Critics of California’s business climate routinely complain about the state’s high tax rates, its large and costly government, its coddled and overpaid class of government workers, and its excessively burdensome level of regulation. It’s an old story — and you can even buy a People’s Republic of California T-shirt (or move to Texas) if you want to express your displeasure at the continuing loss of entrepreneurial freedoms here.
The People’s Republic jibes are tongue-in-cheek, of course, but there is a large area of commercial life where this isn’t that much of an exaggeration. An ongoing court case over a regulatory edict illustrates how unfree parts of our economic life in this state have become. Because the issue deals with the mind-numbingly complicated topic of insurance regulation, it hasn’t triggered wide interest from reporters or the broader business community.
But it’s worth looking at a San Diego County Superior Court case pitting State Farm General Insurance Co. against California Insurance Commissioner Dave Jones. What would your business life be like if it were regulated in the same manner that California regulates property and casualty insurance? Could you in any way argue that you were operating in a free or open society?
It’s a system where a commissar sets prices, one of his employees (an administrative law “judge”) adjudicates challenges to his edict, and activists represent the “People” — and collect large fees for doing so. This was the fault of voters, who — facing then-rising insurance prices — approved Proposition 103 in 1988. This statewide initiative promised to roll back insurance rates by 20 percent, although that portion of it was rewritten by the courts.
Mainly, the proposition added three provisions that would give the government unparalleled power to set rates. The first made California a “prior approval” state, which is the most aggressive form of insurance regulation among the states. In this system, the Department of Insurance must grant its blessing to any insurance company’s proposed change before those rates can be implemented. Prop. 103 also limited the criteria that insurance companies could use to determine how to set their prices. Thus, regulators in the insurance bureaucracy sift through the entrails of data, trying to determine whether the proposed rate increases are justifiable or not.
The second change “authorized a process for consumer participation in the administrative process for setting insurance rates, and permitted consumer ‘intervenors’ to recover advocacy and witness fees and expenses under certain circumstances,” according to the Department of Insurance explanation. (The group founded by the initiative’s author, by the way, has become a main intervenor in these cases.)
The third change turned the appointed commissioner into an elected official.
Basically, the initiative gave a single official incredible powers to set private insurance rates. It gave outside “consumer” groups a vested financial interest in challenging rate hikes. And it gave that single official a vested political incentive to grandstand and oppose rate increases. It’s always easier to run for higher office by standing up against the “greedy” insurers than it is to be the person who granted them their requested rate hikes.
The State Farm case doesn’t challenge this non-free-market system of insurance regulation. Everyone — even the insurance companies — basically accept this world as it now exists. The case involves an effort by State Farm and the insurance trades to stop the Department of Insurance and its politically ambitious commissioner from grabbing even more power.
State Farm had come before the department to seek a 7-percent rate hike in a period of drought. The dry conditions, it argued, increased the company’s wildfire risks. But, as I reported for CalWatchdog in August, “Administrative Law Judge John H. Larsen ‘ordered’ a 5.37 percent decrease for non-tenant homeowners rates, a 20.39 percent decrease for renters’ rates and a 13.81 percent decrease for State Farm’s condominium insurance lines The rate reductions were ordered retroactively to July 15, 2015, and State Farm was told to pay a 10 percent annual interest rate as part of its refunds, which are expected to total around $85 million.”
Even under the current insurance regulatory framework, bureaucratic edicts are only prospective, meaning they apply to future rates. In this case, the “judge” went backwards in time and reduced rates, thus hammering State Farm with a bill of around $110 million. Think about what that could mean for the state’s insurance businesses. They’ve already accounted for past years’ profits.
What kind of financial stability can any insurance company have in California if at any point insurance officials can decide to retroactively decrease the prices they charged consumers? Fortunately, State Farm has the freedom to appeal to an actual court. In recent days, the superior court judge — facing volumes of insurance-pricing data — split the baby and granted State Farm’s request for a “stay” of the administrative order for the past refunds, but allowed mandated future premium reductions to go forward as the department demanded.
“State Farm’s lawsuit is an attempt to weaken consumer protections provided by Proposition 103 while simultaneously continuing to overcharge consumers,” said the California Department of Insurance, in a statement after the ruling. “Policyholders should not be forced to pay excessive rates or be denied the $110 million rebate to which they are entitled.”
But Rex Frazier, president of the Personal Insurance Federation of California in Sacramento, captured the significance here: “The Department of Insurance just reversed over 25 years of consistent legal interpretation, claiming new powers to order retroactive premium refunds with the stroke of a pen, no public debate and no explanation. If their authority to do this was that clear, why did it take a quarter of a century to find it? Their view of the law is wrong, and their suspicion of due process is worse. Even the IRS would think this is heavy-handed.”
And it’s not just State Farm that will suffer. In an amicus brief filed with the court, the state’s insurance trade associations note the order is precedential. As it explained, “Other insurers have recently received notices from the (California Department of Insurance) requiring them to file rate decreases and indicating that, once approved, such decreases will be backdated to a date chosen by the CDI. This completely changes how a business should operate, and creates enormous uncertainty in the process.”
The role of insurance regulation traditionally has been mainly to assure that companies have the assets to pay future claims — not to set rates after a Byzantine process.
We know how well bureaucrats manage things. In its lawsuit, State Farm argues: “The rate order that is the subject of this petition seeks to support (State Farm General’s) California homeowner’s insurance rates with phantom investment income on stock assets SFG does not own.”
Proposition 103’s supporters still claim the initiative lowered insurance rates, even though such rates came down largely because of other factors. No surprise, but the initiative mainly provided an obstacle for insurance companies to seek rate reductions given the “intervenor” process is so bruising. Overall, the initiative reduced the release of innovative products and forced companies to become tougher in their underwriting.
Some argue it ended up boosting insurance-industry profits by reducing competition. But that latter point doesn’t make the latest departmental edict anything other than what it is. It’s a taking, and a particularly troubling one because of the uncertainty it offers for the state’s insurance industry and for California businesses in general.