Mass. To Test Drive Competitive Rating for Auto Insurance for First Time in 30 Years

July 16, 2007

The last time — January, 1977 — Massachusetts tried to introduce competitive rating into private passenger auto insurance, a Democrat, Michael Dukakis, was governor. The experiment lasted about seven months before being abandoned due to political pressures when rates rose, particularly for urban and young drivers. The Bay State returned to being the sole state where the regulator sets rates for all auto insurers.

Since the Dukakis years, Massachusetts has had mostly free-market Republican administrations—William Weld, Paul Cellucci, Jane Swift, Mitt Romney— that danced around the edges with regulations but never took the big step to change the state’s auto coverage pricing system.

Now, 30 years later, another Democrat, Deval Patrick, is in the governor’s chair, and it is this Democrat administration that is taking the political risk of changing the system, introducing what it is calling “managed competition” into the state’s highly-regulated auto insurance system beginning in April, 2008.

Gov. Patrick’s insurance commissioner, Nonnie Burnes, a former judge, has announced a plan to move to competitive pricing, despite a lack of clamor for change from a motoring public that has enjoyed years of rate cuts, despite signals from several powerful domestic insurers that they like the system just the way it is, and despite warnings from some politicians that she is playing with fire.

“We can no longer be held hostage to the failed 1977 experience,” Burns declared in her landmark ruling. “[N]o time is better than now to utilize the file-and-use system so that consumers, and the industry, can reap the multitude of benefits of a less regulated system.”

Insurers will be able to propose rates and rating criteria, subject to some parameters Burnes said she would unveil later. Insurers would be free to use the rates and criteria unless the department disapproves them.

Burnes said her decision will “commence a gradual transition to more choice, more transparency and lower premiums for consumers.”

She maintained that this managed competition “should ensure that consumers with good driving records, irrespective of where they live, will enjoy lower rates, and will permit insurers more flexibility, within defined parameters, to introduce flexible and competitive products to better serve the consumers.”

Insurers will be allowed to file rates based on what Burnes termed their “true” costs. In a letter accompanying her decision, she vowed that the department will retain a “strong yet supple regulatory oversight” to ensure that good drivers enjoy the benefits of managed competition, regardless of where they garage their cars.

She said she will issue a regulatory framework to guide insurers, “which will include parameters within which insurers will be free to propose premiums, considering such factors as driving record, number and severity of at-fault accidents, and traffic violations”

But insurers will not be handed the keys to price completely on their own. She made it clear she will impose some limits on the rating factors insurers will be permitted to use in pricing.

“I will view with extreme skepticism any rate proposal that is based on socio-economic considerations such as education, occupation, home ownership or credit report or score,” she advised.

She also noted that she retains the power to disapprove rates before they become effective and to step in after rates are in effect if they prove unfairly discriminatory or excessive.

In her decision, she turned the tables on those who argued that the current price-regulated marketplace dominated by home-grown carriers could not support price competition going forward. She sided with economists and others who suggested that insurers now compete in various ways for the best customers even under pricing constraints and that the current lack of national carriers in the state’s auto market actually presents an opportunity for future competition that could benefit consumers.

The former judge-turned-regulator noted that insurers currently use unique formulas to decide which high risks to cede to the state’s residual market.

“This is persuasive proof that companies presently have a strong ability to identify different levels of risk objectively,” she wrote.

Burnes suggested this same expertise could be employed to create benefits and discounts for good risks such as good student discounts, accident forgiveness benefits, hybrid car discounts and other competitive benefits.

The rookie insurance chief acknowledged that three domestic insurers opposed a move to competitive rating —Commerce, Arbella and Plymouth Rock (the latter founded by James Stone, the Dukakis-era commissioner who last tried competitive rating). These insurers are the state’s first, third and seventh largest auto insurance writers and combined control 47 percent of the market.

But Burnes noted they are outnumbered by insurers that expressed an interest in growing their auto insurance market share in the state if allowed more control over their pricing. These insurers included Amica, USAA, OneBeacon, Liberty Mutual, Hanover and Encompass.

At the same time she approved a move to competitive rating, Burnes also made another historic decision. She gave the final go-ahead for turning the state’s residual market, now a reinsurance facility, into an assigned risk plan similar to those operating in numerous other states.

Burnes provided few details of how the system will be moved from rigid price controls to “managed competition” but promised at least one public hearing to address concerns and move the process along.

Maintaining that the current rating system places too much emphasis upon where a car is garaged, she vowed to eventually revamp the existing territorial alignment of cities and towns, while suggesting, however, that there would not be enough time to do this for 2008.

Burnes appeared to take a middle ground between those who advocated for competition now and those who, including Attorney General Martha Coakley, warned against competitive rating at this time, by promsing that she will keep a close eye on insurers’ practices.

“In substance and process, I believe these measures will help ensure that we neither fully endorse the current over-regulated market nor move carelessly to unfettered competition,” she wrote.

The way Massachusetts law is written, the commissioner must move to competitive rating unless she finds that the marketplace could not support fair and competitive pricing or that it would impair insurers’ financial condition. For the past 30 years, her predecessors as commissioner have all sided with those who cited legal or market obstacles they believed meant competition could not work.

However, this year, Burnes determined she is required by the law to move to competitive rates. She cited the public testimony of state officials, insurers, agents and consumer organizations at the department’s hearing. “No testimony or other evidence was presented at this hearing to support a finding that competition is insufficient to ensure that rates will not be excessive, or that it is so conducted as to be destructive of competition or detrimental to the solvency of insurers. All of the evidence presented on these two points supports a finding that these two criteria have not been met and the commissioner cannot fix-and-establish rates for 2008,” she concluded.

One of the reasons the 1977 experiment failed was because consumers lacked useful information to shop for the best coverage and price, according to findings at the time. Burnes said the Internet should now make it easier for consumers to obtain the information they need.

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