The most recent Pew Internet study of over 1,400 adult Net users in early 2005 found that some 36 million American users (~27%) download music or video files, and about half have used alternatives to peer-to-peer (P2P) systems. Pew Internet & American Life Project: Music and Video Downloading
The study also polled attitudes toward recent crackdowns by government and copyright owners, and opinions as to whether they would succeed. View PDF of Report
Wharton examines the possible consequences of ongoing investigations at AIG and the fate of "Hank" Greenberg, CEO of American International Group, in an article available online. Can AIG Stay on Top? - Knowledge@Wharton
AIG is under scrutiny now for at least one "finite reinsurance" transation with GenRe several years ago. Questions have arisen as to the propriety of treating it as a transfer of risk instead of a loan. Finite reinsurance can be used as a means of "smoothing" earnings, but are controversial. If the transaction in question is undone, it could reflect on the propriety of past earnings reports by AIG.
The Wharton article points to renewed corporate concerns following recent scandals (e.g. Enron and WorldCom) and responsive legislation, such as Sarbanes Oxley.
See also: "Finite Risk Reinsurance" background online" Unintended Consequences, Nov. 24, 2004.
A recently published study by four law and economics professors, "Stability, Not Crisis, Medical Malpractice Claim Outcomes in Texas, 1998-2002" (Black, et al) has come under criticism from proponents of med mal liability reform.
Jon Opelt, Director of the Texas Alliance for Patient Access (TAPA), called the study "seriously flawed," claiming the authors "cooked the numbers to the point that they cooked the truth," according to Insurance Journal.
Tom Cotton, President and CEO of the Texas Malpractice Liability Trust, one of the largest providers of insurance in Texas, criticized the study's use of statistical controls for population growth, frequency of visits to healthcare providers, healthcare costs, and the change in the value of the dollar.
"We don't get to adjust the number of claims by some economic value that has no bearing on medical liability insurance or pay today's claims in 1988 dollars," said Cotten, according to Insurance Journal. "So it makes no sense to massage and distort claim counts and payouts for such irrelevant reasons."
The Journal did not indicate if these spokespersons were asked to explain why control for inflation and medical care costs in a scientific study of the relationship between claim costs and insurance prices was "irrelevant" or had "no bearing."
See also: "Causes of the Medical Malpractice Crisis?" Unintended Consequences, March 17, 2005.
And: "Market, not costs driving rise in malpractice premiums, says U.Texas study," Unintended Consequences, March 11, 2005.
Bertelsmann seems to be laying odds on a favorable decision in the Grokster v. MGM case before the Supreme Court, as it unveils a new online platform for peer-to-peer sharing of large files, according to Reuters. "GNAB" would be licensed to ISPs, telecos and TV broadcasters, according to a press release March 22. It would allow P2P circulation of films and other large digital files, both licensed and unlicensed, according to the Reuters report.
Sony BMG signed with SNOCAP (Shawn Fanning's latest) on March 3. SNOCAP will provide identification and copyright management tools to Sony BMG's network to protect rights of artists and copyright holders while consumers exchange files in authorized P2P services.
Bertelsmann is co-owner of Sony BMG Music Entertainment and worked with Napster four years ago when it came under suit from the music establishment. See Bertelsmann's Music Play (Wired News 5/30/2001). Sony may feel the hot breath of the Apple iPOD on the back of its neck. Arguments that "P2P" technology lacks sufficient legitimate applications may sound more strained.
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“Behind Those Medical Malpractice Rates” (New York Times, 2/22/05) included a statement that “legal costs do not seem to be at the root of the recent increase in malpractice insurance premiums.” Testing this assertion requires examination of the complex dynamics of the insurance network and is complicated by a lack of appropriately segmented data and contradictory assertions. Alternative views can be found in a review of selected literature that is attached as a RTF file. TypeKey verified comments are welcome.
(Abstract follows -- Read more)
Abstract: A review of selected studies of the causes of insurance cost crises in medical malpractice liability.
The author adds a perspective on the insurance cycle, comparing the participants’ situation to an iterated prisoner’s dilemma complicated by non-commercial risk bearers that provide explicit or implicit subsidies. The author suggests study of insurance market crises using tools of network theory including “phase transitions” and “cascade effects.” He also suggests consideration of an “imputed premium cost,” being the differential between real aggregate premiums and the aggregate premium that would apply in the absence of subsidized market makers offering insurance below actuarial cost.
Insurance market forces, not rising tort costs, drive recent medical malpractice premium increases, according to a new study released March 10, 2005 by the The Center on Lawyers, Civil Justice, and the Media at University of Texas
Examining records on 150,000 closed claim files over a period from 1988-2002, the authors found that claim costs were stable, except for a rise of about 4% annually in defense costs. The authors attributed recent rises in malpractice premiums to market forces, because "no changes occurred in the tort system that could possibly account for them," according to a press release. The study's authors are Professors Bernard S. Black (University of Texas), Charles Silver (University of Texas), David A. Hyman (University of Illinois), and William M. Sage (Columbia University).
A summary of their findings and link to the full paper is available here.
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Firefox, the open-source alternative to Internet Explorer, has gained market share and publicity. Browser Wars: Will Firefox Burn Explorer? - Knowledge@Wharton looks at two issues.
First, Microsoft's market-dominant product makes an inviting target for crackers seeking to penetrate its security. According to Wharton legal studies professor Dan Hunter. "Firefox is just a better browser, but I would argue that its market share gains have come because spyware and other hacks plague Explorer."
Second, another Wharton legal studies professor, Kevin Werbach says, "the lesson here is that open source can create a slick consumer-friendly product. Firefox is definitely more than just a blip. It has some staying power." The Firefox browser is giving non-geeks their first taste of open source technology. Previous exposure to open source products was limited to those comfortable "under the hood" with Linux, Apache and MySQL. Professor Hunter: "Previous open source products had a high geek factor: You had to be a geek to run them. Firefox is the first time consumers really chose an open source product."
Erik Banks, "Alternative Risk Markets: Integrated Risk Management through Insurance, Reinsurance and the Capital Markets," (Wiley Finance 2004)
Banks' work turned up while searching for a text for an insurance law course I'm co-teaching in Hartford. Apart from a CPCU text we've found little to cement our case readings for our course focused on Surplus Insurance Lines and Alternative Risk Transfer ("ART"). Large deductibles, self-insurance, risk retention groups, captives, catastrophe bonds and other insurance linked securities, derivatives and other alternatives to traditional insurance are a controversial and cutting-edge topic, especially in light of recent disasters and investigations. Banks brings his experience as a senior risk manager at global institutions including XL Capital (the Bermuda reinsurer), Merrill Lynch, and a record of a dozen books already published in the field.
An online look at the Table of Contents of Banks' text looked promising, but after a full read, the text left much to be desired as a law school source. It was organized into four parts, which I’ll follow below with a few observations of my own.
Risk and the ART Market
The first two chapters open with an examination of management approaches to risk management. They include a discussion of the insurance price cycle and the influence of capital availability and investment return on the dynamic cycling between "hard" and "soft" markets. The author writes about the credit risk of "intermediaries," including in that category a broader spectrum of players than does much of the insurance sector, to include global insurers, reinsurers, and commercial and investment banks. He points out that traditional insurance, while simple to get (when available) is not ideal for addressing more "intricate or comprehensive solutions," such as multi-year structures and non-traditional covers such as terrorism and financial risk. He speaks of "regulatory arbitrage," in which differential regulatory treatment of banks and insurers may motivate them to lay off different types of risk, and the effects of continuing deregulation and "convergence" on those influences.
Closing the first part, his third chapter becomes more specific, defining the ART market as the "combined risk management marketplace for innovative insurance and capital market solutions," and ART itself as "a product, channel or solution that transfers risk exposures between the insurance and capital markets to achieve stated risk management goals." Banks, p. 49.
Insurance and Reinsurance
Banks opens the second part of his text with a primer on primary insurance and reinsurance contracts commonly used in ART situations. In 25 pages, he reviews basic insurance concepts and the tools used to manage risk in the spectrum from risk retention (e.g. self-insurance, captives and finite risk programs) to risk transfer (e.g. full insurance with low deductibles and coinsurance). He concisely explains the features of various types of loss-sensitive contracts, including those that are experience-rated, and programs employing large deductible, retrospectively rated (both paid loss and incurred loss), and investment credit methods.
He continues exploring the risk retention end of the spectrum with a useful introduction to finite risk programs, organizing them by retrospective (e.g. loss portfolio transfer, adverse development cover and retrospective aggregate loss cover) and prospective polices. He finishes with a capsule lesson about layering of insurance programs.
His introduction to reinsurance and retrocession provides concise explanations of the financial and balance sheet effects of reinsurance, and the difference between facultative and treaty reinsurance. He also provides an overview of the varying effects of excess of loss, quota share, and surplus share agreements, and illustrates the possibilities of both vertical and horizontal layering of coverage. He closes with additional information on spread loss and finite quota share versions of finite reinsurance arrangements that provide substantial financing benefits with minimal risk transfer.
Banks provides a chapter dedicated to captive insurers, opening with a cash flow table illustrating the cost-benefit analysis that goes into evaluating the business justification for forming a captive. He provides some easily understood diagrams supporting his brief explanation of the role of a “fronting company” and the different forms of captives, including pure captives, sister captives, group captives, rent-a-captives and protected cell companies. He includes a short introduction to Risk Retention Groups, which are vehicles that are similar to captives, but that are organized and regulated in a different fashion. He closes with a very brief sketch of the tax consequences of employing a captive for risk management.
Banks’ chapter on multi-risk products extends the concept of a multi-line or package policy to the more complex products that are used in the energy industry. For example, a “dual trigger” policy might pay if and only if both of two triggers exists, say interruption of the insured power supplier and a market price for replacement power price over a certain level. Banks describes such multiple trigger products as a way to more precisely manage the outside risk of both events coinciding. He notes that multiple trigger products tend to be individually negotiated and structured, so that they need to include a charge for the cost of such custom development. In addition, such structure may not fall within all definitions of insurance for accounting, legal and tax treatment.
Banks’ third part concentrates on capital market instruments and securitization, opening with an overview of insurance-linked securities, including catastrophe bonds. He goes on to explain contingent capital structures that (unlike the insurance-linked securities) have no characteristics of insurance and are subject to different regulatory, tax and accounting issues. Both contingent debt and contingent equity financing are arranged prior to a particular class of loss or adverse event, but provide for financing to be provided only after the occurrence of the adverse event. The capital can be less expensive than post-loss arrangements because it is arranged in advance and is not available at will.
Banks closes his third part with an examination of derivatives used to manage insurance-related risks. Those instruments include futures, options, futures options, forwards and swaps. Because derivatives are not based on insurable interest and demonstrated loss, they do not qualify as insurance, and may be subject to basis risk (a term describing the disconnect between the trigger of the derivative and the exposure from which protection is sought).
Exchange-traded derivatives have been developed for catastrophe risks, which were introduced in 1992, but failed to generate interest or a critical mass of participants and were abandoned in 2000, according to Banks. Temperature derivatives have been better received by energy suppliers and have led to active trading environments in some financial exchanges. Banks makes an observation that has applicability beyond this field when he notes that temperature derivatives “are heavily reliant on very robust historical data for accurate modeling, valuation and risk management. In the absence of 30-50 years of high-quality daily temperature data, the pricing exercise becomes difficult and subjective, which can lead to erroneous risk management choices. Given this minimum requirement, most activity remains concentrated in locations that have good data records under the quality control of a national weather or meteorological agency (e.g., US, Canada, Europe, Japan, Australia). Expansion into other countries without this minimum requirement will be slow.” Banks p. 162.
Over-the-Counter (OTC) traded insurance derivatives have been more successful, according to Banks. He describes OTC-traded catastrophe reinsurance swaps, pure catastrophe swaps, temperature and other weather derivatives (e.g. precipitation, stream flow and wind) and credit derivatives. Through swaps, reinsurers exchange exposures to un-correlated risks (e.g. Japanese earthquake and North Atlantic hurricane) to achieve greater portfolio diversification.
“Transformer” companies are those created to address the regulatory obstacles barring banks from writing primary insurance or reinsurance. A transformer bridges the gap between banking and insurance by dealing with its bank clients using derivatives, and transferring the same risk to the insurance market through reinsurance. Banks suggests that the need for transformers may diminish as regulatory changes allow more “bancassurance” platforms to develop.
ART of the Future
Banks fourth and final section addresses his vision of “ART of the future.” He argues for combinations of various financial and insurance risks into a single, multi-year Enterprise Risk Management (ERM) program. Such requires elimination of “silo” approaches to risk management, restructuring of the risk management organization and an extensive analysis of the total risk profile of an enterprise. Banks sketches two case studies and states that “demand for ERM programs by corporate end-users appears to be strong and growing,” citing “industry surveys and actual corporate experience. He does not, however, identify the surveys or experiential data on which he bases this conclusion, and acknowledges that several “pioneers” in the ERM process found their ERM program dismantled following corporate reorganizations in which the pioneers were acquired and displaced.
Prospects for growth in the ART market face both drivers and obstacles, as sketched in Bank’s final chapter. He cites “stronger demand for risk capacity” as the likely driver for future growth, aggravated by future catastrophes that stress available risk capacity. As an additional driver, he points to lower regulatory barriers to entry of new capacity. He briefly acknowledges organizational and cultural obstacles to the elimination of the “silos” and “incremental decision making” that he sees as impeding ART solutions.
Banks closes with subjective forecasts for the future of various ART tools (ranging from “moderate” to “strong”), and an observation that deregulation will encourage convergence of banking, insurance and other financial service industries.
Banks’ work contains little in the way of statistical support for many of his observations and conclusions. While the book includes a bibliography, it does not include legal references, texts or articles. Many of the author’s conclusions are couched in general and broad terms and read much like those one would expect from a visiting consultant providing a backgrounder on his field of expertise, in preparation for a possible retention to assist in an ERM design project.
While the text provided a useful overview of the various risk-retention tools common in the specialty risk market, the absence of meaningful legal references and citations makes it of doubtful value as a supplement to an advanced insurance law course.
The 2003 collapse of a Virginia-based professional liability insurer has led to racketeering suits, guilty pleas to insurance fraud charges, and multi-million dollar assessments upon state insurance guaranty funds. Recently, according to Insurance Journal, Berkshire Hathaway has reported that U.S. Attorney in Richmond subpoenaed General Reinsurance for information about Reciprocal of America and its offshore reinsurer, First Virginia Reinsurance, Ltd. General Re Under Scrutiny for Reinsurance Dealings with Failed Virginia Liability Reciprocal (3/2/05). The same article reports that two senior officers of the collapsed Reciprocal of America expect sentencing in a few months.
The Reciprocal Group (In Liquidation) is a management company for four affiliates: Reciprocal of America, American National Lawyers Insurance Reciprocal, Doctors Insurance Reciprocal, and The Reciprocal Alliance.
In February, former ROA officers Kenneth R. Patterson and Carolyn B. Hudgins pleaded guilty to conspiracy to commit insurance fraud, and Patterson pleaded guilty to two counts of mail fraud. The federal judge in Richmond has scheduled sentencing for June, according to the Richmond Times-Dispatch, "Ex-insurance officers plead guilty" (2/9/05)
Their companies were formed in the 1970's to address a shortage of insurance coverage for health care providers and attorneys in Virginia, and insured some 7,000 professionals when they were declared insolvent and ordered liquidated in June of 2003.
At the time, the Virginia Lawyers Weekly reported (6/30/03) that the various affiliates were all reinsured 100% by ROA and lost the ability to pay their claims when that company collapsed. The company reportedly had a $200 million negative surplus at the time. That report included indications that Gen Re's reinsurance of ROA was replaced by a Bermuda reinsurer managed by some of the same directors as ROA itself, First Virginia Reinsurance. But the Virginia Insurance Department was not informed of that change, according to the VLW article.
Claims against the hospital policyholders were picked up by state guaranty funds, managed by Guaranty Fund Management Services in Boston. The lawyer policyholders were insured by ROA affiliates organized as Risk Retention Groups (RRG) under the federal Liability Risk Retention Act of 1986, 15 USC 3901 et seq. By federal law, risk retention groups are barred from enjoying insurance guaranty fund coverage. The thousands of lawyers affected by that filed legal actions in Virginia, Alabama and Tennessee, according to the 2003 Virginia Lawyers Weekly story.
The Practicing Attorneys Liability Management Society, Ltd. ("PALMS") maintains a webpage with updates and links to reports and materials on the case. ANLIR/Reciprocal of America Status Report.
Baird Webel, "The Risk Retention Acts : Background and Issues" (Congressional Research Service, December 2003) (Excellent background and introduction. 11 pages plus summary in PDF.)
Nicole Williams Noviak, as reporter of speech by Robert W. Mulcahey, "The Medical Malpractice Crisis: Federal Efforts, States' Roles and Private Responses," 13 Annals of Health Law 607 (2004) identifies recent state mandates that health care providers purchase malpractice liability coverage from authorized insurers. These mandates have led to the termination of more affordable Risk Retention Group coverage by many health care provider programs and legal challenges that these state mandates are pre-empted by the federal law in the Liability Risk Retention Act (LRRA).
Maureen Sanders, "Risk Retention Groups : Who's Sorry Now?" 17 S.Ill.U.L.J. 531 (1993) (piercing the corporate veil following failure of RRG)
Karen Gantt, "Federal Tax Treatment of Medical Malpractice Insurance Alternatives for Nonprofits," 52 Drake L.Rev. 495 (2004). Professor Gantt (of the University of Hartford) addresses tax consequences of various insurance alternatives for nonprofit organizations. Among them are self-insurance, reciprocal insurers, and the Risk Retention Group approach, including captives and "protected cell captives." Prof. Gantt's article cites creation of many RRGs in last two years to deal with "the medical malpractice insurance crisis."
Countless volunteers engaged in a great effort, Wikipedia, are testing whether that effort, or any effort so conceived, and so dedicated, can long endure. The process and product provides a laboratory into the open source process and into the systems we call (for want of more precise analysis) "self-organizing." How will it react to vandals, well-meaning but uniformed contributors, and disputes over process, doctrine and "truth"? What intellectual property issues will arise, and how will they be resolved? What sort of governance mechanism will evolve to manage the Wikipedia phenomenon? Time will tell.
For those not familiar with Wikipedia's back-room process, this Wired article provides some illumination. Wired 13.03: The Book Stops Here
See also, Reading Weber, "Success of Open Source" (Unintended Consequences 1/5/05)
And: Free, Open Access Science Publishing Debut (Id. 10/15/03)
And: Powell's Studies of Network Forms of Business Organization (Id. 9/9/03)
In an effort to build my personal network, I've taken an experimental subscription to LinkedIn, an online network-building system started by a former officer of eBay. A recent article in Internet News reports Greylock has invested some money, though the business model is still murky. LinkedIn Looks to the eBay Way (October 13, 2004).
I've found the interface and searching functions to be quite professional and smooth, and what I've seen of the people on the network is promising. I've already used it to connect to an author writing a technical book in my field who had good things to say about his experience. Registered TypeKey holders: please post comments on LinkedIn.