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National Trends in Workers' Compensation - 3

Sunday, November 20, 2005 | 0

By David J. DePaolo

The following article is the third in a series on national trends in workers' compensation. Part 1 reviewed the "The Social Contract," and Part 2 discussed the Unicover debacle. This third part reviews deregulation of the market in California.

The basis of this article series is a presentation that was given to the California Association of Rehabilitation and Reemployment Professionals at their annual conference in San Diego October 15, 2005. The presentation has also been adapted as a professional continuing education course at WorkCompSchool.com in a multi-media format including video, audio and supplementary reading materials, and has been approved for, or is pending approval for (depending on the accrediting agency) 2 hours of CE units.


While Unicover set about convincing some carriers that there was more money available to them for investment than there really was, deregulation of the huge market in California added to that illusion.

In the past California work comp rates, along with most of the country, were highly regulated. In California the bottom of the rate structure, a.k.a. the "floor", was regulated - in other words the Department of Insurance dicated the minimum that companies could charge. The purpose was to ensure solvency of the market because, the argument went, carriers could not be trusted to behave themselves in an unregulated, mandatory environment.

Under the minimum rate structure, premiums were kept in check by experience modification, a direct result of the service an account received from a carrier's claims department, safety consultants and broker oversight.

Before deregulation, CA had over 350 insurance companies writing work comp, most of which were small specialty carriers that did not have the financial wherewithal to price compete. Their competitive advantage was due to their small size, which allowed them to provide exemplary customer service in claims management. They competed on service and were successful in meeting the needs of the small employer market, which makes up the bulk of California economy.

This economic experiment was fueled by continued increases in workers' compensation rates in the early 1990s. An employer revolt had started over issues such as the abuse of psychiatric benefits by unscrupulous vendors, over-utilization, and allegations of rampant injured worker fraud. While new laws were passed that made it more difficult to obtain certain benefits the climate in Sacramento was ripe for free market proponents (of whom this author was one) to argue in favor of letting the market dictate rates.

The large national based carriers with multiple lines were the primary proponents of rate deregulation. At the time, CA was a $17 billion market with rapidly escalating premiums and rates but large multi-jurisdictional and multi-line carriers could not compete on the intimate service levels offered by the small carriers - much like a national bank has a difficult time competing with a local bank on pure service. Locals have a much greater ability to know their customer and consequently service their customer better.

The only way big carriers could get a grip on California, which was then, is now, and likely will be in the future, the swing state for workers' compensation as well as other economic activity, was to compete in a way small carriers simply couldn't - directly on price.

While some carriers embraced price competition, other carriers disdained it and saw their California books of business shrink. If a carrier had alternative lines, or if it had other markets, then it could diversify and survive. But, in the end, the small California-centric specialty carriers simply could not hang on to their customers and were forced to close shop.

Deregulation of the California market had national consequences because the carriers that deregulation favored had national and international books of business - i.e. their product lines were diversified so they could afford to continue some presence in California while savage price competition decimated carrier cash flow.

Deregulation led employers to the illusion that the consumer regained control over the pricing of the insurance product, as prices dropped at precipitous rates. The fallacy of deregulation, though, was that workers' compensation, save for Texas, is not a free market, but is compulsory. Deregulation had the effect of making workers' compensation insurance a commodity.

Commoditization involves a resource that is generally widely available and subject to futures trading - banking on whether that commodity will be more or less valuable in the future and then making financial bets accordingly - i.e. supply and demand.

The commodity in this case is money, or in insurance terms, "capital". At the time deregulation started taking effect, there was a huge supply of capital. Money was being taken off the reserve books due to Unicover. The stock market - as we will see in Part 4 - was producing large amounts of paper gains. So to the optimist, the mid 1990s was a workers' compensation financial wonderland.

To the pragmatist, commoditization of workers' compensation insurance was, and is, not possible because of the compulsory nature of the product - the demand is limited only by the gross total population of employers, whereas the supply, after deregulation, is not compulsory and is subject to radical constriction. This creates an imbalance and is not pure market economics.

What occurred then was a paradigm shift - as capital became constricted purchasing power of the employer market deteriorated, and pricing control shifted to the carriers that were still in business by 2000.

In Part 4 we will look at the stock market and other "funny money" schemes that occurred that exacerbated the work comp crisis.

Article be David DePaolo. This article series is an adaptation of a continuing education course that starts with the hypothesis that the reform movement in California was the product of a national workers' compensation crisis, and that California was not alone in its reform agenda. This course also takes the hypothesis that the workers' compensation crisis that spawned reform had less to do with medical costs and utilization, and more to do with the confluence of a dubious reinsurance scheme, stock market losses, and blatant high end financial cheating. This course is pending 2.5 hours of continuing education units from various administrative agencies, and has been approved for 3 hours of CLER, 2 of which are approved for Certification. This course is available as an on line multi-media presentation at WorkCompSchool.com.


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


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