The US workers' compensation market, which pulled out of a downward spiral five years ago, could be heading into danger once again, says Bill Stanway.
Since 1993, the workers' comp market has been good for insurers and their customers alike. Prices have fallen while insurers' profits have stabilized. Buyers have found coverage more widely available in the voluntary market, while residual markets have shrunk. Insurers and customers have been working together as partners to lower loss costs and return injured workers to the job as quickly as possible.
This scenario has been a welcome change from the Decade of Dread, the 10 years from 1983 to 1992. That was a period when insurers dreaded writing workers' comp and employers dreaded trying to buy it.
During that frustrating decade, the market was caught in a vicious cycle. As claim costs increased, rates failed to keep up and insurers became unwilling to write as much business voluntarily. Consequently the residual markets grew, in some states reaching as much as 20% to 40% of the insured market. In a few states, the voluntary market virtually collapsed. Residual markets, originally intended as markets of last resort, became the single largest providers of coverage in some states.
Losses in the involuntary market became unacceptable. Nationally, combined ratios ranged between 165 and 189 in the mid to late 1980s. Since states assessed insurers a portion of assigned-risk losses based on market share, carriers curtailed their underwriting even more, driving more risks into burgeoning residual markets.
This vicious cycle threatened to push the workers' comp market to the verge of collapse. At the same time, where rates were allowed to increase to cover costs, this caused severe hardship for business insurance buyers. Insurers and employers realized drastic action was needed. Industry organizations began working to reform the system. They formed partnerships with Chambers of Commerce and other employer organizations to work for reform at the state level. Carriers worked individually to cut costs and adopt innovative, new approaches to the business. And the industry co-operated with customers to control loss costs. As a result, the workers' comp market was overhauled through the following accomplishments:
* Regulatory reform streamlined the benefits delivery process, saving time, cutting administrative costs and reducing legal bills.
* Legislative reform reduced the unwarranted and costly litigation that the workers' comp bargain between employers and employees intended to eliminate.
* Mergers and acquisitions, internal restructuring, and cost-control measures raised insurers' efficiency and cut costs.
* Managed care was adopted widely, reining in runaway medical costs.
* Company and government efforts fought both premium and claim fraud.
* Self-funding residual markets were created.
The results began to show up in 1993. Combined ratios tell the story of reform in a nutshell. During the 10 years from 1983 through 1992, the industry-wide combined ratio for workers' compensation averaged 119, indicating a payout of $119 in losses and expenses for every $100 of premium. In 1992 the combined ratio was 122. As the reforms took effect, the industry's workers' comp combined ratio fell to 109 in 1993, then to 101 in 1994 - a precipitous drop of 21 points in just two years. The combined ratio fell further, to 97 in 1995, before rising to 101 in 1996.
Losses in residual markets dropped from a high-water mark of $2.3 billion in 1989 to $40 million in 1994, and were negligible the next two years. Premiums in the residual market had marched steadily upward from one-half billion dollars in 1983 to $4.8 billion in 1992. Then, as the reforms kicked in, these premiums fell even more rapidly than they had climbed, declining an average of $925 million a year in the four years through 1996.
A major factor in this decline was the elimination of residual market plans in a number of states. These states replaced assigned-risk mechanisms with government-sponsored funds or mutual companies. These actions eliminated residual market plans that had accounted for over $1 billion in underwriting losses in 1990 alone.
As results improved, rates declined and customers found insurance more affordable and available.
Even as rates came down, injured employees in many states found themselves receiving higher compensation than during previous years. For example, the average maximum weekly benefit for total disability increased by 32% from 1990 to 1995, while average weekly wages increased by 16% during the same period.
In addition to legislative and regulatory reform, insurers approached the workers' comp business in new ways. We created new opportunities for co-operation with our customers that had a positive impact, such as managed care and return-to-work programs.
Managed care gave insurers and our customers the ability to manage the quality and cost of care - before, during, and after treatment for a job-related accident or injury. This helped stem the rising tide of medical and indemnity costs. Average medical cost per lost-time case, which rose 12% annually during the 1980s, grew at only 4% a year from 1990 to 1995. The annual increase in the medical consumer price index declined steadily from 9% in 1990 to 3.5% in 1996. Indemnity costs, which grew by 8% annually in the 1980s, have been flat since 1990.
At the same time, more and more large workers' comp customers opted for coverage with a large deductible. Assuming more of the risk gave them an incentive to place greater emphasis on preventive activities and return-to-work programs, and on opportunities to directly reap the rewards of effective cost savings programs.
Within the ranks of insurers, we took major steps to raise internal efficiency through restructuring, mergers and alliances, and the application of new technology. And we attacked fraud. Over two thirds of property/casualty insurers have formed special investigative units, and many states have created departments to investigate and prosecute insurance fraud.
These actions and more converged to bring us to where we are today. What was accomplished in a few short years was truly remarkable. This major turnaround was achieved through the co-operation of the insurance industry, state legislators and regulators, and business and industry. During those dark days when the workers' comp business seemed to be spinning out of control, few of us thought things could be changed so quickly.
In the insurance business, however, good times seem inevitably to carry the seeds of their own destruction. In recent years, we have seen the first indications of deterioration in the market. As insurers have enjoyed good results and rates have come down, we have begun to see signs of the kind of destructive price competition that could undermine the industry's capacity to maintain a responsive market.
Increased price competition raised the industry's combined ratio for workers' comp from 97 in 1995 to 101 in 1996. Comparable increases are expected for 1997 and 1998. In some states, results are deteriorating more rapidly. In California, for example, the combined ratio for 1996 was 124.
Since 1994, industry-wide premium volume has declined by as much as 5% a year because of increased price competition, mandated rate reductions, returned premiums for favorable loss experience and the growing popularity of higher deductibles and self-insurance. This trend continued through 1997 and is expected to march onward this year as competition heats up and more employers adopt high deductibles.
Should price cutting continue unabated, we could once again be heading for problems with the workers' comp line. And this would be bad news for employers as well as the insurance industry.
Although conditions continue to worsen there is less likelihood of a rerun of the devastating Decade of Dread. Legislative and regulatory reforms have changed many of the underlying fundamentals of the business. Out-of-control residual markets were replaced with state-sponsored funds. Industry restructuring has lowered administrative costs. New business models such as managed care have brought rising medical costs under control. Employers have learned how to cut costs through stronger safety programs and return-to-work initiatives.
Nonetheless, insurers and our customers must remain vigilant if the benefits of these advances are to be retained. Constant attention is required to ensure that legislative and regulatory reforms do not erode over time. Risk managers, benefiting from lower rates, should not be lulled into giving less attention to safety and return-to-work programs. Insurers, experiencing adequate results, should not be enticed into irresponsible price cutting. We all should stay the course, continuing to apply the kind of management that has produced such strong results in recent years.
Risk managers and their insurers should continue implementing programs that address the entire continuum of care required by employees. This continuum includes four major segments: preventive actions, early intervention, care management, and return-to-work. Enlightened approaches to all four segments have been proven to lower indemnity and healthcare costs significantly, while benefiting employees by returning them to productive work as soon as medically appropriate.
Risk managers need to view workers' comp as an employee benefit, not as an adversarial system in which the goal is simply to avoid paying claims. Employers that have the most success with workers' comp are those that communicate well with their employees - informing them of their benefits, implementing visible safety programs, letting them know that they have access to excellent healthcare providers and helping injured employees to return to work.
The results from this kind of approach can be truly exciting. Take, for example, the West Coast grocery chain that had high loss costs because of warehouse accidents. When the company turned to The Hartford for help, we formed a team of management, labor, and insurance professionals to address the entire continuum of care.
In addition to focusing on preventing injuries, we established a phone link for injured workers. This encouraged early intervention after accidents and made it possible to refer injured workers to medical providers experienced in workers' comp. Through expanded case management, we returned workers to employment much quicker, sometimes by identifying light-duty jobs appropriate during recovery.
The results were dramatic. Indemnity claims were cut by 45% within two years. Only 13% of injured employees were out of work more than 30 days, down from 56% two years earlier. The percentage of claims litigated declined from 8% to 3%. Two years after initiating the program, the grocery chain's annual workers' comp costs were down by $2 million. When insurers apply managed-care principles and practices to workers' comp across the board, the results add up significantly. The Hartford's Medical Management Centers, which review and evaluate workers' comp medical bills, saved the company and its customers more than $200 million in 1997.
Legislative reforms in a number of states have made these savings possible by promoting managed care in workers' comp. We have to work to retain these reforms and expand them to other states that prohibit or discourage this approach.
Action at the state level is necessary to remove these barriers. Where we succeed, more employers will be free to implement programs that have been proven to work in many states. They will achieve not only lower comp costs but more satisfied workers. This will translate into greater productivity and higher profits.
Other innovative approaches, such as benefits integration, also have made inroads in controlling costs. At The Hartford, we have pioneered in cross-training claim administrators to handle both disability and comp claims. When we provide both coverages for an employer, our claims administrators apply a unified approach to employee injuries, regardless of whether they are job-related. This kind of integration, cuts costs by eliminating redundancies and inconsistencies in how claims are managed.
The key to good results is co-operation between insurers and the business community. This holds true at the micro level in managing specific workers' comp cases and at the macro level in working for legislative and regulatory reform. Stable, long-term relationships generate the best results for employers and insurance companies alike. By forming a partnership, risk managers, employees and insurers can work together to minimize workplace accidents, rehabilitate injured workers, return them to productive work more quickly, control costs, and stabilize prices.
Quality of service should remain a key factor in the insurance purchasing equation. Employers seduced by short-term price cutting may not save money in the long run. Prices need to be adequate to support quality service. Unless the insurer provides effective service, the employer will sustain increased losses, which will affect employer insurance costs over time.
These warnings must be heeded if we are to avoid the vicious cycle of crisis-reform-crisis. The pendulum is swinging from profitability toward the red ink. We hope the structural reforms and initiatives put into place in recent years will stop the pendulum from swinging too far. But no one can predict how the scenario will play out over the next year or two. A responsible approach to the business by insurers and customers alike will be necessary to preserve recent gains and ensure a responsive market in the future.
In particular, risk managers, as knowledgeable, influential professionals, need to continue to play an active role. Individually, they need to remain vigilant and responsible. Through their associations, they need to orchestrate the kind of political involvement that will continue to make a difference. By preserving and extending the gains of recent years in the workers' comp arena, insurance professionals can make a significant, ongoing contribution to the cost control efforts that are so important to business competitiveness.
Bill Stanway is president, commercial lines business, at The Hartford Financial Services Group, Inc.