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Competition ‘Across State Lines’ Won’t Make Insurance Any Cheaper.

Tuesday, March 21, 2017 11:30
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We hear this over and over.

“Competition will drive down costs.”

“Competition across state lines will drive down costs.”

In most cases that is true. But Insurance is not most cases. How Insurance Companies make their money seems to be a complete mystery to most Americans. Probably because it is not like anything that they are familiar with.

Let’s take a company that makes a product. If they only see the product in one state and there is no outside competition, they can set the price to whatever the market is willing to pay. So the price will be higher because, well, they can get by with it. And if we bring in several competitors, most likely the price will come down.

And the company makes money by manufacturing an item and selling it for more than their costs to make a profit.

We all understand this business model.

But that is not how Insurance works.

Fifteen years ago I was laid off from my IT job. The market for IT skills was at an all time low. So I decided to open an Insurance Agency. After spending my entire career working on computers, I had a lot to learn. Insurance is not like anything I ever witnessed before.

Are you ready for a few shocking revelations about the way Insurance Companies work? Read on.

Insurance Companies Pay Out More in Claims Than They Charge in Premiums!

Read that sentence again. And again. It will blow your mind. And here you thought that the big bad Insurance Company made money by price gouging. That they charged their customers enough to cover their costs and make billions in profit by bleeding their insured.

And that is totally false.

In the first 9 months of last year – 2016 – Property and Casualty Insurance Companies showed a $1.7 billion underwriting loss which means that they took in $1.7 billion less in premiums than they paid out.

So they lost money, right?

No! They made $31.8 billion.

How can that be? Simple. They make their money by investing your premium in short term things like bonds. And since we are talking about massive amounts of money coming in that will not have to be paid out for a while, it adds up.

So Insurance Companies actually subsidize your insurance.

And they do that without a government mandate and without using taxpayer money. And they still make a profit. And pay taxes and pay employees and provide them with health insurance and other benefits. And they invest massive amounts in the economy.

So for my liberal friends that long for single payer government insurance, do you think that there is any chance that the government would charge you less then it costs them to provide you with insurance? No. The government will have to charge you for all of the overhead and 100% of the claim payouts just to break even.

So Insurance Companies don’t make a profit by overcharging their customers. They make money using the premiums collected for a short time. This is called “float”. Warren Buffett became rich using this method. For more on Buffett’s thinking on this, read this article. But here is an excerpt:

Insurers receive premiums upfront and pay claims later. … This collect-now, pay-later model leaves us holding large sums — money we call “float” — that will eventually go to others. Meanwhile, we get to invest this float for Berkshire’s benefit. …

So are you beginning to see that the Insurance Companies aren’t really the bad guys here? And that their business model isn’t like any other?

So exactly how will competition lower prices? If the Insurance Companies are already charging you less than “cost” for covering you, should they increase their losses? Is that free market? Hardly. They have share holders, many people have Insurance Companies in their 401K and other retirement vehicles. And if the Insurance Companies were to agree to take a larger underwriting loss by charging you less, that means that their shareholders are not treated fairly and it also means that the money they invest in the markets will be reduced. Which means that other companies will suffer from the loss of investment money and the markets will go down as a result. The very markets that the Insurance Companies invest in and reap profits from. So that would cause a death spiral.

Here’s a question. Now that you know a bit about how Insurance Companies make money – by charging you (often) less than they pay in claims and investing your money as it passes through their hands, and with the added benefit of pouring a steady flow of investment dollars into the markets, making all of us money, why did Obamacare impose a limit on how much money Insurance Companies could invest? As a whole, the P&C companies lost $1.7 billion last year. Another way to put that is that they should have charged us $1.7 billion more to break even. Obamacare was supposed to bring down the cost of healthcare. So why limit what an Insurance Company may invest? This takes billions out of the markets and lowers the profits made by Insurance Companies.

Obviously, the target of Obamacare was not lower healthcare costs, but single payers government insurance. If the Insurance Companies are out of the way, we wouldn’t have any other options. Which is why the entire Obamacare bill ignored the actual costs and went after the Insurance Companies.

And it is the reason that Paul Ryan and the Republican’s RINOCare bill will also fail to bring down costs. The Insurance Companies are not the problem.  They are not gouging people. In fact, just the opposite is true.

So if Insurance Companies are already selling at a loss, how will interstate competition lower costs? We already know that if Insurers are forced to invest less money by absorbing a larger loss, the market suffers, their investment income falls, and markets – and our 401K’s drop like a rock. This is all interconnected. And as the insurance money is pulled out of the market, their investment profits – which also pay their operating costs – will fall into a death spiral.

Interstate competition isn’t going to lower insurance costs at all. It can’t! So we need to stop saying it will.

And another interesting tidbit I have learned from 15 years as an Insurance Agency owner, Insurance Companies will not oversell their targeted revenue. They set their entire financial operations to a specific target by using extremely accurate financial predictions. Do you know what happens if they have a very good quarter and beat their projections? Most companies throw a party. Insurance Companies will raise their rates to stop selling so many policies.

You are thinking “that doesn’t make sense”. If an auto manufacturer exceeds their projected sales they will crank up production even more. They will work overtime to get as many vehicles to market as possible. Surpassing your sales projections is a good thing. A wonderful thing.

Unless you are an Insurance Company.

Too many customers and they will have to add on more employees, more brick and mortar offices, more computing power and people. And your costs skyrocket.

A few years ago, a friend had a furniture restoration business. He was getting more business than he could handle so he hired several workers. He went from a one man shop to 8 or 9 employees. And he needed an office manager, larger space and more tools and equipment. And he wasn’t bringing home any more money and managing all those people took up all of his time. So he downsized back to just himself. And he is making the same money.

So when Insurance Companies reach their projected sales, they will often raise their prices by a lot. Not to make more money on each policy, but to prevent people from buying from them. It is called “servicing their base” and if you are trying to sell insurance like I am, it means I can’t sell such expensive policies. They turn the faucet on and off. Later, when they need more customers, they will lower their prices.

So how will interstate competition force lower prices on a company that cannot financially grow beyond a self imposed limit? They raise and lower prices to keep within their projected and desired size.

So, no. Interstate competition will not save us any money. Insurance doesn’t work like that. It is a completely different business model. And to most, it is completely illogical. But if you understand it, it is an easy concept.

And after 15 years in the insurance business, I can tell you for a fact that companies do not deny claims to make more money. They plan to pay out money. It is all baked in to the calculations. Claims are not denied because insurers are greedy. They are denied or paid according to the contract. Yes, your policy is a contract. Some claims are cut and dried. They are obligated to pay and they do. Other claims, not so much. When I hear people complain that their claim was denied for no reason, I call the claims department and get the truth. And only rarely do I find something that isn’t proper. And usually that is because the claims adjuster wasn’t very good. Or was a complete idiot.

Sadly, Republicans, like Democrats, are attacking the wrong target. Defensive medicine, where the doctor orders extra tests to prevent a malpractice suit and the high costs associated with litigation are more to blame than Insurance Companies. And neither Obamacare nor RINOCare address the high cost of the care itself. They are only going after the cost of insurance. Which is only a symptom of the real problem.

But can we please dispel the myth of interstate competition? Are all of our politicians that stupid? Or do they think we are?

Probably the latter.


Article written by: Tom White

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