Don’t Blame State Regulation for the AIG Mess

State insurance regulators are not to blame for the financial troubles of the American International Group (AIG). As the stability of the insurance market clearly demonstrates, they are doing their job of actively monitoring U.S. insurance entities for potential financial trouble by using a variety of tools to help insurers navigate through choppy market waters.

A handful of politicians and insurance company trade associations have spun the AIG rescue to argue for federal regulation of the rest of the insurance industry through an “optional” federal charter (OFC). Under OFC, insurance companies would be allowed to pick and choose whether their companies would be regulated at the state or federal level. Insurance companies would obviously pick whatever system afforded the least amount of regulation, which could end up costing consumers and taxpayers.

It’s misleading to argue that if AIG would have been able to choose how they are regulated, this situation would have been prevented. What many experts across the country have called for is more vigorous market supervision, not a deregulatory proposal such as OFC.

The evidence is stacked against more federal regulation. Whether its commercial banks, investment firms, or international holding companies (like AIG), historically, problems follow when the federal government oversees the financial services markets. The financial industry sectors at the center of the nation’s current financial crisis are primarily regulated by the federal government. Even the S&L scandal of the 1980s, which cost billions to clean up, was also “being watched” by the federal government.

No one is denying that the AIG situation is a blow to the financial services industry, but even a simple analysis of the practices that led to its current situation shows that state insurance regulation and AIG’s insurance subsidiaries (which represent only 1/3 of AIG’s business),are not responsible for the collapse. Much of AIG’s downfall is directly linked to its use of credit default swaps. It’s disingenuous to use the AIG bailout as an excuse for wholesale revamping of insurance regulation. AIG’s financial holdings and troubles have been lumped together when, in fact by all reports, the overall condition of AIG’s core insurance businesses, are stable, profitable and paying all claims.

State regulators use a very effective safety net through state guaranty funds to protect consumers in the rare case of insurer insolvency. Despite efforts to turn this into a ‘guilty by association’ situation, the health of AIG’s state regulated insurance businesses proves how effective state commissioners are in regulating the insurance market, especially when it comes to solvency.

The state regulation process is certainly not perfect and, in some cases, it needs targeted reform to modernize the system and make it more uniform and efficient, but its problems do not include the areas of financial oversight, solvency or consumer protection. The AIG situation is actually further evidence against OFC and highlights the strengths of state insurance regulation.

Consumers, Main Street businesses and congressional leaders must continue to oppose proposals that would exacerbate problems in the financial services sector and in our economy. It’s counter-productive to try and fix something that isn’t broken. State insurance regulators should be applauded for keeping the insurance industry stable while the next Congress concentrates on targeted reform of the state regulatory system to make it more uniform and efficient.

Bob Rusbuldt (bob.rusbuldt@iiaba.net) is Big “I” president & CEO.