Proposition 103IntroductionIn 1988, voters in California approvedProposition 103 by a narrow margin of 51%. Beforethe passage of the proposal, California was one of the few states where the insurance industry was not regulated by thegovernment. Insurance companies did not have to seek approval forpremium rates, making the cost of insurance relatively high.
Moreover, existinglaws shielded the state’s insurance industry from competition. Thus, neithergovernment supervision nor free market forces were allowed to play a role inmoderating the impact of the insurance industry on California’s economy. Proposition103 sought to create a fair and more competitive marketplace for insurance andimpose regulations in the industry. More than a quarter a century later, thepassage of Proposition 103 and its subsequent implementation have dramaticallychanged the course of California’s regulatory structure and by extension thatof the property-causality insurance industry in the United States. This paperdescribes and analyses the changes introduced by Proposal 103. Review of Changes Introduced byProposal 103Proposal 103 introduced many changes whoseobjective was to broaden the Department of Insurance’s role in regulating andsupervising the insurance sector.
In the years preceding the passage of theproposal, some political and economicfactors shaped debates about the need to review the state’s insurance laws.Between the late 1970s and mid-1980s, insurance premiums in Californiaincreased dramatically. It left consumersat the mercy of insurance providers who had the discretion to change premiumrates arbitrarily and without involving consumers or their representatives(Lencsis 61). Back then, California had the largest number of automobiles onits roads compared to other states. Therefore, the increase in premium ratesmade the cost of automobile insurance more expensive for Californian vehicleowners than in other states. Consumer advocacy groups raised concerns aboutlack of justification for the increase in insurance rates. To a large extent,it was felt that the increase ininsurance rates was as a result of profligacy and greed on the part ofinsurance companies. Central to these concerns was the claims that California’sinsurance industry was gradually abandoning its core role of providing amechanism for risk sharing and was insteadfocused on profit maximization (Martin and Barth 59).
In other words,insurers were increasing rates to enhance their profitability. The insurersresponded to these claims arguing that the increase in rates was as a result of costly litigations againstinsurance providers. In response to the concerns by consumer advocacy groups,several competing referenda were filed.The initiative aimed at containing cost drivers in the insurance industry andmade it less costly for the consumers.
After a long and costly legal battle,Proposal 103 was the only referendum that passed. Thefollowing are the main changes introduced by the proposal:i. PremiumRollbackProposition 103 introduced a requirement for therolling back and freezing of premiums for one year between November 1988 andNovember 1989.
Consequently, all automobile and other classes of property andcausality insurance premium rates were rolled back to a rate of 80% of thelevel before the passage of the proposal.The 20% rollback prevented excess rates from the previous year from beinglocked in. The provision for premium rollback was immediately challenged incourt but failed. After a series of administrative law rulings and legalfindings, the Insurance Commissioner issued orders limiting rebaterequirements. ii. PriorApproval of Insurance Rates Proposal 103 introduced a priorapproval regulatory system meaning that insurance providers cannot revise rateswithout the consent of the insurance commissioner. Under this new initiative,insurance providers were there on required to notify the Department ofInsurance of the desired rate changes.
As justification for the request, theinsurance company must comply with the financial standards and disclosurerequirements as outlined in the regulation (Lencsis 58). Among other changes,the prior approval system rewards consumers with reduced premiums for any lossprevention efforts such as the installation of fire prevention mechanisms ormaintenance of a good driving record. Insurers areon the other hand rewarded for innovative and research programs thatlead to reduced claims and losses. Thiswas received positively by insures. iii. Establishmentof Rate Setting FormulaeBefore thepassage of Proposal 103, insurance providers based auto insurance rates onseveral factors, including the residential address of the insured.
This led ted to major anomalies in thecalculation of premiums, including cases where two drivers living on oppositesides of the road were charged differentpremiums (Consumer Watchdog). Manyconsumers viewed the location-based rating as amounting to discrimination andthus a contravention of the law. Proposal 103 introduced fundamental changes tothe territory-based system of calculating rates. Under the new system, rateswere calculated based on the insured driving record, the number of years ofactive driving and the number of kilometers driven.
More other factors could be admitted in the calculation of rates butonly if they could be proven to be associatedwith actual risks. The rate-setting formulae were also subjected to litigationsand eventually ended in administrative interpretation. iv. Discountfor Good Driving RecordProposal 103 introduced new changes about thepremium rates for drivers with safe driving records. Under the new system, gooddrivers could qualify for at least 20% below the rate that they could otherwisebe required to pay for coverage.
The proposal also required that all driverswith safe records be issued with policies(Lencsis 69). The criteria for ascertaining whether or not an insured driver hasgood driving record included at least three years of driving experience, nofault in the auto accident, and no violation point during the previous threeyears. Insurers brought judicial relies on this initiative, which delayed itsimplementation for three years. The initiative waseventually implemented after a series of amendments. v. Electionof the Insurance Commissioner Proposal 103 required that California’sinsurance commissioner be elected instead of being appointed by the governor aswas the case previously. The advantage of electing a commissioner is that theoffice holder becomes accountable to the public rather than to the governor orany state authority.
Since only the voters have the power to pass any verdictregarding the commissioner’s performance, he or she has the impetus andincentive necessary to act in the best interest of the public (Janiskee andMasugi 63). In effect, the new initiative gave the commissioner more powers tochampion the review of insurance rates and other issues relating to the fairness of the practices and rates of insurers.Even so, critics argued that the requirement for the insurance commissionerpoliticized the office and that it could attract officials who view theposition as a stepping stone for ascending to higher offices.vi. ConsumerIntervention A central tenet of democratic principles is thatall parties to a proceeding should have right to be heard or be represented. Thisserves to enhance openness and transparency, acceptance of decisions andconstructive change.
Proposal 103 introduced various avenues for consumers to be represented in insurance matters. First, theproposal gave individual consumers the power to go to the Department ofInsurance to report any issue relating to non-compliance with the law by theinsurance companies (Consumer Watchdog).Second, the proposal gave consumer advocacy groups the powers to seek legalintervention in the regulatory process to protect interests of consumers ofinsurance services. Last but not on theminimum, the proposal established a requirement that any public group thatparticipates in any insurance issue under consideration by the Department ofInsurance or the courts be reimbursed forany expenses such as attorney fees. Reaction to the Regulation ofRatesRegulation of premium rates is one of the mostimportant changes introduced under Proposal 103. This change has beeninterpreted as an attempt regarding price control because insurance companiescannot set rates at their discretion without the approval of the Department ofInsurance. The requirement for prior approval has many potential adverseeffects, including the possibility of lengthy delays in adjusting premium ratesto match expenses and losses (Norma53).
The requirement also gives the Commissioner of Insurance greater powers toimpose costs for compliance and administration. These costs will ultimately bepaid by the consumers, thereby increasing the cost of insurance. Regulation ofinsurance rates increases government intervention in trade, and therefore,rolls back any gains made by the industry in promoting a free market economy inCalifornia. In an ideal free market economy, the government should notinterfere in the trade as this makes industries less competitive. Proponents of rates’regulations argue that they are necessary to correct market failures. InCalifornia’s insurance industry, they are outstanding, in essence to theexistence of information imperfection. For example, customers might not beaware of market trends or be in a position to observe the management ofinsurance companies. In the absence of regulations, some companies may take theadvantages to charge exorbitantly high rates, causing consumers to loseconfidence in the industry.
Before theenactment of the regulatory requirement for rates, there were no effectivemeans for enforcing discipline among insurance companies (Janiskeeand Masugi 53). The regulationsmade it possible for the government to monitor insurance companies and thuseliminate market imperfections. Consequently, the regulations were necessaryand have helped to transform theinsurance industry. ConclusionCaliforniaProposal 103 was put in place at a timewhen many consumers were reeling from the impacts of lack of proper regulationsand supervision for the industry. Compared to the rest of the nation, theproposal made California’s insurance industry more competitive and providedwin-win outcomes for both the insurers and the insured. By all standards, theproposal was a good initiative because it addressed the concerns of manyindustry players.
Although sections of the proposal have been amended several times, the proposal hasserved to provide a framework for insurance reforms in other states across theUS. On the negative side, Proposal 103 has strengthened bureaucracy in theinsurance industry due to the numerous regulations it introduced. But, withnecessary amendments, it is poised to satisfy all parties involved.