Alex Tabarrok of Marginal Revolution fame is studying the causes of rising medical malpractice premiums, which is a subject explored in the recent book that he co-authored with Eric Helland, Judge and Jury: American Tort Law on Trial (Independent Institute, 2006).
In this excellent Wall Street Journal ($) op-ed, Professor Tabarrok takes on the canard that rising medical malpractice premiums are primarily the result of price-gouging by greedy insurance companies:
On its face, price gouging is a peculiar explanation for recent increases in insurance premiums. Is greed new to the world? Were insurance companies followers of Mother Teresa just a few years ago? If greed and gouging are the explanations for rising premiums, why did the St. Paul group — one of the nation’s largest suppliers of medical malpractice insurance — pull out of the market in 2001? Were the profits from all that gouging just too much for St. Paul’s guilty conscience? And consider that almost half of doctors are insured through mutual, i.e., doctor-owned, insurance companies. Are the doctors gouging themselves?
Professor Tabarrok then cogently explains the primary element in how insurance companies establish medical malpractice premiums — i.e., attempting to predict the future:
Over the long run, insurance companies must cover their costs, so increases in premiums track increases in tort awards. As we show in our study, during the last 30 years every dollar increase in awards has led to a dollar increase in premiums. But tort awards are very difficult to predict because past awards tell us very little about future awards. Insurance companies, therefore, have a difficult job: They must predict future awards based on just a handful of the most recent awards. Was the latest multimillion dollar award a signal of permanently higher costs, or was it just a blip? Is tort reform working or were the more reasonable awards of the last year just a pause in the long upward trend?
Given the difficulty of forecasting awards, it’s no surprise that insurance companies sometimes make mistakes. As a result, insurance companies can price premiums based upon a projection of future awards that are too low.
You never hear critics of the industry complaining of low prices, but we now know that prices in the 1990s were not high enough to cover the increase in tort awards. Recent increases in premiums are simply a belated recognition of the reality of what appears to be permanently higher medical malpractice awards. Since the insurance cycle is a function of the uncertainty of tort awards, not an independent cause of higher prices, the best way to dampen premium variation is to make tort awards more predictable.
Of particular interest to Texans is the effect that Texas’ dubious system of electing judges has on medical malpractice premiums:
States with partisan elected judges, for example, have medical malpractice awards per claim that are $36,000 higher than in other states.
Professor Tabarrok concludes with this common sense advice:
The way to fix broken medical malpractice systems . . . is to address the underlying problems of the tort system — whether through federal statute, state legislation or judicial oversight. Pointing fingers at the insurance industry for price gouging or mismanagement may help trial lawyers block reform, but these accusations make little sense and are not supported by the data. As Daniel Patrick Moynihan famously said, “While all men are entitled to their own opinions, they are not entitled to their own facts.”
Read the entire op-ed. Definite clear thinking.
It’s amazing to see that inteligent people are still confused about what causes high insurance rates. The article touches on it — rates were too low in the 90s — but it wasn’t due to actuarial issues. Insurance companies were making amazing money from their investments, and then followed a spiraling decline in premiums — one company lowers it’s rates, not thinking of the future, then others have to follow. Eventually the bond and stock markets tanked, and premiums shot up. Compare a graph of premiums vs tort claims to a graph of premiums vs bond rates — the is little correlation between premiums and law suits, and extremely high correlation between premiums and the bond market. If insurance companies were forced by regulatory agencies to save for rainy days, or insurees were aware of the issue and could somehow hedge to offset future higher premiums when the markets decline, we wouldn’t be in the mess we’re in now. If I can find a good example of the previously mentioned graphs, I’ll post it tonight.
What Matt said. There is absolutely no sound empirical evidence, using regression analyses to control for independent variables, that suggests that large med mal awards have an appreciable effect on rising premiums. The vast majority of people simply do not understand how insurance works, and how tied in it is to the market.
I respect you a great deal, Tom, but I must admit I am surprised to see you buying into this line of thinking.
I think both Tom and Matt bring up good points. I’d like to add the following: the malpractice system is being used by some to weed out bad doctors. I think there needs to be a system to weed out substandard physicians, just not through civil claims. A good doctor can make a mistake and lose millions, a crappy doc whose patients love him/her will not be sued and may (mal)practice poorly for years. That extra burden contributes to the overall cost to some extent as well.