Difficult Market for Workers' Comp Insurers

But overall, the P&C picture is far from gloomy. The 2009 P&C combined ratio improved several points over 2008, and many insurers are posting record profits. Even some workers' compensation insurers are posting profits.

More broadly speaking, however, the workers' compensation line showed significant deterioration. In fact, both the expense ratio and the loss ratio worsened, and the combined ratio dropped several points — from 101 in 2008 to a projected 110 in 2009. In sum, the market has been deeply affected by the economic turndown since it first began in late 2007. Today, we are experiencing a market that over the past two years has seen more than a 20 percent drop in premium.

This decline is primarily attributable to three relatively equal factors: Declining frequency (resulting in filed bureau loss cost decreases), a more competitive market, and a decline in overall payroll.

Declining Payroll a Major Concern

Let's focus more closely on the disappearing portion of the workers' compensation premium pie that is directly attributable to payroll decline.

By definition, payroll decline is largely determined by changes in employment, the average number of hours worked, and hourly wage rates.

Private sector employment has fallen by more than 7 million workers during this recession and the national unemployment rate went from 4.6 percent at the start of the recession to roughly 10 percent now. The average number of hours worked also declined two percent during this same period.

The combined result: Private sector payroll declined by four percent between the fourth quarter of 2007 and the fourth quarter of 2009.

It is important to note exactly where the unemployment is occurring and why it is having such a profound impact on the premium base.

This recession has hit manufacturing and contracting employment particularly hard. Although manufacturing and contracting make up less than 20 percent of the private sector employees, these industry groups generate about 40 percent of the workers' compensation premium. Accordingly, the deeply negative impact on these industry sectors has had a magnified impact on the workers' compensation market.

When you roll all of these factors together — generally favorable frequency trends, a competitive market, and the recession's impact on total payroll, particularly in manufacturing and contracting — you create a "perfect storm" for depressed premium levels.

Economic Outlook

Given the troubling and precarious nature of the market, the next obvious question is: What is the outlook for recovery?

You've heard the term "jobless recovery?"

It looks like we may have one of those, and for a line of insurance based on payroll, that is not good news. Private sector employment is likely to continue to decline for several months, and the turnaround that is projected to begin in midyear will be modest.

Employment is anticipated to increase by one percent in the second half of the year, although the growth in hourly wage rates may strengthen a bit. The most positive sign is the increase in average hours worked per week, which is already rising.

As a result, we expect that there will probably be little material change in payroll for 2010 as the increases in the second half offset the continued declines early in the year. And the growth in the high-rate manufacturing and construction sectors will be even more anemic.

In short, the economic recovery is unlikely to generate a strong rebound in workers' compensation standard premium in the near future.

The economic recovery may also have another unintended consequence. 2009 was a relatively quiet year in relation to the number of new proposals presented at the state level. Jurisdictions were largely focused on economic issues. But when the economic pressure decreases during a recovery, states may step up their demand for legislative action, particularly in the area of benefits.

Federal Health-Care Regulation

Turning to another significant issue confronting the market, NCCI has joined the rest of the industry in studying the health-care reform bill that President Barack Obama signed into law in late March. All too often, such major legislative initiatives result in unintended consequences in the private sector.

For example, the potential impacts of the health-care reform on Medicare are significant. Medicare reimbursements are likely going down. The lower reimbursements, in turn, impact workers' compensation because many states base their medical fee schedules on Medicare reimbursements.

NCCI also is studying the potential fallout with regard to medical costs, since workers' compensation medical costs remain the most significant piece of health-care expense not controlled by the federal government.

The industry will need to be cognizant of the potential for cost shifting. As medical reforms kick in, there is a possibility that health claims may shift to the workers' compensation arena.

Finally, we do know that the bill extends benefits in Black Lung compensation programs and reverses many of the reforms adopted in 1981. NCCI is currently studying the cost consequences of this change.

As the challenges to the new health-care law are settled and we are able to complete a comprehensive examination of the legislation's impact, we will communicate our findings both on ncci.com and in our formal discussions with other stakeholders.

NCCI's Continuing Priorities

NCCI takes seriously its obligation to understand and respond to the economic circumstances of our stakeholders. In the current environment, the best way NCCI can continue to support the industry is through the quality of our information, the insight of our research, and the flexibility and responsiveness of our services. We will also continue to work diligently with insurance and labor department officials to objectively identify and adopt appropriate rates and loss costs.

Steve Klingel is president and CEO of NCCI Holdings, Inc. in Boca Raton. www.ncci.com.