Timothy T. Taylor Home Page
Journal of Economic Perspectives
Articles and Writing
Economics Textbook
Classroom Teaching
The Teaching Company
High School Pedagogy

Articles and Writing

May 23, 1989
"PROP. 103 Creates an Insurance Czar, but What Else?"
San Jose Mercury News
By Timothy Taylor and Phil Yost
<< Back to 1989 menu

WANT to know whether you're going to get an insurance rate rollback or not? One good clue will be whether Roxani Gillespie, the appointed insurance commissioner, decides to run for the job in 1990.

Proposition 103, in which the voters demanded a rate rebate from the insurance companies, also made insurance commissioner an elective post. If Gillespie announces she'll run, odds of a rollback are good. What incumbent insurance commissioner would want to run on a record of having denied the rate rollback the voters thought they were getting when they passed 103 in November?

Gillespie is the one to watch in any event. Proposition 103 and the state Supreme Court ruling that upheld and modified it, have combined to create an insurance czar in California.

The cliche "the ball is in her court" is too weak for the descriptive job. The whole game -- what the rules are and who can play -- is in her court.

And the game could be a lot different than the one indignant insurance consumers thought they were arranging when they passed Proposition 103 and mandated a 20 percent rollback in rates for auto, homeowners and liability insurance.

The effect of 103, as modified by the state Supreme Court, will be a lot different than consumers are expecting.

It's OK to regulate insurance rates dramatically, the court said, but not to threaten companies with insolvency before they can raise them. "A fair and reasonable return" is the standard set by the court. And who will decide what that is? The insurance commissioner.

For that standard to mean anything, it must mean "a fair and reasonable return for an efficient company." Otherwise insurance companies will in effect be filing expense reports and, once the documentation is checked, getting a permit to charge what they've been charging, plus a little profit.

Who's going to set the standards for efficiency? The insurance commissioner. Should "fair and reasonable return" be applied to each insurance product -- State Farm's auto insurance, for example -- or to State Farm as a whole?

That's Gillespie's call too, and she's already made it. Lines of insurance will be treated individually.

And that raises the distinct possibility that unless politics overwhelms economics, rates won't go down at all.

The nearby chart provides a balance sheet of the auto insurance industry in California for 1982 and 1987. (Statistics for 1988 won't be available until this fall, unless the Department of Insurance gears up and figures them out.)

The top of the chart displays the one fact everyone agrees on: Total auto insurance premiums have risen very quickly, doubling over those five years. The disagreement is over whether the increase is "fair."

Insurance companies are going to point to balance sheets like these to argue that their expenses have risen almost exactly as fast as their premiums. In fact, the "incurred losses" -- that is, money paid out in claims -- increased even faster than total premiums collected.

These figures are about as easy to refute as arithmetic. But some of the strongest supporters of Proposition 103 are convinced in their populist hearts that the insurance companies are making spectacular profits, and they aren't likely to alter that opinion just because their facts are wrong.

They will try to challenge the truthfulness of the numbers. The numbers in this chart are collected by the Insurance Information Institute, but they originate in figures that the insurance companies submit to the state and from some private companies, like A.M. Best.

These statistics, like all statistics, are certainly debatable. One problem is that companies don't separate their auto insurance business from their other lines of insurance, so some categories (like investment income) are really only estimates of what part of the total insurance business should be apportioned to the auto insurance segment.

But the imperfections in these numbers are not going to be large enough to rescue the 20 percent to 40 percent reductions in premiums that Proposition 103 promised. Those promises were never even in the same zip code as reality.

In a line by line evaluation, there's a possibility that rates actually could go up, especially since 103's limitations on territorial rating are going to spread the urban costs to rural areas.

The Western Insurance Information Service compared premiums on identical policies for several areas of California. For an adult man, the coverage could be purchased for $537 in Redding, $697 in San Diego, $862 in Monrovia in Los Angeles County, and $1,817 in Hollywood. For a 19-year-old man, the premium in Redding was $1,812 and in Hollywood an incredible $5,447.

Given those rates, it's easy to understand why the urban counties approved 103 and the rural counties didn't. Although Santa Clara County approved 103 by a 51-49 margin, rates here are nowhere near those in Los Angeles County. Even if total premiums statewide are cut, will Santa Clara County see a cut if territorial ratings are diminished?

Harvey Rosenfield, who heads Voter Revolt, the group that put 103 on the ballot, is confident that when 103's regulations opening the insurance companies' book take effect this dilemma will vanish. The waste and inefficiency that will be discovered and eliminated, he believes, will allow rates to drop regardless of what the insurance companies are saying now about their expenses. While Rosenfield is obviously pretty good at enunciating the prejudices of Californians, we have considerably less confidence in his grasp of the financial dynamics of the insurance industry. A word to the wise: Don't bother watching the mailbox for your insurance rebate. If one eventually arrives, it won't go far toward paying the rent.

This table shows the sources of funds for the California automobile insurance industry in 1982 and 1987, and how those funds were spent. All figures are in millions of dollars.

Receipts 1987


Premiums $9,260 $4,639
Investment 986 277
Payments 1987 1982
Incurred losses 7,103 3,222
Loss adjustment expenses 1,010 482
General expenses 353 221
Selling expenses 1,407 775
Dividends to policyholders 103 131
Federal taxes 119 67
Other taxes, licenses, etc. 306 60

Source: Insurance Information Institute

<< Back to 1989 menu