There is a lot of bias against the insurance industry, coming from pretty much all political persuasions. Some are rightfully angry about bailouts and government subsidies, some are annoyed by the political capital insurance companies wield over politicians, some are upset at the rates insurance companies charge, and some are upset at what insurance companies cover. Many criticisms of the industry are well founded and these problems should be addressed in the way government works with and against insurance companies. However, there is also a lot of misinformation and misunderstanding of the insurance industry.
The most significant misunderstanding about the insurance industry is that it is often assumed that insurance companies derive their income form the rates they charge for premiums. However, unlike other industries, the revenues derived directly from consumers does not usually contribute to profits. Or, at least, that’s the way insurance companies prefer it.
The insurance industry is highly competitive. There is tremendous market pressure on premiums rates, and consumers are extremely savvy on shopping those rates. When something is such a significant portion of customers’ budgets and when there is such an abundance of competition, shopping tends to get rigorous. Therefore, insurance companies have to keep those rates as low as they possibly can or risk going out of business.
The industry’s answer to the highly-competitive nature of rates is to not rely on them for profits at all. But rather, the goal is to manage rates such that they will be enough to cover claims and the costs of operation. In other words, premium rates are designed to help the company break even. If the company is profiting from premium rates, it means that they are not being as competitive as they should, therefore leaving too much business that they might be able to capture with lower rates. Profits come from investing the reserves from funds that are needed to cover the risk of claims but have not yet been needed to pay those claims. In fact, insurance companies, along with pensions funds and mutual funds make up the largest investors in the world. They are what is referred to as institutional investors.
So, when people accuse insurance companies of being evil and greedy in what they charge, there is a bit of ignorance at play as to how those rates are derived. Premium rates are based upon what the company expects to be liabilities for claims, and to a far lesser extent the costs of operating the business. There is no greed at play in the rates. Insurance companies that have lower rates tend to be ones who are either managing their risks better or are choosier about which people they choose to cover. They might also manage rates by changing the amount of coverage and (in the case of medical insurance) being very choosy about which doctors and facilities are used and what rates are negotiated with them.
Also prevalent amongst misconceptions about the industry is the idea that insurance companies limit coverage based upon greed. this is related to the misconception of rates. As mentioned above, one of the way an insurance company can lower its rates is to limit coverage more. Bare in mind that they do not desire to make profits on the rates, but merely are trying to market rates in such a way to get the most customers. Many customers are willing to accept a lower amount of coverage for lower rates. It makes sense. If you want more coverage, you have to pay more. Nobody is charging exorbitant rates to gouge people. They are just charging realistic rates on coverage in the manner people use it – with a goal of obtaining $0 in profits (profits will be made on investments).
Some insurance companies are formed as Mutual companies. This means that the policy holders are the owners of the company. So, any profits of the insurance company are paid back to policy holders in the form of dividends. Other insurance companies are set up as non-profits. Some Blue Cross and Clue Shield companies are set up this way. In these cases, any residual profits are used to lower rates for current policy holders.
So, what rates insurance companies can charge for certain levels of coverage? In one sense, it’s unnecessary, because the insurance industry is already doing all it can to keep those rates low. In another sense, if rates are artificially forced lower than what would be enough to cover costs, then companies go out of business.
What happens when government forces insurance companies to maintain a particular level of coverage? As was the case with the Affordable Care Act (often referred to as Obamacare), the amount of available types of plans dramatically decreases such that consumers have less choice, and rates dramatically increase to cover the costs of those coverages. With the ACA, health insurance premiums have gone up over 120%. Other legislative actions over the years have also mandated certain types of coverages and increased certain types of costs. In some cases, those mandates and regulations helped to serve the interests of preventing fraud, but in some cases they also served to increase rates unnecessarily. Some people get a little confused on what insurance is designed to do. It is designed to cover significant risks. It is designed to cover costs that are very difficult to afford unexpectedly. As such, things like annual doctor visits and check ups, a couple of trips to the doctor each year for colds, and ongoing conditions are not risks. They are certainties.
What happens if we have the costs of insurance subsidized by government? Well, aside from putting insurance companies in a position of needing to preserve those subsidies and using their money to buy politicians and their favor, you’re still paying for it anyway. Just because the government subsidizes something doesn’t mean it isn’t costing you. You either going to pay with higher taxes or with government having to print more money (thus reducing the value of your money), or both. It also yields levels of corruption that really hurt you in terms of your own personal freedoms.
In order to keep the insurance industry out of our government, the best course of action is to take away government’s ability to offer the industry anything. If the industry can’t benefit from the actions of politicians, then insurance companies can’t benefit from legislation.
But, what if we just scrap this whole thing and just have the government take over the entire industry so that we don’t have to worry about how much insurance companies charge and how much they cover? The government is a far cry from any semblance of efficiency. Just think about your experiences with government services and wonder at if they struggle to get you a copy of your drivers license whether they will drop a good job of handling insurance claims. Government handling of insurance would at least double the cost of doing business. That is based upon the fact that government is usually more than double the cost on welfare as compared to private charity (and that is being generous toward government on the issue).
Insurance companies aren’t evil and greedy. They are over-subsidized and over-regulated. Want to see lower premium rates? Then, allow insurance companies to do what they do extremely well. Let them figure out what the costs of risks really are.
Danny Chabino
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