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Lawmakers question federal insurance regulation

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Some insurance industry stakeholders are urging Congress to limit the role of the federal government in regulating the sector, including eliminating or drastically reducing the scope of the Federal Insurance Office.

However, one observer argued that the federal government plays a critical role in ensuring appropriate regulation of the industry, including preventing another financial crisis such as the one experienced by insurer American International Group Inc., which necessitated a federal infusion of more than $180 billion into the insurer to prevent its collapse. 

H.R. 3861, the Federal Insurance Office Reform Act of 2017, was introduced in the U.S. House of Representatives in September to reform the FIO, including limiting its role largely to international matters and providing that FIO speaks for Treasury — but not other federal agencies — in international discussions. The bill, sponsored by Housing and Insurance Subcommittee Chairman Sean Duffy, R-Wis., and Rep. Denny Heck, D-Wash., would also authorize FIO to coordinate federal insurance policy and require FIO to achieve consensus with the states before advocating or agreeing to positions in international forums, such as the International Association of Insurance Supervisors, and eliminate FIO’s authority relating to purely domestic issues, including the authority to engage in broad information gathering authority and reporting obligations.

Separately in September, Reps. Duffy and Heck introduced H.R. 3762, the International Insurance Standards Act, which would prohibit federal officials from agreeing to new international standards that do not comport with existing U.S. state and federal law and provide a process by which Congress could vote on a resolution of disapproval for any standard or covered agreement that federal officials negotiate.

These bills were introduced in large part in response to the negotiations on the United States and the European Union’s covered agreement to address the U.S. lack of equivalency related to the bloc’s Solvency II directive for the insurance industry. The National Association of Insurance Commissioners and some federal legislators objected to what they believe to be a lack of transparency that initially led to an agreement that favored the bloc. 

“We have an opportunity to streamline the office to focus its mission on international issues while removing its duties that are duplicative of what is already being done by state insurance commissioners and regulators,” Rep. Duffy said. “I strongly believe Congress should have direct say as to whether the US should enter into an international agreement, much as we do with a trade agreement, to ensure we’re getting the best deal for our constituents.”

Paul Ehlert, president of Germania Insurance in Brenham, Texas, and chairman of the National Association of Mutual Insurance Companies, said the insurer strongly supports the state-based system of insurance regulation in the United States and opposes “duplicative or onerous federal involvement.”

“Unfortunately, since the passage of Dodd Frank (Wall Street Reform and Consumer Protection Act) in 2010, we have seen a growing level of insurance-related activity in Washington and would urge Congress to consider ways to reverse this trend,” he said.

The Federal Insurance Office Reform Act “would properly refocus the FIO and brings its activities more in line with the original intention of the office,” he said. “Dodd-Frank established the FIO to provide expertise and information on the insurance industry to lawmakers. It was not given regulatory authority, but was provided some authorities that have created unnecessary duplication. We view the FIO as unnecessary.”

“We don’t need a second layer of federal bureaucracy,” said Rick Means, president and CEO of Shelter Insurance Cos. in Columbia, Missouri.

“States would ultimately have to implement any international standards, not FIO, yet it has never been clear on whose behalf FIO is negotiating, certainly not on behalf of the state regulators who are often in conflict with FIO,” he added.

But prior to Dodd-Frank, there was no systematic way to ensure that problematic state-based regulatory issues were monitored and dealt with before they became scandals, said Daniel Schwarcz, a law professor with the University of Minnesota Law School in Minneapolis.

“We hear a lot about how strong the state-based insurance regulatory system is, but little context as to why,” he said. “Historically, virtually every single major advance in state insurance regulation was a result of direct federal pressure. If you look at risk-based capital requirements, guarantee funds, the accreditation system, speed-to-market reforms, every single one of those reforms was driven by the threat of federal preemption and federal scrutiny.”

The AIG situation also highlights the need for the federal government to play a role in ensuring that systemic risk does not exist in the insurance market, Mr. Schwarcz said.

“AIG caused tremendous externalities to the entire financial marketplace because of its failure,” he said. “What we know from AIG … is that insurance companies can become systemically risky. They can impart tremendous harms on the rest of the economy and we can’t simply ignore that risk.”

Connecticut Insurance Commissioner Katharine Wade in Hartford, Connecticut, speaking on behalf of the NAIC, said state insurance regulators were pre-empted from addressing the issues that caused the financial crisis and to use the AIG situation as an example of why the state-based system does not work is inaccurate.

AIG was a key player in the credit default swap market, and officials feared its collapse would cause spiraling problems with other financial institutions.

“AIG’s failure was absolutely just as much a product of its securities lending operations as its credit default operations,” Mr. Schwarcz said. “It would not have failed were it not for the fact that it had lent out the assets of its insurance companies to other entities, taken that money and invested it in mortgage-backed securities.”

Federal regulators also played a role in AIG’s failure, he said.

“This narrative that state insurance regulators weren’t at fault is wrong,” Mr. Schwarcz said.