American Enterprise Institute

December 20, 2007

[Edited transcript from audio tapes]

1:45 p.m.	Registration
2:00	Introduction:	Peter J. Wallison, AEI
2:15	Presenter:	Roger Ferguson, Swiss Re
	Discussants:	Alessandro Iuppa, Zurich North America
		Bradley Smith, American Council of Life Insurers
		Tom Hampton, D.C. Department of Insurance, Securities and Banking Supervision
	Moderator:	Peter J. Wallison, AEI
4:00	Adjournment

Proceedings:

Peter Wallison:  Thank you for coming to what I think would be a really fascinating conversation and discussion today.  I’m Peter Wallison and I’m a senior fellow here at the American Enterprise Institute.  We will have a main presentation by Roger Ferguson and then discussion by everyone on the panel.  We will then have discussion among members of the panel for a little while and then we will go out to the audience for questions.  So do make notes of the things you want to question the panelists about. 

Again, thanks very much for coming.  I'm very happy to welcome you to what is essentially, the fifth conference held here at AEI on issues associated with an optional federal charter for insurers.  The first conference was held in June of 1999, almost 9 years ago, when the idea for an optional federal charter was first germinating among the Washington Industry Associations.  It was a very interesting experience for me and if you would like to see the outcome there is an AEI book on the subject just outside this door called, surprisingly, Optional Federal Chartering and Regulation of Insurance Companies. 

At the time, insurance companies and even their business associations were a bit shy about supporting the idea.  I could not find a representative of the life insurance industry at all, even from ACLI, who would come in and endorse optional federal chartering.  And the property and casualty industry was represented in a sense by a former banking lawyer friend of mine who was then the general council of AIG and when he started his presentation, he said, “I do not purport to speak for the property and casualty industry.  In preparing these remarks, I have not consulted with any trade association or any other firm.”  So there was a lot of concern at the time, obviously, about encountering adverse responses from regulators, I think.

But now, despite this inauspicious beginning, it was a bit hard to imagine that anyone would be able to cobble together a bill or find congressional sponsors and get the legislative train moving.  But by December of 2000 we were able to hold another conference in which detailed proposals came from the American Insurance Association, from the ACLI and from the ABAS Insurance Association.  So things were really beginning to move at that point and today there is legislation before Congress and there have been meetings on the Hill and additional conferences at AEI at which real representatives of real insurance companies have appeared to endorse the idea of an optional federal charter.  So I think it is now fully out of the closet and can be discussed in mixed company without embarrassment, and that is what we will do today.

The idea for an optional federal charter arose before the focus on the effects of globalization, an issue that has occupied the thinking of policy makers for the past several years.  It may have been spawned by the success of the single EU passport, which allowed EU insurers to compete across national lines.  The same thing could happen here with states giving mutual recognition to the insurers charted and regulated in other states if the states would agree to that.  Thus far, they have not.  That, however, is how the banking systems, state chartered banks compete with one another across state lines; it is a mutual recognition system. 

But if a mutual recognition system seems a reasonable way for the states to have forestalled a vigorous optional federal charter movement in the United States, increasing globalization is likely to pose a particular challenge to the state regulatory structure.  In a truly international market, which already seems to exist in banking, U.S. companies and individuals would have access to insurance services offered by companies chartered in the EU and other developed areas.  The competition that this would engender would be good for consumers.  The opportunities for insurers to diversify their risks globally would also be good for the companies and for consumers, too. 

But how would such a system be regulated in the United States?  Would the states grant recognition to the regulatory regimes of foreign countries when they have not shown enthusiasm, to say the least, for mutual recognition of one another’s regulatory systems?  If not, would foreign insurers be willing to compete [sounds like] in the United States if they had to comply with the regulations of as many as 50 states, the District of Columbia, and several territories if they wanted to access a national market here? 

And if foreign companies find the regulatory forest in the United States to be practically impenetrable, will U.S. companies find themselves frozen out, ultimately, of foreign markets?  That is more than a trade issue; as I suggested, the diversification of risks adds stability and lower capital costs for insurance companies and thus, lower cost to consumers.

In addition, there is the question of how the developed economies would structure an international insurance market.  As in any such arrangement, trading partners make concessions to one another’s policies.  It is easy to see how a federal insurance regulator would be able to participate in such discussions but not as easy to envision how the states would participate.  One way might be for the states to grant authority to the National Association of Insurance Commissioners to enter a binding agreement of some kind with foreign countries.  But the NAIC has not received such authority for developing a regulatory structure in the United States, so an even broader grant of authority does seem unlikely.

In any event, we should not overemphasize the importance and benefits of international competition at this point.  The states, through the NAIC, are likely to emphasize the importance of consumer protection and argue that this will be more effective if done at the state level.  This is a serious point around which much of the debate will revolve over the next few years.

As a legislative process on an optional federal charter moves along, we will have plenty of time to consider in later conferences how consumer protection and international competition might be balanced.  In today’s conference - I hope - we will learn more about the issues that arise in the context of an international market for insurance services, and we will have an opportunity to consider how a federal chartering authority or the state regulatory system proposes to address them.

So thank you, again, very much for coming.  I think we are going to have a very interesting discussion, which will begin with Roger Ferguson.  Let me just tell you a few things about Roger who probably all of you know anyway, but just to give you some information.  In your packets there are biographies of everyone up here and I will only recite some of the major features.  You can see much more detail on those biographies.

Roger joined Swiss Re America Holding Corporations in June of 2006, and is the chairman, a member of the Executive Committee and head of the Financial Services Sector of that company.  Prior to his employment at Swiss Re, as you know, Roger served as the vice-chairman of the Board of Governors of the U.S. Federal Reserve System.  From 1984 to 1987, he was an associate and partner at McKinsey & Company where he managed a variety of studies for financial institutions and was the director of Research and Information Services there.

I will introduce the other members of the panel after Roger’s presentation and just before they begin their own presentations.  So, Roger --

Roger W. Ferguson, Jr.:  Peter, thank you very much.  I’m going to start by teasing Peter and saying that I do not purport to speak for the entire insurance industry and in preparing those remarks I have not consulted with any trade association or any other firm.  Some things mainly have not moved as far as he thought. 

Peter Wallison:  You are a real person, Roger.

Roger Ferguson:  I am a real person.  Let me start by putting this into a bit of a context, and Peter already alluded to this.  The first point I think we have to understand as we talk about the optional federal charter in either a domestic or in an international context is that insurance and reinsurance regulation is under reform worldwide.  The European Commission last July presented a new proposal for cap requirements known to all of us in this room as Solvency II - the Solvency II Framework Directive, it was called.  And that offers what I would describe as a visionary approach to insurance and particularly [indiscernible] capital in insurance likely to transform the insurance landscape throughout Europe with broader impacts even than in Europe.

When it comes into force and/or after 2013, the EU will operate what I think of as the most modern and progressive insurance and reinsurance regulatory standard in the world, at least, with respect to capital.  Now, all of you realize, because many of you have been thinking about this for some time, that when the U.S. regulators introduced to NAIC’s risk-based capital system in 1984, 20-some years ago, that could at that point have probably claimed to have been the most modern approach to regulating capital with a great deal of sophistication that Europe did not have.  But today, I would say Europe with Solvency II has probably overtaken the U.S. RBC approach.

So I think the U.S. industry is becoming, if anything, increasingly concerned about international competition because of the changes that we see overseas.  A key finding in a recent study by Norton Rose indicated that U.S. respondents who in that study were senior executives of insurance and reinsurance companies believed that companies domiciled in the EU now have a competitive advantage over non-EU companies due to the passport system that Peter alluded to and the anticipated harmonization that is the result of Solvency II. 

I would say it is also true not just among the companies but I also believe that policy makers and regulators in the U.S. are feeling some pressure.  I will let some others speak up on this but I think the NAIC has recently stepped up its efforts, certainly, thought about press releases and other things that had been issued in 2007 expressing some concern about competitive and competitive nature of financial services in the U.S. 

We saw in March of this year that the Chamber of Commerce came up with a study broadly on the topic of competition and competitiveness of financial services where they were encouraging an optional federal charter.  There is a study done by my former colleagues at McKinsey & Company for Michael Bloomberg and Chuck Schumer where they also recommended an OFC as an important priority.  And many industry participants, I think, believe that an optional federal charter would clearly allow insurance and reinsurance companies to engage more efficiently on both a national and an international scale, increasing competitiveness. 

But I would say against that broad background I think it is important in my remarks to put all these in a context.  So I’m going to step back over the next couple of slides and look at both if and how an optional federal charter, if that were to happen, would result in a better, more competitive market place for insurance and reinsurance in the U.S. 

But first, I want to start with a basic principle:  What is the goal that we are all attempting to achieve?  If we do not agree on that, I think it is not really worth talking about the next topic.  And I think the main goal, the primary goal as I say here in my slide, is insuring a sound insurance market. 

So what is a sound insurance market?  A sound insurance market is more than just a local market of technically solvent insurers and reinsurers.  Technical solvency of individual insurers is clearly necessary but not sufficient because solvency alone does not create, I think, a sound insurance market.  What I put on the slides are what I think are major factors that would be used to describe a sound insurance market, and they are competitiveness, fairness, safe and stable market, and efficiency.  So let me describe each one of those in turn to do a bit of a level set.

What do I mean by competitive?  I’m actually thinking about a competitive market not in the sense of competition within the market and the participants in the market but, rather, a competitive market as I see it in this context of being a sound insurance market is one that is oriented towards encouraging inward capital flows and capital retention at a cost - and this is important as we think about the OFC - at a cost that is comparable to that paid by other institutions with different charters. 

Insurers are clearly financial intermediaries as we see a greater integration across financial services such as banks and securities firms.  We are discovering that the lines between insurance products, banking and securities products, if anything, are blurring; therefore, we are in a competition for capital with those other kinds of institutions.  Regulations that impose additional costs on insurance versus banks or securities firms, for example, I think, if anything, are raising the cost of capital with respect to the insurance industry and potentially undermining some elements of soundness in that market. 

And finally, with respect to this point on maintaining and attracting capital into the industry at a fair and reasonable price, I would also point out that capital flows themselves are becoming quite global.  And one only needs to look at today’s paper or yesterday’s paper to see a number of institutions recapitalizing themselves with flows from the Middle East or Asia.

The second element of a sound insurance market that I would like to focus on is what I think of as fairness.  And here I would say a fair market is one that is oriented toward promoting public and consumer confidence in that market.  That includes fairness, reliability, an ability or willingness to deliver best-in-class products and services.  So it is really a market that creates a broad sense of confidence and I think you do that in financial services by fairness.

Obviously, from the standpoint of the U.S. system one of the challenges - not the topic of today’s discussion - one of the challenges is obviously the liability system and the effect that it has on price and costs from the standpoint of consumers in the industry.  I would also say that we worry, again, in this area with respect to the question of the risk of loss.  That is very, very important because purchasing insurance is clearly the way that individuals deal with risk spreading and capital market insurance have become increasingly important in that regard.  So as I think about fairness, the question of promoting confidence, reliability, et cetera, to deal and deliver best-in-class products is very important.

Now, how does that then, play into the optional federal charter?  Well, the answer, obviously, is as the industry thinks about in the U.S. developing best-in-class products, they have to think about, particularly, at the APNC [phonetic] level and also, Life and Health, running through 50, 51, or more state regulators before a product gets approved and introduced.  And also, obviously, worrying a great deal about the pricing and getting regulatory approval, again, through 51 jurisdictions with respect to pricing.  So there is a question of whether or not the ability to deliver best-in-class products, which is an element of fairness that I would like to focus on, is enhanced or limited by the current system.

The third characteristic for a sound insurance market that I would like to focus on is what I describe as one that is both safe and stable.  From my standpoint, a financial services or insurance market is safe and stable if it has got three characteristics:  First, the adequate resources to pay claims; secondly, an adequate return on capital, including relatively low volatility of earnings; and third, the ability to recapitalize if needed without government support.  The question then is:  How does that set of relationships and arrangements relate to a regulatory environment, the optional federal charter versus other structures and approaches? 

And I think the obvious answer here is that in order to achieve a safe and stable system one needs to have the right balance between rules and principles which have been much discussed in the regulatory discussion of late and avoid the risk of over-regulation, which clearly, again, raises the cost of doing business. 

And the final characteristic that I would like to focus on when I think about a sound insurance market is efficiency.  And that, again, is the issue of providing innovative products at a reasonable cost to individuals and society.  And again, the cost elements, overregulation, suppression of rates, et cetera, all of those things obviously come into play.

The second background point that I want to talk about as I build the discussion of optional federal charters - and my colleagues will then comment further on it - is what is the case for regulation in general?  And here, I put on my hat as an economist.  I think the economic case for any kind of regulation - insurance regulation and others - depend very much on -- concerned about what economists call market failure, a situation in which there is a divergence between optimal private and social outcomes if there is not regulation.

From my standpoint, for regulation to be justified it is important that the cost of the market failure - that imperfection in the market - has to be greater than the sum of the direct and indirect costs that are imposed by the regulation. 

So let’s dig a little deeper into this question and look at the rationales for insurance regulation:  What are the kinds of market failures that might occur in the world of insurance regulation?  And this, again, I will tie back to the optional federal charter as we get towards the end of my prepared remarks.

The first is the possibility of anti-competitive behavior.  These are activities by firms that circumvent the function [sounds like] of markets, such as collusion, creating various [sounds like] entry or other monopolistic practices.  The second kind of market failure that might occur is unfair or fraudulent conduct by market participants and inadequate disclosure of information on which others can base appropriate business decisions.

The third, obviously, is information asymmetry, which is to say, two parties to a transaction do not have an equal amount of information and, therefore, the risk that one will be taken advantage of.  And then, the fourth is the concern about systemic instability.  The reason we have a great deal of financial regulation in the U.S. - and I would speak now partially, with my fed hat on but as just a thinker about regulation - is some concerns at some industries or some institutions are of systemic importance.  And a concern about a general panic, for example, that ultimately would fall to the Treasury to pay for is one of the reasons why we have a regulation.

The reason I stop and focus on these is that as we talk about the optional federal charter, we have to make sure that we do not give up any of these efforts to overcome market failures.  And so a test, if you will, for the current system versus the optional federal charter is the degree to which it deals with any of these elements of market failure.  And this goes back to a point that Peter is making, which is why we are talking about international competitiveness here.  We obviously also have to talk about consumer protection, for example, where there, one will have to say, are some information asymmetries because in insurance, we deal with very complex products. 

And I see my regulatory friend here nodding his head because I suspect I have given him just the opening he is going to look for to jump in at the right point.  So you can see I’m incredibly fair; though, I’m obviously a proponent of the optional federal charter.

Now, this would not be complete from my standpoint if I did not explain to you as a member of the reinsurance industry, not a primary insurer, how we think about these elements of market failure because I think reinsurance has actually a slightly different story with respect to optional federal charter than do the primaries. 

On anti-competitive behavior I would be the first to admit that in the world of reinsurance it is possible to have anti- competitive behavior.  I think it does not exist but it is not impossible; we are not angels.  With respect to market misconduct, reinsurance is typically regulated for financial solvency but not for market conduct practices.  And this is appropriate because we are dealing in business-to-business transactions with sophisticated parties on both sides. 

State laws that tend to focus in on unfair business practices are mainly focused at looking at fraudulent practices that apply, obviously, to reinsurers as well as to primaries.  And so market misconduct, I would say, when it deals with the consumer elements is not something that is appropriately addressed to reinsurers.  But if it deals with fraud, obviously, it is.

Information asymmetry -- again, because we are in the wholesale business-to-business activity, I would say information asymmetry is not a key element with respect to why we had have a regulation of any sort for reinsurers. 

And, finally, systemic instability, a group that you may or may not have heard of, the Financial Stability Forum, which brings together regulators from all the G-10, which I chaired when I was in the government, came to a conclusion that reinsurance, at least, is not subject to these systemic issues.

Let me now, having done that background, delve into the issue of the day, which is this whole question of why an optional federal charter and how it might influence international competitiveness.  And I thought the first thing we should do is to find the various flavors of OFC that currently exists or are being talked about, and this is at least three and there are probably many other flavors and varieties.

One option to the optional federal charter has been to have a federal charter or the current system.  So in this model an insurer or reinsurer would opt for either the federal or the current 50 state regulatory scene.  Under this scenario, the federal regulator would regulate the entity for all purposes, including capital adequacy, prudential regulation, as well as consumer protection, and sales practices.  And those that opt for the current 51 state or 50 state and DC approach will continue under the current system largely unchanged.

There obviously are some difficult issues here and, again, I’m looking at this as a reinsurer.  So one would be, who controls the determination such as financial credit for reinsurance?  Is that going to be the decedent’s domiciliary state or the reinsurer’s federal regulator?  So if one basically bolted on to the current 50 states system, a federal system, you still have to deal with some of the current complexities that we are confronting.

A second approach that I have heard of spoken about when one talks about a federal charter is considering a blended one, which is my second point here.  And here, the thought would be that the federal charter would result in capital or prudential regulation at the national level for all insurance companies but would leave consumer protection and sales practices as a state matter.  This approach could easily apply to primary insurers but probably not to reinsurers who, appropriately enough, are regulated for solvency purposes but not for the consumer component. 

Now, the obvious challenge here is that may allow for a more rapid modernization of capital regimes if you go [sounds like] catching up to Solvency II.  But on the other hand, it still creates that very, very high hurdle when it comes to providing best-in-class products rapidly for consumers at a national level if one has sales practices, for example, being regulated at a state level.

The third flavor of optional federal charter, my third point in this slide here, is to have either a single federal regulator or a single state regulator.  And this obviously would eliminate the current extraterritoriality issues, the application of state laws across lines but it would require that states defer to the domiciliary state or to the federal regulator.  The scope of regulation of this option could either be the total regulatory approach that I have talked about, both capital, prudential, sales practices, et cetera.  Or you might imagine some split again. 

So this single federal or single state regulator could pick up elements of the blended or be pure.  So I think it is important as we talk about optional federal charter to think about which version we are talking about.  Just simply bolting on in a federal charter is an option to the current system or also, in some sense, doing a fundamental rethink of the current system.

So will an optional federal charter increase international competition is the question of the day.  It is quite clear that CEOs care a great deal about regulation.  All the recent work as we thought about competitiveness in the U.S. clearly is focused very much on this issue of international competitiveness.  We have talked about the McKinsey study; they conducted a survey of leading CEOs and that clearly showed that regulatory responsiveness and the overall regulatory environment were thought to be the top third or fourth issue with respect to competitiveness among senior executives.  So this whole issue of competitiveness is very, very important from the standpoint of the businesses. 

It is also quite clear that whether or not an OFC has an impact on international competitiveness depends very much on the structure of the federal legislation that is involved.  And it is very much a question of whether or not the optional charter is more likely than state regulation to result in regulatory reform.  And I think that is really sort of the key question, it is not optional federal charter for the sake of having another choice; it is whether or not one thinks it is easier to get fundamental regulatory reform, either around capital or around the process of approving products and services at the federal level than it is working through 50 states plus DC, so 51 local jurisdictions. 

And I would argue that there are some aspects of regulatory reform that one might say can be achieved at the state level, but there are clearly going to be some difficulties of getting fundamental regulatory reform at the state level, and those include a couple of points.  One is even if the regulators themselves in the NAIC context could agree on some major reforms, dealing with capital or other things, the state legislators who also have a say here may have other priorities.  And so that may limit the ability for the 51 jurisdiction approach to move quickly.

Secondly, I would argue in the current structure without an optional federal charter, the recognition of regulatory equivalents among U.S. and foreign jurisdictions, which go very much to the heart of this international question, may be very difficult to achieve.  One, it may be practically difficult.  I’m not sure that the EU, for example, necessarily would recognize one state versus another.  And how would you recognize the NAIC as a body in which one could negotiate with the EU, for example? 

And frankly, though I’m not a constitutional or perspective expert, there probably are constitutional questions of whether or not a state or a compact of states can obviously negotiate what is the functional equivalent of a treaty with another sovereign jurisdiction.  So I think as we think about the international competitiveness issue, it ultimately has this two-step process.  It is not that one wants an optional federal charter purely for the sake we are creating another approach; it is because we think the actual federal charter will allow fundamental regulation to move more quickly, creating a more competitive environment between U.S. domicile institutions and non-U.S. institutions [indiscernible] EU institutions and/or because we think having a federal charter is required to get the kind of parity in negotiations and mutual recognition that is called for to create the kind of level playing field between U.S. domiciled insurance companies and EU companies.

And finally, I would say even if these issues were not the case there is a question of enforceability once, let’s say, in the 51-state jurisdiction, there is an agreement.  How does one go about enforcing that agreement?  The states are obviously sovereign.  One creates a view; others agree to it; there is a change in administration.  You then find that an agreement to follow a 50-state or a 51-jurisdiction approach towards modernization suddenly then becomes unglued because there is a new commissioner, a new superintendent, et cetera.  So even if we could overcome some of the problems around a 51 jurisdiction approach with respect to modernization of regulation, making that stick from year to year, from administration to administration across all 51, I think, would be very, very difficult.

So how does the optional charter deal with all of these things?  And I think here are what the optional federal charter would have to do in order to create some of the benefits that we talked about.  I think it would have to very much allow the industry to more successfully manage capital and risk on a global basis.  So moving towards a Solvency II-type regime in the U.S., which I think is an important part of this competitiveness issue that we are talking about, would have to be an outcome of an OFC if it were to help on this international competitiveness challenge that we are talking about.

Clearly, if there were an optional federal charter it would have to avoid the duplication of regulatory requirements that already exist; other parts of the government, for example.  It would have to very much give the industry an approach to marketing products on a nationwide basis without the imposition of contract terms that vary and sometimes conflict from state to state.  And so, immediately, you would get into a very, very tough and tricky territory there that we have to worry about.  Solvency requirements, we have talked about and, obviously, it would provide or have to provide the industry with a very nice voice in international settings.

Peter has just given a little “hurry up” sign so I will not read through all the timeless and brilliant words on this slide.  I will leave it to you to do that.

Anyway, I hope that what I have done is talk about the fundamentals of why it is that we need regulation because I think you need to understand that before you talk about regulatory structure, and then go on into some of the challenges that we see.  But I think the main message is that the point of an optional federal charter is not simply to have another charter but it is rather because we think through that tool, we can get regulatory reform done much more quickly; make it stick, if you will, from generation to generation and allow us to interact more efficiently and more effectively on the international scene. 

So thank you very, very much for your attention.  Thank you, Peter.

Peter Wallison:  Very good.  Wonderful presentation.  Next will be Al Iuppa.  Al is head of Government and Industry Affairs for General Insurance and the Chief Government Affairs Officer for Zurich in North America.  He is based in Washington DC and represents and coordinates Zurich’s interactions with government and industry bodies at the federal and state levels in the United States, as well as globally for General Insurance. 

Al served as main superintendent of insurance from 1998 to 2006 and was an active participant in insurance issues at both the national and international levels.  In 2005, he served as president elect of the NAIC and in 2006 he assumed the office of president.  He served as chair of the Executive Committee of the International Association of insurance supervisors, representing the United States from 2004 to 2006.  Al?

Alessandro Iuppa:  Peter, thank you very much to you and the institute for inviting me here this afternoon.  It is a bit of an honor to be on this panel.  I have known all three of these gentlemen for some time and respect them all very much.  The other thing, I think, that you will find from the panel this afternoon is that some of you are likely to leave with a little holiday cheer and some may leave a little holiday coal.

Well, let me first start, since I am representing an insurance company, with a little bit of background about Zurich and why the issues of international competitiveness are important to us.  We are basically an insurance based financial services firm.  We have a global network of subsidiaries and offices in the U.S., in Europe, Latin America, Asia, as well as other markets.  The company was founded in 1872.  In 1912, it was the first non-U.S. insurer to enter the U.S. insurance market.  We employ about 58,000 people worldwide; of that total, about 11,000 here in the U.S. 

We do business with out customers in about 170 countries throughout the globe.  We are also affiliated -- or not affiliated, but have a relationship with the Farmers Insurance Group, which is a personal lines carrier here in the U.S.  When you look at Zurich globally we are the third or fourth largest commercial property and casualty writer in the world.  In the U.S., we hold a commensurate position.

I think you can tell, given our pedigree, why we think both an optional federal charter is important but, also, the issues related to global competitiveness are important.  And I’m going to take a slightly different approach than Roger, perhaps, a bit more granular as well.  But I think from a policy perspective there are probably a number of reasons why some of the some 6,500 insurance companies who do business here in the U.S. would choose to operate under an optional federal charter.  But when you look at those 6,500 companies - and that number goes back to 2004, so I certainly do not want to be held to that number unequivocally - most of those companies tend to be licensed in three or fewer states.  I think that the number of insurers that will ultimately opt to move towards a federal charter if one is available is going to be a rather small number of companies. 

But for companies as well as brokers who do business across the country or globally, the existing state regulatory framework can present barriers to market entry, barriers to product innovation and introduction, as well as barriers to meeting our client’s insurance needs, both nationally, as well as globally.  And from my perspective, for globally active businesses it is imperative that the regulators also have a global perspective. 

And while U.S. regulators, myself included, for many years have been engaged in international matters it has been and will continue to be near-impossible for state regulators to execute upon agreements that may be reached in those international engagements.  Why is this so and why is this important?  Hopefully, we will be able to work our way towards those answers.

Prior to ’94, several insurance regulators representing a number of countries routinely attended the fall NAIC meeting.  The rationale was both logistical, as well as substantive.  Logistically, traveling to all 50 states in the district was both cost-prohibitive as well as not the most efficient use of time.  But substantively the meetings fostered the informal exchange of regulatory information and helped to build some of the working relationships with our U.S. counterparts which carry forward till today.

In 1994 these international regulators, along with a small group of their U.S. counterparts took the necessary steps to establish the International Association of Insurance Supervisors, the IAIS.  But some interesting things happened since that time from that meeting in St. Louis.  What we have seen is that globalization of the financial services sector really began to take hold; the emerging markets have begun to open up; Gramm-Leach-Bliley brought down the walls between banking, security, and insurance firms here in the U.S., and things such as concerns about credit risk transfer within the financial sector began to raise questions of systemic risk. 

In short order, the original rationale for information exchange gave way to the need to adopt international supervisory principles and, ultimately, international supervisory standards.  The IAIS, which still has the most difficult acronym to pronounce in the world, has really become the de facto standard- setter with respect to international insurance standards.  And I would argue that commensurate with the Basel Committee for banking supervision, as well as the International Organization of Securities Commissions for the securities industry.

Since its inception, the IAIS has gone on to promulgate 13 international standards, produced 15 guidance papers, as well as an extensive set of core principles.  The ladder, the core principles, is an integral component of the joint IMF-World Bank program for assessing financial soundness of member countries.  You may know it better by the acronym FSAP.

As I said, U.S. regulators have been and continue to be active participants in the development of those standards and principles.  But no matter how much agreement exists among the regulators, the U.S. representatives cannot bind the U.S. regulatory community to adopt those standards.  That right, as you heard, belongs to each state through its legislature, which can within its sovereign authority ignore those standards, adopt the standards, adopt them with modification, or reject them in its entirety.

Furthermore, the ability of a single U.S. regulator to bind his or her state is questionable at best.  The need to have the states individually adopt these standards is a daunting task, and with the sometimes parochial nature of state legislatures, an impossibility.

A similar dynamic takes place within other international fora that U.S. regulators participate in, such as trade negotiations, cross-sectoral meetings, and regulatory dialogues, to name a few.  I would like to give you an example of how I see or perceive the U.S. insurance market as not being well-served by the lack of a national presence in the insurance business here in the U.S.  And I’m going to refer back to the Financial Stability Forum that Roger mentioned.  As he noted, it was formed in 1999 to promote international financial stability through information exchange and international cooperation and financial supervision and surveillance. 

You know, as chair, I thought you could have made that a little more concise, though. 

But that forum, though, brings together on a regular basis national authorities responsible for financial stability and significant international financial centers, international financial institutions, sector-specific international groupings of regulators and supervisors, including the IAIS and committees of Central Bank experts.  I can assure you that the U.S. banking and security sectors are ably represented by the Federal Reserve and the SEC at the Financial Stability Forum.  However, even though the U.S. is by most measures the largest insurance market in the world, there is not a comparable representative at the FSF for the insurance sector. 

The closest we have come to having a seat at the table was during my two-plus years as chair of the IAIS.  Today, those insurance regulatory regimes are represented by a somewhat smaller market representative from Belgium.  And not to put too fine a point on it, but when I attended the forum meetings it was not as a member of the U.S. delegation but it was on behalf of insurance regulatory authorities from about 120 countries.  As an aside, I am aware that the NAIC has asked to be designated as part of the U.S. delegation but that is still an open issue and, frankly, I do not expect that it will be answered in the affirmative.

A statutory presence, federal presence, in this environment would be a positive development for the insurance sector, at a minimum, demonstrating parity with the banking and security sectors.  A federal regulator would be in a position to provide technical and professional expertise to the Congress, the Treasury Department, for instance, as part of its strategic economic dialogues, the U.S. trade representatives, and numerous other organizations, including the Financial Stability Forum.

National Insurance Commissioner, again, with the proper federal statutory authority would add immeasurably to the ineffectiveness -- excuse me, the effectiveness - I just want to see who is listening - of our international endeavors to the benefit of U.S. consumers.  And by consumers I mean both policy holders and share holders.  I cannot help but wonder if some of the motor insurance difficulties we continue to have with border crossings between the U.S. and Mexico with out respective trucking industries could have been avoided or, at least, mitigated if, for instance, Congress had the ability to solicit direct input from a federal insurance regulator when the NAFTA was being debated.  Unfortunately, we stand here a good decade beyond the approval of NAFTA and the problems are still persisting.

I noted in my recent Congressional testimony that even with the establishment of a federal regulator, I would expect that the state insurance commissioners and the NAIC would remain internationally engaged and I encourage them to do so.  But as I noted in my testimony, I do recognize that doing so alongside a federal insurance commissioner would bring a measure of stature and authority currently absent. 

Another benefit that I see to the optional federal charter is the likelihood that U.S. supervision could more broadly incorporate some of the more forward-thinking approaches to insure solvency.  These include a move away from specific pricing regulation, a move towards a principles-based approach to supervision and greater emphasis on enterprise risk management.

The need to protect policy holders from insolvency of their insurance company has clearly provided a fundamental motive for the regulation of the insurance sector.  In the past, product and price regulations played an important role in many counties for safeguarding policy holder claims.  Such regulations, however, can be highly restrictive, stifle product development innovation, and reduce competitiveness pressures in the market.  In addition, pricing regulation can impede insurance companies from collecting actuarially sound risk-based premium.  If premium is set at an inappropriate or artificial level, this can have the unintended consequence of increasing the risk of insolvency. 

And I think that is one of the key reasons why we have seen internationally, at least, outside the U.S., a move not to incorporate product pricing specific product approvals.  The second trend refers to increasing reliance on regulatory principles as opposed to detailed rules.  While a principles- based regulatory structure is operational abroad - and the UK is often cited as the primary example - it is worth noting that a more principles-based approach to regulation has gained significant attention in the U.S. over the past year.  Within the past 12 months at least three groups, as Roger noted, have made an effort to spotlight the U.S. financial competitiveness and have made reference to the benefits of principles-based regulation. 

I do also want to give credit where credit is due because I would be remiss if I did not acknowledge that Superintendent of Insurance Dinallo of New York recently issued a proposal that would integrate principles-based regulation, as well as principles-based governance for the companies.  The third trend - and, again, Roger made reference of this as well - is the growing reliance on enterprise or a global view towards risk management and capital allocation for insurance firm.  This trend portends a shift in the type and quality of expertise necessary to properly supervise firms, especially those operating on a global basis. 

Essentially, the European Union with Solvency II and Switzerland with Swiss solvency test have already moved in this direction.  The U.S. will need to evaluate these approaches and consider making some changes as well as it goes forward.  However, I think, again, with an optional federal charter or federal regulator, we are likely to move to that particular type of approach in a much more accelerated pace.

In closing, today’s risk marketplace demands far more dramatic action than the states are able to provide alone.  Large insurers with increasingly global operations continue to outstrip the pace of reform by state regulators and legislatures.  Competition and efficiency in the insurance industry lags behind the other financial services sector due in large part to regulatory inefficiencies and inconsistencies. 

These inefficiencies and inconsistencies must be addressed if the U.S. insurance sector is to be in a position to match the pace of change in a rapidly evolving global market place and thereby expand the insurance market place for the benefit of insurers, policy holders, as well as other intermediaries such as producers in the insurance markets.   

Again, thank you and I look forward to the questions when we open it up.

Peter Wallison:  Thank you very much.  Okay, next is the ACLI and Brad Smith.  Brad is a Vice President of International Relations for the American Council of Life Insurers.  Since joining ACLI in May of 1997 he has been responsible for coordinating all policy and program initiatives of its International Committee.  He has worked with market liberalization questions for U.S. companies overseas, especially in China, Japan, India; monitoring foreign trading partners’ compliance with bilateral and multilateral insurance trade agreements, among other things.  Brad, for you.

Bradley Smith:  Thank you, Peter.  I will just make some fairly brief comments and then look forward to getting into a deeper Q&A.  I should start out by saying ACLI does have a position now supporting an optional federal charter so I do not think you will find us quiet.  ACLI is an advocacy organization; we are a trade association representing about 95 percent of the U.S. life business, through U.S. legal reserve life insurance companies.  And as an advocacy organization we have several different functions; I happen to be responsible for staffing our Policy Committee that develops ACLI policy and programs on international. 

And that can be a general term and if I can, I would like to turn a little bit to asking Peter for when we get to the Q&A to define some of the terms of reference in the theme of today’s symposium.  And before doing that I just like to concentrate that from ACLI’s advocacy standpoint, I would like to emphasize the optional part of optional federal charter. 

We advocate a two-track policy - one, improving the efficiency, what we call regulatory modernization at the state level and, at the same time, developing an optional federal charter for those companies that sort of ceded advantage in going that route.  I would like to concur with what Roger and Al had said about this does not necessarily have to be a zero-sum game; we do not have to not participate in the states.  We very much support and appreciate the hard work of the states in advocating for us currently through international forums.  But I would like to just outline a couple of things where I think I would agree that the optional federal charter and a federal advocacy would help us on a competitiveness basis.

And one of the terms I would like to define is competition.  Grossly speaking, we could say that there are two forms of competition in terms of the OFC.  One would be looking at competition in the U.S. market.  And will OFC help the U.S. industry be competitive in our own market?  And the other would be looking at the global market and saying, will OFC help us be come competitive globally? 

Now, I will leave the domestic competition issues to my colleagues and my more learned co-speakers who are more knowledgeable on the domestic side.  My responsibilities include, with ACLI, supporting our global competition for our member companies that operate internationally.  To do this, we carry out several activities and they have been mentioned earlier but I will just emphasize them now.  One is the development of international regulatory standards; as folks had said, the IAIS was formed in 1994 really following on the NAIC’s annual meeting going back to 1996.  So that I would say the world really coalesced around the NAIC’s activities and to a certain extent it was adopted as a model in terms of a confederation. 

That institution has since evolved into much more of a global organization and based on Switzerland for those not familiar, actually, housed at the Bank of International Settlement, which would be the equivalent banking side [sounds like].

One other area where we help U.S. competitiveness globally is with technical assistance, which there are quite a few markets, large emerging markets, where they say the market is either closed; it might have been a national market; it might have been a proprietary market where only domestic companies were allowed to have insurance operations.  And when the United States industry and the United States government generally, primarily through our trade negotiations, advocates for the market to be opened up the government says, “That is great.  We would like to open up the market but we want to know how to regulate a sound and productive market.” 

As Roger said, we as a highly regulated industry support strong insurance regulation.  If we look at several models in the world where countries have gone from a centrally-planned economy to an open market and I will just pick three of the large emerging markets - China, India, and Russia.  Out of the three we are probably currently doing best in, if you had to pick one of them, India in terms of the amount of entry we have been able to get into the broadest cross section of the country, geographically and in product. 

Russia was kind of a Wild West when the Socialism business model failed.  And there was not confidence in the insurance market; most of the products were used for tax evasion, and there really has not been the development of a sound stable market starting from the bottom up.  India, with rule of law, with transparency, has been able to build a system that is open unilaterally and where we have got, probably, about 13 U.S. companies operating in India now, operating in virtually every corner of the country.  China is kind of a mixture of our success where it has moved from a centrally planned economy to a limited free market economy in insurance where there has been a begrudging allowing of entry of foreign companies. 

So I just would say we operate in highly regulated markets.  We do not succeed in footloose and fancy-free markets where there is not consumer trust in the products that we offer.  And to be able to do that we need a credible regulatory regime.  So we certainly support the development of sound insurance markets.  One way to do that is the development of technical assistance and our industry can do that and the NAIC has certainly has carried it out on a voluntary basis through their internship program.  I would point out that in some instances our major global competition for capital, such as banking and securities, the Treasury Department has a separate division within the International Department that has access to multi-millions of dollars to provide technical assistance to help build markets. 

Whereas the NAIC - and I will get back to this in terms of their structural mandate and some of the discussion we had about what they are legally able to do and what they are constitutionally able to do - does not have the resources of the Treasury Department, which has dedicated funding from the Agency for International Development to provide technical assistance for banking and security.  So that is one area where we see ourselves at a competitive disadvantage. 

The other area where ACLI is advocate for our industry is on trade policy.  When the United States government announces that we are going to enter into trade negotiations with China, India, Japan, Brazil, the EU, they come to us as an industry group.  We work with our member companies to come up with the priorities that we want to see them undertake in their markets.  And as Roger had indicated, there is a growing frustration by those countries and by their industries and by their trade negotiators about the U.S.’ lack of ability to implement new insurance liberalizations.  This goes to a couple of things but I think it can generally be described in “do what we say, not what we do.” 

And when the United States asks for China, for instance, when it was first opening its insurance market, to open up and make it liberal the U.S. government naively said, “They should do what we do in the United States.”  And we said, “Well, on certain elements, yes.”  On say, risk-based capital is a very good model; it may not be perfect for emerging markets where it is more sophisticated but we certainly we do not want to encourage any other major trading partner to set up 56 sub-national jurisdictions which we would have to be separately licensed in each country. 

I would say that has been actually one of our problems in China where they have put up a mirror and said, “Okay, you want to operate in China?  You are going to have to get approved city by city like we do in the United States.”  And that has represented a tremendous barrier to our companies being able to go into one of the world’s most rapidly growing insurance markets.

With these basic outlines, what ACLI does -- I would also like to mention a couple of terms of reference that some folks may know and I constantly try and point these out and I realized it represents certain bias toward the optional part of federal charter.  In the first place, the first one I would like to get at is a definition of what are we talking about in terms of jurisdictions.  The NAIC in the nomenclature of state insurance regulation treats foreign as a company from another state jurisdiction, and they refer to companies from overseas jurisdictions as aliens. 

So when we are talking about the regulatory structures that we engage in discussions with foreign trade partners and foreign regulators on -- please use the terms of reference as foreign for interstate commerce; alien as international commerce.  And in many countries when you refer to states, people think you are referring to countries because that is how countries are usually defined.  So a more precise term that we have tried using is sub-national.  That is not a slight on the U.S. state system; it is just other countries, they do not call their sub-national government “states”; they call them “provinces, regions.”  A more precise term can be “sub-national.”  So as I’m briefly outlining this and we get into Q&A, you might want to consider that.

   In our advocacy we, as I said, have worked with the states and we appreciate the efforts the NAIC undertakes to support our global advocacy efforts.  I’m sure Tom will go into some of the current programs the NAIC undertakes.  I would say that by observation - and Al can possibly give some personal experience on this - this is not something that is in anybody’s job description in the NAIC.  Many of the state insurance commissioners actually are politically courageous - and I will use that term as a positive as opposed to a negative - to go and represent the United States in some of these discussions. 

If you are a consumer advocate from the state of Florida and the insurance commissioner of Florida happens to be in France during a hurricane that is not necessarily a good thing for the insurance commissioner or the governor who appointed him.  That is something we should all realize.  We are not being critical of the state insurance regulators.  Their supporting our international activities is something they are doing because they think it is in the best interest of the United States.  They think it is in the best interest of the companies that may be domiciled in their states.  It is not part of their job description.  There are separate NGR [sounds like] state organization, usually a state export promotion office, that actually has the responsibility for promoting exports from that state. 

So that is where I would like to address part of what I generally refer to as the insurance regulatory gap.  When we talk about having the U.S. federal interest in insurance competition supported and having an advocate for U.S. insurance industry advocacy internationally, that is not the state’s job.  There is virtually no state that I’m aware of that has the word “international” in the job description of the state insurance commissioner because a state insurance commissioner’s responsibility is to protect the consumers of that state, help the security of that market, help the affordability of products in that state. 

And this is an area where, as Roger said, where a federal regulator, the development of an optional federal regulator, would help the process.  It would give a targeted authorization for a federal agency to be able to help promote the development and the competitive advantage of U.S. companies operating internationally.  I had mentioned some international colleagues, regulators with India and China and I would like to use those as examples. 

India and China both their statutory authorization of their insurance regulator is not only to regulate the market; it is to help promote the market; it is to help develop and build a market.  And it is to help the market to be sound, competitive globally, not just domestically and as such they have the right to propose tax policy.  They have the right to propose transparency legislation in their own country. 

Other jurisdictions, including United States, say “Not our decision.  We are not able to do that.”  That is something that is the prerogative of the state legislature.  That is the prerogative of the state attorney general.  That is the prerogative of the governor in our states.  So we are not necessarily criticizing the states.  Going back to technical assistance, this is not humorous but when the United States first invaded Iraq and literally, the United States Army took over Baghdad, the U.S. government had to think through, “Okay, what do we do with the financial services industry in this country?” 

And they took a delegation, a detail of Treasury officials, Commerce officials, State Department officials, who went in with, literally, truckloads of cash to take over the printing plants for the Iraqi currency, take over the state bank and take over the banking regulation.  And in insurance they had to dig deep to be able to find somebody who knew anything and who was willing to go into Iraq and help develop the insurance regulation.  And we commend the NAIC; they were able to get the insurance commissioner of Arkansas to go over for a period of a few months but that was one guy.  There is just not a lot of depth.  So that again is one area where a federal insurance regulator would help, would support the activities of the states and will allow further statutory expenditure of funds. 

Right now the NAIC, when it represents the United States internationally, you know, the real question is about how it does that.  I mean not to criticize the states but like on the development of the international standards that we have talked about with IAIS, we had addressed several letters to Al which we never actually got responses to, inquiring about how the states can commit the United States to the international standard.  The FSAP program you indicated, the United States is technically on the hook for that and I believe there are only two countries in the world right now that have not completed an FSAP examination. 

I believe one of them is China and I believe the other one is the United States.  And I believe China is committed to complete theirs by the end of 2008 which will leave the United States as the sole jurisdiction within the IAIS that has not completed an FSAP.  Again, it will be “do as we say, not as we do.”  That makes it hard for us to go into these markets and say we want to lead by example. 

Just very quickly and I realize I’m probably going beyond my time, but this has concrete implications for us.  Roger and Al had mentioned the strategic economic dialogues the Treasury Department is engaged in.  Other countries -- when we enter into a trade negotiation it is a trading table; we give them something; they give us something, and it is a give and take.  In the past most large markets have had interest in the United States.  We have been able to point the U.S. market is open, Swiss Re is here; Zurich is here.  Yes, it is an inefficient state system by their definition, but it is open.  We got about 20 percent foreign penetration in the United States, which is about the OEC average.

But as we enter into trade negotiation with China, with India, with Brazil, they say, “You know, we only got two banks.  We only got two insurance companies.  And they are not particularly big.  They are not particularly sophisticated.”  If there is any hope for them to come to the United States they are not going to be able to apply for licenses in 50 states.  Equal treatment for them would be getting one license.  So as we enter into negotiations with these countries - and last week was the strategic economic dialogue with China - the insurance industry is -- the Fed approved the branch license for China Merchants Bank. 

In insurance they talked about the 26 states that prohibit foreign government ownership of an insurance company of a license in the state.  I mean that is a legitimate -- I mean the United States took reservations on these in our WTO commitments but if you are a Chinese government official and you are looking at a fairness test, they say, “You have got 23 companies in China and you want 24?  I cannot get one operating in United States.  How is that fair?”  Brazil says the same thing to us in terms of the FTA negotiations with Brazil. 

Thirdly or lastly, I will just say in terms of Doha, which is the WTO negotiation, our industry would think that Doha has largely been stalled and we keep talking about major things we can do to restart it, whether in this administration or possibly in the next administration.  One thing we can do is we could offer an optional federal charter if and when the legislation is passed. 

The United States, because of the fact we have already bound to the WTO in financial services would say that we will have to -- if and when an OFC passes, we would have to offer that on a national treatment [sounds like]  basis to anybody who is a member of the WTO.  So just from offensively and defensively we think that OFC along with state regulatory modernization can help our competitiveness. 

And I would be happy to answer any questions and look forward to a lively discussion.  Thank you.

 Peter Wallison:  Thanks very much, Brad.  Well, our next speaker is Tom Hampton.  He has got quite an agenda laid before him here after these commentaries.  And I would like to just tell you a little bit about his background.  Interestingly, the District of Columbia, which is that 51st jurisdiction, in case you were wondering -- Tom gave thumbs-up every time 51st jurisdiction was mentioned.  But the District of Columbia has a Department of Insurance, Securities and Banking that is a combined regulatory structure, which is quite rare in any jurisdiction in the United States and an interesting thing for all of us to look at. 

He was appointed by Mayor Fenty in January of 2007 and he is responsible for this five [sounds like] bureau agency.  It regulates all the financial industries in the District of Columbia and enforces all D.C. laws relating to the conduct of financial services.  Prior to joining the DISB, Tom had extensive experience in the insurance industry, especially in property and casualty insurance.  He managed the accounting and financial activities of Captive Insurance Companies in Bermuda, Cayman Islands for Cigna Worldwide in New York and was the supervisor in the general accounting with the American International Group.  So he is experienced and he is representing the NAIC.  And let’s hear from you, Tom.

 Tom Hampton:  Good afternoon.  I want to thank Peter and AEI for inviting me to this event.  Based on these conversations [sounds like] it seems I probably need to put my presentation on the side.  I have some questions but let me just go straight -- kind of go quickly to this presentation.  To just the issue of optional federal charter I think we must first take a look at the current state-based insurance regulation and the goal of the state insurance regulation.  The goal of the state insurance regulation is to provide comprehensive consumer protections and a robust and efficient market.  So the question is whether state insurance regulation is doing exactly what it is supposed to do. 

When we talk about -- when I hear a lot of this conversation on the panel, we talk about optional federal charter and other types of changes to the current process.  But I think the key if you change your goal and mission in any organization or corporation, that message has to resonate down to everyone that is involved in the process.  Insurance is a unique financial services product that focuses on the transfer of risk of loss to protect consumers’ property, health, income, businesses and lives. 

The state based regulatory system for insurance has proven itself adept in meeting its primary goals of consumer protection and market place strength.  The current insurance regulatory system focuses on financial regulation, market conduct regulation, company and producer [sounds like] licensing, policy rate and form review and consumer services.  The U.S. insurance regulators believe that the current state-based regulatory system is the best way to continue to achieve consumer protection goals. 

Elimination of policy, rate and form review, and consumer services functions are as proposed by the provisions in the international insurance act, which substantially reduce consumer protections as we know it now.  The U.S. insurance regulators are reviewing strategies to improve the state regulatory process through uniformity and implementation of best practices.  The NAIC has implemented a financial regulatory system that has detailed minimum laws and regulations as well as practices and procedures that should be adapted to have an effective regulatory process. 

Compliance with the system through an accreditation process has been done and right now there is only one state that is currently not accredited.  The NAIC has implemented several programs to bring insurance products to market more effectively and efficiently including the creation of the Interstate Compact, which reviews and approves life insurance annuity, disability and long term care products.  Currently there are 30 states that are members of this commission with several states and the District of Columbia awaiting bill enactment.  In addition, the filing of rates and forms [indiscernible] electronically to surf [sounds like] have reduced the time it takes to have insurance products approved without eliminating the review standards. 

This year NAIC’s leadership has focused on uniformity in the producer [sounds like] licensing process.  The NAIC has developed a minimum standards checklist that each regulatory agency has completed.  Now, peer reviews are being undertaken to determine compliance with the minimum standards at the state level and the District of Columbia just went through the review last week.  Continuing review of states, statutes and procedures that require uniform application throughout the United States, we believe, is the best way to make regulation more effective and efficient without compromising consumer protection standards. 

Implementation of any system that requires or eliminates consumer protection standards under the [indiscernible] competitiveness [sounds like] is shortsighted.  Over the years consumers expect and need assistance in dealing with insurance companies more than any other financial institutions that operate in the United States.  The District of Columbia has combined the regulation of financial services under one department and, as mentioned previously by Peter, and the insurance industry has three times as many consumer inquiries [sounds like] as the other licensed entities combined.  For the record we license DC charter banks and non-bank financial institutions, such as mortgage [indiscernible] brokers which you read in the newspaper; you are getting a lot of complaints and issues relative to the subprime mortgage industry.  We deal with investment advisers and securities brokers as well. 

Insurance contracts are contracts [indiscernible] where certain [indiscernible] are difficult to interpret and understand even for technically proficient professionals, let alone consumers.  One of the issues that we saw recently was dealing with hurricane Katrina and regulators after reviewing the homeowners policies, saw the causation [sounds like] clause provisions that were included in their policy dealing with wind versus flood and that particular argument and how that affected their consumers. 

Although uniformity in the implementation of best practices between state regulators are important in establishing efficient regulation, insurance regulation must continue to recognize the deficits between insurance markets and the unique nature of insurance products.  The state-based regulatory system for insurance has proven itself adept at meeting its primary goals of consumer protection and market place strength.  There is generally no one-size-fits all of regulatory approach that can provide the same level of consumer protection or the same responsiveness to specific needs of a particular insurance market. 

Relative to some of the comments to Roger’s presentation - and I have a slightly different understanding of the competitive market definition - I would like to just modify the one statement he made when he pretty much said that insurance [indiscernible] the competitive market is one that is oriented towards encouraging inward capital flow and capital retention at a cost comparable to that paid by comparable institutions with different charters.  I would take that with different charters piece [sounds like] away and just say comparable institutions.

And I think right now the cost of capital dealing with insurance companies is the same between insurance companies and different sectors.  Of the hundreds of products sold by insurance companies only a few are sold by financial institutions that are non-insurance companies.  The issue today is that insurance is regulated by state insurance regulators and the cost of this regulation is the same for all players that sell products in the market regardless of charters.  This would definitely change if the [indiscernible] charter bill is enacted since the insurance companies will have the opportunity to forum-shop [sounds like], depending on the cost and effectiveness of the regulatory processes similar to the current process that is happening in the banking industry. 

Banks can either be state-regulated or regulated at the federal level, and I have first-hand experience right now OCC-chartered banks who come to us and talk [sounds like] about the cost of regulation, the cost of being members and things of that nature.  Insurance regulators focus their regulatory resources on retail insurance markets where [sounds like] less regulation on products offered to sophisticated buyers.  In the District of Columbia financial guaranteed products - that was mentioned in the presentation as well - as well as commercial insurance products have no rate and form regulatory requirements. 

The capital requirements on the Campbell -- pretty much the Campbell ratings for banks as compared to the RBC requirement as well as tax considerations are issues that determine whether companies are going to formulate as a bank or any other financial institution.  I agree with the statement that a safe and stable market strikes a right balance between supervision and over-regulation.  It has not been proven, though, that Basel II and Solvency II are the appropriate regulatory schemes to achieve this objective.  We do know that [indiscernible] models are very complicated to interpret and understand both by regulators and management of companies.  Sarbanes-Oxley required management not only to detail their internal controls but also to determine or develop ERM processes that would assist their understanding of risk exposures undertaken by their companies. 

Suppression of rates does result in market distortions and there is no need to even hit around the bush on that one.  But is it a distortion of the rate when a regulator [sounds like] makes it down with adjustment to a premium rate increase?  There are two aspects of rate review; one is pure actuarial discussion where a justifiable premium range is the approved rate increase.  And the other is the political pressures that often limit the regulators from making an actuarial justifiable decision.  The suppression of rates based on real or perceived political pressures cause market distortions and regulators would love to get away from having that particular pressure on them. 

As with the economic rationale for adding any insurance regulation, I agreed from the theoretical point an analytical review should be conducted on the cost benefit of implementing new regulations.  However, this is not the current system of developing insurance regulations in the U.S. and I do not think this process would be greatly enhanced by moving to a federal regulatory process.  State insurance regulators review the costs to both the industry and the regulatory agency to implement a new law with the focus on stability to the market to consumers.  The NAIC is in agreement with the comments that the regulation of primary insurance coverage should be different from the regulation of reinsurance. 

The reg [sounds like] reinsurance task force, which I am a member of, has developed a reinsurance regulatory modernization proposal which has a framework that focuses on three issues:  mutual recognition of non-U.S. jurisdictions to the Reinsurance Supervision Review Department; a single state U.S. regulator for U.S.-domiciled companies; and a port of entry process for non-U.S.-domiciled companies.  The NAIC will be providing comments to the federal Non-Admitted Reinsurance Reform Act of 2007 very soon. 

There are issues implementing each of the three optional federal charter models that were shown in Roger’s presentation.  The primary one being proposed now is the enactment of the optional federal charter that will have financial, prudential and consumer service regulation conducted at both the federal and state levels.  There are concerns about this proposal.  For example, with the ancillary state laws that affect [sounds like] insurance contracts such as mandatory working compensation laws, mandatory automobile liability limits and require participation and pool arrangements being preempted [sounds like] by OFC. 

Also, the enforceability of contracts is based on state laws, whether it be a federal court process developed that will preempt state and the court powers over these contracts.  The blended model of having the financial regulation at the federal level, and have the consumer protection issues addressed at the state level is a disaster waiting to happen.  It has been in my experience that insurance companies respond now because states have licensed them to operate and without the license the need to resolve issues expeditiously is taken away. 

This practice is currently playing out in the banking regulatory system and some particular [indiscernible].  The single state regulatory process is one; a proposal is being currently reviewed by NAIC membership, especially as it pertains to reinsurance companies. 

Would optional federal charter increase international insurance competition?  I know we all talked about that a little bit and I think Brad mentioned that in some of his comments.  The state regulation of reinsurance has not hindered U.S. companies’ ability to operate globally but we all understand that we need to have more harmony with international regulators.  The state insurance regulators have vast experience in insurance regulation that when served with other regulators can contribute to enhancing the level in quality of insurance regulation around the world.  The U.S. system implemented the RBC capital requirements, that was mentioned earlier, and although it may be outdated, our numerous years of company financial data helps in the development of the current Solvency II, and other capital models that are being developed. 

The NAIC and its members provide the needed technical input to U.S. trade negotiators whose mission is to increase transparency, reduce barriers of entry and enhance opportunities for U.S. companies in insurance markets around the world.  The NAIC has an active role in international associations of insurance and [indiscernible] IAIS - Al was a big part of that - the OECD, the joint forum and the Financial Stability Forum. 

By establishing regulator-to-regulator relationships with non-U.S. regulators NAIC members have been better able to understand the businesses conducted abroad by U.S. insurers and to avoid any political financial impact of these foreign operations on their U.S. operations, which provides additional protections to our U.S. policy holders.  In addition, this interaction with non-U.S. regulators exposes U.S. regulators to other regulatory practices which benefit NAIC’s decisions on ways to improve the U.S. regulatory system. 

By the same token U.S. regulators are able to influence and in some cases lead discussions on global best practices at IAIS and OECD.  NAIC’s active participation in these initiatives greatly contributes to eliminating inefficiencies due to differences and regulatory regimes worldwide while preserving the fundamental principles of U.S. insurance regulation.  This contributes to the overall market stability, better insurance solvency as well as availability and affordability of insurance products to consumers. 

It should be noted that the U.S. insurance market place is the largest market place in the world - and I think this was mentioned before - on the basis of gross premium volume.  Looking at the states as individual jurisdictions, the U.S. would have four out of the top 10 jurisdictions in premium volume, eight of the top 20 and 26 of the top 50. 

In conclusion, the NAIC members should understand we have to develop regulatory standards that continue to protect the interests of consumers while achieving greater transparency, consistency across jurisdiction and responsiveness to concerns in today’s environment.  We recognize that there are problems in our current system and the NAIC is focused on developing strategies to attain these goals.  As NAIC president and current president in Kansas Commissioner Sandy Praeger stated in an article in the latest National Underwriter, the NAIC will focus this year on developing a proposal for standardizing insurance regulation nationwide.  Finally, the NAIC continues to involve all constituencies in the development of this modified regulatory regime including companies, legislators, international regulators as well as consumers. 

Thank you for allowing me to bring a couple of words to this presentation.

 Peter Wallison:  Thank you very much.  Comment from our panel on anyone else’s comments?  I have a question, if someone wants me to start off, if you have -- well, here, let me just throw this one out to see how the panel takes it.  Tom was talking before about an interstate compact and I’m wondering -- I think we know that there are some deficiencies with the current interstate compact but could an interstate compact, say, one on steroids, to use a common term -- could it solve some of the issues that each of you has identified as a problem in the international area, if we had such a compact on steroids?  Does it work?  I’m actually asking the rest of the panel.  I think that -- you would certainly want to start off--

 Alessandro Iuppa:  Well, somebody has got to start I guess, here.  I guess I see that as an interesting concept in terms of trying to move it forward but I think, still, it raises a number of questions and probably more so from a constitutional perspective in terms of binding even though states as the compact.  The other problem we have is - or potential problem - whether or not you can have all of the 50 states plus the district plus the five U.S. territories become a party to it and their willingness to do so.  So I think it is an interesting concept but I think that too presents a number of hurdles that may be insurmountable.

 Bradley Smith:  Thank you.  I would just say, probably, I am not sure if there is anybody from the European Commission here but the NAIC has engaged in dialogues with other jurisdictions, most notably the Commission, to try and have effectively the intent of the process seven, eight years ago, was to try and discuss mutual recognition.  And after about three years the Commission realized that there was a different five states coming to each of three meetings.  So how do you reach a mutual recognition agreement with 56 jurisdictions where you never have the same people?

   I mean part of the problem is continuity.  I mean as a trade association employee I have always had tremendous respect for the NAIC staff when in any given two years your membership can change by two-thirds and they can change from being not only people but they can change from being Republicans to Democrats.  They can change from having been an insurance industry executive to being a plaintiff’s [sounds like] attorney in a period of two years.  So how you get the continuity over time? 

I mean you asked the question in terms of the competitiveness internationally and I just would say I think our overseas counterparts, specifically the European Union, is very frustrated that they do not think the NAIC is ever going to be able to do that and that is one of the reasons they are starting to focus more on an optional federal charter as a solution.

 Roger W. Ferguson, Jr.:  I think the comments you have heard thus far are quite accurate.  I think the thing that is telling about your question is it is very much in my mind sort of a hypothetical.  The reason we are where we are today is that, with due respect to our state regulators whom we like and indeed, revere, we have been -- no, I’m a big believer in a dual system coming from the Fed where we support a dual banking system.  So I’m not being in any sense -- people should not laugh at the comment I made, but it has been very difficult to get an interstate compact move which is why we are where we are today. 

And so just the way you phrase the question is to answer it, right?  Could it?  Sure, theoretically.  Could we ever actually get to an interstate compact on steroids given that we have had many, many years of trying to get one that is not genetically modified?  I put very, very low probability on it.  Secondly, if you could get there -- I think Brad makes the right point; there are very serious legal constitutional issues.  And the third is I actually think unless you do away with state-level democracy you could not keep an interstate compact on steroids for reasons again that Brad talked about.  Administrations change; things that look great to one administration two years later may not look great to another.  So I do not think it is a practical solution to the problems we are talking about.

 Peter Wallison:  Well, those are pretty strong -- Brad?

 Bradley Smith:  Sorry, it is one of my favorite subjects.

 Peter Wallison:  You will get a chance.  You will get a chance.

 Bradley Smith:  I mean I will just mention, you know, one area where there -- I mean, I hate [audio glitch] but most of the states do not realize but actually they are bound by federal law on some things.  Trade agreements -- we bind international or current practice.  And as Tom said, the NAIC consults with the U.S. trade representative to figure out whatever levels of market access we are going to commit the states to.  And we have done this under NAFTA; we have done this under the WTO financial service agreement; we have done it under a number of FTAs. 

And when you are having a conversation with some of the newer state insurance commissioners and you explain to them that they cannot impose new insurance regulations that would be seen as discriminatory against foreign companies, and that would include, say, like a worker’s comp [sounds like] monopoly or a health monopoly in a given state.  When you say you cannot do that, the United States would be in violation of our trade commitments; somebody could take us to dispute, and the federal government actually can sue in federal court for the state to comply with the U.S. commitment.  Many state regulators do not know that and, again, as a staff of the trade association I feel very sorry for the NAIC staff that has to explain that to them when they come and they say, “What do you mean I cannot?  And I know several NAIC staff who just -- not current; this was during the WTO negotiation.  They just do not want to tell somebody.  So they better leave it unsaid.

 Peter Wallison:  Tom, several of these points seem like killers.  What do you have to say?

 Tom Hampton:  Just so I’m not the one getting killed.  But on your point about international insurance [indiscernible] using the compact to come in, I think compact into [sounds like] more products and when you talk to international companies; I think from my conversations with a lot of them they want what I call the single-state process, the single-state access to the whole market.  It is more dealing with company licensing versus products, but let’s get back to some of the comments that were made.  You talk about constitutional issues and that are some of the reasons why we do not have more people involved in the process now in terms of being a part of the interstate compact commission as I mentioned in my testimony or my discussion that we are one of the jurisdictions that is coming in to the interstate compact; it took a little time for us to get in. 

But the way to get around some of these constitutional issues may not necessarily mean getting rid of state regulation but probably using some federal tools to get us around some of those issues.  And I think right now, being that the NAIC and its current leadership is looking at -- there is nothing that is sacred on a table when we try to find ways to make these things happen.  Federal tools might be a good issue that we can use to try to get around some of these things. 

In the past -- and finally I would like to say this:  It is not necessarily the regulators that you have to deal with; it is more the legislature because when you get, say, legislators who come to you - and they change sometimes two years; sometimes four years - they come from different -- Democrat, Republican, Independent.

They have their own thoughts, ideas; they want to make a difference.  And they drop things on your lap that you do not necessarily believe in but you have to pursue.  And I think Al can attest to that; in his tenure I heard that is what happened.  So I think regulators get up just to be pretty quick.  The NAIC is good at giving us a lot of information and a lot of tools to get up to speed quickly.  Legislators and recently the NAIC and legislators have gotten together on a lot of issues which I think is a great start on the state legislative side.  But that has only been happening recently; in my tenure that did not happen before and it was a lot of problems in bringing uniformity before that.

 Peter Wallison:  I think the constitutional issues probably could be solved by a federal law that invokes -- that provides for the jurisdiction of an interstate compact and that would probably resolve the constitutional questions.  But the question of what you do about all of these state legislators who want to change the rules in their state raises practical problems that seem almost insurmountable here.  So that is an interesting thing that is coming out of this discussion. 

Okay, it is time.  If anyone has questions, Karen has a microphone and I would like you to identify yourself and ask your question.  Right over here is the first victim.

 Ray Lehman [phonetic]:  Ray Lehman from A-Invest [phonetic], I’m curious; early in the discussion Peter mentioned single state options.  I know the NAIC is pursuing something in the reinsurance area.  Commissioner Hampton would also be familiar as a captive domicile with the risk retention law and so forth.  Are there more areas where that could be explored rather than a federal charter?  I know Congressman Shadegg - it did not get very far - had a proposal to do that in health insurance.  And just to anybody on the panel -- what they think of that.

 Tom Hampton:  I do not know if this is -- you have to [sounds like] preface [sounds like] some of your remarks.  That is not NAIC remarks but I’m a proponent; I think the single state system works.  I think it has proven itself in risk retention group regulatory schemes. 

But let me just say this.  Right now we have two focus points and sometimes I do not think the twain ever meets.  One is financial regulation, which is pretty uniform throughout the country and you can easily take financial regulation and make that a single state regulated process. 

When you talk about licensing and market conduct regulation, these venues have been always the privy of pretty much the state in which you are doing business.  And the back principle of that from my understanding were legislators and regulators want to control the activity of companies that were doing business in their state and that license that they have had always been the carrot to make that happen.  So if we can move more market conduct regulation - I think someone mentioned in their presentation about trying to deal with that - closer towards financial regulation, I think you can get there.  Until that happens it is going to be this disjointed and fragmented process.

 Alessandro Iuppa:  [Audio glitch] point, though.  I think that is one of the issues that we are confronted with here.  We have a single currency throughout the country; we have singular [sounds like] airspace and so forth.  But we really do have artificial markets in the sense when they are defined by state borders.  I question whether the consumers here on the U.S., and when I’m talking about consumers I’m talking about not only individuals who are buying motor insurance or homeowner’s insurance but small businesses, large multinational corporations.  So there is a broad spectrum there. 

But I’m not sure that we as consumers are being best served.  I come from the New England area where you can drive for an hour-and-a-half and probably hit four or five different states.  But the biggest problem was that you could not have the same products in those states.  Someone mentioned the health insurance issues.  In the Shadegg bill -- it is interesting because when I was commissioner in Maine we approached the state of New Hampshire about trying to harmonize or put some symmetry between health insurance regulation in Maine and New Hampshire.  It was interesting because we perceived some receptivity from the folks in New Hampshire. 

When I went back to my legislature and made suggestions to that effect, I’m still pulling the slings and arrows out of my back, but it was one of those seemingly small gestures in terms of, in effect, doubling the size of the market, making the market perhaps more competitive, more viable for carriers to come into.  But at the end of the day it was that parochial interest and what I call an artificial barrier to the markets, or framework around the markets, that really prevented consumers in both Maine and New Hampshire from benefiting from that. 

So I think until we see it as a broad single market that we are going to run into some problems.  And I know they are trying to do similar things in the EU right now with their single market initiatives.  And even there, too, they are having some difficulties in imposing that.  But I think that is one -- again, sort of bring it back to the -- are we well served by having this type of systems?  I think that is an example where sort of the state aspect of it is a detriment.

 Byron Anderson:  I’m Byron Anderson with Aegon Transamerica.  One of the problems the insurance industry is experiencing is that we do not have an advocate at the federal level.  And we have the SEC and to some extent the FTC and other agencies engaged in our business and from time to time Congress will get involved in issues that are not resolved at the state level, whether it is data privacy or travel insurance underwriting; those issues bubble up and it requires federal preemption.  Without an optional federal charter, is there a way for the insurance industry to have a seat at the federal table and to be an advocate without having a federal presence?

 Tom Hampton:  Probably, Brad can tell you about the federal table but one thing I would like to make sure and my question back to you is do you see the establishment of an optional federal charter -- could you have an advocacy in technical assistance office without having a regulatory framework?  And I think we tie in those two together and I think you can split the baby there and actually get what you want and I think get what a lot of the state insurance regulators want without necessarily having that framework under it.

 Roger W. Ferguson, Jr.:  I guess, here I would disagree.  Again I’m thinking back on my experience at the Fed and I also worked with the OCC and I also have observed the SEC for many years.  And I think you actually cannot do what Tom has just suggested because the reason that I think federal regulators are trusted advisers to Congress or to the administration is a knowledge that we have to balance many different issues.  If we only have the technical [indiscernible] technical assistance and advisory side, then you are not a federal agency; you are a trade association. 

You need to also have, I think, a clear regulatory mandate where you are balancing consumer protection versus cost of capital and safety and soundness versus other considerations; you know, avoiding sinking into the tax payer’s pocketbook, et cetera, to merit a seat at the table when you are talking to Congress or talking to the administration.  So I think the point is certainly well taken that there is no federal voice, no Washington, D.C. voice, for the industry.  But I think I would say it slightly differently:  There is no Washington, D.C. voice that has a deep understanding of the industry without being an advocate for the industry. 

And, consequently, you get into a position where in some sense there is not really -- you are a trusted voice.  And that is not taking anything away from Brad or people who do what he does.  But it is one thing to be an advocate; it is another thing to be a regulator.  If you go to Congress as an advocate, you are an advocate.  If you go to Congress as a regulator, you have got broad responsibilities and should give a balanced and nuanced position where sometimes you support the industry view; sometimes you dispute it.  But you are there in a role of expertise.  And I do not think you can do that unless you have got the regulatory responsibility as well as the technical assistance and other kinds of responsibilities.  So I think you need to bucket all of them to be a legitimate a participant at the federal table.

 Bradley Smith:  I would agree with Roger.  I mean one of the reasons I often thought -- the insurance industry participates along with financial services in our trade development and trade advocacy stuff.  Most times there is a meeting; let’s say, when there is on China there is one banking industry association guy; there is one securities industry association and five or six insurers.  And I think one of the reasons for that is because we do have to be our own advocates because we know there is nobody at the table.  And that is in an advocacy sense; there is nobody there representing us and the NAIC, it is not their job to be out there negotiating trade treaties in terms of trying to get other countries to liberalize.  And they acknowledge that.  As a regulator it is actually kind of productive for them to do that. 

Conversely, in the U.S. government, in terms of having somebody at the federal level represent the national interest, I think we really are vulnerable.  I think as Al said, there is nobody at the FSF, the Financial Stability Forum; there is nobody to systemically represent the interests of the insurance industry as part of financial services.  I mean, I think [indiscernible] is here from the Treasury Department.  I remember after 9/11 the people from the White House and the Treasury Department called us and said, “We need to know about terrorism insurance, what it is.” 

And we said, “Well, you got one guy at the Treasury Department; you got somebody at the Library of Congress; you got a couple of people at the Commerce Department; you got some people at” -- I mean, I have introduced more people in the U.S. government to each other than they ever met in terms of meetings.  So there is no central place response.  There is no train scheduler.  There is no cond