When Congress passed the Liability Risk Retention Act, it created two vehicles–risk retention groups and purchasing groups–to provide commercial insurance buyers with alternatives when liability insurance in the traditional market became unavailable and/or unaffordable.
During hard markets–the circumstance in which the act was passed–it was anticipated that RRGs, which retain risk, would dominate. It was thought that during soft markets, when ample risk financing was available, purchasing groups would form to buy from traditional insurers, using the power of group purchasing to secure the best deal for their members.
SEQ CHAPTER h r 1Typically during soft markets–when traditional insurers lower rates, which makes liability insurance more available and affordable–PG formations increase while RRG formations decline. Conversely, during hard markets–when traditional insurers raise rates and restrict coverage–RRG formations increase and PG formations decline.
So how closely has this model corresponded to reality? To what extent does it depend on the business areas in which RRGs and PGS operate? And more importantly, what can these historical trends tell us about the future?
There are dramatic developments taking place in the health care sector. The periods examined here are from 1995 to 2006, which includes the latter part of the extended soft market ending in 2001; the hard market extending from 2002 to 2004; and the soft market that has developed since then.
It's evident that in the non-health care sectors, both RRGs and PGs are responding to market forces as expected. PG formations are up in today's softening market and retirements down, while RRG formations are down as retirements rise.
In the RRG health care sector, however, the picture is different. While total RRG formations have declined since 2004, reflecting the soft market, and RRG health care formations are down from their heady heights of 2003 and 2004, formations of health care RRGs have nonetheless been sustained since 2004–and are trending up.
In short, the softening market does not appear to be significantly inhibiting the formation of health care RRGs.
Looking first at PGs, during the 1995 to 2006 period, we find that formations in the health care sector more or less tracked PG formations in non-health care sectors. When PG formations decreased in non-health care sectors in response to the hard market, PG formations in the health care sector also declined.
Although there has been an indication of a rebound of PGs in the non-health care sector since 2004, PG formations have not increased in the health care sector, but rather have sustained their formation levels in each of the years.
For RRGs, on the other hand, the differences have been dramatic. Between 1995 and 2001, health care and non-health care formations moved in different directions. After a period extending from 1999 to 2001, when no health care RRGs formed, there was a dramatic surge in RRG formations, with 11 RRGs formed in 2002 and 47 in 2003–more than four times all other RRG formations in that year.
Since then, while the total number of RRG formations has decreased in response to the soft market, as expected, formations of RRGs in the health care sector still exceed RRG formations in other areas–a gap that started to widen again in 2006.
Looking to the future, examining developments of the last three years to determine the impact of market softening, formations represent part of the story. They must be combined with retirements to determine if the total number of operating groups is increasing or falling.
For PGs in non-health care sectors, formations have increased and retirements have decreased as expected. For RRGs in non-health care sectors, the reverse has been true, again as expected, with formations slumping and retirements level or slightly increasing.
In the PG health care sector, however, a different pattern emerges. The rate of PG formations has not increased in the last three years, and retirements have leveled off. This compares to the RRG health care sector, where the rate of RRG formations has maintained a high level (18 in 2005, 19 in 2006) and retirements have also been low in a historical sense (three in both 2005 and 2006).
Why are health care RRGs bucking the trends seen in other business areas? It appears that the advantages RRGs offer to the health care sector–and physician groups are a big part of this–remain attractive notwithstanding the soft market.
Some of the factors that may explain this pattern:
o While insurance prices have become more competitive, they have not dropped sufficiently to the point that existing or prospective RRG members have incentive to entirely transfer their risk.
o Insurers may be taking the long view, seeing a rebound in prices.
o Sophisticated risk management practices offered by health care RRGs may be giving them an additional competitive advantage relative to insurance providers in the traditional market.
As the Risk Retention Reporter went to press with its March 2007 issue, RRGs in the health care sector again dominated the scene. Of the RRGs added to RRR listings for the month, 75 percent were health care RRGs. While historically RRG formations should cease or be greatly reduced in soft markets, health care RRGs appear to bucking that trend.
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