Not Just a Down Cycle; Why The Next Years Will Really Hurt

Saturday, May 19, 2007 | 0

By David DePaolo

If there is one thing that is consistent in workers' compensation, it is the cyclical nature of the industry, and occurs roughly every 10 years (Insurance Information Institute). Rates go up, rates goes down. Claims go up, claims go down. Employment goes up, employment goes down. Medical costs go up ... okay, one thing isn't cyclical.

For those of us who work in the industry, be you attorney, physician, claims examiner, underwriter, executive, pull up your boot straps and make alternative income plans, because you are about to lose your job or in the least have your income severely constricted.

The elements are all in place, and it's not just reform working against you.

Let's go through each of these elements in a little detail so you better understand the big picture.

Reform

Florida started the national reform movement back in 2003 with SB 50a. Other states soon followed with California's historic 2004 reform, SB 899, taking flagship status. Since then workers' compensation reform has swept the nation heralding in vast savings that were unimaginable just 5 years ago and acting as a precursor to the best combined ratio in 2006 since 1949, and the first industry underwriting profit since 1978.

As with any business, savings are primarily secured through personnel reduction. In the case of workers' compensation, the first personnel to be reduced out of the system are injured workers. With benefits tightened, and medical more controlled, there are fewer reasons for injured workers to stay in the system, or to even file a claim in the first place.

Where are all these injured workers going? Evidence presented by Robert Hartwig, Ph.D. and CEO of the Insurance Information Institute at the NCCI Annual Issues Symposium indicated that the general health care system was taking up the slack.

Once the injured workers leave the system, the next tier falls rapidly -- attorneys representing them. I don't have specific numbers, but the anecdotal evidence indicates that attorneys representing injured workers bail from the practice at the rate of about one per week. As the pool of prospects shrink, and the amount of benefits available from which to get paid tightens, injured worker attorneys have a tougher time with competition and keeping the lights on, so they move on and stop filing litigation.

Next go the defense attorneys. With fewer injured worker attorneys filing litigated claims, there is less need for attorneys to assist with carrier and employer defense. Case loads shrink, and when case loads shrink consolidation occurs which means less work for attorneys paid by the hour.

Docs have fled like they were trapped in a car fire. In 2005 there were over 250 physicians sitting for the California QME exam. In 2006 that number contracted to just over 140. In the April 2007 exam, there were 50 applicants. While the insurance industry statistics show that there is no problem with "access" to medical care, it is irrefutable that there are fewer doctors engaged in occupational medicine, and of those that are, they are getting paid less (one of the primary targets of reform -- reduce medical costs). Fewer doctors mean fewer nurses and fewer diagnostic service providers.

Vocational rehabilitation was eliminated in the California reform, and is a target in most other states too in favor of the trend du jour -- "return to work." RTW is a nice euphemism for mandating employers to take back their injured workers, and for injured workers to accept that work, in lieu of professional intervention.

Claims examiners, underwriters, brokers and agents (and the managers over each of these groups) should not be so smug either -- while working down the legacy and long tail claims of yesteryear, the fact that there are fewer claims now, and of lighter financial consequence, means fewer positions for you folk too. Brokers and agents are not only having their commission schedules challenged by the carriers and attorneys general of various states (see news from the last few years concerning contingent commissions) but lower rates mean lower commissions.

Okay -- so the industry is contracting -- that's nothing new and as stated before is just part of the cycle. No big deal, right? Wrong -- let's look at what else is going on and you will see why I'm scared.

Housing

In case you haven't noticed, houses aren't selling. Not even at deep discounts. Not a day goes by where there isn't a story on the sad state of the real estate market.

What happens when the real estate market goes south? Loss of jobs -- lots of them. In an economy like California, where housing and related industries (furniture, financing, construction, etc.) by some estimates comprises almost 20% of the economy, the effects can be devastating.

The lending market is collapsing, housing starts have stopped, furniture stores are having fire sales, real estate brokers and agents aren't selling, and the inventory of unsold, overburdened real estate is the highest it has been since the last real estate collapse in 1996. Many people in the last real estate boom used their houses like ATM machines, and are now a day late, a dollar short, and will soon be without home.

Inflation

On top of an upside down housing market, the villain of the Federal Reserve, inflation, is here big time. The signs are duly noted by any consumer despite what the official federal statistics (which are 6 months old and never are predictive of a trend, only reactive to a trend) and their interpreters say.

Fuel is nearly 50% more than it was last year. Food is 25% more. Nearly every basic living commodity now costs substantially more than it did in the last quarter of 2006. While the average weekly wage has increased, it has not kept pace with the average cost of living. But for the alchemy of finance, the average American's purchasing power has declined remarkably over the course of the last five years.

Competition

One theme that stood out at the NCCI ASI was that competition in the general P&C industry, and workers' compensation in particular, is heating up. Several indicators were noted including increased advertising, increased insurance applications and decreased pricing.

Will the industry be able to remain focused and disciplined? If past results are an indication, then the answer is "no."

2007 is anticipated not to be too bad, but the prognosticators aren't too excited about 2008.

In addition, mid term elections presage a political trend -- return to Democratic rule and more liberal policies. Savings experienced in the reform era will erode and rates will increase. The sacrificial lambs of reform will return to power and the pendulum of vengeful re-reformation will swing swift, without discrimination, and far to the left. Likewise, following the shock of every reform are those of greater deviant intellect, and perhaps criminal intent, who have adjusted to the restrictions and opened the loopholes of abusive exploitation. They study the issues for a couple of years, then engineer new methods of extracting gold from iron ore.

Whatever savings were achieved will be replaced by rate inflation, carrier and employer expense and a return to another cycle.

Conclusion

III identified 2006 as the top of the cyclical peak for carrier profitability. That means we're on the downslope of the trough.

Batten down the hatches, head for the storm basin, and tuck cash under the mattress. We're in for rough years ahead.

David J. DePaolo is the president and CEO of WorkCompCentral.

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The views and opinions expressed by the author are not necessarily those of workcompcentral.com, its editors or management.