Some research on the tension between federal and state ambitions in insurance regulation was posted in June 2005. It focused on hearings held about that time that focused on long-standing issues with Optional Federal Charter for Insurers ("OFC"), Oxley “Road Map” and “SMART” Bill, and NAIC Responses to Federal Initiatives ("Interstate Compact").
Unintended Consequences: Hearings on "SMART" : Federalizing insurance regulation? (June 23, 2005)
It may be of interest to those following the story about a U.S. Treasury spokesman who was again advocating a greater federal role in insurance regulation at a recent NAIC meeting. Specialty Insurance Blog: Federal Insurance Regulation
To repeat my editorial views on the subject from June 2005:
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One of the strengths of complex systems is the capacity of its components to interact independently because of the existence of diversity. That independence has repeatedly been shown to protect the overall system from vunerability to unexpected consequences that lead to cascading failures in "monoculture" systems that are highly interlinked. (See: Unintended Consequences: Reading: Barabasi, Linked: The New Science of Networks (2003))
The vulnerability of monoculture systems to catastrophic results of otherwise survivable errors or attacks has been observed again and again, from the Irish Potato Famine (Fraser, "Conservation Ecology: Social vulnerability and ecological fragility: building bridges between social and natural sciences using the Irish Potato Famine as a case study" (2003) to the recent New England electrical blackout (Unintended Consequences: Blackout Report: Maintenance, Training and Communication Errors (2003). During the Blackout of 2003, only the systems that were able to independently decide to disconnect from the "efficiency" of the centralized, unified controls avoided being sucked into the collapse of the highly connected network.
Looking back on decades of ill-conceived centralized government "solutions" to insurance availability and affordability "crises" in state after state, in automobile insurance, workers compensation insurance, medical malpractice insurance and product liability insurance, we see a record of attempts to solve political problems with price controls and lock-ins that caused long-term damage to the whole economic system. If our decentralized insurance system gets federalized, mistakes that would have an impact on only one state may impact every insurance transaction in the entire nation. Time will tell if the game of "chicken" going on between state and federal regulators has a net positive or negative effect. Whatever happens, I'm counting on unintended consequences.
Today, I can also add the caution that the federal agency with the most experience in insurance is FEMA, which runs the National Flood Insurance Program (NFIP). A GAO report in 2003 found serious financial challenges with NFIP unmet by federal regulators. See Unintended Consequences: 2003 GAO Report on Financial Challenges to NFIP (Sep. 16, 2005). Within weeks after Hurricane Katrina, the NFIP had run out of funds and was unable to pay claims without massive borrowing authority from the Congress. Unintended Consequences: FEMA, out of funds, freezes flood insurance payments (Nov. 19, 2005). One must consider if a catastrophe performance like FEMA's in 2005 is what we can expect to result more frequently as a result of federal insurance regulation.
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Posted by dougsimpson at February 9, 2006 04:51 PM