The job of an Insurance Regulator is not easy. The Regulator is called upon to make determinations that from time to time, will adversely affect the interests of a group or particular entity, and will thereafter face intense criticism from that group or entity. Meanwhile, the group or entity that benefits from that same determination will offer scant praise, simply saying that the Regulator was merely “doing their job”. In truth though, the Regulator has responsibilities beyond the mere interpretation of rules handed down by another; the Regulator often has the responsibility to not only enforce regulations, but to first draft these same regulations, adding a layer of complexity into its decision making processes. It is this vast multi-layered responsibility over a vital market sector that requires the Insurance Regulator to effectively and judiciously modulate its designated sphere, lest it exacerbate, or worse, create market chaos.
An Effective Regulator - Not too Hot, Not too Cold
What makes an effective Regulator? This is an area of debate wherein the proponents of a laissez-faire market strategy argue that the regulator who regulates the least regulates best, while the partisans of activist progressive government look to the Regulator to exert a strong hand on the industry subject of the regulatory authority. Both sides of this debate will invariably argue that their solution most effectively promotes “fairness” in the market and will ultimately benefit the legitimate interests of the industry stakeholders. This is a very long running argument, being part of the overarching political and economic debates over the limits of governmental intervention into the overall markets and individual lives in general.
Turning to the Insurance industry, the stakeholders are varied and have multiple competing interests. The insurers, brokers, service providers, consumer and commercial policy holders, and various related entities (reinsurers, TPA’s, and MGA’s among others) all have their own agendas, some of which may seem at first blush to be obliquely, if not diametrically opposed, to the interests of the other stakeholders. However, when examined more closely, the interests of all legitimate stakeholders are best served by a smooth working market where continuity and stability are maintained.
Hands Off, or Maybe Not
Proponents of a “hands off” regulatory strategy argue that the markets will always self correct and that those insurers that do not play by “fair” market rules will ultimately pay a high price, potentially in the form of liquidation, when their venture faces failure due to their non adherence to sound management strategies. Thus, the insurer that undercuts in its pricing, maintains inadequate reserves, fails to invest in its human capital, engages in risky investments, or is undercapitalized in the first instance, all in an attempt to squeeze maximum profits from a minimal investment, runs a high chance of failure, and this possibility alone will dissuade prudent business persons from acting irrationally. This notion of “self regulation”, however, ignores the truism that unintended consequences can follow from well intentioned but misguided actions, and fails entirely to account for the “bad” market actor who intentionally seeks an unfair market advantage, or worse, engages in outright fraud.
While the free market proponents argue the consequences of individual enterprise failure fall mostly on the owners of the entity, in the Insurance market this ignores the impact of a carrier’s failure on its policy holders, related service providers, employees, and general market confidence. Policy holders and claimants left without recourse may find themselves at the mercy of an underfunded liquidation. The tremors from this reverberate beyond the individuals directly affected and leave an economic wake of disruption. We only need to look at the consequences of the 2008 Financial Crisis, precipitated by the offering of risky exotic investment products that few really understood, but which were gobbled up by supposedly sophisticated investors (including insurers), to appreciate the effects of how market turmoil results from unintended but misguided actions. No one can say with any certainty whether a lack of regulation is what caused the 2008 Crisis, but it cannot seriously be argued that it would have been mitigated, if not avoided entirely, if the risky investment products – and insurer involvement - at its core had been subject to greater oversight in the time leading up to the Crisis.
More is not Always Better
Conversely, over regulation is no panacea. The advocates of a stringent regime of regulatory oversight often claim that commercial self interest will too often overcome rational business prudence, leading to market instability and that therefore; only a strong hand can moderate the turbulence. This approach ignores that market participants generally know their markets well and need flexibility to deal with market conditions, and that “one size does not fit all”, at least as far as a regulatory scheme applies. The smaller carrier may be more nimble than the larger company, and might offset some of its significant disadvantages in market footprint and economies of scale as a result. Regulatory pricing controls, capital restrictions, and cover requirements can be effective in moderation, but will stifle innovation, the development of needed insurance products, and the ability to penetrate underserved markets, if taken to an extreme. Being that the purpose of insurance is risk management via way of risk transference, the market needs some freedom to adjust to the changing challenges that risk presents.
The same holds true in the consumer services function of regulation. All agree - an insurer should engage in fair and transparent dealings with the public, offer the required cover for a reasonable premium, and process and pay legitimate claims on a timely basis. The effective Regulator will apply corrective measures should an insurer or broker fails in its consumer service obligations, but will not seek to over regulate or to assume the role of “judge” in situations where there is a bona fide dispute over the scope of coverage or the validity of a particular claim between an insurer and policy holder/claimant. Likewise, the effective Regulator will not fall into the trap of inadvertently serving the interests of those, such as medical providers and damage adjustment services, whose business models may be overly dependent on the level of claims payments, notwithstanding the legitimacy of the services they offer. While legitimate claims must be promptly adjusted and paid, some providers grossly overcharge and sometimes engage in outright fraud. The Regulator must therefore take care to distinguish between legitimate consumer concerns and those that are in actuality provider driven complaints masquerading as consumer protection matters.
Another problem that arises from over regulation is when bureaucratic inertia leads to regulation for its own sake. Some international jurisdictions depend, to an excessive degree, on fees and fines generated by regulation and its enforcement to fund the regulatory agencies assessing those same fees and fines. The conflict of interest is evident. No agency should be allowed to operate when its primary, or even secondary, function is the continuation of its own activities for their own sake. A corollary to this is the prevalence of arbitrary decision making. Few things are more disruptive to effective regulation than arbitrary determinations; they unfairly punish stakeholders, diminish stability and transparency, and are corrosive to respect for the Regulator and its perception as a fair actor.
Finding the Sweet Spot
In summary, the most prudent and effective regulatory approach is that which takes into account the strengths of the market and professionalism of the majority of market participants, but which is mindful of disruptive factors endemic to each of the stakeholders interests. Paramount to this is the goal of maintaining a viable and stable market that effectively balances its industry stakeholders’ interest in operating profitable business models with the general public’s access to affordable coverage that will be available when it is needed. Insurance, which is one of the primary pillars of a well functioning modern economy, is deserving of the proper regulatory care that its status should afford. This extends both to the drafting of even handed regulations as well as to the manner in which these regulations are actually enforced. Effective regulation thus is not to be frowned upon, it should be strived for.