A major weakness in Michigan's auto insurance system is the requirement for consumers to purchase unlimited personal injury protection, for several reasons. First, as any economist will attest, people respond to incentives. Once third-party payment is introduced, and there is no limit on how much the third party must pay, then there is every incentive for health care providers to choose expensive methods for treating injury, and there is no incentive for the patient to restrain expenditures.
Second, the lack of a limit to the insurance company's liability creates a good deal of uncertainty as to the expected loss from writing policies, and makes it difficult to price premiums efficiently. This uncertainty reduces the number of companies that would be willing to write policies in Michigan, particularly small insurers who cannot spread their risks nationally. In 1978, in an effort to address this problem, Michigan instituted a program to reduce this uncertainly for insurers — the Michigan Catastrophic Claims Association, a state-mandated reinsurance program that allows insurers to retain only the first $480,000 of a loss and to be reimbursed by the MCCA for the excess. This has resulted in its own problems, as discussed below.
Finally, consumers are not allowed to choose a policy that fits their risk preferences, and are forced to buy more expensive insurance than they would choose. This is a particular problem for low-income residents, who when faced with high insurance premiums may choose to evade the law and not purchase insurance. The fact that Michigan ranks so high in its number of uninsured drivers can be explained in good part by the inability of drivers to choose less expensive policies.
Insurance Information Institute President Robert Hartwig, in testimony before the Michigan House Insurance Committee, showed that Michigan's high insurance premiums are being driven by rising medical costs associated with auto accidents. The average no-fault PIP claim rose by more than 250 percent from 1998 to 2007, reaching $31,383. Given the incentives by medical care providers to use expensive treatments, it is a problem that the state has no constraints on costs, such as medical fee schedules and treatment protocols.
Requiring unlimited personal injury protection is a very inefficient mechanism for dealing with catastrophic injury. It distorts the price of insurance, misallocates resources, and reduces consumer choice. The most effective way to deal with the high premium costs in Michigan is to allow consumers to choose a specified PIP limit — for example, $50,000, the level in New York State, which is the highest current threshold in the country. This would give consumers an incentive to monitor the cost of their treatment. It would also result in total premium savings, according to Heaton's research, on the order of 15 percent. In a 2007 study of more than 70,000 PIP claims in Michigan, actuarial expert Michael Miller found that about 94 percent of the claims were under $50,000. The claims that exceeded $400,000 made up 0.5 percent of the claims, but accounted for more than 42 percent of the PIP claims' loss dollars. He estimated that limiting Michigan PIP benefits to the $50,000 level would save 45 percent on the PIP premiums and 15.8 percent of total premiums.