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Optional Federal Charter: Two Disparate Views |
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Written by U.S. Insurance News
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Thursday, 21 February 2008 |
In 2007, the Treasury Department conducted a review of how the United States regulated financial institutions. To that end, they established 18 questions exploring an Optional Federal Charter. Such a charter would over-arch state insurance regulations providing uniformity in regulations that currently vary from state to state.
In 2007, the Treasury Department conducted a review of how the United States regulated financial institutions. To that end, they established 18 questions exploring an Optional Federal Charter. Such a charter would over-arch state insurance regulations providing uniformity in regulations that currently vary from state to state. In this article, U.S. Insurance News has gleaned the responses of two recipients of this review and printed portions of each below. The American Council of Life Insurers ("ACLI") is supportive of the Optional Federal Charter, while the National Association of Insurance Commissioners is not. Answers from the American Council of Life Insurers were provided by Gary E. Hughes, Executive Vice President and General Counsel. Answers from the National Association of Insurance Commissioners appear over the signature of Catherine J. Weatherford, Executive Vice President and Chief Executive Officer. U.S. Insurance News hopes that you find the following material useful as you contemplate your views of the Optional Federal Charter. In the spirit of fairness, we rotated the answers from each group.
General Issues
1.1 What are the key problems or issues that need to be addressed by our review of the current regulatory structure for financial institutions?
ACLI Comments: The life insurance industry is in need of a modern, efficient, and uniform system of regulation. A federal insurance regulatory system would achieve uniformity of laws, regulations and interpretations and would provide a single point for making product and similar filings.
NAIC Comments: The greatest responsibility for regulators of financial institutions is establishing the appropriate balance between consumer protection and market efficiency. A primary goal of insurance regulation is to regulate the insurance industry in a fair and efficient manner which promotes a competitive and financially sound market for consumers. Finding this balance has always been an important aspect of state insurance regulation. In response, the NAIC created the model legislation forming the basis of the Interstate Insurance Product Regulation Commission (IIPRC) to allow single product filings to be accepted in all states that join the Commission - 30 states to date - thus enhancing market efficiency.
1.2 Over time, there has been an increasing convergence of products across the traditional "functional" regulatory lines of banking, insurance, securities, and futures. What do you view as the significant market developments over the past two decades (e.g. securitization, institutionalization, financial product innovation and globalization) and please describe what opportunities and/or pressures, if any, these developments have created in the regulation of financial institutions?
NAIC Comments: We believe the most significant market developments over the past decade include securitizations, financial product innovation and globalization. Alternative risk finance mechanisms have been another significant development in the insurance market.
ACLI Comments: We do not offer any comments on product convergence in other sectors of the financial services industry. However, from the perspective of the life insurance business, we generally do not agree with the premise of this question. Life insurers today operate under a patchwork system of state laws and regulations that lack uniformity and are applied and interpreted differently from state to state.
1.2.1 Does the "functional" regulatory framework under which banking, securities, insurance, and futures are primarily regulated by respective functional regulators lead to inefficiencies in the provision of financial services?
ACLI Comments: From the perspective of the life insurance business, we would answer this question in the negative. As noted above, there are so many aspects of life insurance regulation that are separate and distinct from banking or securities regulation that it would be both impractical and inappropriate to have the same regulator responsible for all financial services industry segments.
NAIC Comments: To some extent, probably yes, but there are benefits to a functionally regulated marketplace. The products offered by banks, credit unions, thrifts, insurers, and securities firms are usually very different and increasingly more complicated, particularly in securities and insurance. This level of diversity and complexity requires specialized knowledge and experience for regulators to carry out their functional responsibilities effectively. As a result, the most important issue regulators of financial institutions must continue to address is the ever increasing need to communicate and coordinate with fellow specialist functional regulators.
1.2.2 Does the "functional" regulatory framework pose difficulties for considering overall risk to the financial system? If so, to what extent have these difficulties been resolved through regulatory oversight at the holding company level?
ACLI Comments: We do not believe so. The main problem under the current financial regulatory structure is that there is no federal insurance component. We believe this strengthening of the federal financial services regulatory framework is critically important to the competitiveness of U.S. insurers with global operations.
NAIC Comments: We believe the federal government should focus on ways to increase functional coordination and communication within the federal government and in cooperation with state governments as more beneficial than creating an additional, umbrella financial services regulator.
1.2.3 Many countries have moved towards creating a single financial market regulator (e.g., United Kingdom's Financial Services Authority; Japan's Financial Services Agency; and Germany's Federal Financial Supervisory Authority [BaFin]). Some countries (e.g., Australia and the Netherlands) have adopted a twin peaks model of regulation, separating prudential safety and soundness regulation and conduct-of-business regulation. What are the strengths and weaknesses of these structural approaches and their applicability in the United States? What ideas can be gleaned from these structures that would improve U.S. capital market competitiveness?
NAIC Comments: A major weakness with the single financial market regulator model is the tendency to create generalists, which actually reduces the effectiveness of solvency regulation and ultimately consumer protection. The consolidated approach put in place with the relatively recent creation of the FSA in the UK (established in 2000) and the BaFIN in Germany (2002) are proper reflections of the strong role in those markets of financial conglomerates. Under those circumstances, it is appropriate for those jurisdictions to begin to put in place a system to respond effectively to their markets.
ACLI Comments: Both the single financial market regulator and the twin peaks models implemented in the jurisdictions cited are relatively recent developments and were implemented from the base of existing national, sectoral regulatory regimes. It is difficult to draw direct parallels from these other models, other than to note that it is critical to establish a federal insurance regulatory competency prior to considering regulatory integration.
1.3 What should be the key objectives of financial institution regulation? How could the framework for the regulation of financial institutions be more closely aligned with the objectives of regulation? Can our current regulatory framework be improved, especially in terms of imparting greater market discipline and providing a more cohesive look at overall financial system risk? If so, how can it be improved to achieve these goals? In regards to this set of questions, more specifically:
ACLI Comments: For the life insurance business, a key objective of regulation is effective solvency oversight, particularly given the long-term nature of life insurance and annuity contractual obligations. Another key objective of insurance regulation should be to foster a favorable climate in which the domestic industry can thrive and compete effectively with other financial services companies. Another objective of financial institution regulation should be transparency. Transparency is more effectively achieved under a regulatory structure having one set of laws, regulations and interpretations.
NAIC Comments: The key objective of financial institution regulation has been, and should always be, maintaining the appropriate balance between providing consumer protection and maintaining market efficiency. The current framework of state insurance regulation is well aligned with this key objective.
1.3.1 How should the regulation of financial institutions with explicit government guarantees differ from financial institutions without explicit guarantees? Is the current system adequate in this regard?
NAIC Comments: Most insurance products are protected by state guaranty funds. The guaranty funds have been established to protect policyholders, claimants and beneficiaries against financial losses from insurer insolvencies. These are retrospective by nature, except in New York where the guaranty fund is prefunded. All state guaranty funds are financed by assessing insurers actively writing the type of insurance business subject to the guarantee.
ACLI Comments: Regulation can and should be handled exclusively by the functional regulator. With the addition of a federal regulatory option, the current insurance regulation system would be adequate in this regard.
1.3.2 Is there a need for some type of market stability regulation for financial institutions without explicit Federal Government guarantees? If so, what would such regulation entail?
ACLI Comments: The U.S. model of a post-event guaranty system is considered the current global best practice. For this reason, we do not believe additional market stability regulation is warranted.
NAIC Comments: Insurance is backed by guaranty funds and other market mechanisms established, for the most part, under state law. These are financed by the industry itself and by premium tax offsets in many states available to insurers paying assessments to guaranty funds in that particular state.
1.3.3 Does the current system of regulating certain financial institutions at the holding company level allow for sufficient amounts of market discipline? Are there ways to improve holding company regulation to allow for enhanced market discipline?
NAIC Comments: State Insurance regulators have developed a process of coordinating and communicating with other functional regulators when needed to identify the overall risk within a holding company system. The process includes obtaining information not otherwise publicly available in order to better understand all of the risks associated with the holding company.
ACLI Comments: Under the current insurance regulatory structure, most regulation takes place at the operating company level. Coupled with Federal Reserve oversight of any insurer that is part of a financial holding company, we believe this system is adequate with respect to market discipline.
1.3.4 In recent years, debate has emerged about "more efficient" regulation and the possibility of adopting a "principles-based" approach to regulation, rather than a "rulesbased"approach. Others suggest that a proper balance between the two is essential. What are the strengths, weaknesses and feasibility of such approaches, and could a more "principlesbased" approach improve U.S. competitiveness?
ACLI Comments: A primary strength of a well-developed principles-based approach to regulation would be to create an environment allowing the development of innovative insurance products that are responsive to consumers' needs and not constrained by outmoded regulations.
NAIC Comments: State insurance regulators are currently in the process of considering the advantages of a more principles-based approach to regulation and are leaning towards what could be described as a mixed model. A mixed model includes the use of rules in areas where adequate consumer protection could not be provided through a principles-based approach, and the use of principles where rules are not necessary to provide adequate consumer protection or do not accomplish those purposes effectively. The goal of the mixed model is to achieve the proper balance of consumer protection and market efficiency.
1.3.5 Would the U.S. financial regulatory structure benefit if there was a uniform set of basic principles of regulation that were agreed upon and adopted by each financial services regulator?
NAIC Comments: Yes, if there is a deliberative process and if necessary and reasonable explicit rules developed for each unique financial services product remain in place. The principles should not create ambiguities that will foster litigation but instead should level the playing field.
ACLI Comments: If insurance were to have a federal regulator, we would agree that such overarching principles - implemented in appropriate areas - would be beneficial.
1.4 Does the current regulatory structure adequately address consumer or investor protection issues? If not, how could we improve our current regulatory structure to address these issues?
ACLI Comments: State insurance regulation generally provides adequate consumer protection on an individual state basis. However, the lack of uniformity from state to state has the potential in some instances to leave gaps in consumer protection. We believe consumer protections could be strengthened through the implementation of an optional federal insurance charter along with a federal insurance regulator.
NAIC Comments: Today, state insurance departments engage in active monitoring of insurer practices by reviewing the following functional areas of insurance companies: (1) claim handling; (2) company operations; (3) complaints; (4) marketing & sales; (5) policyholder service; (6) producer licensing; and (7) underwriting & rating. States generally carry out their market regulatory activities through consumer education, market analysis, investigations and examination activity.
1.5 What role should the States have in the regulation of financial institutions? Is there a difference in the appropriate role of the States depending on financial system protection or consumer and investor protection aspects of regulation?
ACLI Comments: The same role states have in the regulation of commercial banks. Insurers would then be able to elect the regulatory system best suited to their particular business. If an optional federal insurance charter were implemented, it would likely be appropriate to provide for both a central and a regional regulatory presence (i.e., home and branch offices of the regulator) as well as delegation of certain functions to a self-regulatory organization with its own regional presence.
NAIC Comments: The current system of regulating insurance at the state level is appropriate, proven and successful. State insurance regulators share the goal of balancing vigorous consumer protection with robust business competition to provide a healthy insurance marketplace for consumers and investors.
1.6 Europe is putting in place a more integrated single financial market under its Financial Services Action Plan. Many Asian countries as well are developing their financial markets. Often, these countries or regions are doing so on the basis of widely adopted international regulatory standards. Global businesses often cite concerns about the costs associated with meeting diverse regulatory standards in the numerous countries in which they operate. To address these issues, some call for greater global regulatory convergence and others call for mutual recognition. To what extent should the design of regulatory initiatives in the United States be informed by the competitiveness of U.S. institutions and markets in the global marketplace? Would the U.S. economy and capital market competitiveness be better served by pursuing greater global regulatory convergence?
NAIC Comments: Global convergence will ultimately prove beneficial to increase the ability of regulators in different countries to work together in meeting the needs of consumers they protect, especially with the globalization of the insurance industry. The NAIC has recognized this and, since establishing the IAIS in the early 1990s with other countries, has retained a leading role in the organization. However, if achieving global convergence means reducing consumer protection standards to a minimal level, this is not a desirable outcome for citizens of the United States.
ACLI Comments: European financial services integration as well as integration in Japan, Australia, Korea and other OECD nations is at a very different point than integration in the U.S. We believe convergence of global regulatory standards should be pursued and should be focused on the high-level principles that form the basis of domestic regulation. Convergence beyond that is likely not possible due to cultural, product, tax and market differences.
Specific Insurance Issues
2.2.1 What are the costs and benefits of State-based regulation of the insurance industry?
ACLI Comments: The current state-based insurance regulatory system is inefficient in many respects. The ACLI and its member companies are committed to making that state system more modern and efficient, and that would in turn decrease costs and increase benefits. We believe, however, that for many national insurers, even greater cost savings and regulatory benefits could be achieved through an optional federal charter.
NAIC Comments: The primary benefits of state-based regulation are a robust insurance market and a regulator responsive to consumer needs. Under state regulation, individual and commercial insurance consumers benefit from a strong, financially sound and competitive marketplace with offerings from millions of insurance producers, over 7600 insurance companies, and a host of products tailored to the specific needs of the insured.
2.2.2 What are the key Federal interests for establishing a presence or greater involvement in insurance regulation? What regulatory structure would best achieve these goals/interests?
NAIC Comments: The federal government should expand its presence in insurance oversight only in a way that complements and enhances the existing state regulatory structure. Federal partnerships to enhance consumer choice and protections, increase the health of markets, and increase communication and cooperation among financial services regulators, would be welcomed.
ACLI Comments: Establishment of a federal insurance regulator under an optional federal chartering system would address several important federal interests: enhanced ability to coordinate federal financial regulation across industry lines; improved ability to assess overall federal financial risk; facilitation of international trade negotiations; establishment of a U.S. federal competency for insurance as part of financial conglomerates and mutual recognition; establishment of a U.S. federal competency on insurance to provide international technical assistance and capacity building; and establishment of a U.S. federal competency for insurance to understand and respond to international regulatory and market developments.
2.2.3 Should the States continue to have a role (or the sole role) in insurance regulation? Insurance regulation is already somewhat bifurcated between retail and wholesale companies (e.g., surplus lines carriers). Does the current structure work? How could that structure be improved?
ACLI Comments: The states should continue to have a significant role in the regulation of the business of insurance. While we believe a dual chartering structure is necessary and appropriate for the life insurance business, we note that there will unquestionably be a large number of life insurers that will elect to remain state regulated.
NAIC Comments: The states should continue their role as the primary regulator of insurance. Consumers are best protected by local, accountable regulators who live and work in the communities they serve. A separate federal entity to oversee a certain group of companies or a certain market segment will result in a bifurcated system and regulatory arbitrage- a "race to the bottom" that will harm insurance consumers and the various markets for insurance.
2.2.4. States have taken an active role in some aspects of the insurance marketplace (e.g., workers' compensation and residual markets for hard to place risks) for various policy reasons. Are these policy reasons still valid? Are these necessarily met through State (as opposed to federal) regulation?
NAIC Comments: As noted earlier, insurance is not like every other financial product. The market is unique in that sellers can and do turn down willing buyers, yet buyers are often required by law to find someone willing to sell to them. If government is going to require a person or business to purchase a particular product, it has an obligation to ensure the requirement can be met. Using a private entity (an insurer) to meet a public policy requirement does not work in all cases.
ACLI Comments: Not applicable to the life insurance business or its regulation
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