State Property Insurance Markets


   Although the Federal Government is actively involved in insuring risks from floods and terrorist attacks, most homeowners and businesses look first to their local property insurers to obtain financial protection against a variety of hazards including potential catastrophes. State governments are responsible for regulating insurance markets. Though laws differ from state to state, all states insurance regulators exercise some control over who is permitted to sell insurance, what terms and conditions can be attached to insurance policies, and how much insurers can charge. Insurance regulations are intended to protect consumers who may have difficulty evaluating complex insurance contracts and to ensure that insurers maintain sufficient financial resources to pay future claims. While regulation plays an important role in protecting consumers from fraud and poor risk management practices, poorly conceived and executed regulation can create long-term problems for the operation of state catastrophe-risk insurance markets.

   Every state regulates property insurance premiums charged to homeowners and small businesses. Many states require that premiums be approved in advance by regulators. Others allow insurance regulators to review existing price schedules and empower regulators to force companies to reimburse policyholders when premiums are found to be excessive. Rate regulations can make it difficult for insurance companies to set premiums that accurately reflect available information about risks, which can exacerbate moral hazard and adverse selection problems. In some states the rate review and approval process can take many months, so insurers cannot rapidly adjust premiums when new information becomes available. The rate review process may also discourage insurance companies from proposing complex pricing plans which, though difficult to explain and justify to state rate boards, more accurately reflect detailed information about the risks associated with individual insurance policies.

   Efforts by regulators to keep property insurance prices artificially low can make it difficult for individuals and businesses to obtain insurance on private markets at any price. To ensure that they will be able to pay claims after a catastrophe, private insurers need to set premiums high enough to enable them to build surplus or transfer risk to reinsurers. If regulators do not allow insurers to charge rates sufficient to accomplish these tasks, the insurers will be discouraged from taking on catastrophe risks. They may choose to sell insurance only in areas at low risk for catastrophe hazards, or they may seek to exclude coverage for such hazards under the terms of the property insurance policies they offer. Regulation can also deter insurers from competing for customers, thereby reducing the range and quality of insurance options available.

   Many states that face risks from hurricanes or earthquakes have established special entities to provide insurance to those who cannot obtain coverage from private insurers. In 1996, California established a quasi-public company, the California Earthquake Authority, to sell earthquake insurance policies to California residents, backed by funds contributed by a number of private insurers operating in the state. Several states maintain residual pools to cover windstorm risks. These pools operate like traditional insurance companies, but they are required to sell policies to property owners in high-risk coastal areas and they are empowered to levy surcharges on primary insurers operating in a state.

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