Insurance Quotes & Advice

Many different groups are having misgivings about a new, proposed Federal Insurance Office.  Regulatory reform has been expected for some time and it has been known that the government would create some sort of federal agency to keep a closer tab on the insurance industry.

The reform in it’s current iteration has broader powers being given to the new federal agency than in previous proposals. Insurers, trade associations, state regulators, and consumer interest groups are all unclear as to what the eventual outcome will be and how this new agency will interact with current state laws and how it will affect both the industry and it’s customers.

While insurers have long railed at the inefficiencies of dealing with fifty different sets of laws and regulators, they are probably uncertain whether or not if it’s in their best interest to keep the status quo.  With last year’s financial panic, there have been strong head winds in Congress for a much stricter regulatory code across the entire financial system but having some sort of federal agency in charge in a period of deregulation is a far cry from what will likely be the case in these economic times.

State regulators also have their misgivings and for years have fought attempts from the federal government to encroach on their regulatory powers.  Consumer groups are also worried about what this will mean for consumer protection issues.

Of course the federal government is also concerned with systemic risk factors in the industry and wouldn’t like to see a repeat of the AIG fiasco.  There needs to be a better solution in place, rather than needing to throw hundreds of billions of dollars at a problem to keep the financial system from collapsing.

There doesn’t appear to be anyone particularly thrilled with the current reform proposal and we are likely to see considerable lobbying efforts from a number of different groups.  There have been a number of delays already in the proposed financial reform and some officials are growing concerned that it won’t be in place by the end of the year.

A lot of attention is being paid currently to credit default swaps(CDS) and what type of regulations should be implemented to get them under control.  CDS played a pivotal role in nearly bringing down AIG, formerly the world’s largest insurer.

Many critics have likened CDS a ticking time bomb and a financial Armageddon waiting to happen.  AIG is a perfect case of what can happen when things go bad, although much of their liquidity issues and subsequent bailout had to do with their drops in credit ratings.

Some state regulators are pushing to CDS regulated as an insurance product and it has recently become a heated topic with good arguments on both sides of the fence.  While many agree that CDS are insurance like contracts there are many differing opinions on whether they are actually insurance.

The huge growth in CDS and derivatives in general helped fuel a great credit boom as many financial institutions increased their leverage levels to take advantage of the new financial products.  The big problem with the product is that while it serves a useful role when the economy is going well, they can prove disastrous when the economy goes into the tank.

Much of the problem is that most of the sellers of CDS don’t have adequate collateral to fund their potential liabilities.  The major attraction of the product is it’s ability to generate large amounts of financial leverage but as mentioned above, that can be a double edged sword, magnifying both gains and losses.

However, while I agree that CDS definitely needs to be regulated, I can’t help but wonder if leaving it the hands of fifty different state regulators is the best choice.  The words over matched comes to mind and I think that this is something that would probably be best regulated at the federal level.

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.