August 5th, 2009

Modernizing the U.S. Insurance Regulatory Structure, Part III: Implications of Change

Posted at 8:00 AM ET

Financial Intelligence Team

Today, U.S. insurance regulatory reform has moved from debatable to actionable. Should the present proposals — whether HR 2609, the Treasury Department’s ideas, or new legislation yet to be grafted onto that already under review — be accepted and the changes enacted, the insurance industry could face a new way of managing business, oversight, and compliance.

Although the necessity of regulatory reform has been accepted to a certain degree - there will be, it seems, some form of change in the coming year — disagreement persists over the nature of that transformation. There are those opposed to changes that bring more control and power to the Federal Reserve Board. They argue that the Fed lacks the experience and intellectual capital to manage certain areas of which it looks to assume control, including direct supervision of large (re)insurance companies, determination of reserve amounts, and, potentially, issuing insurance charters and licenses. Those who have banded together and lobbied against a federal charter, question whether a federal system is really better than an admittedly flawed state-based program. Meanwhile, others protest what they see as weak propositions offering too little change.

Even if an optional federal charter bill is not passed — or incorporated into the eventual language of the financial services regulation bill — some worry that the changes being considered may not be in the best interest of consumers or businesses. It behooves the prudent insurer to be aware of how the proposals on the table today may affect its business going forward.

The focus on banking institutions has held much of the attention of mainstream media following the release of the White House financial services regulatory reform report. The specific implications for the insurance industry, however, are considerable.

Dependent on Congressional action, the most significant adjustment specifically recommended would be federal control of regulation over any “systemically important” financial institutions, including insurers. That could force the largest insurance companies to carry greater amounts of capital to cover possible losses, a situation that some organizations claim could potentially lower their return on equity (ROE) and thus become less competitive against smaller companies with lower capital requirements.

An oversight committee, led by the Treasury Secretary, would also have the ability to advise the Federal Reserve Board on regulatory gaps and issues that do not fall within the traditional regulatory framework, potentially creating new systems of compliance for some institutions, including insurance holding companies.

The White House proposal outlines six principles by which newly formed Treasury Department groups, including the Consumer Financial Protection Agency and the Office of National Insurance, would regulate the insurance industry:

  1. Effective systemic risk regulation
  2. Strong capital standards and an appropriate match between capital allocation and liability
  3. Meaningful and consistent consumer protection
  4. Increased national uniformity
  5. Improved and broadened regulation of insurance companies and affiliates on a consolidated basis, including those outside the realm of the traditional business
  6. International coordination

Some of these points reiterate existing priorities, but certain changes may influence insurance business. For example, coordinated international efforts expedited by a single federal regulator could lead to greater competition and expanded business opportunities for U.S. insurance companies abroad.

The insurance regulation bills currently making their way through Congress follow many of the same points made by the Treasury Department. These bills, as they’re developed further, will likely serve as the vehicles by which the Treasury Department suggestions are enacted. The big question, however, is whether the federal optional charter proposal, HR 1880, which has the tacit approval of the White House, will pass — a feat similar bills have failed to accomplish in past sessions. Should it be incorporated into an overall regulatory reform act — to the delight of some and dismay of others - the most sweeping changes to insurance regulation will be enacted, affecting nearly every participant in the marketplace.

As the debate unfolds, and further details of Congressional action are revealed, we will explore the potential implications. Which leaves the question: How likely is insurance regulation reform to be passed? Tomorrow, we’ll examine the answer.

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Statements concerning, tax, accounting, legal or regulatory matters should be understood to be general observations based solely on our experience as reinsurance brokers and risk consultants, and may not be relied upon as tax, accounting, legal or regulatory advice which we are not authorized to provide. To the extent that you discuss such statements with your clients, be sure to advise your clients that all such matters should be reviewed with their own qualified advisors in these areas.

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