Background and Rationale

The basic arguments for restrictions on insurer underwriting and rate classification that ultimately were enacted in the Essential Insurance Act of 1981 are set forth in a 1977 report to the Governor by the Michigan Insurance Bureau. [21] This report argued that auto insurance is essential in modern life and that government must ensure that coverage is available to all citizens. It argued that the auto insurance market was characterized by pronounced availability problems and suggested that an availability crisis was imminent without substantial government action. In support, it referred to a rapid increase in the number of applications to the Michigan assigned risk plan in 1976. It also suggested that availability problems were widespread, although somewhat less dramatic, in other states including the nearby states of Illinois and Ohio. [22]

Specific criticisms of the auto insurance market that are contained in the 1977 report include:

  1. The principal form of competition in insurance involved attempts by insurers to underwrite the best risks and avoid risks that were perceived as undesirable.

  2. Insurer underwriting decisions and rate classification were subjective, arbitrary, and unfairly discriminatory. Insurers did not have the technical ability to identify differences in risk across individuals with sufficient accuracy. Existing regulation was inadequate to deal with these problems. [23]

  3. As a result of subjective, arbitrary, and unfairly discriminatory underwriting and rate classification, large numbers of drivers were forced into the involuntary market, which was characterized by higher premiums and lower service quality. This situation was inequitable, since many of these drivers were "objectively" similar to drivers insured in the voluntary market. [24]

  4. The insurance market provided only limited choice to consumers, since they could be denied coverage by the insurer of their choice.

The report argued that the objectives of regulation should be to guarantee the right to essential coverage, to guarantee "competitive and fair" rates, to provide freedom of choice to consumers, and to be cost effective. The report defined competitive rates as those that in the aggregate would not produce excessive profits. Fair rates were defined as those based only on objective factors that were both largely within the ability of the insured to control and causally related to losses.

To meet these objectives, the Essential Insurance Act of 1977 was proposed by the Insurance Bureau. [25] This proposal had four main features. First, insurers would be required to accept all applicants for coverage. Second, rate classification would be subject to greater government control to ensure fairness. Third, overall rate levels would be determined by competition under a file-and-use system of rate regulation. Fourth, a reinsurance facility would be created, and insurers would have the discretion of reinsuring any insured in the facility. The key details, analysis, and suggested program of regulation set forth in the Insurance Bureau's 1977 report were identical to those contained in a report prepared by the Federal Insurance Administration in the early 1970s. [26] Major facets of this program had been adopted in Massachusetts, North Carolina, and South Carolina in the mid-1970s, with the principal exception that none of these states allowed insurers to change rates without prior approval by regulators.