Insurance industry - Industry Overview

LIFE INSURANCE

Premium receipts of life insurance companies increased an estimated 7.4 percent in 1991, to $283.5 billion. Strong annuity sales and expanding premiums for health insurance accounted for the growth. Life insurance in force - the total face value of all policies - grew to more than $10 trillion. For related topics, see chapters 43 (Health and Medical Services) and 46 (Commercial Banking).

In 1991, as in recent years, the industry continued to consolidate as mergers and acquisitions reduced the number of companies. Life insurance companies also found ways to reduce costs and improve their capital positions by shedding marginal businesses and streamlining operations. Employment decreased slightly after falling sharply since 1987. Still, many companies sought to reduce selling and administrative expenses. Many agents had to accept lower commissions and increase their performance to keep their business going.

To reinforce their capital position, many life insurance companies tightened underwriting standards by selecting only quality risks and accepting decreased sales. Companies with stronger capital positions picked up the slack and expanded their sales in 1990 and 1991. Much of the increase in sales of the stronger companies grew out of their acquisition of the annuity businesses of weaker companies, which reportedly sold off significant chunks of this sector in 1990 and 1991.

In 1991, consumers were paying increased attention to the quality of insurance companies, that is, their ability to pay future claims. In the face of a recession and a growing number of insolvencies, policyholders and annuitants were more selective about insurance products. Professional benefits managers and pension managers became more concerned with the financial stability of insurers and chose companies on the basis of financial strength in addition to price.

Profits of life insurers eroded from a combination of lower investment returns and changes in tax law. An increase in foreign investment in the U.S. insurance industry put additional competitive pressure on domestic companies. The recession of 1990-91 and increased competition in the industry threatened the financial well-being of many companies. Many others, however, remain strong. Despite problem companies, slower growth, and reduced profits, the industry as a whole remained financially stable.

The industry consists of companies that engage in underwriting life insurance and annuities. Life insurance companies also engage significantly in underwriting accident and health insurance, and in managing pension and trust funds. These companies are classified mostly in the Standard Industrial Classification (SIC) 631 (Life insurance) and SIC 6321 (Accident and Health Insurance). Stock companies, owned by shareholders, and mutual companies, owned by policyholders, are the two main types of insurance providers.

Income of Life Insurance Companies

Life insurance companies get their premium income from three major product areas: life insurance, annuities, and health insurance. After a slight increase in 1990, premium receipts for life insurance products were flat in 1991. Only sales of term policies improved slightly, according to an industry survey. Sales of universal and traditional whole life policies remained steady, while sales of variable life products decreased significantly. Receipts for single-premium policies increased a small amount in 1991. This was in sharp contrast with downturns of recent years after single-premium policies lost some of their tax benefits. About one-half of new life insurance purchases are group policies.

As in previous years, annuity income grew strongly in 1990. Income from annuities made up 49 percent of all premium receipts of life insurers. About 60 percent of annuity income comes from group annuities and other group pension products. Sales of individual annuities also continued to increase strongly, in large measure because of their popularity as tax-deferred retirement savings vehicles.

Health insurance premiums grew in 1990, but less than in recent years. Life insurers are major providers of health insurance. Other providers are Blue Cross and Blue Shield plans, property and casualty insurers, self-funded employer plans, and state and Federal Government programs. Group health, typically provided through employer plans, accounted for more than three-fourths of life insurers' health premiums. A trend among many firms to self-insure and to use life insurance companies only to administer their group health programs has diminished the growth of health premiums for life insurers.

Life Insurance Company Assets

The assets of life insurance companies consist mainly of financial instruments such as stocks and bonds. That makes life insurance companies major institutional investors. Other assets include mortgages and real estate. These assets back insurance and annuity reserves required to pay expected claims and provide the necessary surplus and capital to meet solvency standards.

Assets of life insurers increased an estimated 7 percent in 1991, to more than $1.5 trillion. The asset mix continued to shift toward corporate bonds in 1990, making up 41.4 percent of the total, compared with 36.5 percent in 1986. All other classes declined over the same period. Indications were that this trend continued in 1991 (Table 2).

Table 2: Life Insurance Company Assets Year End
                   1986 and 1990

                               1986                 1990

                        Billions   Percent   Billions   Percent
                           of        of            of     of
Type of Asset           dollars      total    dollars     total

Total                   937.6        100.0    1,408.2     100.0
Corporate securities    432.9         46.2      711.1      50.5
  Bonds                 342.0         36.5      582.6      41.4
  Stocks                 90.9          9.7      128.5       9.1
Mortgages               193.8          20.6     270.1      19.2
Policy loans              54.1          5.8      62.6       4.4
Government securities     144.6        15.4      210.8     15.0
Real estate              31.6           3.4       43.4      3.1
Miscellaneous            80.6           8.6      110.2      7.8
SOURCE: American Council of Life insurance.

Key Developments

The solvency of life insurers was the dominant industry issue in 1991. Volatile interest rates and the growing popularity of mutual funds in the early 1980's compelled life insurance companies to develop competitive products, such as universal life. variable life, and variable annuities. But these products, which earn market rates of return, also make insurers' liabilities less predictable and riskier. Policyholders are more likely to surrender their policies when interest rates fall and they can earn higher returns elsewhere. Annuities, the biggest source of revenue growth for insurers, are typically shorter term than life products and expose insurers to more liquidity risks. In this new environment, some companies are having problems adjusting to and managing a volatile market.

Regulators seized several large life insurance companies in 1991 that were under severe financial pressure. High-risk investment practices coupled with a downturn in the economy forced some companies into insolvency.

Executive Life of California had invested a majority of its assets (66 percent) in high-risk junk bonds. Eventually, the company's assets deteriorated until they were insufficient to cover liabilities. Regulators in California seized the insolvent company early in 1991. That was just after California established a guaranty fund to protect policyholders and annuitants. Subsequently, regulators found both domestic and foreign investors interested in acquiring all or part of the company. State guaranty funds likely will cover any shortfalls to policyholders.

Later in the year, regulators in New Jersey took over Mutual Benefit Life, the 18th largest life insurer in the United States, just before a run by policyholders could deplete the company's assets. This run on a life insurance company surprised many industry analysts. The state acted after revelations that Mutual Benefit had overinvested in certain non-performing real estate projects. Although regulators took over Mutual Benefit before it could become insolvent, the event raised concerns about the possibility of a similar run on another large U.S. life insurer that could render it insolvent.

These and other earlier instances of insurers encountering financial trouble served as a backdrop for the debate on the state regulatory system's ability to protect the public against insolvencies. In Congress, the debate has focused on whether a larger Federal role in insurance regulation is warranted. Proponents of Federal regulation claim that state regulation is incapable of detecting and preventing insolvencies. Critics of the current system also claim that state insurance guaranty funds are inadequate to reimburse claimants for failed insurers. Late in 1991, legislation had been introduced in the Senate calling for increased Federal oversight of insurance companies and a national guaranty fund. Similar legislation may be introduced in the House.

Congress has also expressed concern about pensions subject to the Employee Retirement Income Security Act, a 1974 law that sets guidelines for pensions and guarantees payment of nonforfeitable pension benefits in covered private sector defined benefit plans. One idea put forth called for direct Federal regulation of insurance companies that market the plans.

Led by the state regulators, opponents of Federal regulation cite the historically favorable performance of state regulation in protecting policyholders and creating an efficient market. They buttress their case by comparing state insurance regulation with the Federal Government's inability to prevent problems in banking and in the S&L industry. Meantime, the National Association of Insurance Commissioners (NAIC) is pushing the states to implement tougher financial standards and improve their screening and surveillance of insurers to help prevent future insolvencies. In an attempt to ward off Federal intervention, many states are passing legislation to achieve the NAIC goals.

The life insurance industry would be further affected - and competition would intensify - if banks and other financial institutions were permitted to enter the industry. Current banking law restricts banks and bank holding companies to banking and bank-related activities. The Administration's plan to modernize the financial services industry calls for restructuring banking and securities regulation and replenishing bank deposit insurance pools. In addition, banks, securities firms, and insurance companies would be allowed to enter each other's businesses through special financial services holding companies.

The life insurance industry and its agents oppose the entry of banks into the insurance business. They argue that the current restrictions are necessary to protect consumers and provide stability in the market. Proponents of financial modernization point to the gains in economic efficiency that they claim would result from the new competition. As of this writing, it was uncertain whether Congress would expand the powers of banks in the current session.

In a related development, a Federal appeals court upheld a Delaware law allowing state-chartered banks, even those owned by bank holding companies, to sell and underwrite insurance in any state. The Federal Reserve Board had ruled against this in 1990. Pending legislation in Congress would close this "Delaware loophole" by preventing state-chartered banks from selling insurance in any state where they do not have the state's permission to do so.

A change in U.S. tax law in late 1990 adversely hit life insurers. Under the new law, insurers must depreciate costs associated with the sale of new policies over the term of the policies. Previously, insurers could deduct such costs from income in the year the costs were incurred. The change will increase the amount of taxes life insurance companies pay by an estimated $8 billion over the first 5 years the law is in effect.

INTERNATIONAL COMPETITIVENESS

Advances in information and communications have made it possible for even the smallest investor to purchase financial instruments from many foreign countries. This new environment makes it possible for life insurance companies to expand globally. Moreover, the rise in personal incomes and saving in many areas of the world and the need to protect this new-found wealth provides many new opportunities for life insurers. Companies from Europe, Asia, and the United States have expanded internationally through branches, subsidiaries, joint ventures, and reinsurance. In addition to marketing life, health, and annuity products, insurers are providing claims processing and investment, actuarial, and information services abroad.

Japan has the largest life insurance market in the world (excluding health insurance), with premiums of nearly $200 billion in 1989 (Table 3). The United States had the second largest market, followed by the United Kingdom and France. The fastest growing life insurance markets are in the European Community (EC) and Asia.

Table 3: World Insurance Markets 1989 Premiums
               (in billions of dollars)

        Item               Total(2)      Life      Nonlife(3)

Total, all countries(1)     1,210.0     633.7           576.3
  United States               453.2     188.3           264.9
  Canada                       29.3      14.3            15.0
  Europe                      375.2     182.4           192.8
    West Germany               76.5      29.0            47.5
    United Kingdom             76.4      48.7            27.8
    France                     63.3      33.7            29.5
    Italy                      23.4       5.8            17.6
    Switzerland                15.8       9.0             6.8

    Netherlands                19.0       9.0            10.0
  Asia                        310.8     228.3            82.5
    Japan                     264.7     199.1            65.6
    South Korea                21.3      17.5             3.9
    Taiwan                      6.1       4.3             1.9
  Latin America                 7.1       1.7             5.4
  Africa                       13.2       8.0             5.2
  Oceania(4)                   21.2      10.7            10.5
(1) Includes centrally planned economies.
(2) Numbers may not add due to rounding.
(3) Nonlife business includes accident and health insurance as well as property/
casualty
insurance.
(4) Includes Australia, New Zealand, and South Pacific Islands.
SOURCE: Sigma, Vol. 2, 1991, Swiss Reinsurance Company.

U.S. life insurers have become more active in foreign markets in recent years. Table 4 shows that U.S.-owned life insurers in foreign countries had sales (premium income plus investment income plus other income) of more than $9 billion in 1988, the latest year for which data are available. Canada, Europe, and Japan are key markets (Table 5). U.S. insurers also have moved strongly into South Korea, Taiwan, and other Asian markets.

Table 4: Foreign Insurance Affiliates of U.S.
               Companies(1)
          (in billions of dollars except as noted)

  Item                            1983   1985   1987   1988(2)

All insurance:
   Number of affiliates            621    617     631      641
   Total assets                   46.9   56.4    80.4     86.0
   Sales(3)                       16.3   17.9    27.0     27.8

   Life insurance:
      Number of affiliates          88     87       86      89
      Total assets                19.7   21.3     28.6    30.5
      Sales(3)                     5.9    5.6      7.8     9.0

   Accident & health insurance:
     Number of affiliates           34     34       39      39
     Total assets                  2.2    3.0      6.3     7.3
     Sales(3)                      0.9    1.0      2.1     2.6

   Other insurance(4):
     Number of affiliates           499    496     506      513
     Total assets                  25.1   32.0    45.5     48.2
     Sales(3)                       9.5   11.2    17.0     16.2
Note: Detail may not add to total due to rounding.
(1) Affiliates include entities at least 10 percent owned by a nonbank U.S. pers
on.
(2) Preliminary estimates.
(3) Sales equals premium income plus investment income plus other income.
(4) Includes nonlife insurers, agencies, brokerage firms and other insurance rel
ated companies.
SOURCE: U.S. Direct Investment Abroad, various issues; U.S. Department of Commer
ce, Bureau
of Economic Analysis.

[TABULAR DATA OMITTED]

Foreign companies have expanded their insurance activities in the United States over the past few years mainly through acquisitions. Foreign-owned life insurance companies had an estimated 6.1 percent of total premium receipts in 1989. These had about $22.6 billion in U.S. sales in 1989, up from $16.8 billion in 1987 (Table 6). Foreign-owned companies controlled about $76.5 billion, or 5.9 percent of life insurance assets in 1989.

Table 6: Foreign-owned Insurers(1) in the United
                    States
          (in billions of dollars except as noted)

          Item            1983      1985      1987      1989(2)

All insurance:
  Number of companies        -         -      1,071       1,110
  Total assets             53.1     67.2      110.1       171.1
  Sales(3)                 21.9     23.9       39.1        55.4
  Life insurance:
    Number of companies       -        -        233         241
    Total assets           23.4     33.8       53.3        76.5
    Sales(3)                8.8     10.5       16.8        22.6
  Other insurance(4):
    Number of companies       -        -        838         869
    Total assets           29.8     33.4       56.8        94.6
    Sales(3)               13.0     13.5       22.3        32.8
Note:detail may not equal total due to rounding.
(1) Companies are affiliates which are 10 percent or more owned by any one forei
gn person. Includes
branches and subsidiaries.
(2) Preliminary estimates.
(3) Sales equals premium income plus investment income plus other income.
(4) Includes nonlife insurers, agencies, brokerage firms, and other insurance -
related companies.
SOURCE: Foreign Direct Investment in the United States, various issues; U.S. Dep
artment of
Commerce, Bureau of Economic Analysis,

Foreign companies pursued several large investments in the U.S. life insurance industry recently. For example, a French investment group, Altus Finance, entered into a tentative agreement in August 1991 to purchase and rehabilitate the insolvent Executive Life Insurance Company of California for $3 billion. However, there are competing bids from U.S. groups. Also in 1991, the Axa Groupe of France invested $1 billion in the Equitable Life Assurance Society of New York pending regulatory approval for Equitable to change its status from a mutual to a stock company.

The European Community, meanwhile, is directing its members to liberalize their insurance markets. Several EC countries have already allowed more foreign investment. Some U.S. life insurers have responded by acquiring local companies or by establishing new operations. There has been a strong interest in Southern Europe.

Concurrently, European insurance companies have been actively consolidating their hold on their local market through acquisitions and mergers, while positioning themselves for a pan-European presence. As European companies become larger and stronger, they become more interested in acquiring a larger piece of the U.S. market, as recent acquisitions attest.

Long-term opportunities for U.S. insurance companies in foreign markets may depend on the effectiveness of the rules and principles being negotiated in the Uruguay Round of negotiations on services under the General Agreement on Tariffs and Trade. A successful negotiation would establish multilateral rules providing signatory countries with guidance on international trade and investment in services, including insurance. U. S. insurers also would gain from negotiations under way for a proposed North American Free Trade Area.

Outlook for 1992

Premium receipts of life insurance companies will grow a projected 7.2 percent in 1992 to $303.9 billion. Strong growth in annuities and small increases in health insurance premiums will be the primary sources of expansion. Life insurance sales will be flat. Expansion in individual annuities and life insurance will depend on improvements in personal income and savings as the economy comes out of the recession. Employment in the life insurance industry will decrease slightly.

Long-Term Prospects

The life insurance industry will go through considerable changes over the next few years. Demand for its products will gradually increase. Demographic variables, such as income growth, wealth accumulation, population and workforce changes, and home ownership will determine the demand for insurance products over the long term. The rate of personal savings in the United States will rise with the movement of the baby boom population into middle age. In turn, the aging of the baby boomers will raise the demand for products that provide for retirement income and health care insurance.

Competition for these markets, however, will increase. Banks may get additional powers to sell and underwrite insurance. Banks, mutual funds, and other financial institutions will offer investment and savings products that directly compete with insurance and annuities. Other means of financing and delivering health care - employer-funded plans, government programs, managed-care services - will diminish the growth of private health insurance. Foreign insurers will continue to expand and acquire companies in the U.S. market.

Major changes will occur in the taxation and regulation of life insurance. The recent law requiring the depreciation of sales costs for tax purposes will diminish the performance of life insurers over the next few years. Congress may increase taxes on investments in insurance and annuities. But lawmakers are also looking at increasing tax benefits of Individual Retirement Accounts to spur long-term savings. This would be a boon to insurers.

The problem of insolvencies has already resulted in state action to strengthen financial standards and tighten the regulation of insurance companies. This may be followed by a larger Federal role in insurance regulation. The Federal Government may set basic financial standards for the states to follow. A national guaranty fund for insurance is another possibility.

These conflicting forces will combine to alter competition in the industry. Profit margins will likely shrink and returns on equity should remain below historical levels. Increased competition and lingering problems with junk bonds and real estate could increase the number of insolvencies over the next few years. To compete, life insurance companies will have to consolidate operations, reduce operating costs, increase efficiency, and better manage their assets and liabilities. Larger, better capitalized companies should increase their share of the market.

To reduce costs there will be more pressure on the distribution system. Agents will have to accept less compensation. Insurers will look for cheaper sales alternatives, such as direct mail, other financial institutions, and financial advisers and consultants. They also will seek new information and communications technology to increase efficiency in underwriting, investment, claims, and administrative activities.

Diminished returns on life insurance in the United States also will prompt stronger insurance companies to look for other investment opportunities. Many companies, mainly through holding companies, have moved or will move into related financial services, including securities, banking, and real estate. More U.S. life insurance companies will take advantage of expanding foreign markets, especially in Europe and Asia.

PROPERTY-CASUALTY INSURANCE

Net written premiums of property-casualty (P/C) insurance companies increased a meager 3.3 percent in 1991, to $224.9 billion. Commercial insurance rates remained flat for most lines of business because of overcapacity and competition from alternative markets. The 1990-91 recession also restrained premium growth. An increase in investment income kept operating earnings positive. But large underwriting losses reduced earnings to $8.5 billion, from $8.8 billion in 1990. Employment expanded slightly to 565,800.

Automobile insurance is the largest source of premium income for property-casualty insurers, accounting for about 44 percent of all premiums for a total of $95.4 billion in 1990 (Table 7). Individual policyholders accounted for about 80 percent of automobile premiums. Underlying cost factors, including medical costs, have driven up rates and premiums for automobile insurance despite restrictions on rate increases in many states. Increasing medical costs have been a major cause of increases in workers' compensation premiums. Automobile and workers' compensation lines are the biggest areas of underwriting losses for insurers.

[TABULAR DATA OMITTED]

In contrast, premiums for liability insurance, other than automobile liability, have decreased steadily since 1987. This is due mainly to rate cutting and competition from alternative markets. Premium growth in other lines, except accident and health insurance, remained flat because of sluggish economic growth and overcapacity.

Reinsurance premiums expanded in 1990 for the first time in 3 Years, to $23 billion, from $21.4 billion in 1989. Foreignbased reinsurers assumed about $9.1 billion of this business on a cross-border basis (Table 8). Reinsurance is insurance that insurance companies buy to reduce and spread their risks. In 1990 and 1991 the reinsurance business consolidated as the larger, better capitalized companies grew at the expense of smaller ones.

The upturn in reinsurance premiums is a sign that rates in the primary market may have leveled in 1991 and that primary insurers are not retaining as much risk. Reinsurance rate increases, however, have occurred mostly on catastrophic fisks, which are typically reinsured. Recent large increases in losses from such catastrophic as Hurricane Hugo in 1989 have weakened many reinsurers. The rate increases have not yet affected the primary market, however.

The property-casualty insurance industry provides financial protection for individuals, commercial businesses, and others against losses of property or losses by third parties for which the insured is liable. P/C insurance companies are classified in SIC 633 (Fire, Marine, and Casualty Insurance.) There are an estimated 3,800 P/C companies. Most are organized as stock companies, and some as mutual companies.

Capacity in the P/C industry refers to the amount of capital available to underwrite the demand for insurance protection. When there is excess capacity, competition is high and rates are low. Conversely, whenever capacity decreases, rates in the industry rise.

Key Developments in 1991

The solvency of insurance companies and proposals for Federal regulation was the dominant issue in 1991. The incidence and severity of insolvencies in the P/C industry have increased since 1984. There were 14 insolvencies in 1990, which resulted in $455 million of assessments against insurers by state guaranty funds. In the first eight months of 1991, there were 12 insolvencies resulting in guarantee fund assessments.

The chief causes of insolvencies have been mismanagement and fraud. Deficient loss reserves, overly rapid growth, and overstated assets are some examples of mismanagement. Problems with reinsurance collectibles and over-reliance on narrow lines of business are other examples of mismanagement that analysts often cite as causes of insolvencies. The major causes of insolvencies in the life insurance industry, by contrast, have been troubled real estate holdings and junk bonds.

As in the case of the life insurance industry, many members of Congress question the adequacy of state regulation to solve the problems in the P/C industry. Many are calling for an increased Federal role in insurance regulation. Legislation has been introduced in the Senate to set up Federal oversight of state regulation and a national guaranty fund. A similar proposal may be introduced in the House in late 1991.

State regulators are starting to address the industry's problems through a National Association of Insurance Commissioners' (NAIC) program to accredit states that meet certain standards of insurance regulation and supervision. Insurance companies from states that fail to follow the standards may face severe restrictions in accredited states. The program calls for stronger financial standards, more frequent examinations of insurers, improved accounting procedures and practices, stiffer requirements for reinsurance credits, and mandatory audits by independent actuaries and accountants, among others. The goal is to detect financially troubled insurers before they fail. Many states have legislation pending that would meet many of the accreditation standards. The NAIC plans to accredit most states by 1994. In addition to this program, the NAIC has asked for Federal legislation to help the states prevent insurance fraud, and legislation to help regulate foreign-based insurance companies.

Congress is considering repealing portions the 1945 McCarran-Ferguson Act, which allows the states to regulate insurance and exempts the industry from certain Federal antitrust law. Although much of the industry opposes the loss of antitrust exemptions, many in the industry consider the exemptions unnecessary as long as certain data sharing and cooperative activities remain protected.

Insurers claim the uncertainty of the tort liability system, under which awards and award justifications vary from state to state, makes liability insurance unnecessarily expensive. As one result, critics of the system claim, manufacturers are reluctant to bring many new products to market for fear of liability problems.

Legislation was introduced in 1991, as it has been since the early 1980's, to institute more uniformity in the product liability system. The measure could bring more certainty and consistency to liability laws. Defenders of the current system say it justly compensates victims and punishes negligent manufacturers whose products injure users. The Administration supports product liability reform as well as tort reform in general.

Large claims for environmental liability damages are hitting insurers hard. Toxic wastes and asbestos claims, in particular, are often filed only after many years, or even decades, have passed. Because of the unpredictable nature and extent of losses, particularly as various courts interpret insurance contracts differently, insurers find it difficult to make proper provisions for such losses. Insurers also believe they pay an unfair share of the cleanup costs of toxic waste sites. There have been several proposals to change the Superfund law to spread the burden of the cleanup cost more evenly.

The use of alternative risk financing methods has altered the competitive nature of the commercial insurance industry over the past several years. Many buyers of insurance responded to the liability crisis of the mid-1980's - in which the availability and affordability of liability insurance became severely restricted - by finding other ways to finance the risks.

Many buyers are now self-insuring." Self-insurance can be as simple as assuming the risk of loss entirely as an expense of doing business. Many buyers are also self-insuring by raising the deductibles on their commercial policies.

Many companies have formed separate subsidiaries, known as captive insurers, to finance risks. A wholly owned captive usually covers only its parent's risk financing needs. Two or more companies, however, may set up a "group captive" insurer to share the risks among themselves. Doctors and lawyers often set up group captives to insure against malpractice claims.

Companies form many captive insurers in other countries, such as Bermuda. A 1990 industry survey estimates that risk financing alternatives were almost 30 percent of the commercial P/C market. Self-insurance alternatives made up most of this market.

To provide another means of liability risk financing, the Risk Retention Act of 1981, as amended in 1986, allows the formation of risk retention groups and purchasing groups. A risk retention group, a form of captive, is capitalized by its members and state-licensed to provide liability coverage to its members. Members form purchasing groups to buy insurance from a commercial insurer at a discount.

The Administration has proposed further changes in the law. Under one, the insurer of a purchasing group would be governed by the requirements of the state that is the principal place of business of the purchasing group. The state of domicile of the insurer would continue to have responsibility for the solvency of the insurer and for all other business it writes. The insurers also would have to meet certain minimum financial standards, to be licensed in a state accredited by the NAIC, or to be a qualified alien (non-U.S.) insurer. These amendments would help companies to get affordable, secure liability coverage.

In late 1990, there were 72 risk retention groups with annual premiums of $469 million. This compares with 62 groups that had an estimated $362.1 million of premiums a year earlier. In June 1991, there were 385 purchasing groups. Risk retention and purchasing groups reportedly insured 326,000 policyholders. Environmental impairment, medical malpractice, and product liability are common areas of coverage for risk retention and purchasing groups.

A continuing problem for the industry has been the recent trend among many states to reduce automobile insurance rates. Many consumers believe that auto rates are too high and that coverage is often too difficult to get. In 1988, California voters passed Proposition 103, which required insurers to roll back insurance rates 20 percent and ended insurer antitrust immunities. Subsequently, the state courts ruled insurers are not subject to roll-backs if they are unable to maintain a reasonable rate of return. In 1991, California authorities ordered insurers to refund $2.5 billion to holders of auto and homeowners insurance policies on the ground that the companies had received an excessive rate of return. Many insurers were said to be preparing to challenge the refund in court.

Other states, such as Georgia, New Jersey, and Pennsylvania, have carried out similar measures to reform their automobile insurance markets and to reduce rates. None, however, is as farreaching as California's measure. Many insurers, claiming they cannot make a profit in automobile insurance, have pulled out of the automobile insurance markets of certain states. Others have left the auto market altogether.

The industry and the states face similarly difficult issues with workers'compensation. Rising medical costs and political pressure to reduce rates make workers' compensation unprofitable for many insurance companies. Insurers are pulling out of many states or leaving the business entirely.

INTERNATIONAL COMPETITIVENESS

The U.S. P/C insurance market is the largest in the world, accounting for 46 percent of worldwide premiums in 1989 (Table 3). Japan was a distant second with 11.4 percent. (The nonlife market in Table 3 includes health insurance premiums as well as P/C premiums.)

Foreign-owned nonlife insurers and other insurance services had sales of $32.8 billion in the United States in 1989 (Table 6). This is up from $22.3 billion in 1987. (Sales in this survey equal premium income plus investment income plus other income.) Foreign-owned insurers in the United States received an estimated $28 billion, or 13.5 percent, of P/C premiums in 1989. The foreign share of the P/C market will increase with recent purchases. The largest of these purchases were the Fireman's Fund by the German insurance company, Allianz, and the Home Insurance Company by Swedish investors.

U.S. insurance companies are active in foreign markets. U.S.-owned insurance affiliates abroad had sales of $16.2 billion in foreign P/C markets in 1988 (Table 4). Europe and Canada were the largest markets (Table 5). Latin America and Japan were also significant markets.

In the European Community, insurers in one EC country can write certain P/C business in any other EC country. Recent EC directives harmonized accounting and regulatory standards, thus making it easier to transact business among themselves. The EC also has formulated directives and proposals that address issues in product liability, pollution liability, and automobile insurance. Some U.S. insurers have already positioned themselves to take advantage of the business opportunities created by these and other changes in the EC.

Several events have enhanced the potential for further expansion into international markets. In 1986, South Korea and Taiwan opened their markets to U.S. insurance companies. Many U.S. P/C insurers have established a presence in these and other Asian countries. The United States also is negotiating a multilateral framework for services trade in the Uruguay Round negotiations under the General Agreement on Tariffs and Trade. A successful agreement would create global opportunities for all U.S. insurance companies. U.S. insurers also would gain from insurance negotiations under way for a proposed North American Free Trade Area.

Outlook for 1992

Net written premiums of P/C insurance companies will increase 5.5 percent in 1992 to $237.3 billion. Much of the increase will be due to a rebounding economy. Rate increases, however, will remain flat or increase little in most commercial lines of business. Excess capacity will suppress rate increases, unless catastrophic losses overwhelm the industry. Some lines, such as marine and aviation insurance, will see rate increases because of capacity problems.

Premiums for automobile insurance and workers'compensation will increase because of growth in medical and other costs, but state-level political action will restrict the growth of rates in these lines. As a result, these lines will remain unprofitable in many states for many insurers. A possible $2.5 billion refund to policyholders of automobile and homeowners insurance in California could adversely affect many insurance companies.

Operating earnings in the industry will shrink, but small increases in investment income should keep earnings positive. Policyholder surplus will grow slowly unless unexpected underwriting losses reduce earnings below zero. Overall, the short-term financial health of the industry is stable with adequate capacity. A prolonged recession or unexpected losses could destabilize the market. Many individual companies will experience financial difficulties anyway because of the soft market. The number and size of insolvencies should remain at the same level in 1992 as in recent years.

Long-term Prospects

The industry's outlook depends mostly on how much and how fast rates increase over the next several years. There already are signs that rates have started upward, particularly marine and aviation rates. Reinsurance rates for catastrophic risks are increasing. Cost factors will push up losses from claims, thus pressuring rate increases. Premiums for surplus lines insurance - insurance that no licensed insurers will write - have increased. This suggest that commercial insurers may be refusing some risks. In addition, there is a general fear that many companies have inadequate loss reserves, particularly for environmental risks. Insurers will have to start increasing rates to bring reserves to adequate levels or face pressure from regulators, rating agencies, and stockholders.

Other factors argue against rate increases. Capacity in the industry is still adequate. There is enough capital for existing premium levels. New capital also keeps coming into the industry, as shown by the increase in foreign investment. Alternative markets are strong despite the depth of the soft market. Much business would flee from commercial insurers to these markets if rates jumped. In addition, insurance companies may be reluctant to raise rates too far, too fast, fearing a political backlash or a flight of insureds to alternative markets. This is what happened during the liability crisis of the mid-1980's. Sluggish economic growth will tend to keep rates down. Political pressure from consumer groups also will keep rate increases in personal lines to a minimum.

In this environment, rates should move up slowly over the next couple of years. Stronger companies with better capital positions will get larger market shares. Weaker companies will need to consolidate. They may have to join with stronger companies or find other capital sources. Foreign investment, especially from Europe, will likely provide much of this capital.

Many companies may not survive. In general, the rate of insolvencies should remain at current levels. Insolvencies could increase if the economy does not pick up or losses jump suddenly putting further strain on the industry.

State-level action to ward off insolvencies through tighter regulation, now under way, should be largely in place by 1994. The prospect of Federal regulation will increase in the next few years, however, if solvency problems continue to grow. At a minimum, Federal legislation to further combat insurance fraud can be expected. There is a chance of McCarran-Ferguson reform to narrow the industry's antitrust exemptions of the industry. Finally, the long-term financial health may depend on resolution of problems with health care, workers' compensation, and automobile insurance.

Additional References

1991 Life Insurance Fact Book, American Council of Life Insurance, 1001 Pennsylvania Ave., NW, Washington, DC 20004. Telephone: (202) 624-2000. 1990-91 Insurance Facts, Insurance Information Institute, 110 William St., New York, NY 10034. Telephone: (212) 669-9200. Best's Aggregate and Averages, A. M. Best Company, Oldwick, NJ 08858. Telephone: (201) 439-2200. Business Insurance, 740 Rush St., Chicago, IL 60611. Telephone: (312) 280-3174. International Insurance Council, 1212 New York Ave., NW, Suite 250, Washington, DC 20005. Telephone: (202) 682-2345. National Association of Insurance Brokers, 1401 New York Ave., Washington, DC 20005. Telephone: (202) 628-6700. National Association of Insurance Commissioners, 120 West 12th St., Suite 1100, Kansas City, MO 64105. Telephone: (816) 842-3600. National Underwriter, National Underwriter Company, 43-47 Newark St., Hoboken, NJ 07030. Telephone: (201) 963-2300. Reinsurance Association of America, 1025 Connecticut Ave., NW, Suite 512, Washington, DC 20036. Telephone: (202) 293-3335. Sigma, Swiss Reinsurance Company, 50/60 Mythenquai, P.O. Box 8022, Zurich, Switzerland. Telephone: (01) 208-2543. Source Book of Health Insurance Data, Health Insurance Association of America, 1025 Connecticut Ave., NW, Washington, DC 20036. Telephone: (202)223-7845. Standard and Poor's Insurance Rating Service, 25 Broadway, New York, NY 10004. Telephone: (212) 208-1367.

COPYRIGHT 1992 U.S. Department of Commerce
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