Once again, 2009 calendar year net written premium declined precipitously for both private carriers and the state funds. The recessionary impacts, particularly on manufacturing and contracting, along with price decreases took their toll on industry premium–in fact, industry net written premium has declined an alarming 23 percent over the last two years!

Obviously, these data show that the market faces a number of significant challenges for the remainder of 2010 and into 2011. And these numbers only tell part of the story. The following offers a more complete analysis of the current market forces in play.

o Combined ratio up dramatically!

As noted above, the workers' comp calendar year combined ratio for private carriers was up nine points from 2008–to 110 in 2009. This is the largest one-year increase in the combined ratio for the line since the mid-1980s.

However, three points of the increase in combined ratio were due to the addition of more than $1 billion to excess workers' comp reserves by a single carrier for accident years 2000 and prior. This reserve strengthening was almost 90 percent of the prior year reserve strengthening for the entire industry.

Excluding that reserve addition, the industry combined ratio would have been 107–still a significant deterioration from 2008. The 107 would make the recent pattern of combined ratios since 2006 almost identical to that experienced from 1995 to 1998 (similar points in the last cycle). The 2009 accident-year combined ratio is 107, up five points from accident year 2008.

o Reserve positions deteriorate!

NCCI estimates that the reserve position of private carriers deteriorated to a $9 billion deficiency at year-end 2009, from a $6 billion deficiency last year. After consideration of the allowable discounting of the indemnity reserves of lifetime pension cases, the reserve position is a relatively slight inadequacy of about $4 billion, on a total reserve base of more than $106 billion.

o A bright spot–claim frequency continued to decline!

Claim frequency continued to decrease in 2009. For NCCI states, frequency fell 4 percent. The prior year's decline was 3.4 percent, while 2007 saw a 3 percent reduction.

NCCI's research anticipated that the recession would put additional downward pressure on frequency, as the lack of hiring allows the work force to become more experienced and less prone to injury.

o Rates largely on the decline!

Not surprisingly, workers' comp insurance prices also continued their declines in 2009 in most jurisdictions.

Those drops were driven by bureau rate and loss-cost decreases resulting from the frequency declines, which were only partially offset by moderate increases in medical and indemnity average claim costs. Carrier discounting from bureau rates and loss costs remained nearly constant in 2009.

o Medical and indemnity costs moderate–but remain a concern!

Medical costs have moderated somewhat over the last few years, although they continue to increase faster than wages. In four of the last six years, the average cost increases have been about 5-to-5.5 percent per year, down substantially from the near double-digit increases we were used to seeing in the late 1990s and early 2000s.

Some NCCI research indicates that the moderating medical cost trends of the last few years are coincident with a moderation in the number of medical procedures per claim that began in the early 2000s. That flattening followed a period of sharp increases in the number of procedures per claim that began in the mid-1990s.

Indemnity claim costs also continue to outpace wage increases, although indemnity costs have also moderated since 2002. At the state level, we have seen some push to increase benefits. However, little has been enacted, most likely due to the impact of the recession on the business climate.

As the economy improves, some may sense it is an opportune time to review benefit levels and past reforms, to the potential detriment of efficiently run and well-balanced workers' comp systems.

o Low investment yields expected to continue!

Low investment yields will likely continue for a while longer. As the economy begins to recover, all eyes will be on the Federal Reserve to see what it plans to do with interest rates and with all of the monetary stimulus that it has pumped into the economy over the last two years.

At this juncture, there is a school of thought that suggests a significant increase in inflation is an inevitable result of the fiscal and monetary stimulus poured into the world economy since early 2008.

However, there are some who feel the recovery is still fragile, depressing demand so much that with reasonable central bank actions, and some serious attempt to rein in the federal budget deficit, significantly higher inflation is not a certainty.

o The effect of national health care reform!

Although the new national health care legislation passed in March did not directly change the way medical services are delivered, paid for or regulated for workers' comp, the bill will certainly impact the line.

The most direct impact to workers' comp was a provision inserted into the bill that was not related to health care reform. That provision dealt with the Federal Black Lung benefits for coal miners and their survivors. The change contained in the bill loosened the requirements for miners and their survivors to qualify for benefits.

Another aspect of the health care bill that directly impacts workers' comp is the potential to change the price levels and procedures for Medicare reimbursements. Many states base their medical fee schedules on various aspects of Medicare reimbursements. Those states will have to watch for impacts to their fee schedules as the Medicare changes are made.

Lastly, provisions in the health care bill increase taxes on medical device manufacturers, pharmaceutical companies and health insurers, and any higher costs will likely be passed on to the workers' comp system.

However, there could be some benefits to workers' comp from the health care bill, as well. The fact that a higher percentage of the population will have access to health insurance may take some pressure off of workers' comp. Also, the bill has some provisions on wellness and treatment protocols that could help to address health risks such as obesity–a factor that we know from our research significantly affects the cost of workplace injuries.

Another issue industry stakeholders are watching closely is the financial services reform law. Although mostly focused on Wall Street and the banking industry, there are some aspects and outcomes that could significantly affect the p&c insurance industry.

LOOKING FORWARD

As can be plainly seen in the results, the workers' comp industry did not fare quite as well as the broader p&c market in the past several months.

Although the industry benefits from a strong capital position overall, the nine-point increase in the workers' comp combined ratio is troublesome.

In addition, the line is taking a very hard hit to revenue due to the recession's impact on business payrolls, particularly in the manufacturing and construction industries, which traditionally have generated more than 40 percent of the industry's premium. The line is posting combined ratios that are not sustainable at these low interest rates, and reserve adequacy is starting to slip.

In sum, the line faces a number of challenges, ranging from poor results to uncertainty surrounding medical costs. These include:

o The impact of national health care reform on workers' comp is uncertain, from new taxes to changes in Medicare reimbursements to the strain on the medical care system from the newly insured.

o The current combined ratio, together with low investment yields, is not close to providing an adequate return on the industry's capital. Even with some modest increase in investment yields, the combined ratio will need to be reduced substantially to earn a reasonable return on capital.

o The contentious political situation in Washington, D.C., makes for a continued period of uncertainty for insurers.

o The underwriting cycle could be nearing an inflection point, but the early signs are still faint.

Although fewer, there are some positive market indicators, including:

o The industry's capital position.

o The fact that claims frequency continues to decline.

o A moderation in claim severity increases.

o Continued depopulation of the residual market.

Along with every other industry participant, NCCI will continue to monitor market results in the coming weeks and months, and we will report on both positive and negative developments.

Until the economy begins a significant move toward recovery, however, we expect that most stakeholders will remain in the aforementioned precarious position, looking for new signs of stability and growth–signs that cannot appear quickly enough!

Stephen J. Klingel, CPCU, is president and CEO of NCCI Holdings Inc. in Boca Raton, Fla.

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