NAIC UPDATE
Regulators fail to work with Congress through NAIC
By Kevin Hennosy
The recent debate over the establishment of a federal backstop to stand behind the insurance industry for terrorism risk revives many of the same fears and dynamics that led to the formation of the Federal Reserve System.
In 1907, J.P. Morgan marched across the street from his office at Broad and Wall to the New York Stock Exchange with the single-minded purpose of buying stocks in the face of a market collapse. Morgan had played this role before in 1893.
In both cases, he brought an end to a ruinous financial panic, but in 1907 he had much more trouble. The economy had grown so large in the intervening years that even the venerable House of Morgan and its financial allies were not substantial enough to stem errant economic forces.
Until that time, bankers roundly opposed the formation of a U.S. central bank. The debate over the need for such a central bank had raged since the days of Hamilton and the first Bank of the United States. Andrew Jackson, supported by influential state-based bankers, killed the bank's second manifestation in 1837 (and promptly threw the country into a depression).
The Panic of 1907 changed the minds of many bankers who were opposed to a central bank. The panic forced them to look into an economic abyss. Morgan had played the role of "catcher in the rye" for a long time, but this time he almost missed.
Fear of what would happen next time gripped the banking industry and forced bankers to reassess policy positions. Ultimately bankers agreed to support the formation of the Federal Reserve System. The system would serve several practical purposes, but bankers supported its establishment as a "lender of last resort."
The Federal Reserve System was built as a federal backstop if we approached the edge of an economic abyss. To be sure, it placed restrictions on the movement of bankers, but bankers viewed that as a small price to pay for security.
The recent debate over the establishment of a federal backstop to stand behind the insurance industry for terrorism risk revives many of the same fears and dynamics that led to the formation of the Federal Reserve System. At post-September 11 meetings of the National Association of Insurance Commissioners (NAIC), the fear felt by company executives, and shared by some regulators, has been palpable.
The realization that losses will be measured in the tens of billions of dollars forces those who take part in policymaking circles to look into another economic abyss. What will happen next time?
Like everyone else, the NAIC has labored to regain its bearings after the tumult of September 11, 2001. The association breathed a sigh of relief when everyone from its Securities Valuation Office staff escaped the doomed 7 World Trade Center. But that relief was short-lived when the names of friends and colleagues from association meetings appeared on the rolls of the missing.
The association did not have much time to grieve. The public needed to be reassured about the financial strength of the insurance industry. The NAIC issued a series of clear and authoritative statements to the press and before congressional committees. At the same time, secret meetings were conducted to review companies and groups that held concentrated risks in the New York area.
Industry advocates and regulators alike welcomed the cancellation of the NAIC national meeting, scheduled to take place September 22-24, in Boston. As September turned to October the NAIC announced plans for a "Commissioners Summit" to discuss policy issues arising from the attack and the risk of future terrorism. On October 22-24, the summit convened in Washington, D.C., and was dedicated to the memory of former New York Insurance Superintendent Neil Levin. Levin perished in the World Trade Center while fulfilling his duties as chair of the Port Authority of New York and New Jersey.
The summit was launched with a shaky start. NAIC observers and regular attendees questioned the selection of Washington, D.C. as a meeting location at a time when there were significant security concerns. The summit agenda received criticism for not being action oriented. The agenda consisted of a series of panel presentations that afforded a platform for various interests to explain policy proposals. Many industry observers grumbled privately that the format placed the NAIC in a passive mode when times demanded action.
Perhaps the most deleterious effect of the summit was that, from the time of its announcement, the NAIC's policy and planning activities seemed to enter suspended animation. Where the association was active in the days and weeks following the attack, after the summit was announced, statements and proposals ceased. A "wait for the summit" shroud fell upon the NAIC policy development mechanisms.
The same was not true of other actors in the insurance public policy circles. In late September and early October, factions of the insurance industry began putting forward proposals for a federal guarantee of catastrophic losses. Eventually these proposals were reduced to focus on losses arising from terrorist actions.
Impetus for a "federal backstop" grew as reinsurance companies began telling insurers of the industry's intention to exclude terrorism risk from reinsurance coverage beginning January 1, 2002. This exclusion might present a serious drag on economic conditions if the lack of coverage impedes lenders from funding construction. The resulting lack of jobs and contracts would seriously constrict purchasing power that is necessary to return the United States to economic growth.
Several proposals were announced in early October. These proposals ranged from federal reimbursement of terrorism-generated claims to federally authorized insurance pooling arrangement. One group that did not present a proposal was the NAIC, which sat quietly and waited for its summit.
On October 17, after several weeks of silence, the association released a 19-point set of principles for federal legislation, but no proposal of its own, thus begging the question: If the NAIC knows what the Congress should include in legislation, why has the association not drafted a legislative proposal?
Instead of taking action as it had during most times of crisis over the past 100 years, the NAIC sat on the sidelines fiercely guarding the water-bucket while others took the field. This was not the old NAIC that saved the brokered McCarran-Ferguson, built the state-based guaranty fund system or initiated the Solvency Policing Agenda in times of crisis.
When the Commissioners Summit convened in Washington, the mood of the industry attendees was sour and remained so throughout the two-and-half-day program. The assembled insurance regulators heard proposals from insurance executives, a consumer advocate, Congressional staff and members of Congress.
Most of the presentations were painfully predictable: CEOs asking for public funds with no strings attached, but please, do not call it a bail-out; treasury staff proposing infusions of public money without the least bit of consideration of spreading the risk.
Senator Bill Nelson (D-FL) delivered a stump speech that made no attempt to speak to the level of expertise assembled in the room. Senator Nelson's address to the assembled insurance regulators and industry leaders could just as easily have been delivered to any Florida Rotary.
It was not until the last morning of the Summit that two speakers provided a practical discussion of policy issues. Senator Ben Nelson (D-NE) and Representative Earl Pomeroy (D-ND) addressed the NAIC and urged the association to take an active role in developing a federal response to terrorism-generated financial loss.
Both federal officials had served as insurance commissioners and NAIC members earlier in their public careers. Nelson also had served as NAIC executive vice president. Pomeroy was elected president of the NAIC during his state service.
Nelson addressed several "broad themes." He urged the NAIC to support federal legislation but to work for a plan that contains "limited federal involvement." Nelson seemed to favor the creation of an insurance pooling mechanism that would require a limited preemption of antitrust law and be subject to standard rules for credit for reinsurance and rates. From Nelson's view a pooling arrangement should be state-chartered but federally authorized.
He stressed that a federal response should assume a "just in case" or contingent approach--and not assume federal participation. Unlike most speakers at the summit, Nelson said that if the industry receives public funds those funds should be repaid to the public treasury, although he did suggest a subsidy to the industry in the form of tax-deferred reserves.
Finally Nelson challenged policymakers and private executives to consider the new types of risk that terrorism might present. In particular he cited bio-terrorism and the risk it brings to life and health insurers.
Pomeroy told the NAIC that the association should provide "bold leadership." Pomeroy agreed with Nelson that the federal government had a role in meeting the challenges of terrorist risk. "Of necessity there is a federal role here," Pomeroy told the state officials.
Pomeroy urged the NAIC to exert regulatory leadership through technical expertise and advised state officials not to offer policy alternatives. Instead of policy initiatives, Pomeroy recommended that the NAIC use the Treasury proposal as a base and improve upon it. He told the NAIC to explain the "capacity meltdown" faced by insurers and policyholders.
In particular, Pomeroy advised the NAIC to adopt a resolution that explained the danger of letting January 1 come and go without a "federal backstop" to shore up reinsurance protection. On that date, many reinsurance contracts come due and industry leaders expect that new contracts will exclude terrorism risk unless a federal financial backstop exists.
Senator Nelson and Congressman Pomeroy called upon the NAIC to take an active role in shaping the policy debate, even if Pomeroy does not believe that the association should put forward policy proposals. This said, many insurance executives question whether the NAIC will be capable of playing its traditional and influential role.
From company and producer perspectives, industry advocates privately question the strength of the NAIC presence in Washington, but refuse to make similar statements for the record. Rough Notes has confirmed with state regulatory and industry sources that a group of industry advocates have met over the past year to critique the NAIC Washington operations.
Criticism aside, the NAIC staff, both in Washington and Kansas City, worked to shape Congressional proposals for a federal reinsurance backstop. Publicly, the NAIC touted its 19-point set of principles for backstop legislation, but privately legislative language was circulated to Congressional offices.
Still, the NAIC membership cannot seem to find its stride, let alone assume the swagger of a player in Washington. Take, for example, the final hours of the Commissioners Summit in October.
After Senator Nelson and Congressman Pomeroy left the meeting, the NAIC conducted an Executive and Plenary Session. For a brief time, the atmosphere was reminiscent of the NAIC's heyday during the solvency crisis of the late '80s and early '90s.
Two of the NAIC's most experienced members offered to the Executive Committee a resolution that fulfilled Congressman Pomeroy's recommendation concerning the need for federal action in response to reinsurance and terrorism risk. Florida Insurance Commissioner
Tom Gallagher brought the resolution, and North Carolina Insurance Commissioner Jim Long offered a friendly amendment that addressed it to the White House as well as Congress.
Then the wheels came off. Influenced and led by District of Columbia Superintendent of Insurance Larry Murel's dissent, NAIC members began questioning the tone of the resolution or the need for a statement at all. The two top officers of the NAIC had wandered off and were not present to provide leadership.
At one point in the Executive Committee travesty, a long-time attendee of NAIC meetings silently mouthed, "Not their finest hour." He was right.
The Executive Committee tabled the resolution, but Commissioner Gallagher raised it again during the Plenary Session, consisting of the NAIC membership. The determination shown by Commissioner Gallagher, along with some quick word processing skill, seemed to shock the membership into giving approval.
As the New Year begins, the NAIC needs to string together a few "finest hours" and reassume its traditional role in insurance public policy formation. The association has no authority to enforce its recommendations, but the strength of its recommendations in the past has earned a place for NAIC at the policymaking table.
But NAIC is not alone. Industry leaders, consumer advocates and other stakeholders in the policy process must challenge their tried-and-true assumptions. A federal reinsurer of last resort may be just as necessary as a federal lender of last resort. *
The author
Kevin Hennosy, an insurance writer specializing in the history and politics of insurance regulation, covers the proceedings of the NAIC (National Association of Insurance Commiss-ioners) for Rough Notes readers. Hennosy began his career with Nationwide Insurance Companies and then served as public affairs manager for the NAIC. He has written extensively on insurance regulation and testified before the NAIC as a consumer advocate. He is currently writing a history of insurance and its regulation in the United States.