Ben Nelson who is the CEO of America's National Association
of Insurance Commissioners has written an article detailing the problems he
believes could arise as a result of the drive to regulate the insurance industry
by the Central Bank which is known as the Fed. The title of the article is:
“Dodd-Frank Comes for the Insurers” and the subtitle is: “Bank-style regulation
on the industry will encourage risky behavior.” It was published in the Wall
Street Journal on April 15, 2014.
The thrust of his argument is that the independent States of
the American Union have done well regulating their insurance businesses for
nearly 150 years, and that the current drive to put the Central Bank – which is
a federal level institution – in charge of regulating those businesses will
cause problems that did not exist before. And the reason why this would happen,
he says, is that the federal institution will apply the one-size-fits-all
concept whereas the States allow for the tailoring of the requirements by which
risk is managed, to suit each situation.
Practically, risk is managed by allocating a level of
capital that was shown by experience to be necessary to cover the demands made
on a financial institution under a worst case scenario should something go
wrong. The banks have one level dictated to all by the Fed. As to the insurance
companies, they have different levels, each corresponding to what a company is
insuring … such as life, health, property or casualty. And where or how the
company is investing the money … such as bonds that range in risk and yield
from the very high to the very low.
All this will disappear, says Ben Nelson, if the Fed takes
over and imposes on the insurance companies the kind of regulations it now imposes
on the banks according to the Dodd-Frank legislation. He sees an irony in how
this drive came about, and sees trouble ahead because the insurance companies
will be inclined to take measures that will render the industry riskier than
before.
The irony is that the failure of the insurance company AIG
is what launched the drive to regulate the industry, he says. But AIG had two
divisions, he goes on to say. One division was federally regulated; the other
state regulated, and it was the federally regulated that failed, he asserts.
The trouble with this assertion is that it is only a statement and not an
argument whose validity could be measured if only the writer had bothered to
contrast the two kinds of regulation to show why the federal regulation led to
the failure while that of the state did not.
As to the measures which he says will make the industry
riskier, consider this statement: “The company would have a perverse incentive
to hold the riskier bond for a higher rate of return.” Well, this is a bogus
argument because the insurance companies are in the business of assessing risk,
and they run their operations based on what they find. The company that will
throw caution to the wind because a new regulation was introduced will need a
new CEO and not the absence of regulation. No, there is nothing to fear in this
regard.
Nelson cites another example which, he says, will needlessly
increase the risk to the insurance companies. But the truth is that the risk he
mentions is here now, and will continue to be after the new regulation comes
into effect. The problem he describes is associated with the bubble phenomenon.
That is, when you hold assets whose value is rising, you are allowed to borrow
more against them for the purpose of adding to the investment. And the more
that you and other investors borrow, the more that you contribute to the size
of a bubble that will surely form and grow. When the bubble bursts, as it must,
no one escapes its ravages now, and no one will till something is done to curb
the underlying cause which is excessive speculation.
The financial collapse that happened in 2008 happened
because the financial industries were given the green light to do anything and
everything they wanted while the Fed, which had the task of printing the money,
was doing just that – printing money on demand and handing it to the captains
of those industries. And these were the people who caused the bubble to form
and burst, resulting in the near collapse of the American economy, and the
pulling down of the rest of the world.
Had there been the kind of supervision that is in Dodd-Frank
today, the near collapse would not have happened. But now, in addition to that
supervision, stress tests are regularly performed on the banks, and different
kinds of stresses will be devised to test the insurance companies for the
different kinds of products they sell.