State Regulation Reduces Efficiency, Competition

Posted February 10, 2008 at 11:00pm

In the coming weeks, we expect Treasury Secretary Henry Paulson to unveil the Treasury Department’s capital markets competitiveness initiative. This proposal will examine the structure of the U.S. financial regulatory system and observe the impact of the inconsistencies between our financial regulatory structure and regulators around the world.

Knowing the U.S. insurance industry is one of the largest aspects

of the broader financial services market and that it currently functions under an archaic bureaucratic web of more than 50 state regulators, I am hopeful the Treasury Department will include broad overhauls to the regulatory structure in the upcoming report.

The degree to which the current state-based system has hampered our insurance market cannot be overstated. For example, there is an abundance of rate regulation throughout the country. In every state except Illinois, property and casualty insurance products are subject to varying degrees of government price controls, which hampers the competitive marketplace.

Moreover, the system is composed of 51 different regulators, each with its own sets of rules and regulations. This fragmented regulatory system prevents basic achievements in the industry, such as product innovation. Nationwide introduction of new insurance products can be a lengthy process, often taking years, not days. This has severely hampered product innovation in the industry as firms try to compete in an ever-changing global marketplace.

In addition to market inefficiencies created by this outdated state-based system, the lack of an effective advocate for the insurance industry at the national level continues to serve as an obstacle to growth. Currently, there exists no recognized expert to advise on issues affecting policyholders and the health of the insurance industry.

In contrast, the Federal Reserve, the Office of the Comptroller of the Currency and the Securities and Exchange Commission all have a seat at the table to represent banking and securities industries’ interests when policy is being developed. Unfortunately, the National Association of Insurance Commissioners has not provided the same type of leadership. Furthermore, when negotiating major free-trade deals, insurance regulators around the world are forced to deal with 51 different regulators representing the United States. The lack of a single empowered liaison has left the insurance industry on the sideline while other financial service industries have continued to thrive both at home and overseas.

While the problems created by this disjointed system are plentiful, I believe there is a viable solution — the National Insurance Act (H.R. 3200). This legislation, which I have sponsored along with Rep. Melissa Bean (D-Ill.), would create an optional federal charter for insurance and offers a workable alternative to those currently hindered by the state-based system. The National Insurance Act explicitly forbids rate regulation through the Office of National Insurance, which would be established under the legislation. Furthermore, the new federal regulator could act as the much-needed expert on policy issues affecting the industry.

While it is apparent that the companies offering insurance products would be in a much better position to compete in a global marketplace under an optional federal charter, I believe the insurance customer has the most to gain. First, an OFC would improve consumers’ choices in the market. The increased competition among insurance providers will result in the availability of more diverse products with lower premiums, thereby affording consumers with greater choice.

Furthermore, consumer protection under an OFC would be greatly enhanced. The Office of National Insurance would be a bigger and better repository of information, and therefore the regulator would be better able to detect and deter unfair trade practices. The National Insurance Act provides the regulator with as much authority and resources as needed to pursue the highest and best standards of consumer protection.

Lastly, the cost savings by insurance providers resulting from a more efficient regulatory structure would be passed on to the consumers. A study from the University of Georgia underscores the likely cost savings to life insurers under the proposed authority of a single federal regulator at $5.7 billion annually. Imagine the savings if property and casualty products were included as well.

Stephen Pociask of the American Consumer Institute recently offered this outlook: “Today we have a broken and calcified state-based system of insurance regulation, consisting of 50 different sets of state rules, regulations, commissioners, forms and prices. … Federal regulation would be superior to state regulation because it would be more efficient, increase interstate competition, decrease risks and increase capital pools, and give consumers increased choice.” While the objective of H.R. 3200 is not to replace the state-based system, it offers a viable alternative to the current tangled bureaucratic web.

As our insurance industry continues to operate under a flawed regulatory structure, the ability of the United States to compete globally slowly erodes. The Bloomberg-Schumer report emphasized this, as did the Chamber of Commerce Commission on the Regulation of U.S. Capital Markets in the 21st Century. If we hope to remain competitive in the financial services industry, we must provide the insured and the insurers with a regulator equal to those presently overseeing the banking and securities industry. This new world-class regulator should be properly equipped to not only regulate but also lead a dynamic and ever-changing insurance industry. So instead of asking the question, “Should Congress create a federal insurance regulator?” we should be asking, “Can we afford not to?”

Rep. Ed Royce (R-Calif.) is a member of the Financial Services Committee.