The National Association of Insurance Commissioners (NAIC) made history recently by voting to ask Congress to enact legislation that would prohibit non-regulatory states from applying different collateral requirements for credit for reinsurance than those set by the regulatory state. The federal legislation called for by the NAIC would have the effect of providing a single regulator—but a state regulator—for reinsurers, foreign or domestic. Non-regulatory states would be required, by federal law, to defer to the primary regulator. This is a paradigm shift for the NAIC and could have major implications for the future of state insurance regulation.
At its meeting in Grapevine, Texas, on December 6 and 7, 2008, the NAIC voted in plenary session to adopt a proposal of its Reinsurance Working Group to reform the current system that requires non-U.S. reinsurers to post 100% collateral on risks ceded by U.S. primary insurers. The vote, which was not unanimous, came after years of wrangling among major European reinsurers and large U.S. ceding companies and their trade associations. The debate even caught the attention of the U.S. government and the European Union (EU), as allegations were made of protectionism and violations of free trade agreements.
Developing the Proposal
The final product was largely crafted by New Jersey Commissioner Steven Goldman, who managed to square a number of overlapping circles that seemed to many to be mutually exclusive. As Commissioner of Insurance, Securities and Banking for the District of Columbia, I had developed an earlier version of the reform proposal, along with then New York Superintendent of Insurance Howard Mills (and predecessor Greg Serio), that never received a final vote by the NAIC. The version adopted recently contains a number of the provisions of our earlier draft, but is more nuanced and complicated. It also goes much further into the broader question of how reinsurance should be regulated in a global market. And it contains unprecedented (for the NAIC) calls for a single U.S. regulator (although a state regulator) and for federal legislation dealing with insurance regulation. The affirmative vote at the NAIC plenary session, while lopsided, was not unanimous. Although adopted by voice vote, it appeared that Indiana, Kentucky, Ohio, Utah and Wisconsin voted "no."
Short-Term Impact Limited
The action taken by the NAIC, though important and historic, will not provide immediate relief from collateral requirements for non-admitted reinsurers, because it requires federal legislation to become effective. At least in the near future, initiatives taken by the states of New York and Florida will have greater impact. In fact, the primary short-term significance of the NAIC action may well be to legitimize the actions of New York and Florida and encourage other states to follow their lead.
Long-Term Implications Profound
The longer-term implications of the NAIC vote, however, are profound. The plan calls for each reinsurer, U.S. or non-U.S., to have a single regulator for all its activities in the U.S. In the case of a reinsurer licensed in the U.S., that single regulator would be the state of domicile. Non-licensed (non-U.S.) reinsurers would be able to pick a "port of entry" U.S. jurisdiction from among those states certified by the NAIC to be capable of serving in that role, and that state would be its single regulator for all U.S. activities.
To make such a system work, non-domiciliary (and non-port-of-entry) jurisdictions would have to defer to the regulatory authority of the single regulator. How would such deferral be enforced? The U.S. Congress would be asked to enact a law preempting non-regulatory states from exercising regulatory authority over the reinsurers.
Although Congress has enacted laws in the past to preempt non-domestic state regulators, such as the Liability Risk Retention Act of 1986, and has more recently considered similar legislation ("NARAB II" and the "Nonadmitted and Reinsurance Reform Act of 2007"), this is the first time, as far as I know, that the NAIC has voted to ask Congress for legislation that would preempt state regulatory authority. It is also the first time, I believe, that the NAIC has taken a vote supporting the idea that state regulators should defer to their colleagues on regulatory matters.
The adoption by Congress of the legislation proposed by the NAIC would go a long way toward conforming the U.S. to the EU model of insurance regulation. Each EU member has its own insurance supervisor, who enforces its national insurance laws. But through its "passport" system, insurers licensed in one EU jurisdiction can operate throughout the EU without additional licensing. The domestic insurance regulator has responsibility for its insurers wherever in Europe they operate.
Limits on State Regulatory Authority
The subtext of the debate at the NAIC over reinsurance collateral reform is the extent of state regulatory authority. Those states that voted "no" presumably were concerned that the proposal would infringe on their legal authority over insurers operating in their jurisdictions. A single state regulator for reinsurers that operate on a national basis may make good sense. But the same logic would also extend to other kinds of insurance that are relatively uniform nationwide, such as life insurance and annuities, certain kinds of commercial property and casualty insurance, surplus lines of insurance, etc. One could argue that even personal lines insurers should be able to operate nationally with a single regulator, even though state laws vary widely with respect to these lines.
It is obvious that one possible solution to the problem of overlapping and redundant insurance regulation in the United States is to have a federal regulator. That is the solution that the NAIC is desperately trying to head off. The vote taken on reinsurance collateral reform at the recent meeting could be a harbinger of things to come. Could the state insurance regulatory system, operating under the authority of federal preemption laws, serve the insurance industry's need for a single regulator and reasonably uniform operating laws? There are at least some members of the NAIC, particularly its elected leaders, who clearly think so, and that view is supported by at least some elements of the insurance industry.