years as a state senator and 17 months as a Member of Congress, I have never had a constituent upset with the aspect of insurance regulation and how it works by each respective state, at least at this time.
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Why do you think that my constituents in rural Arkansas would be better protected by a distant federal regulator located in Washington, D.C., some 1,200 miles away, rather than one located in our capital city in Little Rock, some hour and a half away.
Mr. MILESKO. Well, the state laws, number one, would continue to apply. The federal regulator would regulate those national companies and national producers but it would overlay, again, on the states. I mean in terms of the state regulator would still be involved.
In terms of the claim payment on the property and casualty side, I would have to think about that a little bit in terms of the complexity with which those claims come in. From my standpoint, I think to the extent we can simplify the entire process, a sign of an intelligent man I think is to take something very complex and make it simple. And one of the things that we have done in the insurance industry is we have made it very, very complicated, overly complicated from the standpoint particularly on commodity products, such as auto and homeowner's. And I think a lot of that may be smoke and mirrors. A commodity product, if there is a claim such as an auto policy or a homeowner policy, it pretty much goes down to what the forum says and that determines whether there is a claim or isn't a claim.
Mr. ROSS. You said you need to think about it a while, and I think a lot of us need to think about a lot of aspects of all of this before we move forward with trying to pass a piece of landmark legislation that will totally change how we have done things forever.
If you could be so kind, sir, after you have had time to think about, if you could maybe provide me or this committee, especially me, with a letter of your thoughts—
Mr. MILESKO. Absolutely.
Mr. ROSS.—on how it can be regulated from Washington, how is that best going to serve my constituents as opposed to being regulated at the state level. And I know you said you need some time to think about it, and I respect that. But after you have thought about it for a while, and I will let you define what a while is, then if you could provide to me in writing and perhaps this committee, I would appreciate your thoughts on that.
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One follow-up question. Do you know how many people currently work for all the—collectively for all the state insurance departments nationwide?
Mr. MILESKO. No, I do not.
Mr. ROSS. It is 11,000, roughly. It is roughly 11,000. And with the proposal that you are advocating being optional, I can only assume that all the current state employees would still be needed on the state level. So what is your projection, I am looking for a number, regarding how many people the federal insurance regulator would need to employ? How many jobs—keeping in mind that this country is already spending $1 billion every 24 hours simply paying interest on the national debt, given the current financial condition of this country, exactly how many new federal jobs do you propose that we create and roughly how much do you think we would need to pay each of those people a year?
Mr. MILESKO. Well, I think it would be considerably less than using 50 states to do the regulation. I think if you look at the total cost of the state insurance regulation, if my figures are correct, it is $880 million. You compare that with say the OCC, a federal regulator does it for $400 million. So I think there could be some savings there over time. The cost of the regulation, again, is paid by the industry at this point, the number of individuals it would probably be similar to one of the other federal regulators, if you looked at it as an example. But I think those are issues that would need to be looked at and worked through.
Mr. ROSS. So are you saying that we could reduce the 11,000 state employees that are out there?
Mr. MILESKO. I think there possibly could be some redundancy depending on how—
Mr. ROSS. And you think you could do it at the federal level for less than 11,000 employees and do it as effectively and as timely?
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Mr. MILESKO. I think you could on a national basis. You would eliminate—think about it. You have got 50 states, 50 different ways of doing things. Fifty different systems that currently are in operation. If you have one, it is very logical to assume that you are going to do it much more efficiently.
Mr. ROSS. Where are we going to find these people that already have training and are qualified?
Mr. MILESKO. Well, if you look at when Banc One got into insurance, we now have 5,000 licensed agents. Where did we find them? We found them from the independent agency system. We found them from colleges that we trained and educated to do that. I think there are a number of people that are involved in regulation, involved in insurance and would look at that as an opportunity.
Mr. ROSS. So what was the number again on how many jobs you would propose that we create?
Mr. MILESKO. I don't have a specific number. I think that is something that you would have to work through as we have further dialogue on the proposal.
Mr. ROSS. A hundred? A thousand? Ten thousand?
Mr. MILESKO. I think it is going to be less than a thousand, considerably less because if you looked at 50 states with 11,000 and one federal regulator, I would think there has got to be some—it has got to be a lesser number. I don't know if it would be mathematically proportional but there would be a lesser number.
Mr. ROSS. So this government that is going back to the days of deficit spending for the first time since 1997 is spending a billion dollars every 24 hours paying interest on the national debt, we probably—at a time when we need to be cutting government, you are proposing that we increase to the tune of maybe a thousand new federal jobs?
Chairman BAKER. Mr. Ross, if I may, your time is well exhausted.
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Mr. ROSS. Well, if I could—
Chairman BAKER. We will come back to you because there is not going to be many of us here in a few minutes, and I want to give a couple of other members time, particularly your ranking member wanted, without objection, one minute to follow-up on a prior comment.
Mr. KANJORSKI. Yes, Mr. Milesko, in response to Mr. Ross and your response to me seem to be different. I asked you whether or not the insurance industry would maintain in what I understand your optional charter, which would mean all of the states would have to maintain their commissions and process, and there would be additional federal regulator cost, you seem to indicate to my answer that the companies were going to pick up that additional cost.
Mr. MILESKO. That is correct.
Mr. KANJORSKI. Are you saying now that you are looking to get an efficiency out of reducing the states' participation and making that up on the federal level and paying for the federal level or are you making a commitment for your association that the insurance industry is going to pick up the additional cost, whether it is a thousand additional employees or 10,000 additional employees? I thought that is going to come out of the cost of the insurance industry.
Mr. MILESKO. The insurance companies and the national producers that choose to go—or the optional federal charter would pick up the cost.
Chairman BAKER. Let me make sure we get the answers correct, because it is apparently a misunderstanding, I think, as between the answers to Mr. Kanjorski and Mr. Ross. If you would not mind on that particular point, just give us a letter back that explains the companies' willingness to pay appropriate cost because we can't do both. We can't save money by not paying for the state if we are going to tell Mr. Kanjorski we are going to pay for the state and the federal. And therein is the conflict, if we are understanding it properly. Is that satisfactory, Mr. Kanjorski?
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Mr. KANJORSKI. Yes.
Chairman BAKER. Ms. Biggert?
Mrs. BIGGERT. Thank you, Mr. Chairman. I guess I should say that I am very proud to be from Illinois, hearing all about Illinois' model. And I have to say that I was in the state legislature, but I can't take credit for the passage of the model, since it happened before I was there. But I think that what has happened in Illinois has been very good, and it really is a model for the country.
Commissioner Vaughan, I wanted to ask you about dealing with the state legislatures again. About how long does it take from the time that a state legislature might decide to pass a model law that NAIC has from the inception to final adoption of a law that you have suggested?
Ms. VAUGHAN. That is going to depend to some extent on the state in Iowa, for example. We know that we need to get this model, speaking of the interstate compact, or any model, producer-licensing model a couple of years ago, we needed to get that adopted by the NAIC and ready to go very early in the fall because many state legislatures come into session in January. And so you need that lead time in the fall to get the bill drafted and into the hopper in the states.
So there are a number of states where you can, if we have something ready in say, September, you can get into the state legislatures in January. There are other states that only meet every other year. And so you have to wait an extra year to get it in.
And then there are some states where the legislative process just tends to be slower and they need to mull it over for a while. We are seeing that happen, for example, in New York, with the producer licensing legislation. It is something that has been in there for a while but they are kind of working it through the system.
Mrs. BIGGERT. More like the time that it takes Congress probably to adopt something.
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Ms. VAUGHAN. Right.
Mrs. BIGGERT. Have any of the NAIC model laws been adopted by state legislatures without amendment so that it might be uniform?
Ms. VAUGHAN. Certainly. A number of our accreditation models, the models that the NAIC has required for accreditation, risk-based capital, codification, use of the examiner's handbook, financial examiner's handbook, many of those are adopted on a very widespread basis with very few amendments. There may be in one or two states but it tends to be a highly uniform system in financial regulation.
Mrs. BIGGERT. Okay, well, some efforts have been made to streamline the agent's license through passage of NAIC's model producer licensing law and through construction of a single point filing mechanism, CARFRA. Have any of these licensing laws passed exactly the same in many of the states?
Ms. VAUGHAN. In the producer licensing area, we can get you specific numbers on how many of the 46 states did exactly the uniform producer licensing model, a number of states did. Not all of the 46 states, I have to be honest with you, did it. But I think a critical thing is that of the 46 states they all enacted the elements that were necessary for us to build a streamline non-resident producer licensing system.
One of the things we are trying to do is build a system where an insurance agent can go one place, file one application, do it electronically, have it go through some automated review process and then get basically an electronic notification that they are licensed within 24 or 48 hours, if it is a clean application. If it is not clean, if there are disciplinary issues, then it goes to the state to decide what to do with it.
But in order to do that, you have to have a certain amount of uniformity in the system. You have to have uniform applications, uniform lines of authority, and there are some minimal elements. And we are getting those pieces in place that are critical to do our national non-resident licensing system. And we now have I think 15 states online doing non-resident licensing. We have processed over 2,000 non-resident licenses this year already through our non-resident licensing system. And our goal was to have 35 states on board by the end of the year.
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Mrs. BIGGERT. So on the rate and form filing, how many products have been approved under this mechanism?
Ms. VAUGHAN. CARFRA has been kind of an interesting animal. The intent when we built CARFRA, that is our streamline coordinated rate and form review system, the intent was to build a system that would allow for coordinated review, that would allow us to do a speedier review, that would allow us to set national standards so that we could identify state deviations against those standards and really streamline the process. And we did that last May. We went online with 10 states and three products.
And the good thing is that the products that have been filed with us, we have done the review, we have done it very quickly. Everybody has been happy about how it has worked. The sort of disappointment, I think, is that we have only gotten two filings so far. It is clearly not what we expected. We thought that this was going to be something that people would jump on board with. And, as we spent the fall dealing with the events of September 11th and dealing with what we were seeing emerge in CARFRA, we were trying to understand what was holding CARFRA up, the success of CARFRA.
And it appeared to be a number of issues. In the companies, there were certain sort of cultural issues. They were used to doing it one way and one has to get past that, not just in the regulatory side but also on the company side. Second, there was some technology issues. They needed to have our electronic system up and running in order to do it. Issues about which lines of insurance were chosen.
But I think the main thing came down to the deviations that were in place. We had 10 states. Two of those states, New York and Texas, had a significant amount of deviations. A number of the other states had a couple, but that is really what led us to focus on the sort of the next stage of CARFRA, evolving CARFRA into something that would allow us to deal in a very systematic way with the problems of deviations and getting to more uniformity in the standards. And that is where we have gotten to the interstate compact.
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Mrs. BIGGERT. Thank you. Thank you, Mr. Chairman.
Chairman BAKER. Thank you, Ms. Biggert.
Mr. Bentsen?
Mr. BENTSEN. Thank you, Mr. Chairman.
Mr. Milesko, in your testimony, in talking about the optional federal charter, you talk a lot about the upside in terms of bringing product to market and developing product for the benefit of the consumer and doing it more quickly. But I am a little concerned in your discussion with respect to consumer protection. And I have to say I sort of agree with the idea of a federal charter. But I think that—I am concerned that your proposal or your association's proposal is a little light when it comes to consumer protection. And you stated in response I think to Mr. Ross that federally-chartered insurers would still be subject to state laws. But in the summary, in your testimony, it seems to state otherwise, that once you opted for a federal charter, you would be under a federal charter and there is not necessarily any parity provision that would carry state laws or federal laws the other.
And Mr. Ross had the concerns about the 11,000 employees and the state regulators and how big is the federal regulator, I don't particularly care about how many employees there are one way or the other. But our experience has been with the federal banking regulators, that they have not always been the most effective consumer protection regulators at the retail level. And I tell you this just because I think it is something you all need to think about.
I think, quite frankly, Mr. Van Osdall's testimony is some of the best testimony I have read on this subject because I think your group has started to wrap this all together, of saying if you are going to have a federal regulator, fine, but you need to have some connection between the federal regulator who is looking at the national market with state regulators or someone who is looking at the retail market vis-a-vis how the securities market works.
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And you talk about NARAB as being some form of a SRO. And I really think you need to consider that both from a policy perspective and arguably from a political perspective as well. Because I think that while you are right, that having the flexibility to bring product to market, the flexibility to license will benefit the consumer in that regard, it concerns me that it is just a lot harder to get the Federal Government to respond on a retail consumer complaint than it is to a state regulator. And it is something that I think you all need to go back and take a hard look at your proposal and how you are developing it.
If you look at what Mr. Ahart is proposing, it is just amazing how it is moving the direction because he is talking about a federal preemption, I assume, using federal statute to preempt and create a de facto federal system run by the states.
So I think even the independent insurance agents understand the necessity for some sort of federal structure. But I am just concerned that your federal charter system doesn't go quite far enough.
Mr. MILESKO. I think we need to look at that. I think that that makes a lot of sense. I think that having a federal charter, though, would eliminate some of the issues that you have currently like with the Franko case as an example, where the individual, Franko, was not—
Mr. BENTSEN. I read your testimony. It wasn't detected necessarily as quickly, although the banking regulators have not always been on top of the issues as well.
Mr. MILESKO. Right.
Mr. BENTSEN. And the other thing is—and, again, I tend to agree with your position in the abstract, I think also the comparison that the OCC—using the OCC comparison, remember, as you well know, the OCC is not the only regulator of national banks. The FDIC is also a regulator of national banks and looks at safety and soundness. So I just think you need to go back an take a hard look at that.
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Mr. MILESKO. Let us get back to you and take a look at that.
Mr. BENTSEN. Appreciate it.
Thank you, Mr. Chairman.
Chairman BAKER. Thank you, Mr. Bentsen.
Dr. Weldon?
Dr. WELDON. Thank you, Mr. Chairman. I had a question for Mr. Ahart. I thank you for your testimony. I wanted to get an opinion from you regarding—my question is would a federal charter perhaps benefit high-risk states, as I represent Florida and we pay very, very high, understandably, premiums for property casualty insurance. Do you feel that a federal regulator would be perhaps better able to provide the necessary oversight and market sensitivity to what is going on in states like Florida? Your opinion there?
Mr. AHART. Sure. Actually, I am almost a brother in there, I guess, because I come from New Jersey and we have very high rates in auto insurance. So I can feel the pain. I think that a federal charter program would not help that situation at all. I think the issues in New Jersey and Florida can best be dealt with and understood by someone in Florida and someone in New Jersey and someone that deals with that every day. Again, to me, a federal chart is really overkill. And I am not sure why we would handle—if we have specific issues involving market conduct, speed to market, things like that, I am just not sure why we wouldn't just attack those issues rather than replace the whole system.
Again, I just think that somebody in those states can best see those problems better than somebody from Washington, D.C.
Dr. WELDON. Do the other three witnesses agree with that or disagree, or do you want to comment on it at all?
Yes, Ms. Vaughan?
Ms. VAUGHAN. I would be happy to comment. I think this demonstrates some of the differences between banking insurance that Congressman Bentsen was identifying and that is there really are some local issues and there are some significant consumer protection issues involved in insurance. There is nothing more frustrating to me than to hear some of the proponents of an optional federal charter say it works in banking, therefore it can work in insurance, because as an insurance regulator, I know that there are very significant differences between banking and insurance, and the fact that we have to deal with things like hurricanes and earthquakes and they vary across the country and we have different auto insurance systems and we have things in New Jersey that are driving auto insurance costs that don't exist in Iowa, where we have the lowest auto insurance rates in the country.
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And so we have very different markets. And I would agree that I have a hard time seeing how a federal, an optional federal charter could solve the market problems that you have in Florida that exist because of the geographic issues and the weather-related issues that you face.
Dr. WELDON. Yes, Mr. Osdall.
Mr. VAN OSDALL. I think your comment also embraces the whole idea that at some point there needs to be cooperation between both the federal and state level to solve some of the issues we deal with and a hurricane may be one of those issues, an earthquake may be one of those issues. Certainly, terrorism on the table today is one of the great issues. Without the federal influence, without a federal solution to the terrorism issue, we would be nowhere because what the states have generally done is accepted the terrorism exclusions that are represented by the insurance companies. So I do think there are those legitimate areas where we have to have the cooperation and the support of the Federal Government in the insurance industry.
Dr. WELDON. I thank you, Mr. Chairman. I yield back.
Chairman BAKER. I might take that minute just for a point of clarification from the commissioner. By way of current body of law in consumer protection, let's assume for the moment that a Louisiana Congressman buys an annuity from a New York company. He then is retired, moves to California, where he is deceased. His heirs live in Wyoming and South Carolina. And the company refuses to give them their money. If I am understanding the law correctly, Louisiana law applies, which is the only state, not common, law, civil code, that you would either have to litigate it in a common law court using Louisiana law or hire a Louisiana counsel and fly everybody to Louisiana to litigate the issue. Now, tell me, how simple is that?
Ms. VAUGHAN. Not simple. And I am not a lawyer, so I won't pretend to understand how this legal system would work. But I think what this demonstrates also is insurance is very complicated and that the issues in life insurance are fundamentally different from the issues in auto insurance and homeowners' insurance and commercial lines insurance, and medical malpractice. We have not one insurance market but multiple insurance markets.
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In life insurance, annuity insurance, disability insurance, and long-term care insurance, people buy long-term products. They move from state to state. That is different from auto and homeowner's, where you buy a product and it covers you in the state in which you live for one year or six months and then you renew it where you are.
Dr. WELDON. Mr. Chairman, can I reclaim my time? I want to ask a follow-up question to what she just said.
Chairman BAKER. Sure, absolutely.
Ms. VAUGHAN. Can I finish just one second?
Dr. WELDON. Yes, go ahead, go ahead.
Ms. VAUGHAN. I was going to say in life annuity, disability, and long-term care, that is why we have agreed, the commissioners have agreed, that we need to have more uniform national standards to address the issue, the fact that people move from state to state. And we agree with that. That is a different problem, but it is not the classic problem affecting all insurance markets.
Dr. WELDON. Okay, well, I think you partially answered my question. But my question was a federal charter for auto is going to illicit more of a negative response. A federal charter for property casualty is going to elicit more of a negative response than a federal charter for life insurance is what—because the case he made is a very good case.
Thank you, Mr. Chairman, for your indulgence.
Chairman BAKER. Oh, certainly. Please proceed, Commissioner.
Ms. VAUGHAN. Thank you very much. I think we have property casualty insurance. We have life insurance. We have very local issues in property casualty insurance. And the reality is you don't have nearly as many local issues in life insurance. I would agree with that. The risks that life insurers assume, mortality risks, interest rate risk doesn't tend to vary from state to state. Consumers move from state to state.
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And so we agree that you need some kind of national uniformity in life insurance. The problem is that we don't want to throw the baby out with the baby water. One cannot create a federal regulatory system in Washington without impacting the important consumer protections that we have in place, without impacting the property casualty side in the industry. So the question is can we find a targeted solution to get to national product standards in life insurance and annuity insurance, which we agree we need, without gutting the rest of the system? And that is what led us to the interstate compact.
Chairman BAKER. Thank you very much. And I want to express my appreciation to all of you for your contributions. It has been a very helpful hearing. We appreciate your remarks. The record will remain open for an additional 30 days—oh, I am sorry, Mr. Rogers, I didn't see you. Mr. Rogers?
Mr. ROGERS. It is the price you pay for being a new guy, Mr. Chairman.
Chairman BAKER. Or for not being here.
[Laughter.]
Mr. ROGERS. Well, it is good to see you, Mr. Chairman. Doesn't he look handsome today, everybody?
[Laughter.]
Mr. ROGERS. I want to also thank Commissioner Vaughan; not being a lawyer and being from Iowa really ranks up there. Your credibility is fantastic around here.
Mr. Ahart, I wanted to ask a question. You talked about in your proposal preserving state regulation while having Congress act to reform the state insurance regulatory system. And you mentioned specifically speed to market. And I am curious if you can explain how you can do that and still address the issue of speed to market within the confines of that what seems like a contradictory—
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Mr. AHART. Sure, what we would is use again federal legislative tools. We would have federal legislation that would preempt state rights on the issues of forms and rates. So we would pretty much recommend adopting, similar to the Illinois model, where states would have to follow a file and use provision on forms and have only 30 days to review. Where on rates they would be able to—companies would file but would automatically be able to use them in competitive markets. So that by having those uniform standards, states would need to use those but it still would be regulated from the state level.
Mr. ROGERS. Great. I just want to follow up with Mr. Milesko on that same vein. We have got about 7,400 state legislators across the country, which should send shivers up your spine with regulation. And I was one of them on the Financial Services Committee. We have heard from the different witnesses regarding the challenges facing state legislators in uniformity and speed to market and agent licensing. And as we kind of move forward, what do you think is the proper role for Congress to address those issues?
Mr. MILESKO. I think the dialogue that we are having today, roundtable discussions, I think is very appropriate to get these issues on the table. They will look at the merits of all the proposals. Now, we certainly would defend the optional federal charter, which leaves the state system as it is and just overlays a federal system on top of that.
Mr. ROGERS. I yield back the remainder of my time, Mr. Chairman. The handsome, very handsome chairman of the committee.
Chairman BAKER. Very helpful member, I might add. Thank you very much, Mr. Rogers.
I want to thank each of you for your participation here this afternoon. It has been very helpful. And the record will remain open for 30 days for any additional comment. And I forgot, Mr. Kanjorski wants another minute.
Mr. KANJORSKI. I just wanted to make the point, we were talking about the various states. I am not sure, but some states elect their state insurance commissioners, and others are appointed. If any of the members would like to express an opinion, if we go to a national charter, are we going to create another national office of national insurance commissioners who run along with the President, or do you think that an appointive Cabinet position? I really want your opinion on the election process in various states and how that impacts on some of the problems that we see in the insurance business on the state regulatory level.
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Mr. VAN OSDALL. I would like to offer comment on that. The elected position, without having the background in the business and the training and understanding, I think, has been one of the things that continually slows down those very issues that we are trying to address and tackle. You can almost look at it state by state and when it becomes an elective position, which is often a stepping stone to another position, you have a transient person filling that job in many cases. And that has been a real detriment to insurance regulation, I think, over the years.
Mr. KANJORSKI. Yes?
Ms. VAUGHAN. I am not going to take a position on which is better. I happen to be an appointed commissioner, and I am proud to be an appointed commissioner. And I have very fine colleagues who are elected commissioners. And I think we have had some very fine elected and appointed commissioners. But I think what this reflects is the idea of local control. And the citizens in Kansas have decided that an elected commissioner is what works for them. And the citizens of Iowa have decided that an appointed commissioner is what works for them.
Mr. KANJORSKI. But if the Federal Government takes up the position that we are going to overpower the states and create a federal charter, we are going to decide what now is covered by an elected official will be covered by an appointed official?
Ms. VAUGHAN. You are overriding the decisions that are made by the citizens of those states with respect to the markets in their states, by the legislators, the state legislators, the elected commissioners, and whoever is in there working on the state insurance market issues.
Mr. KANJORSKI. Is that an argument against having a federal charter?
Ms. VAUGHAN. I would say that there is a question—it gets back to the question of whether a federal regulator can best understand and create a regulatory environment in Iowa when they are based in Washington, D.C. and they don't understand our Iowa markets and our Iowa consumers and our Iowa issues. So this is all about—one has to go back to this is all about consumer protection. The reason that regulators exist is consumer protection. And the question is what is the best way to frame that consumer protection. And we at the NAIC believe that regulators that are local, given that so much of insurance issues are local and so many of the issues that consumers deal with come at times of crisis and stress, things that we have to help consumers with—their house burned down, their company is not paying for it, their child needs an operation and the insurance company won't pay for it—that these are things that local people are best able to respond to.
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Chairman BAKER. Thank you, Mr. Kanjorski. Another issue that has to be resolved is the term that someone would serve. In Louisiana, for several commissioners it has been 20 years to life. So that has to be worked out.
[Laughter.]
Chairman BAKER. I would like to thank you again and excuse this panel so we may hear from our next gathering of witnesses. Thank you very much.
I would like to welcome each of our participants to our second panel and certainly appreciate your willingness to appear here today. Our first panelist is Mr. Scott A. Gilliam, who is Director of Government Relations, Cincinnati Insurance Companies.
Welcome, Mr. Gilliam.
STATEMENT OF SCOTT A. GILLIAM, DIRECTOR OF GOVERNMENT RELATIONS, CINCINNATI INSURANCE COMPANIES
Mr. GILLIAM. Thanks, Mr. Chairman, Ranking Member Kanjorski, and members of the committee. I am with Cincinnati Insurance Company. We are a property and casualty and life insurance company. We operate in 31 states, with a premium volume of about $2.5 billion a year and a million policies in force. So we are not the biggest but we are not a small county mutual.
I was asked to talk about consumer protection issues today and how they impact the question of whether insurance regulation should remain a state-based system or whether a federal approach to insurance regulation should be considered.
My first point today, already touched on by some of the first round of questions, consumers are served best by state regulation. For consumers, the strength of the state-based system of insurance regulation lies in its ability to respond to consumers, to adapt to local market issues, and to enable states to experiment and learn from each other. State insurance commissioners become experts in the individual state issues they face, enabling other commissioners to learn from their experience. In this way, the insurance regulatory system evolves to meet new challenges. Accessibility is another advantage that state insurance regulation has over the federal regulation insofar as consumers are concerned. No one can quarrel with the fact that it is easier to deal with regulators in the consumer's home state than by having to call 1-800-Washington in order to get help with a consumer insurance issue.
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The accessibility of insurance regulators to consumers would suffer under an optional federal charter system given the likelihood of consumer confusion with the two systems. Under an optional federal charter system, state-chartered insurers and federally-chartered insurers would operate side by side in the states. Under those circumstances, consumer access to regulatory protection would be needlessly complicated by the mere existence of dual regulatory systems and the resulting confusion as to which system has jurisdiction over a particular consumer complaint. Insurance consumers should not have to roll the dice when deciding whom to contact for a problem.
The warning made by Chairman Oxley in his opening statement last week, that consumers cannot be adequately protected if insurers are subject to conflicting requirements at the federal and state levels, seems equally applicable to the situation insurance consumers would face with conflicting federal and state consumer protection systems.
It is also doubtful whether the Federal Government would have the resources and expertise necessary to effectively and efficiently protect insurance consumers. It would take a huge effort to duplicate the activity of the states in this regard. Consider two key facts. In the year 2000, insurance consumers made approximately four million consumer inquiries and complaints to state regulators. State insurance regulators employ 12,500 regulatory personnel nationwide and those departments spend $853 million annually to be the watchful eyes and helping hands on consumer insurance problems.
We feel the Federal Government is simply not equipped to take on such a role and develop a regulatory authority for insurance consumer protection as sophisticated and widespread as the state system that has been 200 years in the making.
My next key point, the benefits of state regulation to insurance companies also benefit insurance consumers. The benefits of the state insurance regulatory system on insurance companies also translate into benefits for insurance consumers in the form of competitive markets. Let's consider a few examples.
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Unique knowledge of markets and local conditions. States are the only logical choice for the comprehensive regulation of insurance given their unique knowledge of local markets and conditions. State regulators know the insurance markets within their borders. Although there are uniform national concerns in the industry, as in many others, in uncountable ways insurance involves concerns of an intensely local nature. The concerns in Ohio, for example, with its multiple urban centers, lakefront communities, and manufacturing base are quite different from the insurance issues raised in Iowa with its thousands of farmers and few large urban areas.
Less risk of regulatory mistakes. Under state regulation, good regulatory initiatives spread to other states and conversely the bad ideas tried in one state prevent others from making the same mistakes by offering real market examples. Having 50 different regulators is less risky than gambling on a single federal regulator who might have an axe to grind against the insurance industry and ultimate power over the industry to swing the axe.
Another example: State regulation encourages innovation. Insurance companies often use a particular state as a laboratory for testing new product ideas or competitive strategies before they are introduced on a national level. Good products and good competitive strategies in one state often spread to other states. Likewise, unsuccessful strategies in one state often educate the rest of the industry and lead to better products and more competitive markets in all the states.
So where are we today? While state regulation of insurance has worked very well, the realities of changing market conditions, including globalization and financial services convergence and consolidation demand a more efficient regulatory system, including greater coordination and consistency across the states. While some are calling for federal regulation to address the changing face of the insurance industry, we feel state regulation still works best.
At the same time, we realize that in order to preserve state regulation during these changing times, the current system of state-based insurance regulation needs to be modernized, streamlined, and made more efficient. We have already heard about the strong and growing effort underway within the National Association of Insurance Commissioners to modernize state insurance regulation and it appears a national regulatory agenda is taking hold.
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But there still remains work to be done. We would be remiss if we did not acknowledge that the efforts by the NAIC to modernize state insurance regulation are only a start. Virtually every area of insurance regulation needs to be improved if the state-based system is to meet the challenges of a modern insurance market. But unlike those companies who would abandon the state system and start over with federal regulation or dual regulation, the Cincinnati insurance companies are committed to doing the hard work needed in the state capitals to modernize, streamline, and increase the efficiency of state regulation.
Two more quick points and I will conclude. What if the states do not follow the lead of state insurance regulators and the NAIC and enact the reforms needed to modernize state regulation or do not act soon enough or do not do enough to re-invigorate state insurance regulation? In this event, our company is intrigued by the possibility of using federal legislation to encourage the states to undertake more rapid and comprehensive reform of state insurance regulation. While we are yet undecided on the form such legislation would take, we would prefer a model that would allow the NAIC to be active in crafting the reform legislation states need to enact to avoid federal regulation.
In suggesting that Congress consider the use of federal legislation to encourage reform at the state level, we are mindful of the dangers incumbent in opening these issues up for federal legislative debate. And while we recognize these dangers, we believe that using federal legislation to encourage reform at the state level as a last resort is certainly better than jumping hook, line, and sinker into a federal system of insurance regulation.
My final point this afternoon, my company feels that state regulation is the preferred model of regulation for all lines of insurance, property, casualty, and life insurance. Many in the industry think of my company as a property, casualty company only, but we do have a significant life insurance operation with over $100 million in premium a year. In fact, our life subsidiary, Cincinnati Life Insurance Company, is a former member of the American Council of Life Insurers. I bring this to your attention in reply to what seems to be the growing refrain in Washington, that we should not think twice about lobbing off the life industry and handing it over to federal regulators. My company strongly disagrees with this point of view and believes that state regulation works best for all aspects of the industry, including life insurance as well as property and casualty. A reform system of state insurance regulation for all lines of insurance, including life, is far superior to an unproven system of federal regulation.
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Thank you.
[The prepared statement of Scott A. Gilliam can be found on page 344 in the appendix.]
Chairman BAKER. Thank you, Mr. Gilliam.
I take particular pleasure in introducing our next witness, Mr. Hans Sternberg, a long-time friend and resident of Baton Rouge, Louisiana. More importantly, he and his wife, Donna, have been accomplished business people and very civic-minded in their work within the community. So it is a pleasure to welcome you here today in your capacity as chairman and CEO of Starmount Life Insurance Company. Welcome.
STATEMENT OF HANS STERNBERG, CHAIRMAN AND CEO, STARMOUNT LIFE INSURANCE COMPANY
Mr. STERNBERG. Thank you, Mr. Chairman.
Chairman BAKER. You have to hit the little button on the front of the mike. It is not on.
Mr. STERNBERG. Thank you, Mr. Chairman, Ranking Member Kanjorski, and members of the subcommittee. My name is Hans Sternberg. I am chairman of Starmount Life Insurance Company. We employ 63 people and are admitted in 18 states. I am here to offer my perspective as the owner of a small family business. In fact, four years ago, when our premiums were under $4 million, I boasted we were America's smallest life company. This year, premiums will exceed $18 million. Obviously, still small, but growing.
I spoke to Chairman Baker about the optional federal charter to be sure small independents are not excluded by high capital or revenue minimums. Companies like mine need this legislation because the present system imposes high regulatory costs and restricts market access. Regardless of size, all companies pay the same dollars to comply with legislation—regulation. Thus, smaller companies bear a higher percentage cost than larger ones. To Geico, which testified here just one week ago, $100,000 is pocket change. Not to companies like Starmount.
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One of our divisions sells life insurance by mail. The economics of direct mail selling assume we reach all names on productive mail lists. Unfortunately, barriers to entry in many larger states makes this impossible. Conversely, we generally avoid the 12 smaller states, like Delaware, North Dakota, Idaho, Montana, Wyoming, and Rhode Island, with 2 million people or less, because the costs of regulation make it difficult to be profitable there.
Not only is Starmount barred from many larger markets, but citizens of both state groups lose the competitive benefits new companies bring. For example, greater product choice, lower prices, better service.
Here are other examples of what we face. One, for several years we bought insertion privileges in the Visa monthly bills of our local bank, which allowed us to send marketing material to the bank's several hundred thousand Visa cardholders. It was our most profitable venue. Then the bank won a 50-state military contract. We lost all opportunity to continue selling through the bank because the bank needed a company which could serve all its customers. There was no way to replace that business.
Two, we once developed a policy at a cost of $20,000 to $25,000, which is a lot for a company our size. It was approved in all our states except two. After three years, we abandoned the program. It is not economical to promote to only part of our customer base, plus there is the constant fear of mailing to the wrong jurisdiction.
Three, for years we ran a newspaper ad in several states but one fined us $10,000. That state has a unique rule we didn't know about. If you show even one rate in an ad, you must show all rates. That would have meant 188 of them. We obviously no longer run ads in that state, but such foolishness is solely political protection for entrenched marketers who oppose competition.
Four, at one time we used brochures to sell in supermarkets. The distributor inadvertently sent the one state's material to some Wal-Mart stores. The insurance was approved by both states, but the minor differences caused a $7,000 fine. We stopped using brochures in grocery stores, so the consumer lost that option.
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Five, we have insurance product filed for two and a half years but not yet approved in every state. The excessive delay is expensive and frustrating. In the end, the consumer has less choice.
Six, our largest division uses agents to sell supplemental health benefits to companies. To take advantage of a 50-state opportunity offered us by a major national retailer, we recently partnered with a national carrier, giving half the potential sales to the partner. For us, it is better to have half the business rather than none. But the sales relinquished by us will involve millions. Over the next two years, licensing for this program will cost over $100,000.
The present system will always handicap Starmount's efficiency. We are forced to charge the consumer more as well as to fall short of our sales potential because of unnecessary and inconsistent legislation and regulation.
I hope this committee remembers the small companies which regularly encounter these bureaucracies.
Thank you for this opportunity.
[The prepared statement of Hans Sternberg can be found on page 398 in the appendix.]
Chairman BAKER. Thank you very much, Mr. Sternberg. Our final panelist is Mr. Wayne E. McOwen, Vice President of External Affairs, Guard Financial Group. Welcome, sir.
STATEMENT OF WAYNE E. McOWEN, VICE PRESIDENT OF EXTERNAL AFFAIRS, GUARD FINANCIAL GROUP
Mr. MCOWEN. Thank you. Chairman Baker, Ranking Member Kanjorski, and members of the subcommittee, my name is Wayne E. McOwen. I am senior vice president for government affairs and industry relations for Guard Financial Group.
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I thank you for the opportunity to offer comments, and I join my industry colleagues in applauding your commitment to insurance regulation reform. Guard Financial Group is engaged in the full financial services arena of insurance, banking, and investments. Accordingly, we are subject to multi-state, as well as federal, regulation.
My purpose today is to offer observations on the advantages of choice. As requested, my comments will address the regulation of insurer business practices and issues of regulatory choice and regulatory competition.
State regulators scrutinize the financial viability and business practices of insurers through a process of examinations. Such exams are conducted routinely at scheduled intervals but can also be triggered by circumstances. The primary public policy objective or regulators is solvency. The financial exam focuses on insurers' adherence to universally-accepted financial standards. The process is as precise as mathematics.
Whereas there is consistency to the focus on the objective components of an insurer's financial health, the evaluation of business practices or market conduct is neither universal nor uniform and can be somewhat subjective. Consumer protections are a priority of state insurance regulators, yet the process is complex, costly and rife with inconsistencies that limit its benefits.
Especially problematic is the interpretation of regulations; what are considered fair business practices or arbitrary or capricious actions in one jurisdiction may not be in another. Sometimes variations of the same requirement are problematic, such as when performance benchmarks differ for no apparent reason. Consider coverage cancellation rules, for instance. There is no clear rationale for why policy holders of one state are accorded a 30 or a 45 day notice or more while those in another state receive only 10. With postal services standard country-wide, this patchwork of delivery notice rules seems unnecessary and only confuses consumers, particularly multi-state commercial policy-holders for whom such rules may have different business consequences.
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The market conduct process is by design duplicative. Carriers are subject to the scrutiny of regulators in all states of operation. Exams conducted by one state may be duplicated by another to evaluate identical business practices. Duplicative exam fees and the down time of staff engaged in the process raise the cost of doing business and fragmentation can exist even within the same state when two or more agencies share regulatory responsibilities.
For more than 100 years, the dual regulatory system has worked successfully for banks. Applying a similar model for certain insurance operations portends all the benefits derived from choice.
Choice, America was founded on it. Competition, America thrives on it. Why, then, is the prospect of regulatory choice for insurers and competition between state and federal regulators so difficult to accept? Admittedly, an optional federal charter does not have universal appeal but the operative word here is optional. For insurers doing business in a multi-state arena or for those marketing a limited number of products with consistent risk factors, a streamlined federal regulatory process portends a wider selection of more innovative and competitive offerings. Simply stated, regulatory choice for insurers translates to more choice for consumers.
The National Association of Insurance Commissioners is to be commended for its leadership and resolve toward the uniformity and consistency of state regulation. But without an impelling incentive, expect the process to continue to move slowly.
Here are some compelling reasons to accelerate the process: The demands of an expanding global economy; increasing strains on insurance from a complex legal system; providing viable insurance products via e-commerce; federal initiatives such as the Patient's Bill of Rights and the pending Health and Human Services medical privacy rules all boast arguments for a centralized authority in certain circumstances.
Providing the insurance industry with a strong national voice does not require reinventing the wheel. A system of federal and state regulation should be neither exclusionary nor duplicative but simultaneous and complementary. Ideally, it would identify the best practices of state regulatory systems, precisely the process engaged by state regulators in crafting model laws aimed at encouraging uniformity. But encouraging it is not the same as requiring it. A federal regulator could have the tools to make it happen.
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Finally, our preparedness to meet the far-reaching and extraordinary challenges of possible further terrorism events illustrates the key role of the Federal Government. Stakeholders did not approach 50 states for a solution to terrorism insurance, they went directly to Washington. The founding fathers were judicious in crafting a federal umbrella that would not impair states rights. Their goal was to strengthen the system by bringing structure and unity. More than two centuries later, we struggle with this concept and its application to the regulation of insurance, a mechanism that the events of September 11th reaffirmed is so critical to our economy and to our lives.
Thank you.
[The prepared statement of Wayne E. McOwen can be found on page 350 in the appendix.]
Chairman BAKER. Thank you very much. Again, this panel has also been very helpful.
Mr. Sternberg, I found the examples you cited, the regulatory inefficiencies, to be quite troubling, and frankly, those are the kinds of examples that the committee needs to understand better; the fact that you are licensed in two adjoining states and had marketing material reversed and still found yourself financially liable I think points out some of the difficulties of the current system.
To that end, we have had earlier testimony in another hearing in which a CEO of an insurance company indicated that they had withdrawn and would not return to the state of New Jersey primarily because of the regulatory complexities within the state. That leads me to remember a conversation you and I were having earlier with regard to the size of the industry today versus a year or two ago. Could you give the committee that information, on what is happening in the marketplace from your perspective?
Mr. STERNBERG. Yes, I actually can. I did a little research before I came up. Five years ago, there were 1,748 life insurance companies in this country. Today, there are 1,454. That is a drop of 16 percent. I understand something similar—that is for life companies only—I understand something similar is happening in the P&C industry. And part of that is normal consolidation, but also, a lot of it is because companies are struggling to make a profit. The ROE, return on investment—on equity—is not good in the life insurance company—industry. It doesn't approach the banking industry. And we are suffering because of it. And you are going to see more shrinkage.
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Chairman BAKER. And would the likely outcome of this, as capital formation and start-up costs are difficult, if you were in business and approved in all 50 states, had your regulatory costs behind you, wouldn't it make sense from a business perspective that companies who find themselves in that posture not to be too excited about lowering regulatory barriers because you might have a Starmount coming around the corner?
Mr. STERNBERG. Well, certainly. We would be twice as large today if we could operate in more states or significantly larger. And there are some entrenched feelings on that, sure. But I would assume most of the larger companies would prefer to have a national charter also, though I am not aware of the testimony on that.
Chairman BAKER. Thank you.
Mr. Gilliam, I have asked other panelists along the day and over the course of the few weeks their view of the Illinois system which in my judgment is sort of the other side of the coin in this process where you file and you don't have to even have rate pre-approved and it seems to be working fairly well there with a lot of competitive product at pretty good prices for folks in Illinois as opposed to New Jersey where you have insurers trying to leave the market. If we were to try to come to some agreement, and I am just fishing for less volatile territory here, particularly on the life insurance side, the advisability of a national location for your filing similar to the Illinois structure, leaving consumer protection to the states. I see the viability of having someone local to call, some local point of accountability if you are defrauded or have difficulty in getting settlement but doesn't the logic of having more competition make a great deal of sense from a consumer perspective, forget property and casualty, forget automobile because they are more difficult. Do you still have the same objections if you go in that narrow of an approach?
Mr. GILLIAM. Just so I am clear, are you just talking about life insurance products now?
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Chairman BAKER. Yes.
Mr. GILLIAM. I would echo the remarks of Commissioner Vaughan when she was asked a similar question. Clearly, there are less differences in the nature of life insurance products than P&C products on a national basis. I have heard some say a life insurance policy is a life insurance policy in Florida, Iowa, or Washington state. But I guess what I would say is I see the point there, our view is that if the same uniformity in terms of product approval and so on is there to allow a company like his to file one product and have it approved in all 50 states simultaneously, I think that is a great thing.
But I guess we would say if the states can do that—and again, that may be a big hurdle because they haven't come that far yet—but if the states can do that, why not have them do it, versus going to a new, untested national or federal situation?
Chairman BAKER. Though I guess my response to that would be in your best judgment, if all things worked well, how long is it going to take us to get to a uniform system even with regard to life, much less everything else?
Mr. GILLIAM. That is the $64 billion question. How much time do we give the states to do this? How far do they have to go before we say they have met their charge? Is it like a NARAB system where when a majority of states do it, it is okay? I don't think that probably works, because a system where 29 states of 50 do something is not like having a national system. And I guess I would add on that is why we are intrigued by the idea of using some federal legislative authority to urge the states to action. It is clear that the states have to act and modernize. This is not going to be an issue that is around for 20 years, like Gramm-Leach-Bliley. There is too much at stake in terms of the changing face of the marketplace. It has to be addressed in the next five, ten years at the very latest.
So I can't tell you how long it is going to take the states. But our view is let's give them a shot. If they don't look like they are reacting, let's put some federal onus on them. And at the end of the day, if they can't do it, then we may have to rethink things.
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Chairman BAKER. I think that is much of the thinking here. We had hoped that NARAB would be the shot. We had hoped that we could see more positive development with regard to premium dollars regulated. But it just doesn't seem to be moving very well. And I guess we have to come to some decision about how much longer can we wait and then explore in the meantime whether an Illinois-like model doesn't make a great deal of sense at least in some product lines, reserving consumer protections to the state. That to me doesn't seem to be on the edge of irresponsibility at least.
Mr. GILLIAM. And I did fail to mention that we also jump on the Illinois bandwagon. All of us in the industry love the way things are done in Illinois, but with all due respect, it is also done well in the great state of Ohio.
Chairman BAKER. Well, I certainly have great regard for the state of Ohio, sitting on this committee, and would look at that very advantageously.
Mr. Kanjorski?
Mr. MCOWEN. Excuse me, Mr. Chairman, may I comment on that last question?
Chairman BAKER. Certainly, yes.
Mr. MCOWEN. I think there is another issue to the licensing of products. One doesn't just file to be approved to sell a product in the state. First, a certificate of authority has to be obtained from that state. One has to be licensed to do business. And there is a great deal of inconsistency in terms of state approval of companies to do business. And whereas I indicated in my testimony that the financial benchmarks are fairly universally accepted, it is nevertheless true that although you might be licensed to write business and accepted to write business in one state, you may not be accepted as readily in another state.
Having then gotten the license, another issue, of course, as mentioned, is filing those products for acceptance.
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Chairman BAKER. Thank you very much.
Mr. Kanjorski?
Mr. KANJORSKI. Mr. Chairman, I have been listening to the witnesses today and, of course, Mr. Sternberg surprises with a small company like that asking for a national charter. That is really gamesmanship in terms of wanting to get out there to compete. That is great.
There was one suggestion on the earlier panel about using SROs, self-regulatory organizations. And perhaps we could expound on that to think about that as the entity to create uniformity of policies, language policies. Even dealing with the rates in some way or methodology of setting rates.
What I am most interested in, having been here maybe too long, is whenever the Federal Government reaches out its arm to help, it generally has its other hand out to extract a price. And in the insurance industry, that could be an extraordinary price.
As Mr. Gilliam knows, we worked on catastrophic insurance not too many years ago. And when you analyze what was attempting to be done legislatively was to force the residents of Idaho to pay a premium to cover the residents of Florida against hurricanes. It was looking at a national problem of disasters and saying the residents of that one area or the present based were insufficient to cover the risk so that we wanted to enlarge the base nationwide. Either use it by adding on to the premiums and surcharging premiums across the board or the Federal Government using the base of the taxpayers to stand the expense that was unique to a single region or a single state.
I am just wondering have you given some thought—maybe Mr. Sternberg, I will direct it to you first—would you be disappointed if the Federal Government says that if we are going to allow you to write insurance nationwide, that we also are going to require you to charge a uniform premium or to write in the states of New Jersey and Massachusetts, which seems to be nobody's desire at this time, for some reason or another. But can't you envision the time when politically a President of the United States will direct his cabinet officer or Members of Congress would get together and say, ''Boy, the big state of Massachusetts and the big state of New Jersey have a problem in auto insurance, and we want the federal commissioner to direct all P&C writers that they have to write in these states even though they take a loss.''
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Mr. STERNBERG. Of course, I am a life company.
Mr. KANJORSKI. I had an example for your company. Let's suppose that longevity in Pennsylvania is average 85 years of age but in L.A. it is only 65 because of smog. Would you want to have to charge and offer the same premium in L.A. as you would in Pennsylvania?
Mr. STERNBERG. Yes, that would not in the life industry create a major problem. The price-fixing that I thought I heard you say, price controls have never worked. And they didn't work in the Nixon administration, they won't work here.
Mr. KANJORSKI. How would we set the rate on the life insurance if you had a life expectancy in L.A. of 65 because of smog and a life expectancy in Pennsylvania because of the beautiful weather of 85?
Mr. STERNBERG. Well, I think it would work even better than it works in a constricted marketplace as you have now. You would have a lot of people out there—
Mr. KANJORSKI. You would charge different premiums based on the state lines?
Mr. STERNBERG. Well, that isn't quite the way we do it in the life business. We are in 18 states and what we do, we base it on the health of the individual and our own products and our own cost structure.
Mr. KANJORSKI. But isn't there an environmental factor as to where you live, the impact on your life expectancy?
Mr. STERNBERG. Not that we have come across, no, sir.
Mr. KANJORSKI. There isn't any?
Mr. STERNBERG. It has to do with health. For example, if we have an American citizen who is living in Africa 10 months out of the year, we will not insure that person. But if we have a foreign person who is living over half the year in the United States and getting their health care here, we will. So it is where you get your health care that would determine.
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Mr. KANJORSKI. But you wouldn't see any difference in life insurance of insuring someone in a smog city like L.A. as compared to Iowa, nice fresh country air?
Mr. STERNBERG. The only thing we would pay attention to is crime. If it is a high-crime area, we generally tend to avoid it. Otherwise—
Mr. KANJORSKI. Then you wouldn't write the policy?
Mr. STERNBERG. We would not write the policy.
Mr. KANJORSKI. Then maybe that gives me the example. But the federal commissioner says L.A. is a very important town for votes and we are going to order your company to sell life insurance in L.A. so that we don't lose the benefit of the electoral vote for the next presidential election; are you going to be happy with that situation?
Mr. STERNBERG. I have never faced it before.
Mr. KANJORSKI. Well, there is no federal commissioner.
Mr. STERNBERG. But there are state commissioners, there are 50 state commissioners.
Mr. KANJORSKI. Yes, but you can pick up and leave the state of California and he can't tell you to do anything. You have got 49 other states to do business in. If you have got a national charter, he is going to say, ''If you want to do business in those 18 states you like now, Mr. Sternberg, you are going to have to do it in California, too, and here are the terms and conditions you are going to have to do it under.'' Do you want that done to you?
Mr. STERNBERG. Would I like that? No. Would I abide by it? Sure. If everyone else in the industry has to abide by it also, then we would do it. I would just spread my risk further.
Mr. KANJORSKI. Well, I am just wondering, I am posing the question because I am hung up, quite frankly. I am a person who recognizes the distinct differences between regions and states in the country and the country as a whole. I sometimes make the comparison that going to Utah as an Easterner is like going to Austria. It is almost a different country in terms of the make-up of the people and the climate and everything else. And I think since I have gotten elected to Congress, I have gotten a great deal more respect for the differences that exist in the country as opposed to the sameness and the uniformity of the country. And I am just wondering, insurance seems to be a very personal thing to me. It is insuring property in a particular area. It is insuring my life or someone that is close to me. It is a very localized, very special community area. And I am wondering if we nationalize it whether we are going to lose something there or are we just going to further cause the big operators, the huge operators to dominate the field.
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I sometimes wonder with H.R. 10 whether we haven't consolidated the financial services industry to the point where they no longer have to pay attention to the state of Iowa, who cares? There is another state out West that I think the largest bank is $100 million. Is it Iowa or another state? But, anyway, they are so insignificant that a lot of major companies don't even look at them. It is a flea on the back of an elephant. Maybe that is a good example too, considering what the elephant represents. But don't you fear that that may happen if we nationalize insurance?
Mr. STERNBERG. Actually, the exact opposite will happen, because, as I mentioned, there are states we won't go into because the populations are too small, whereas if we didn't have to face the extra regulation that those states now impose on us, we would be happy to be in those states. We would love it.
Mr. KANJORSKI. Mr. McOwen, I know you write workman's compensation insurance. And being an old workman's compensation administrative law judge, I never did understand the massive jurisdictions—I didn't even understand how you come up with premium rates, quite frankly. It just was so complicated as to safety standards, et cetera, that apply in the various states and the rates that apply, et cetera. But how would that work? Would there be an advantage or a disadvantage to the say, small states as compared to the large industrial states, if the premium and policy requirements were uniform?
An example, I think it is present now in Pennsylvania, the minimum workman's compensation is like $350 a week, something in that range. And yet in the state of Mississippi, I think it is $110 a week. So that if you get injured, they tell you to drop on a train and drop off in Pennsylvania if you are injured in Mississippi because you will make out a hell of a lot better. But isn't this a problem that if we uniformize it that we take away the state uniqueness? Even sometimes policies and costs like that being used as an economic advantage by states wanting to attract industry, they try and drive the price down or the benefits down?
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Mr. MCOWEN. Well, I think that there are a couple of answers to that question. And one answer is to examine the way states deal with this issue. Now, part of state regulation is that insurance rates cannot be unfairly discriminatory or excessive. And that reflects the state regulator's interest in having a fair rate to the consumer. But it also reflects the regulator's interest in the solvency of the carrier. Rates are set by risk factors. And a large risk factor or a high risk factor engenders a higher rate. A low risk factor engenders a lower rate. And it is up to the insurance company to help the consumer find a way to mitigate his risk factors to earn a lower rate.
I would assume that a federal regulator would be as interested in solvency as a state regulator. So it would not seem likely to me that a federal regulator would impose a restriction or an edict that says you must charge the same rate in all states. Rather, I would say that the national regulator would be concerned for solvency and therefore would continue to look at rates being charged relative to risk factors, which generally are not geography. I mean even in one state you have parts of states where auto rates may be higher than others or different kinds of rates are higher or lower.
Mr. KANJORSKI. Well, as a Member of Congress, I would be very much tempted to make a uniform workman's compensation payment throughout the entire country instead of seeing different rates in different areas simply because I find it very difficult to understand how a person who has a total disability can live at the rate paid in Mississippi relative to what the rate is in New York or Pennsylvania. And wouldn't it be our temptation here to pass legislation saying there shall be relatively uniform rates paid in workman's compensation throughout the country? We are not setting the rate of the premium or what is going to be paid, we are just saying fairness. Or the large states get together and say, look, why are we paying so much more compared to these small states and they are stealing our industry. Let's get the Congress to pass a uniform rate, then that takes that away from competition.
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Chairman BAKER. We can come back to this. Let me get Ms. Biggert in.
Mr. KANJORSKI. Oh, surely. Oh, I am sorry.
Chairman BAKER. Ms. Biggert?
Mrs. BIGGERT. Thank you, Mr. Chairman. This question is for Mr. Gilliam. You heard NAIC Commissioner Vaughan testify in the first panel about the new efforts of NAIC to achieve uniformity through interstate compacts and yet she also, when I asked her about CARFRA, that it didn't seem to be working so they virtually have abandoned that to go to the interstate compacts. And yet a year ago, when NAIC testified here, it was to be the answer to the product approval problem for life insurance and that I think it was said that in approximately a year from now we would have a working CARFRA mechanism that would allow all 51 jurisdictions to participate, plus the District of Columbia, and that doesn't seem to have happened, and that was abandoned. Aren't you a little bit skeptical about how this interstate compact will work?
Mr. GILLIAM. I don't think I can be skeptical yet. If you use—and, again, I mean no disrespect to the NAIC. In fact if Commissioner Vaughan felt like the Lone Ranger here this afternoon, I am her loyal sidekick, Tonto. But perhaps the CARFRA interstate compact example is an example of why if CARFRA ends up on the cutting room floor, why one idea is tried and if doesn't catch on, we move to something else. And I think that is a healthy thing, to look at new innovative ways to handle that situation.
Mrs. BIGGERT. Well, then how many years do you think it takes to judge whether a program is a success or a failure? And how many—in this world of competition, with the other financial institutions, how many products can be lost by the insurance industry waiting for something that will work as far as the regulation?
Mr. GILLIAM. Well, single point of filing and approval of products in one state and all states is certainly the Nirvana we are all looking for. And I can't look into my crystal ball and tell you that we give the states a year and a half, two years, three years, five years, ten years. We have to a lot faster than we did with Gramm-Leach-Bliley, but I guess my point is let's at least give some consideration to letting the states get this thing right before we turn it over to 1-800-Washington.
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Mrs. BIGGERT. Okay, thank you.
Then, Mr. Sternberg, I would just like to thank you for your testimony. I think it very clearly put what is really happening in the industry and how the regulations are affecting you, I think very succinctly. And appreciate your testimony.
Mr. STERNBERG. Thank you.
Mrs. BIGGERT. And I would just like to ask one question, and that is how is the life insurance industry faring under the current regulatory structure? Are smaller companies disappearing?
Mr. STERNBERG. Yes, they are. There are 16 percent less today than there were five years ago. And there will be 10 or 15 percent less in another five years. And I think the whole industry has, in terms of the investment community, has a serious problem because we are not throwing off—and I am saying big and small, we are not throwing off the kind of profits that would command the investments that need to be made in every industry to keep up with the world.
Mrs. BIGGERT. Okay, thank you.
Thank you, Mr. Chairman.
Chairman BAKER. Thank you, Ms. Biggert.
Dr. Weldon?
Dr. WELDON. Thank you, Mr. Chairman. I just have one question for Mr. Gilliam. Prior to Hurricane Andrew, we had 1,200 property casualty companies in the state of Florida, and now I think we are down to less than 200. Some of the inflation in premiums that we have seen in the property and casualty sector obviously is attributable to the reasonable calculations of risk. But there are some people in our state who legitimately argue that a big component—or component of the price inflation has been a decline in competition, basically. And there are a lot of proposals being put forward to try to bring more carriers into the state.
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One of the questions I get asked is this issue of a federal charter, it would make it easier for companies to come into the state, increase the number of companies, increase the amount of competition, and perhaps have an impact on premiums. How would you respond to that? You made some very persuasive arguments about this current system working well. How would you respond to that question?
Mr. GILLIAM. I think it would have just the opposite effect. I would hold out Florida as the national poster child for state regulation, because the issues that Florida faces with its high probability of risks for hurricanes and catastrophes is far different from what the risks are in Iowa or Nevada or other states. And if we have a national federal regulator who is overseeing everything, there is not going to be as much sensibility on his or her part as to the unique concerns in Florida.
Dr. WELDON. Well, let me clarify my question. I would never—at least I don't think I would ever want to preempt state regulation. I view this as sort of like the approach in banking where you have the option of state licensing or state chartering versus a federal charter. How would you respond? You were on a roll there, do you want to continue? You were starting to say you thought it would make things worse?
Mr. GILLIAM. Well, you bring up the general issue of disaster and catastrophe, and I failed to bring my trailer load full of data on that issue. That will be the subject of many more hearings before this committee. But having been very involved on the national scene on legislative issues dealing with catastrophes, I can't see how the creation of an optional federal charter is going to bring more competition to Florida in terms of insuring catastrophic risks. I wish I had some of my data with me, but I think in the last five years, while there may be a smaller number of companies selling P&C coverage in Florida, it is a much more competitive market. The prices are kind of leveling out. And I believe that your state mechanisms, the JUA and so on, have become vastly depopulated. And I just can't think of any advantages to an optional federal charter in terms of the problem with insuring catastrophic risks in Florida.
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Dr. WELDON. Well, thank you very much. I appreciate your comments.
And I want to commend you, Mr. Chairman, for the panel that you put together. I think we have heard some very, very good testimony on this issue.
Chairman BAKER. Thank you, Doctor.
Mr. Kanjorski?
Mr. KANJORSKI. Yes, Mr. McOwen, I will go back to you on that workman's compensation, just to clear it up. Would we be in effect going into a national workman's compensation system if we have a federal charter? And how would that impact on the state legal systems that apply workman's compensation, the competitiveness of rates, the competitiveness of payments under the workman's compensation system, how would that work?
Mr. MCOWEN. Well, I think that there are a couple of issues there. Workers' compensation has two parts. One part is medical coverage. And the other part is lost wages. If you were to standardize the wage loss component, there would probably be an adjustment, a rate adjustment in terms of being able to support that wage loss component in the marketplace.
Ultimately, the cost of workers' comp reflects the experience of losses and the lost costs involved in determining the rates. And I don't think that under a federal system that would change. I think the insurance, it works because of spread of risk, and it would continue to work because of spread of risk. It works because of fair prices charged for the exposure. And, as I said earlier, higher exposures engender higher costs, lower exposures, a lower cost. So I think that that would continue to be true.
What I think that might help with the administration of workers' compensation is that a single charter, if a company wanted to have a federal charter, it would have fewer individual market conduct issues and regulatory issues to navigate in terms of the efficiency of its company. And a greater efficiency would then be reflected in the cost of its product and its ability to get new products to market and its ability therefore to serve the consumer. And I think therein is the advantage.
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Mr. KANJORSKI. Very good. Thank you, Mr. Chairman.
Chairman BAKER. Thank you, Mr. Kanjorski.
Just to follow up a point, Mr. McOwen, with regard to the issue of a national charter and let's say, property and casualty in Florida. Your point you made a moment ago was that the industry works by spreading risk, so that if you have a loss in a particular area or line, that those losses as to the corporation will be offset by profits from other areas of activity. It would seem to me to be fairly advantageous, if I was in that marketplace, to have insurance in lovely Pennsylvania, Florida, as many places as I could get because the likelihood of repetitive loss spread across the broader market would be far less, thereby making capital adequacy a much more sure thing than if I was a single line person located on the coastline of Florida and that is the only place I sold. Is that logic flawed?
Mr. MCOWEN. No, I think that logic is accurate. I am not sure that a federal charter is necessarily the answer to market availability in a state with a catastrophe exposure. I think an optional federal charter is intended to answer other questions than market availability. However, you are correct, spread of risk is certainly what makes insurance work. And the ability to write the same kinds of exposures in multiple states is an advantage for a company. Unfortunately, we cannot write hurricane exposure insurance, for instance, in 50 states. There are only a few states that have a hurricane exposure. And, again, I don't think an optional federal charter is intended to enhance market availability or to answer those problems of catastrophe issues.
Chairman BAKER. Sure, no. But my point, contrary to that of Mr. Kanjorski, subsidization of some other consumer of the same company located in a different jurisdiction, that occurs because capital is fungible. Where you have losses, you use those resources to pay off the losses. And you hope by having the risk spread in broad enough jurisdictions, you make enough money on the whole to be able to remain solvent. So my only point was that broader geographic exposure, at least in that marketplace, makes some sense.
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Mr. Kanjorski?
Mr. KANJORSKI. Well, the only point—you are absolutely right, but when you carry that to its logical conclusion, the people in Pennsylvania would be paying a higher insurance rate because of the losses of Mr. McOwen's company in Florida.
Chairman BAKER. Correct.
Mr. KANJORSKI. So you would be accomplishing, outside of the federal system of catastrophic insurance but you would be saying because you have a national charter, you folks in Pennsylvania on the high mountains that never get flooded, never get a hurricane, your premium is going to go up because we have losses in Florida. And that may be the disadvantage of having the federal charter, because right now the insurance concentrates, particularly in the smaller companies, so that it gives the area that doesn't have that catastrophic potential or the potential loss, they don't pay a premium for that. And that is where capital will flow.
Let me give you the example. If you had a client that wanted to build a $100 million building, and you have the choice of Kokomo, Indiana or Miami Beach, Florida. Naturally, there wouldn't be much rocket science to think that if it goes to Miami Beach, Florida, appreciation is going to be much better on his asset. But the thing in the insurance business, that if you honestly assess premiums for risk, his premium against hurricane loss in Florida is probably going to put his rate two or three times what it would be in Kokomo, Indiana. Therefore, he would look at Kokomo, Indiana as a potential investment because of the high risk. If you uniformize that risk, you are going against social policy and encouraging capital to flow to the highest risk areas, because the under-risk areas are going to pick up the premium for it.
Mr. MCOWEN. Well, could I add a comment to that?
Chairman BAKER. Certainly, jump in.
Mr. MCOWEN. If you look at the federal flood model—
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Mr. KANJORSKI. Well, that is subsidized.
Mr. MCOWEN. Well, but the point I was going to make is that flood insurance is required for homeowners who live in areas where there is a likely flood. We don't require all homeowners in all states to buy flood insurance to spread the risk. But we do require all homeowners who live in a flood area to buy flood insurance.
Mr. KANJORSKI. Yes, but it is so subsidized.
Mr. MCOWEN. It is subsidized, but the price reflects the fact that there is exposure to flood in those areas. I am just addressing the fact that—
Mr. KANJORSKI. No, no, but by virtue of the fact that it is subsidized, we are spreading the risk to the entire country. The taxpayers are picking it up on an equal basis. That is a tremendous spread of the risk, but we do it through governmental activity. That is exactly what we probably do not want to do, to give an area that has a great disadvantage an equality with other areas, because we are going to require either the private marketplace to pick it up by virtue of the federal charter or subsidization by using taxpayers' money—the country as a whole, to pick up that loss.
The very nice thing about insurance now is that it stays very close to the supply and demand of the marketplace.
Mr. MCOWEN. Right.
Mr. KANJORSKI. It is a real market force once the conditions are worked out and rates are worked out. But we are talking about disturbing that when we are talking about spreading the rates uniformly by either action of the Congress or action of the federal commissioner or by subsidization. That changes the marketplace.
And I think I hear from most of the insurance industry that they really like their free enterprise system and supply and demand and really don't like all of us to stick our hands in their brew, if you will. And we have been doing it in several ways like subsidization. But at least that is an honest—we say it is so important, federal taxpayers are going to subsidize terrorist insurance, we are talking about subsidizing. No question about it. But here now we are talking about indirectly, through charter mechanism and federal control, the ability to subsidize to the entire country base without putting that up to a vote or without having the investor or the insured have any say in the matter.
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Chairman BAKER. But I think that happens today, Paul, to some extent where you have a large corporation that is licensed to do business in 50 states, who has capital available. The regulator looks at the capital adequacy of the parent company. And the company sets its rate based on, let's say, competitive factors, the fact that it can have a loss leader and offer a product at a lower price, it captures significant parts of the market. Then go back to the regulator and allege now because of market conditions, people going out of a business, you have a higher likelihood of loss, you are going to raise your premium.
So I think it happens indirectly today. You are correct, I think it makes it more pronounced.
Mr. KANJORSKI. No, but today State Farm was able to get out of Florida. They just said we won't write casualty loss insurance in Florida, because it is a loss. Under our system, they are not going to be allowed to get out of Florida. We are going to say you are licensed nationally. Florida has a problem because of its hurricanes. But you are going to write insurance in Florida and pass it off to the other 49 state participants or you are not going to have your federal charter. And you know, the Congress would ultimately do that.
And when I look at the three major states here that are giving us problems—I didn't catch the fourth—but New York, California, and Florida are the least cooperative, apparently, in getting this uniform system on a state basis, compact basis, started, I begin to wonder just why they do that. And they are the three states for catastrophic insurance and have taken advantage of catastrophic insurance. They are the three states that perhaps a what, about 20 percent of the American population and maybe about 40 percent or 50 percent of the economic activity of the country.
Chairman BAKER. Now, I think that may go to economic issues, wanting to maintain control of significant parts of the market without the enhanced competition that would be brought about if you didn't have the barriers. But—
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Mr. KANJORSKI. Mr. Chairman, I know that we could go for—
Chairman BAKER. Yes, we probably will.
Mr. KANJORSKI. I just want to thank you. I think these have been great hearings. The first panel and this panel have been very informative. I can't think of too many hearings that I have been this interested in, quite frankly, since I have been in Congress.
Chairman BAKER. And that is saying something, because this is the third of these hearings that have gone four and five hours. And we have actually been interested in the topic. So you all have done a marvelous job. Thank you very much. I do express our appreciation. Should you have additional comments, the record will remain open for 30 days, as all members may have additional time to file any amended statements they wish to file for the committee's purposes.
With that, I thank you, and our meeting stands adjourned.
[Whereupon, at 5:00 p.m., the subcommittee was adjourned.]