Insurance Quotes & Advice

Treasury Secretary Timothy Geithner’s proposed restructuring plan of the financial system leaves many unanswered questions for the insurance industry.  Granted, sweeping changes have been expected for some time now considering the disastrous effect the seizing up of financial markets had on the general economy.

Large firms especially will face increased scrutiny and regulation due their impact on systemic risk for the economy.  The example of AIG will be in the minds of many for a long time and will serve as a lesson on how the underestimation of risk in one part of a company can have crippling effects on the overall health of the company as a whole.

There is also the yet to be defined role of federal regulation in what has long been the domain of state regulators.  While increased federal regulation in this case may actually increase efficiency in the industry, there are still concerns on how that will impact the level of consumer protection.

Obviously there are some glaring gaps in the regulatory structure of the financial system and it didn’t help that deregulation over the past three decades has helped blur the lines between insurance, commercial and investment banking.  The most notable gap is in the derivatives markets and the primary reason for AIG’s near bankruptcy.

AIG basically sold insurance policies against credit defaults for which it did not have anywhere near enough capital to cover and they were not the only insurer to do this, although they had the largest exposure by far.  While the government will be working frantically to close this regulatory loophole, it will not be an easy task since the derivatives market has grown so enormous in the short time that it has been around.

It will take some time for insurers to unwind their overly leveraged positions and in the mean time this still leaves them exposed to potentially large losses unless credit conditions improve sometime soon.

Life insurers in general face a major problem, investment losses since markets imploded last year has many companies in the industry facing potential capital shortfalls. While most of them are not making major headlines like the bailout of AIG, there are some which may require federal assistance in the near future to keep afloat.

The big reason are annuities, fixed annuities have guaranteed death benefits and generally the proceeds from premiums are invested in safe vehicles like bonds.  However most variable annuities are operated like mutual funds and invest in riskier vehicles like the stock market.

Unlike mutual funds, many insurers offer the option of protection of the initial principal for an extra cost.  But with the stock market having fallen around 40% off it’s high from last year, for many insurers the value of their liabilities has pretty much remained constant while the value of their assets have fallen considerably.

Many life insurers underestimated their levels of risk and while maybe not of the scope of AIG’s mammoth derivative losses it is still a major problem for the industry in general.  Many companies face credit downgrades and have seen their stock prices take a beating.

While many companies would like to raise premiums to compensate somewhat, many state regulators have taken a hard line against price increases during the current economic climate.  The longer the recession drags out, the more likely an industry wide solution may be required.

There is a lot of outrage at the moment toward AIG for distributing more than half of the funds from the government’s bailout to a group of banks as well as the ongoing backlash toward executive compensation.  AIG reported over the weekend that it sent $93 billion in payments to banks to meet obligations on credit default swaps it wrote.

It’s not like AIG has a choice to not make these payments, they are after all an insurance company.  The government should have also known what it was getting into since they have revised their bailout package a number of times.

There have been calls to revise AIG’s bailout and the government may be regretting their decision to intervene but it’s far too late for them to do anything about it now.  The original bailout terms would likely have protected taxpayer’s from significant loss but as the scope of AIG’s predicament unfolded, the government’s involvement as well as it’s risk has more than doubled.

For all intents and purposes, the government is married to AIG now and  they control 80% of the company’s equity.  Many analysts have predicted that the government will have to pour even more money into the company if they want to continue to facilitate a smooth sell off of it’s assets.

Being impatient would be the wrong move at this time.  It’s a terrible time to sell off assets and if the government attempts to rush things, taxpayers could end up losing a bundle.