Consumer Advocate Challenges Insurers On 'Crisis' In Med Mal Mkt.







Time

The 1992 data point was not a classic cycle bottom, but reflected the impact of Hurricane Andrew and other catastrophes in that year. The 1975 and mid-1980s bottoms were both classic cycle bottoms with very sizeable price increases and coverage availability problems immediately following the bottom.

The price increases in this current cycle turn began in late 2000, according to several industry experts, including Sean F. Mooney, senior vice president, research director and economist at Guy Carpenter & Company in New York, who noted the cycle turn in a Jan. 7, 2002, article in National Underwriter.

The rate of change was accelerating upward before Sept. 11. The terrorist attacks sped up the price increases. Many examples of unjustified price increases have surfaced in the past year.

For example, in a Jan. 3, 2002, press statement, Jenny Jones, chief executive officer of the Elkin/Jones, a Los Angeles-based insurance brokerage firm specializing in coverage for the real estate industry, described skyrocketing premiums for commercial property owners.

"We've seen premiums go up as much as 40-to-70 percent," she said, pointing out that commercial buildings, which had been paying five- or six-cents per square foot for insurance, had to increase their budgets for costs going up to as much as seven- or eight-cents a foot.

Turning to medical malpractice, insurance data show a cycle driven not by jumps in claims, but by insurer mismanagement. At each hard market, doctors march on state capitals in many states demanding tort reform since their insurance companies blame the steep price hikes on "frivolous" lawsuits. But the data show that this is not what happens. Consider the information on Chart 2.

This chart compares direct written premiums to direct paid losses by year from 1975 (the first year this data is available for the medical malpractice line) until 2001. Two important adjustments have been made to this data.

First, to remove the increases in premiums and losses for growth in the medical system, I divided the premiums and losses by active doctors in the United States, using information from the Bureau of the Census. Second, since medical malpractice pays for medical injuries, to remove the effect of inflation, I adjusted premiums and losses to their 2001 values by using medical cost inflation factors based on a consumer price index.

The result is startling. Premiums rise and fall with the economic cycle, but paid losses do not. Indeed, on an inflation-adjusted, per-doctor basis, losses paid have been essentially flat since 1985, after experiencing slow growth between 1975 and 1985.

Doctors should realize that the problem is not lawsuits. Instead, it is insurer lack of action on rates. In spite of underlying medical cost inflation, insurers relied on high market returns on the float of medical malpractice premiums during the 1990s, when they should have been adjusting rates to more nearly reflect inflationary cost increases.

To be sure, the incurred losses--which add insurer loss reserves to paid losses-- exhibit more of the cyclical pattern. Observers know that in hard markets insurers jack up reserves as a way to justify for the price increases.

Chart 3 is a chart of direct earned premiums and direct incurred losses making the same two adjustments included on the previous chart. If losses really displayed the up-and-down pattern of Chart 3, the pattern would manifest itself in the paid loss data. It does not.

Besides, who can buy the theory that trial lawyers can time their "explosions" in verdicts to exactly coincide with the economic cycle of the insurers?

As usual, the crisis rests significantly on a jump in loss reserves of 2001. In all property-casualty lines, there was a total positive cash flow in 2001 of a remarkable $13 billion, compared to only $9 billion in the profitable 2000 year, Sean Mooney wrote in a June 24 article for NU. The jump in reserves is typical of the cycle bottom. History reveals that reserves often will be released to profits later in the softer market years.

This year's crop of reserve jumps is very odd indeed. Consider the medical malpractice data published by Weiss Ratings of Palm Beach Gardens, Fla., in July shown on Chart 4.

Regulators must examine the incredible leap in the so-called "stable" claims-made losses. How can a stable line such as claims-made coverage show a doubling of reserves, if the "unpredictable" occurrence coverage shows almost no change? It is very suspicious and reminiscent of the previous cycles where excessive reserves became obvious as profits soared as the market softened.

The average medical malpractice claim paid over the decade extending from 1991 to 2000 was $27,823.53, according to statistics published by rating agency A.M. Best in Oldwick, N.J. (in the 2001 edition of "Bests Aggregates and Averages"). This includes costs for million-dollar verdicts as well as settlements, claims closed with no payment, and even costs such as insurer defense and claims adjustment. The figures over the decade showed no growth in average paid claim.

If one looks at average payout just for claims with payments, as opposed to all closed claims, the average loss was $112,987--again with no notable growth in the average over the decade. This includes costs for defense of claims settled, adjudicated, or otherwise closed with no payment, thereby overstating the cost per claim paid.

From all of this information, I draw two significant conclusions:

There is no "explosion" of medical malpractice costs, nor has there been in previous cyclical hard markets.

There is mismanagement of the business by medical malpractice insurance companies.

J. Robert Hunter, director of insurance for the Consumer Federation of America in Washington, is also a coordinator for Americans for Insurance Reform, a coalition of over 80 consumer groups seeking insurance reform. He is also a past Texas insurance commissioner, a Fellow of the Casualty Actuarial Society, and a Member of the American Actuaries.

Reproduced from National Underwriter Property & Casualty/Risk & Benefits Management Edition, October 7, 2002. Copyright 2002 by The National Underwriter Company in the serial publication. All rights reserved.Copyright in this article as an independent work may be held by the author.