How will California respond to the home insurance market meltdown?

While Gov. Gavin Newsom and state legislators wrestle with a massive state budget deficit this year, a few blocks from the Capitol another crisis that could have far more impact on California families will be playing out.

Ricardo Lara, California’s insurance commissioner, will be trying to dissuade companies that provide insurance coverage to millions of homeowners from fleeing the state. Citing heavy losses from disastrous wildfires and the potential for more destruction in the future, the largest insurers, such as State Farm and Farmers, have already cut back on new policies and renewals.

As a result, many homeowners in fire-prone regions have been forced into the state’s last ditch insurance plan, called FAIR, which offers reduced coverage at high premiums, to protect themselves and comply with their mortgages.

The industry wants to include actuarial projections of future losses and the costs of reinsurance in their premiums. Neither factor is now allowed under regulations approved by voters more than three decades ago under a ballot measure that also made the insurance commissioner an elected official.

As the list of insurers reducing their exposure in California mounted last year, the Legislature briefly tried to come up with a revised regulatory process that would induce them to keep writing policies, but adjourned in September without action.

Newsom punted the crisis to Lara and he quickly laid out in broad terms new rules that would allow estimates of future losses to be folded into premium requests and hinted that including reinsurance might be approved. In return, Lara would require insurers to maintain at least 85% of their market in fire-prone regions.

His announcement set in motion what could be a year of hearings and other processes to write new rules that would, in effect, modify much of the 1988 ballot measure that created California’s highly regulated insurance system and strictly limited the factors that could be included in rate requests.

It has exacerbated a running feud between Lara and Consumer Watchdog, the organization that sponsored the 1988 ballot measure and has benefited handsomely from “intervenor fees” for participating in premium rate proceedings ever since. Consumer Watchdog has been highly critical of Lara throughout his tenure, and charges that his proposed systemic changes would be a sellout to the insurance industry.

“He’s basically capitulated to the industry,” Jamie Court, the group’s president, said of Lara at one point. “There’s not really much coming back for the consumer in here.”

In response, Lara cites his duty to maintain a viable insurance market and accuses Consumer Watchdog of protecting its own financial interests.

“One entity is involved in nearly 75% of all interventions for rate approvals, materially benefiting from a process that is meant for a broader public participation,” Lara responded to the allegations, adding, “throwing bombs is easy and putting out bombastic statements from entrenched interest groups doesn’t benefit anyone.”

Until the crisis, California’s average homeowner premium was slightly lower than the national average.

There’s no question that if Lara makes major changes to insurance regulation, homeowners’ premiums will increase. In fact, last month, he approved a 20% premium increase for State Farm, which holds more than a quarter of the state’s market and had announced a moratorium on new policies.

It’s a trade-off, one that not only affects current homeowners but those who aspire to ownership and therefore must obtain insurance to obtain mortgages. Moreover, the availability of insurance for their potential customers affects developers who build and sell new homes.

As with the budget crisis, politicians cannot repeal the unwritten laws of economics. Ultimately, there’s no free lunch.