The Effects of an Optional
Federal Charter on
Competition in the Life
Insurance Industry
Presentation
ARIA 2007 Meeting
August 6, 2007
Martin F. Grace
Robert W. Klein
Georgia State University
Outline
• Motivation and Issues
• State versus OFC Framework
• Structure & Performance of Life
Insurance Industry
• Likely Effects of OFC on Competition
Motivation
• Many Life & PC insurers now advocate the
creation of an optional federal charter (OFC).
• Some insurers, independent agents and the
states oppose OFC.
• OFC legislation has been introduced in
Congress.
• The OFC proposal has sparked a strong
debate involving several issues, including its
likely effects on market competition.
Evolution of Insurance Industry
• Insurance markets have become increasingly
national & international in scope.
• Under state framework, each state licenses
insurers to operate in its jurisdiction & approves
life insurance/annuity products sold and other
aspects of market conduct.
• Many multi-state insurers contend that state
regulation has become an increasing drag on its
efficiency and competitiveness.
• Life insurers increasingly compete with other
financial institutions that are federal-regulated &
international insurers governed by more efficient
regulatory systems.
Issues
• To what extent does current state framework
create barriers, raise costs and impede
competition.
– Pottier (2007) finds significant inefficiency in life
insurance industry attributed to state regulation.
• How would OFC affect life insurance markets?
– Effects on structure, conduct and performance.
– Effects on competition, efficiency, prices, product
innovation, market conduct and consumer welfare.
– Implications for competition in financial services.
– Implications for competition in international
markets.
OFC Proposal/Legislation
• National Insurance Act (NIA) would allow insurers and
agents to submit to federal regulation.
• OFC insurers and agents would not be subject to state
regulation.
• Federal insurance regulator would operate much like the
OCC.
• States would continue to collect premium taxes on all
insurance written.
• State guaranty associations would handle insolvency costs
if they met federal standards; federal regulator would
manage receiverships of “national” insurers.
• Insurance contracts would be interpreted under one set of
laws.
Life Insurance Industry Structure
US Concentration Statistics By Line of Business Measured at the Group Level, 1985-2005
Four Firm Concentration Ratio
Sixteen Firm Concentration Ratio
Year
Ord Life Ord Ann Group Life Grp Ann Ord Life Ord Ann Group Life Grp Ann
1985
22.4%
27.8%
37.1%
49.6%
45.2%
54.4%
64.6%
78.9%
1990
33.8%
47.2%
49.9%
58.6%
65.3%
79.3%
78.2%
91.3%
1995
21.2%
25.2%
42.5%
40.3%
53.1%
58.2%
68.3%
76.9%
2000
22.7%
37.2%
36.0%
51.6%
56.3%
70.1%
72.7%
87.5%
2005
29.6%
35.0%
45.5%
55.2%
64.4%
76.2%
78.1%
89.1%
Eight Firm Concentration Ratio
Herfindahl Hirschman Index
Ord Life Ord Ann Group Life Grp Ann Ord Life Ord Ann Group Life Grp Ann
1985
32.9%
38.8%
51.7%
63.4%
207
319
461
896
1990
49.4%
63.0%
65.5%
76.1%
425
753
825
1,065
1995
37.9%
40.1%
55.7%
59.6%
247
288
561
646
2000
36.9%
53.9%
54.3%
69.8%
266
489
525
1,161
2005
45.5%
53.6%
61.2%
72.0%
410
522
777
971
State Market Concentration
Number of States with HHI's by Each
DOJ Category, 2005 (Group Basis)
Panel A. HHI Below 1000.
Line of Business
N of States
Ordinary Life
49
Ord Annuity
47
Group Life
36
Group Annuity
6
Panel B. HHI Between 1000 and 1800.
Line of Business
N of States
Ordinary Life
2
Ord Annuity
4
Group Life
10
Group Annuity
36
Panel C. HHI Above 1800.
Line of Business
N of States
Ordinary Life
0
Ord Annuity
0
Group Life
5
Group Annuity
9
Firm Value
Insurers Losing Ground to Other FIs
Mergers and Acquisitions
Observations
• Life industry relatively un-concentrated at
national & state levels.
• “Natural” entry/exit barriers are low.
• Regulatory barriers could be more significant.
• Profits, firm value and efficiency sub-optimal.
• Industry consolidation continues:
– Effort to increase scale economies
– Market access and penetration
– Other reasons?
Motives to Opt for OFC
• Incentives to opt for OFC increase with size
& geographic scope of operations.
• Competition with other FI’s & internationally
also increase incentives for OFC charter.
• Product mix may or may not be a big factor.
• OFC option increases potential returns from
and value of M&A’s.
• State progress (or lack of it).
Characteristics of ACLI Members
“Nationally Significant” Insurers
Expectations
• Many insurers, accounting for most of the industry’s
output, would opt for OFC.
• OFC would facilitate/promote:
–
–
–
–
Increased competition.
Industry (market) expansion.
Further consolidation.
Lower regulatory costs, greater efficiency, lower prices,
better products, consumer benefits.
– Healthy competition between state/federal regulators
– Industry competitiveness w/ other FIs, internationally.
• State-regulated insurers should remain viable if
they offer comparative value that exceeds federal
regulation efficiencies.