IBC Rate Regulation

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  1. IBC Regulatory Balance Project principles
    • need for government regulation: reduce insolvency risk, enhancing public confidence 
    • balance between intrusive government regulation and strict reliance on market forces
    • co-operation between insurers and regulators when analyzing policy
    • harmonized approach across jurisdictions, among major trading nations and within
    • pragmatic solutions to regulatory concerns, rather than dwelling on differences
    • cost is an important determinant in evaluation efficiency and effectiveness of system
    • control: conduct and mgt of insurer remains sole responsibility of senior mgt and BoD
    • inherent limits to solvency monitoring: some companies may still fail
    • disclosure of info: powerful and cost-effective regulatory tool
  2. U.S. study
    • regulation of insurance premiums affects both amplitude and length of insurance cycle
    • introduces a structural volatility in the pricing of insurance
    • statistical evidence supports hypothesis that prior-approval rate regulation increases volatility in insurance premium
  3. Forms of rate regulation
    • strict: prior approval, flex rating; rates require regulatory approval before they can be used. Flex rating offers expedited process if rate levels are within a predetermined range
    • competitive: file-and-use, use-and-file; under file-and-use, rates are filed deemed approved after a certain period of time; under use-and-file, insurers files rates but may begin using them immediately
  4. Forms of rate regulation throughout Canada after competitive model of the late 80s:
    • ON: prior approval with respond-to-market process for Section 410, file-and-use for 413
    • AB and Atlantic: maintain variations on the file-and-use system
    • BC, MA, SK: don't regulate rates for competitively delivered optional auto coverage
    • QC: maintains use-and-file
  5. Effects of rate regulation
    • strict price regulation of insurance does not lead to lower insurance prices, on average 
    • effect on rates from prior-approval varies over time
    • ON has low correlation between average premium and average claim cost
  6. Delays in the rate approval process under prior-approval regulation:
    • weakens the link between expected claims costs and premiums because of:
    • normal process of regulators working through rate filings
    • regulatory build-up: insurers hold off filing smaller, more frequent, rate increases in favour of larger rate increases that justify the costs of assembling the detailed filing
  7. The Empirical Approach
    • unexplained growth in auto premiums is growth not predicted by growth in claims costs, accident frequency or other variables expected to contribute to the cost of insurance
    • regress average premium on a set of explanatory variables
    • regress volatility on a 2nd set of variables incl. regulation, Herfindahl (competition), CPI
  8. Results from empirical approach:
    • average costs (71%) of claims and accident frequency (7%) are the primary determinants
    • underwriting profit margin is significant and positive
    • regulation index is positive and significant → primary diff. in premium volatility between jurisdictions and over time, after product changes and input costs
    • lack of significance of Herfindahl index, suggesting that firm has limited action scope
  9. Analysis by coverage
    • claims, CPI and UW profit margins are all significant and positive
    • COLL: Herfindahl is not significant
    • AB: accident frequency is not significant
    • COMP: jurisdictional effects are significant
    • period effects are significant for COMP and AB but have opposite signs
  10. Premium volatility in Ontario
    • use residuals from empirical approach to compute unexplained volatility
    • started rising after introduction of prior-approval system
    • significantly higher than Alberta and Atlantic
  11. Premium volatility in Illinois and South Carolina
    • similarities between ON and IL: population, relative importance of key industry factors
    • ON and SC both repeatedly reformed auto insurance regulation since 1989, not IL
    • premium volatility in IL was relatively stable, but ON and SC had wide price swings
  12. South Carolina
    • following 1997 availability crisis, SC replaced prior-approval with competitive in 1999
    • residual market and its large subsidies are currently being phased out
    • more insurers are operating in the state (x2)
    • many insurers implemented more refined risk classification and pricing structures
    • SC’s ranking in terms of average premium expenditures has improved
  13. Illinois
    • only US jurisdiction not formally regulating auto insurance rates (since 1971)
    • one of the healthiest markets in the US with few affordability issues
    • average premium in IL consistently lower and experienced less volatility than US average
    • state residual market has consistently maintained a very small number of drivers (0.1%)
    • number of insurers is higher than national average, providing more choice to consumers
Card Set:
IBC Rate Regulation
2014-04-12 19:38:44
Auto Insurance
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