Consumer Advocate Challenges Insurers On 'Crisis' In MedMal Mkt.







Time

The 1992 data point was not a classic cycle bottom, butreflected the impact of Hurricane Andrew and other catastrophes inthat year. The 1975 and mid-1980s bottoms were both classic cyclebottoms with very sizeable price increases and coverageavailability 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 GuyCarpenter & Company in New York, who noted the cycle turn in aJan. 7, 2002, article in National Underwriter.

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

For example, in a Jan. 3, 2002, press statement, Jenny Jones, chiefexecutive officer of the Elkin/Jones, a Los Angeles-based insurancebrokerage firm specializing in coverage for the real estateindustry, described skyrocketing premiums for commercial propertyowners.

"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 theirbudgets for costs going up to as much as seven- or eight-cents afoot.

Turning to medical malpractice, insurance data show a cycle drivennot by jumps in claims, but by insurer mismanagement. At each hardmarket, doctors march on state capitals in many states demandingtort reform since their insurance companies blame the steep pricehikes on "frivolous" lawsuits. But the data show that this is notwhat happens. Consider the information on Chart 2.

This chart compares direct written premiums to direct paidlosses by year from 1975 (the first year this data is available forthe medical malpractice line) until 2001. Two important adjustmentshave been made to this data.

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

The result is startling. Premiums rise and fall with the economiccycle, but paid losses do not. Indeed, on an inflation-adjusted,per-doctor basis, losses paid have been essentially flat since1985, 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 underlyingmedical cost inflation, insurers relied on high market returns onthe float of medical malpractice premiums during the 1990s, whenthey should have been adjusting rates to more nearly reflectinflationary cost increases.

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

Chart 3 is a chart of direct earned premiums and direct incurredlosses making the same two adjustments included on the previouschart. If losses really displayed the up-and-down pattern of Chart3, the pattern would manifest itself in the paid loss data. It doesnot.

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

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

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

Regulators must examine the incredible leapin the so-called "stable" claims-made losses. How can a stable linesuch as claims-made coverage show a doubling of reserves, if the"unpredictable" occurrence coverage shows almost no change? It isvery suspicious and reminiscent of the previous cycles whereexcessive reserves became obvious as profits soared as the marketsoftened.

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

If one looks at average payout just for claims with payments, asopposed to all closed claims, the average loss was $112,987--againwith no notable growth in the average over the decade. Thisincludes costs for defense of claims settled, adjudicated, orotherwise closed with no payment, thereby overstating the cost perclaim paid.

From all of this information, I draw two significantconclusions:

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

There is mismanagement of the business by medical malpracticeinsurance companies.

J. Robert Hunter, director of insurance for the ConsumerFederation of America in Washington, is also a coordinator forAmericans for Insurance Reform, a coalition of over 80 consumergroups seeking insurance reform. He is also a past Texas insurancecommissioner, a Fellow of the Casualty Actuarial Society, and aMember 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 serialpublication. All rights reserved.Copyright in this article as anindependent work may be held by the author.